Kadant Inc (KAI) 2006 Q4 法說會逐字稿

Good morning. My name is Takia and I will be your conference operator today. At this time, I would like to welcome everyone to the Kadant Inc. fourth-quarter earnings 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). It is now my pleasure to turn the floor over to your host, Mr. Thomas O'Brien, Chief Financial Officer. Please go ahead.

Thank you, operator and good morning, everyone and welcome to Kadant's fourth-quarter and full-year 2006 earnings call. With me on the call today is Bill Rainville, our Chairman and Chief Executive Officer.

Before we begin, let me read the Safe Harbor statement. Various remarks that we may make today about Kadant's future expectations, plans and prospects are forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.

Our actual results may differ materially from these forward-looking statements as a result of various important factors, including those discussed in our quarterly report on Form 10-Q for the fiscal quarter ended September 30, 2006, which is on file with the SEC and is also available in the investor section of our website at www.kadant.com under the heading SEC filings.

In addition, any forward-looking statements we make on this call represent our views only as of today. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so even if our estimates change and you should not rely on these forward-looking statements as representing our views on any date after today.

During this call, we will refer to some non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures is contained in our fourth-quarter earnings press release issued yesterday, which is available in the investor section of our website at www.kadant.com under the heading News Releases.

And with that, I will turn the call over to Bill Rainville who will give you an update on Kadant's business and future prospects. Following Bill's remarks, I will give an overview of our financial results for the quarter and we will then have a Q&A session. Bill?

Thanks, Tom. Good morning, everyone and thank you for joining us today as we review Kadant's 2006 fourth-quarter results, summarize the highlights of an outstanding year and look ahead to a profitable 2007. I will start with the financial highlights of our continuing operations.

Let's begin with the fourth quarter. Our revenues for Q4 grew 36% to $85.9 million. Revenue from our stock prep business was up 64% and revenue from each of our other papermaking productlines was up 20% or more. Revenue from the papermaking segment as a whole was up 39%.

Operating income increased 221% to $6.6 million thanks to strong performance by many of our businesses, particularly the food handling business of Kadant Johnson. EBITDA more than doubled to $8.8 million. Diluted EPS more than tripled to $0.29, which includes $0.03 of restructuring costs. This compares to our guidance of $0.24 to $0.27.

We enjoyed another healthy bookings quarter with orders totaling $78 million. We are pleased to report that every one of our papermaking productlines increased booking levels this quarter. Our backlog increased 32% to $72 million. Importantly, we generated $8.6 million of cash flow from operations in Q4, our best performance in three years. Last week, we repurchased $4.1 million of our stock.

Now let's review the past year. 2006 was a great year for Kadant. Here are some of the highlights. In 2006, revenues were up 40% to an all-time high of $341.6 million. The biggest contributor to this growth was our stock prep productline, which recorded a 49% increase in revenue. Our other productlines experienced strong growth as well with most reporting growth in the double digits. Another accomplishment was the doubling of our operating income to $29.4 million due in large part to the contributions from Kadant Johnson.

Our diluted EPS for the year was up 86% to $1.30, including $0.04 of restructuring costs. This compares to our guidance of $1.25 to $1.28. Finally, our EBITDA increased 73% for the year due to strong performance by our papermaking segment, which generated $46 million in EBITDA.

Now let's look ahead to 2007. 2006 was a tremendous year with strong top and bottom-line growth. While we do not expect the same revenue growth rates we had in 2006, we do expect our sales levels to continue to grow and with significant opportunities to improve our margins. We believe that we will have solid EPS growth in 2007.

We will start with the outlook for China, which continues to be the most important region for paper production capacity additions in the world. According to industry forecasts, business in China will remain strong for the next three to five years. In fact, China is expected to add 16 million tons of annual capacity of recycled paper and board between 2005 and 2009.

Although we do not expect the record growth rates in China that we experienced last year, we foresee continued strong demand for our products in 2007. While it is difficult to predict performance levels for each year, the overall trend for China is very positive.

The year got off to a great start when just last month, we received an order for over $4 million from a leading liner board producer in China. One opportunity that we are really excited about is increasing marketshare of our accessories and water management products in China.

As we look to penetrate this market, we have a lot going for us. We are the world's leader and most highly respected brand for accessories and water management products. We have the most advanced technology in the industry. We have the process expertise that the customer base really needs. We have a strong market presence in the region for our stock prep and food handling productlines with good opportunities for cross-selling and we are establishing, manufacturing a doctor blades in one of our existing manufacturing facilities in China for the Asian market.

Here is where we currently stand with this program. We have begun training our Chinese sales force and have quoted several products. By midyear, we expect to have a doctor blade manufacturing lineup up and running in China.

Another opportunity for growth in China is increasing our spare parts business for stock prep. By mining our own large installed base, we will be creating for ourselves a profitable revenue stream in replacement parts and service.

We are also looking to capitalize on our stream baskets facility in China where we combine state-of-the-art technology with low-cost manufacturing to supply screen baskets worldwide. We have recently doubled the capacity of this facility. This is a valuable consumable business for stock prep since screen baskets are typically replaced every 9 to 12 months.

A final opportunity in China that I would like to share is that region's expected capacity expansion for white grades of paper. Until now, most of China's growth in paper capacity has been in linerboard for boxes. Now the region is in the early stages of expansion into white paper for printing and writing. As one of the leading suppliers of stock prep systems for white grades, we are well-positioned to play a key role in this market.

In summary, China is our most important market, one that is characterized by high growth, intense competition and increasing pricing pressure for large systems. However, we are confident that we can continue to thrive in this market due to our superior technology, large installed base