Hexcel Corp (HXL) 2007 Q4 法說會逐字稿

Good day, and welcome to the Hexcel Corporation Fourth Quarter Earnings Conference Call. As a reminder, today's conference is being recorded. For opening remarks and introductions, I'll now turn the conference over to Mr. Wayne Pensky, Chief Financial Officer. Please go ahead, sir.

Great. Thank you. Good morning, everyone. Welcome to Hexcel Corporation's 2007 Fourth Quarter and Full Year Review Conference Call on January [4], 2008. Before beginning, let me cover the formalities. First, I want to remind everyone about the Safe Harbor provisions related to any forward-looking statements we may make during the course of this call. Certain statements contained in this call may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. They involve estimates, assumptions, judgments, and uncertainties caused by a variety of factors that could cause future actual results or outcomes to differ materially from our forward-looking statements today. Such factors are detailed in the Company's SEC filings, including our 2006 10-K and today's press release.

Lastly, this call is being recorded by Hexcel Corporation and is copyrighted material. It cannot be recorded or rebroadcast without our express permission. Your participation on this call constitutes your consent to that request.

With me today are Dave Berges, Hexcel's Chairman and CEO, and Michael Bacal, our Communications and Investor Relations Manager. The purpose of the call is to review our fourth quarter and full year 2007 results detailed in our press release issued last night. First, Dave will cover the markets, then I will cover the financials, and then Dave will have some strategic points to cover before taking questions.

So let me hand the call over to Dave.

Thanks, Wayne. Overall, we're very pleased with 2007 financial results, especially the second half. For the year, we met our guidance with constant dollar sales growth of 8%, gross margins over 24%, and adjusted operating income of 11.5%. And at long last, we've moved net debt leverage below two times EBITDA, down from over six times after 9/11.

On the top line, this was a record quarter for the Company with extremely strong growth in all of our target markets. We're fortunate to have a good global balance with almost 60% of our sales outside the U.S., but unfortunate that the euro was over 12% stronger than last year in the fourth quarter. So once again, I'll give you the market trends and constant dollar equivalents to give you a better sense of the volume growth. Total sales of 318 million were up almost 21% in actual dollars, but $43 million, or 15.6% over last year when you factor in currency changes. Commercial aerospace sales were $170 million for the quarter, up 21.6% in constant dollars from last year. Sales to Boeing engine and Hexcel makers, as well as regional and business aircraft OEMs and their related subcontractors were up over 25% in aggregate for the fourth quarter in a row. Airbus revenues for the quarter were up year-over-year for the first time in 2007 with only a modest increase from the A380 sales so far.

We are pleased with the continued support for the A380 from the airlines, as well as a good order start for the new A350.

For the full year, constant dollar commercial aerospace sales were up 11.4% despite a 5% decline in Airbus related programs. As I mentioned earlier, all other subsegments in this market were up over 25% for the year. As for the new 787, no details are yet available from Boeing as to the schedule impact, much less from the scores of subcontractors we'll be supplying. Nevertheless, we believe sufficient other growth opportunities exist to offset any 2008 impact to our 787 sales and we are reaffirming our December earnings guidance for the year.

Boeing and Airbus combined have now reported nearly 3,000 orders for the year of 2007, and their combined backlog stands at over 6,800 aircraft over seven years at current production rates. And remember, our sales are almost exclusively to support new aircraft production. While a slowdown in travel may affect profitable spare parts sales for many aerospace companies, this huge aircraft backlog provides Hexcel a significant buffer and visibility that differentiates us. And of course, rising fuel costs make the economics of the lighter aircraft even more compelling.

Sales to space and defense markets were 72 million for the quarter, up almost 21% in constant currency, bringing the year-to-date growth rate to 12.5%. Last year's uncharacteristically flat S&D sales provided an easy comparison for us this year, but averaging the last two years, yields about 8% growth per year in line with over five years of history.

Strong global demand in rotor aircraft and U.S. military aircraft were the main drivers of growth in this quarter. About half of the growth in the period was the result of booking significant tooling sales for a new helicopter program. The overall outlook for helicopters remains very robust and the major air framers are all reporting strong backlogs.

Overall reported sales for our industrial markets of $76 million were up less than 1% in constant currency versus last year. Sales for recreation and other industrial applications were again lower than last year's period, but were higher sequentially than the third quarter levels. Wind energy sales were very strong, up more than 15%, as they were for the full year. We're now adding prepreg capacity in Europe, the U.S., and China, that will support continuing opportunity for growth in this submarket.

Now, let me have Wayne go through some of the earnings story.

Thanks, Dave. First, let me remind everyone that while the weak dollar results in some of our sales translating into larger dollar amounts, it does not help our bottom line as we have a fair amount of dollar sales matched with the euro and British pound costs. And of course, it hurts margin ratios as a percent of sales. It had an impact of over 30 basis points on our adjusted operating margin for the year as compared to 2006. We do hedge our exposure in layers so our pain of a continuing weak dollar gets averaged in.

As discussed at Investor Day, much of 2008 is hedged, but as we've averaged in the weaker dollar, our 2008 expectations reflect about another 40 basis points drop in margins compared to 2007.

Gross margins for the quarter increased to slightly more than $74 million, or 23.4% of sales, 90 basis points higher than our performance in the comparable quarter last year. Operating income of $20.8 million included a number of one-time items, which I'll cover in a minute. Excluding these one-time items, adjusted margins were 11.5% of sales for the quarter, 170 basis points higher than last year. For all of 2007, adjusted operating margins were in line with our guidance at 11.5% as compared to 11.1% in 2006, despite the currency compression.

Year-over-year incremental adjusted operating margin was 20% for the quarter and 23% for the second half of 2007, reflecting a strong return to our leveraged delivery track record in the years prior to the A380 delay. The exchange rate impact is most notable on the incremental leverage as you add incremental sales dollars without adding operating income, so fourth quarter leverage goes from 20% to 25% when you adjust for exchange rates.

As you've seen in the release, we've had a few one-time items I'd like to cover. The first two are included in the Other operating expense line on our income statement, which totals to $12.6 million for the quarter and for the year.

As we announced just over a year ago, we decided to terminate our legacy U.S. defined benefit pension plan as we had replaced it with more predictable and portable contribution plans. The result for the quarter was a $9.4 million charge, or about $0.06 per share. The final termination of the plan will result in another $0.02 per share of expense in the first quarter of 2008. Hexcel contributed $3.3 million in cash for the plan in the fourth quarter and we will contribute almost $8 million more in the first quarter of 2008. So the total cash outflow to terminate the plan is about $11 million and we anticipate the savings will be approximately $2 million per year in pension costs, so we've eliminated what was effectively our highest cost of debt.

Also in Other operating expense is the one-time non-cash impairment of $3.2 million as part of our portfolio realignment related to certain purchased technology and fixed assets acquired earlier this decade.

Our taxes remain somewhat volatile in part because of FIN 48, in part because of our large deferred tax assets created by our U.S. net operating loss carry forward, and in part because we're working on ways to improve our tax efficiency. Our effective tax rate for the quarter was 25.9%, bringing our effective tax rate for the year to 36.1%. The quarter included a $1.9 million benefit from a change in estimate of the state net deferred tax assets. Excluding this benefit, the effective rate for the quarter and the year was around 38%. 2007 cash taxes were $17.9 million for the year, as compared to the $33 million tax provision that runs through our income statement.

With the changing Hexcel profitability profile and tax policies in the regions we serve, we are just starting a comprehensive review of our tax strategies. While we hope to identify opportunities for improvement, it's too early to determine benefits or timing, so we are not changing our 2000 outlook for tax, which assumes a 38% effective rate.

Our net income from continuing operations was $13 million, or $0.13 per diluted share on a GAAP basis. If you adjust for the items I just discussed, then our adjusted non-GAAP net income was $0.20 per share. Our fourth quarter 2006 net income from continuing operations of $0.19 per share included a $0.10 gain on the sale of our investment in a joint venture and the reversal of valuation allowances. So the comparable adjusted net income numbers for the fourth quarter of 2006 would be $0.08 per share compared to the $0.20 for 2007.

Similar adjustments for the year are delineated in tables F and G of our press release and that shows for the year our adjusted EPS of $0.72 per share for 2007 as a 41% improvement over 2006.

The fourth quarter loss from discontinued operations includes a $1.1 million tax provision, which reflects the final estimate of taxes on the sale of EBGI business.

If we turn to our segment statements, our operating margin for our composite materials segment was 12.8% for the quarter compared to 9.2% last year. The adjusted operating margin for this segment was 15.3% for the quarter compared to 12.9% in the fourth quarter of 2006, and for the year was 15.6%, a 100 basis point improvement over 2006.

The engineered products segment operating margin for the quarter was 10.3% compared to 11% last year. For the year, the operating margin was 9.2%. The impact of the higher [RNT] spending and start-up costs related to the 787 components from our new HexMC system in the fourth quarter started to lessen, which helped to improve our margins.

Our net debt decreased by 5.4 million in the quarter to $288 million. In 2007, net debt decreased $99 million, which reflects $84 million from our asset sales. Our working capital for the quarter showed improvement as our accounts receivable did not increase as fast as our sales growth. Our inventories dropped $3 million in the quarter in constant currency while our accounts payable and accrued liabilities did increase $16 million for the quarter. Our cash used for inventories for the year increased $19 million or about 13% to support our sales increases and the start-up of new facilities.

Capital spending for the quarter was $49 million and for the year was $121 million, as compared to $118 million in 2006. We expect 2008 spending to be in the $150 million range with the carbon fiber expansion programs being the largest driver.

Now, let me turn it back to Dave for some final comments.

Thanks, Wayne. I am pleased we were able to deliver on our financial commitments for the year, but just as importantly, we hit all five of our non-financial objectives that we presented in our December '06 Investor Day. Number one, our portfolio realignment has resulted in a more focused company with better long-term growth and profitability prospects. Over 80% of our markets and submarkets delivered double-digit growth this year and have the potential to continue strong for years to come. In fact, over the last five years, continuing operations have grown at a 12% compounded rate and adjusted operating income has grown at over a 30% rate.

Number two, our restructuring programs have resulted in a single lean entity. They helped us offset the unfavorable stranded costs from our divestitures. In fact, we managed to deliver a second half adjusted operating margin higher than the first half, rather than the two percentage point seasonal decline in the previous three year.

Number three, our capacity expansion programs are all on track and our confidence in their yield, as well as our outlook, led us to announce another major carbon fiber expansion phase.

Number four, our targeting of long-term industrial applications, what we call "looking for our second wind," resulted in a major win for uranium enrichment tubes with USEC that could add over $40 million a year to our run rate at the end of the decade.

And number five, our next generation prepregs and new products like Acousticore, HexMC, and HexTOOL are being embraced at a faster pace than any of us had expected, and we are well positioned for all new programs - Five-for-Five, No Interceptions or Fumbles. Each is an important strategic initiative to maximize our prospects in a future that's bright even without them. And with that, we'd be happy to take your questions.

Yes, sir. (OPERATOR INSTRUCTIONS.) We'll go first to Steve Binder with Bear Stearns.

Dave, can you maybe just touch on your comments about the 787? You said that you thought you could digest any slowdown in production. But can you maybe better quantify from a delivery standpoint in 2008? Because there's a good chance I guess suppliers that have probably been behind schedule you might see some adjustments with respect to suppliers who have been ahead of schedule. So I'm just wondering can you maybe touch on what programs could offset any 787 slowdown and what kind of slowdown could you really digest without having to change your sales forecast for commercial aerospace?

Well, I wasn't exactly pointing to commercial aerospace sales forecast. I'm talking about our commitment to make our numbers. I'd--let me say a couple things. (A) I don't think there will be much movement, though I really have almost no information. (B) There are opportunities elsewhere whether in commercial aerospace or elsewhere. In some lines and some products we've been capacity constrained and there are other opportunities we had to walk past last year, as you know. And (C), after 15 years in GE under Welch and seven at Allied Signal under Bossidy, I've observed that somebody who gets a little bad news in January and says they can't make their year doesn't have a very long career. So we've got a full year to anticipate, makeup, and do what we need to do to deliver the earnings that we talked about before.

From a size perspective, on the 787, we start shipping well ahead of a program, if we're in primary prepreg. A lot of the products that we're participating in on the 787 it's closer to delivery time. But just to put it in scale, and I know you've done this, over the next two years their original schedule was for 100 aircraft roughly, about 2,000 that will be built over the two years. So it's less than 5% of the build count. Even if you consider that it's double the content from what we average, big aircraft's only 40% of the Company. So it's just hard to imagine that this could create the kind of hole that the A380 did when we were so close to going in full production with so much of our product primary prepreg.

All right. And then, also the A350, do you expect that the--Airbus to make some decisions by the end of the first quarter?

We've been getting indications that that's sort of how long we think it would take. I'm not rally prepared to give an update on that at this stage. Obviously, the farther they go into the program, the more likely it is that something will have to be announced. But there's a lot of details to be worked through, so I'm just going to pass on that, if you'll let me.

All right, Dave. Thanks.

We'll go next to Howard Rubel from Jefferies.

Thank you very much.

Good morning, Howard.

Good morning, gentlemen. Very nice numbers. A couple things. Could you address raw material costs for a moment--I don't know, Dave or Wayne? I mean, it seems that with oil at near 100 or wherever that it's had to have had some adverse impact on your results.

Well, we've told you many times that we try real hard to get back-to-back contracts. In a lot of our purchased raw materials we're able to do that as our suppliers understand we're making long-term commitments in many cases. We're not always able to do it. Energy costs, oil costs, absolutely have put pressure on a lot of our feed stocks and a lot of our supplies. On the other hand, there is some activity on--some pricing power from our respect, both from the obvious impact of cross pressures for all materials going into our end customers, but also as contracts have closed out we've been able to talk to them about the impact of the euro and the impact of feed stocks.

So I think we've kept a pretty good balance on that, and I think we're going to be okay.

Just to go one more on gross margins. I mean, sequentially, the fourth quarter is typically stronger than the third. And this year, that wasn't the case despite the higher volumes. And I know you explained part of it away with FX. Was there anything else though that held you back from doing a little bit better? Because it seems to me the operating leverage is there for a fairly clear view of better performance.

Well, we might have some impacts of FX or something. But as an operating guide, say, there are always opportunities to do better. We've been running at a very, very high stress level in many of our operations with the kind of growth in the 25% range that no one really predicted for this year. So I'm certain there are opportunities for reduced overtime and premium freight and all of those kinds of things that I hope when we get a better balance we'll get back out of it. But I'm not uncomfortable with the kind of gross margin we delivered.

Wayne, anything to--?

--Nothing additional to add. I mean, if you look at our fourth quarter this year, it's been better than the fourth quarters in the past. And with all the activities we have going on, we're satisfied where we're at.

Yes. I mean, we do have the things we've talked about before - the Spanish plant, we now have operators that were trained from Spain in Salt Lake are now back in Spain. But so are a lot of Salt Lake equipment start-up specialists and operators and trainers living in Spain working on the checking out of our new line. We've got a line starting up also in Germany. And actually today, we are doing the grand opening of a plant in Nantes, France, a satellite plant that's across the street from an Airbus facility. So there are some incremental costs, but I think we're going to be just fine in gross margins, Howard.

And then, just one last follow-up. I thought you did a really nice job of managing inventories, given the revenue growth in the fourth quarter. Was there anything in there that was--I mean, can you take that across the goal line for the balance of the year?

I have been somewhat disappointed with our inventory performance in the last, say, six quarters. I think we've talked about it on this call a number of times. We did make progress in the fourth quarter. I want to see it--I want to see continued progress month-by-month and not just hit some year-end goals in our factories. So it's something we're putting a lot of focus on.

We do have a bunch of incremental inventory stories or excuses that are valid, trying to build a precursor inventory ahead for our new fiber line. These new plants and the closure of the Livermore plant required some incremental inventory. Take all of that out of the picture and our inventory still wasn't as good as it could have been this year.

Thank you very much.

We'll go next to John McNulty from Credit Suisse.

Yes, good morning. Just a few questions. With regard to the industrial business, I know I guess back in your December Investor Day you were targeting mid-teens growth with wind being kind of a big upper-teens kind of driver behind it. With the rest of that business, how much of it would you say you have kind of in the bag because there are either new product launches or what have you that you're pretty confident in? And how much would you say is exposed to whether or not we have a major recession or not?

Outside of wind, you mean, John?

Outside of wind, exactly.

Well, outside of wind is first not a very big part of the Company and going through a bit of churn as we've talked about exiting certain weaving businesses, distribution arrangements, that were not a part of the EBGI portfolio sale, but aren't as interesting to us. We also had the limits of our capacity in many cases, our availability of industrial carbon fiber. So the--and then, the weak recreational market in Europe. So those three things caused a problem. So we don't have a real clear line of sight on any big chunks that are going to make a difference in that thing. We think the recreational market year-over-year should be an easy comparison, so we expect to see some growth there.

We think the portfolio realignment, which mostly took place in the latter three-quarters of the year, is behind us so that won't pull down what otherwise would have some minor growth to it. And then--.

--Like I said, John, there is very little of that that's in there that is actually subject to long-term contracts. So going back to Dave's earlier point, I mean, it's tough to get good visibility.

It's hundreds and hundreds and hundreds of customers. This is the 60th year of Hexcel. And when we dig down in the Other Industrial, we find the biggest grouping within that is Other. And as we dig down in that file and subfile we find the biggest grouping is Other. It's a weaning process that some new leadership in U.S. marketing is trying to wade through and get some sense around.

So I guess my question then is, if you're looking in the industrial segment for mid-teens growth and wind is less than half of the overall business, or we're assuming it is, how do you get comfortable that you can hit that mid-teens number, because the rest of industrial - the non-wind portion - really has to put up some pretty solid numbers. Maybe not as strong as wind, but still some pretty solid numbers to hit your target.

I guess I would admit to you that it is my area of least comfort of all of the various things that we've talked about. I am comfortable that we'll hit mid-teens on the total industrial. But whether it's overpowered by wind and less performing on the Other Industrial, I'm not clear at this stage. A little longer term we've got--we will have some sales from this USEC program. Some of these other second wind items, like HexTOOL applications, like the--.

--Flywheels--.

--Flywheels and some others are getting a little bit of traction and are contributing. And again, we hope to have some easy comparisons year-over-year on both recreation and the distribution parts of the business.

Okay, great. That's helpful. And then, the only other question was just more of a housekeeping one. On the tooling revenue recognition change, where you got I guess a $5 million benefit this quarter, what was the profitability on that? Like how should we--did that impact the margins either positively or negatively in terms of your overall corporate margins?

Yes. I would--John, I wouldn't think that would have a material impact on our margins either way.

Okay, great. Thanks a lot.

(OPERATOR INSTRUCTIONS.) We'll go next to Al Kaschalk with Wedbush Morgan.

Good morning, guys.

Hi, Al.

Dave, can you comment on--in terms of what you said on Boeing, can we flip to Airbus? What do you expect coming forward here related to the A380 program in terms of how we should think about production rates?

Well, the final build rates - they've published a schedule - have adamantly stuck to it. How it impacts us all the way down as we've discussed before is a very complex series of models. I think we've talked about this before. We know some of our subtier suppliers who are building number 45 or 50 aircraft pieces and parts. Some of the bigger ones, of course, are much closer to the Airbus schedule. A very long supply chain that goes all over the world, and about the best way we can characterize it is a couple of years ago it was 10% of our aerospace sales and it dropped to in the neighborhood of 5% of our aerospace sales after delays two years in a row, as I recall. So that's--those are the kinds of numbers we were putting up. They were very low in the first half of 2007, so we have some fairly easy comparisons that we'd expect to be having Airbus growth this year with significant help from the A380.

And if I may try another shot at it, as you've worked through '08 do you expect each quarter to see an acceleration and contribution on the topline from the A380 program?

I do expect sequential growth in the A380 from now on as long as they stay on schedule. Yes.

Okay. And then, if we can translate that into capacity and what you're building out, the CapEx dollars were significant in Q4. It appears to me that you're accelerating this process to build capacity. Is that a fair comment? And if so, what do we expect over the next two quarters in terms of communication on that front?

I don't know if I would say accelerating. We've stepped up to a significant level of CapEx spending - a couple years at 120 million. We suggested in December that from what we see going forward, assuming that these new programs go and we win our fair share or unfair share of them, that we could sort of envision 150 per year pace as being a reasonable expectation. So we had a big step-up, but I think we are kind of comfortable with the visibility of these programs that we have that we'll be able to layer in the CapEx in a pretty orderly fashion.

Okay. And then, in terms of the margin questions that have been asked, it seems to me that what you achieved in the quarter was pretty good relative to the revenue number. And why we shouldn't see substantially better results as volumes come online? And when do you expect that to come through?

Well, we've indicated a 50 or 100 basis point margin expansion in 2008. And we've indicated in our December discussions that we target mid-teens operating income as a total company and see a way to reasonably expect to get there by 2010, if we continue our leverage story. I'm hopeful that the incremental operating leverage that has historically been 20% can in fact improve as we start to get into higher end intermediate modules fiber mix in our output.

Thanks for taking my questions.

Sure.

We'll take our next question from Nigel Coe with Deutsche Bank.

Thanks. Good morning.

Good morning, Nigel.

So you talked a little bit about the second wind in another question. But I mean, how confident do you feel that sometime during the next 12 months you'll be in a position to announce a major USEC type contract? Because it just seems that longer term that the potential growth in industrial applications could be almost infinite.

Well, the ones we--the ones we're working on, I don't expect a big step function announced like USEC. That was a project that we've been working on for a long time, but it sort of reached a go/no-go threshold last year with USEC. And when they flipped the switch we were the winner. The others that we have are--don't have that sort of a binary character to them. It's an accumulation of a lot of things that have interesting characteristics from a sustainable competitive advantage standpoint that we're working on that I think will start to give this subsegment of industrial some traction and let it join the double-digit ranks for the long-term like the rest of the markets appear to be.

Okay. So it's likely to be a bit more incremental and you wouldn't necessarily announce it. It will just build over time.

Correct. I--when I first introduced them I called them long-term as in not in a year or two. USEC actually came on a little quicker than we expected.

Okay.

But otherwise, I still see this as sort of a two, three-year thing that will provide good sustainable growth in that subsegment.

Okay, great. And secondly, on the carbon fiber in Spain coming up [on the stream], can you just remind me where the mix between kind of bought versus built carbon fiber will go now with this plant up and running?

I'm sorry, Nigel. Can--?

--Nigel, did you say bought versus built?

--Yes, that's right.

Okay. Well, as with all of our fiber lines, when they're running the fiber is capable of going into industrial applications. And then, we begin the process of optimizing and getting it to run well. And then, we start the--what generally is a year-long process to get it qualified and certified in aerospace. But remember, when we need the first pound of aerospace fiber off of that new plant, we need to have it up and running and qualified. So we don't have a 1.5 million pound unserved demand in aerospace high grade carbon fiber or we'd really be in big trouble and so would the industry. So when we get it qualified for aerospace, it will then start to have an increasing mix of aerospace. And in some cases, there's some make by choice potential. But typically, these are fibers that are qualified, certified on certain platforms and don't change.

So the way to think about it is when new capacity comes on it will support and help us in our industrial markets for a year or two. And in the second year, we'll start to gradually convert the utilization of that capacity to aerospace. So it's a gradual process.

Okay. But then, I'm just thinking that as you bring on more capacity and you've got the new expansions in progress as well, that the--you're obviously buying as a proportion less fiber in from a (inaudible) example. And therefore, I'm just trying to judge what impact the mix--that mix might have as you move between OpEx and CapEx.

CapEx is rising as a portion of sales, so therefore, OpEx should be full? Is that the way to think about it?

The mix--we end up--we would end up with a make versus buy first and foremost on industrial products. We would expand margins with that transition. The big margins come when we need that capacity for more premium products like aerospace. So again, it's a gradual, but it's a steady gradual improvement. And to the extent we even sell it into--sell the fiber into industrial markets, the margin is higher than our average margins because of the capital intensity in the whole pricing structure.

Okay, got it. And then, just one final question on the 787. I mean, how many [ship sets] have you delivered so far?

We--we're delivering yards and pounds and not airplane pieces and parts, so we don't have any way to think about that.

Okay. Thanks.

We'll go next to [Matt Vitorioso] from Barclays.

Good morning. I just was wondering if you could talk about leverage. You've increased your CapEx quite a bit, but you've kept leverage at--pretty low. It's now below two times. Is there any reason that should change in the near term? Are you guys comfortable with this very low level of leverage?

Very low level of leverage--I've been targeting two times since September 11. First, I want to take a deep breath. In the fall of 2002, which was the last big credit crunch, we were a company with less than 50 million market cap and over $750 million of debt or $700 million of debt, six time levered in aerospace. We were today's equivalent to a subprime borrower in a tornado alley trailer park needing a second home equity line. So I feel pretty darn good that we're below two. I don't think we're going to have big swings off of that for a little while as we expand via CapEx. I mean, the way I think about our capital spending is it's our acquisition equivalent. We've kept it pretty well balanced for the last two years. With higher returns in 2008, but a little higher spending, I think we will again in 2008. And in 2009, the returns from the investments will start to outpace the capital I would think. So we'd start expanding cash income and then we'd have to make some decisions about what we want to do with leverage being too low.

Okay. And that kind of feeds into my second question. Is all the CapEx and building out this capacity, does that--is it simply a case where there aren't assets to purchase or the multiples out there are too high? How does that work?

You mean as far as acquisitions?

Yes. I mean, are there opportunities to make acquisitions rather than just go out and build all this capacity out or is there--are there just no opportunities out there?

I think the kind of capacity that we're talking about putting in place is very specific to our products. The industry is pretty concentrated, so I don't know that there's much consolidation that could go on without regulator problems.

Right.

As for other kinds of businesses, we just went through a lot of pain and agony to try to zero our focus down on these markets that we know and love and have great, great growth prospects again. I think of accelerating, maximizing our position on aerospace and wind and these new industrial opportunities as being our acquisition strategy more than hoping to find another leg.

Makes sense. And lastly, if there are further delays in any of these big programs, would that slow your expansion plans? Is there any chance that the CapEx comes in a little bit lighter this year, or is that pretty much spent for '08?

Well, the lead times on a new program are long and so are the requirements for putting in carbon fiber capacity. To put in new carbon fiber capacity and get it aerospace qualified is sort of a three-year step. So--.

--Right.

The capital that we're putting in place this year and next isn't for the A380 or the 787. That capital was spent some time ago.

Great. Thanks very much.

Sure.

We'll take our next question from [Christina Fernandez] with UBS.

Going back to the 787, does the delay at all change your forecast for [RNT expenses] versus what you had planned until the aircraft gets delivered? And also, how should we think about the margin from the initial shipments versus your composite materials segment margin?

The RNT spending surge that we had, which wasn't a big number, but the surge that we had in the recent five or six quarters was mostly focused on 787 qualification. Most of that work is done, so you've seen a little bit of a tapering off in the fourth quarter. Now, if the 787 delay results in incorporation of more products, such as more HexMC parts, it's conceivable that we'd have another little flurry of RNT expansion. But the result would be more parts on the aircraft or more materials on the aircraft. So it's sort of a hard to lose situation with respect to that. I think the RNT will now start to move more towards A350, 787-8, A400M, and other programs. But I think our RNT rates are still pretty low compared to people who are designing and developing equipment. As for margins, we don't have big swings across our aerospace or space and defense products or markets. And again, it's not like an equipment provider who gives very, very attractive pricing to the OEM and then makes it up on the spare parts later. We make our money at the OEM level because we don't have an after market. So we try to have a good margin throughout the program.

Okay, thanks. And then, on your business consolidation or restructuring expenses, those came in just slightly above your guidance for 5 to 7 million. Was there anything different there? And is that still expected to drop off significantly in 2008?

Yes, Christina. We did actually terminate a few more people than we expected. And so, we're able to actually take more costs out than we original expected, so that was part of the cost of the--part of the higher cost. With respect to 2008, about all that's really left is sort of a final cleanup and remediation of the soil at our Livermore plant that we're in the process of selling. So the restructuring for next year at the moment shouldn't be a big number.

Okay, thanks.

We'll take our next question from Peter Grondin with OSS Capital.

Hi, guys.

Good morning, Pete.

Good morning. Great quarter, great work.

Thanks.

Just a quick question on the gross margin. The--was some of that due do you think to the fact that you guys were obviously investing a lot in the buildup in Spain and so forth, and now even though you probably just started generating revenue there it's not a CapEx issue, it's now sort of a cost of goods sold issue and you're running stuff through, but not generating a lot of revenue? So could that have depressed the margin a little bit? Was it more just the effect of the situation?

Well, it's a little bit of both. But with respect to Spain, we won't be generating revenue probably till I'll say second--at least second quarter [or third at least].

Okay.

First quarter--I mean, we completed construction at the end of--or just completed construction. The cost Dave was referring to earlier is we've had a lot of training of the people there, and you're right, those are running through costs of goods sold now. In the first quarter, we'll have costs just in terms of starting up the line and getting it ready for production. And that includes both training as well as the start-up and running material costs.

As for an outlook on gross margin, I do think that the contribution of the capacity that we've added, Spain aside, the contribution will start to come through. Bear in mind, all this capital is now starting to hit us in depreciation, I think didn't--?

Yes, it was 8 to 10 million.

I think $8 to $10 million more of incremental--.

--Depreciation.

Depreciation, which is mostly in the gross margin level. So a couple million dollars a quarter that we've got to cover with the additional output or other productivity.

Okay. I mean, that's fair. Great work. Thanks.

Thanks.

We'll go next to Steve Levenson with Stifel Nicolaus.

Thank you. Good morning.

Good morning, Steve.

I think most of the good questions have been asked. You talked about the qualification process. And in the past you've mentioned a little bit that you've gained a lot of knowledge from what you did out in Salt Lake. Do you think the Spain timetable is going to be that much longer?

I, in my mind, am trying to be a little more--set my expectations a little bit lower on Spain than Salt Lake only because it's a greenfield and we have a very significant infrastructure in Salt Lake and ability to respond if there are maintenance issues. So if you think about--you've been out there I think, Steve--it's a huge plant with the infrastructure. And now, we're in the cornfield with a plant with some very hard working, dedicated, well-intentioned employees, but less ability to respond. It's always a little bit more of a challenge. So while I hope we're going to get our customers trained to handle new qualifications in an expeditious manner, I'm not as hopeful that start-up issues with a greenfield in another country with all new employees will make it an easy [putt] in Spain.

And then, when it comes to A350, also, that once the material is qualified, could you go through again the testing procedure, the sampling procedure, and where you think you might have advantages over competitors if you win a spot there?

Well, engineers, as we've discussed before, have a long list of attributes that they would like to see in the material before they're willing to change it from the baseline material. Baseline material is usually whatever they were using on the last airplane. In the case of the A380, the last airplane was based--the primary prepreg was based on our material, on (inaudible) fiber actually. So I think engineers on a new airplane would typically start there and decide whether they want to change the attributes of material to find some way to design a better, lighter airplane. So they define what they'd like, we do our best to deliver all of the attributes that they want, so does the competition. Then they look at our test results and they take samples and make pieces and parts and develop their test results. They put all of those into a super computer to see if it actually helps like they thought it would and usually come back with additional changes that they'd like to tweak, and you start the process all over again. Once we sort of get zeroed in on a new baseline there is a very long--maybe a year and a half--certification process that we have to go through that gets all the way through our proving our equipment, them proving that it works on their equipment, proving that it makes the right kind of parts.

So as I said for many years on the A380, it's never really, really over until the airplane is certified. But the primary prepreg decision usually gets narrowed down very early on. So I'm certain they have a baseline in their minds. I'm just not prepared to announce what our role in that baseline is.

Okay, thanks. You mentioned HexMC and I guess it's no secret that they're still trying to take weight out of the 787. What sort of parts opportunities do you see there? Is it mostly interior or are there structural parts, too?

Well, I think the current [dash] number 787 is way well along and I'd be surprised that they'd much change that, because they're pretty far along on that. I mean, there might be opportunities if they decided to hold off on assembly substantially. I don't expect that that's going to happen, but we don't really know. I think it's more likely that we'll get more pieces and parts on the next dash numbers of the aircraft, possible retrofits, not generally the interior. I would say inside the wing skins and inside the fuselage, but not inside the interior that you see, are thousands and thousands and thousands of metal parts that we think could be HexMC.

Great, thanks very much.

We'll go next to [Abe Brocking] with [Pro Partners].

I just wondered if I could get some clarification on the impact of foreign exchange on your margins. In order for what you say happened, which is ForEx reduced margins, you'd have to have some peculiar circumstances. Either the expenses equal the revenues or the expenses are in countries going up faster than in countries where the revenue is going up because of ForEx. I wonder if you could elaborate a little bit about how your costs are matched to revenues.

Sure. So in the aerospace industry the sales are in dollars generally speaking. So we could have production in a European country where we get--our sales are in dollars, but our costs are in euros or pounds. And so, we have a mismatch and we will have--if you looked at a P&L by currency, we'll have actually negative--if you take the sales in local currency and compared them to the cost in local currency, the costs are much higher. Now, the offset is we've got sales in dollars, so we have to translate those sales in dollars to get them in local currency to pay our costs. With the weak dollar we lose on that exchange.

Obviously, you have more expenses than revenues in foreign exchange, in the strong currencies with last year.

Well, by currency overall--overall we're profitable. But if you looked at it by currency, we have lots of dollar profits, but partially offset by costs in the local currency. So for example, between the euros and pounds we're about $75 million to the negative. Now, we're much more positive in the dollars, but we've got to take some of those dollars and convert them. So what we do is we try to hedge that number. And so, we've locked that number in as best we can.

Is there any thought about trying to match the currency of billing more closely to the currency cost?

Yes, I mean--no, absolutely. The first priority I should say--the first priority is to hedge as much of our material costs as we can. We're basically doing the same thing Airbus does. Airbus is selling planes in dollars. They turn around to their suppliers and ask for them to purchase in dollars, so they have a natural hedge right there. So we do the same thing. So for example, most of the carbon fiber and resins are purchased in dollars and that acts as a natural hedge. But it's our local costs of people and stuff that's still in the local currency.

Thank you very much.

We'll take a follow-up question from Howard Rubel with Jefferies.

I just wanted to go to cash flow for a moment. When do you think you'll be able to get Livermore done and sold?

Howard, that probably won't happen--it will hopefully happen this year. We actually do have it under contract, but we have to deliver a clean piece of land and it's getting everybody to sign off, remember, to a site that's been in place for--manufacturing's been there for 100 years. So it's a matter of--I mean, if you drove by it now, it's a piece of dirt and it's just a matter of getting the dirt cleaned and then getting everybody to sign off that it's clean.

It sounds like a lovely process.

Yes. Well, actually--I'm sorry, I missed the final step of the zoning has to be changed . And so, that's actually what takes the

So maybe this year?

Yes.

Thanks, Wayne.

This concludes today's question and answer session as well as today's conference. We thank everyone for their participation. You may now disconnect your lines.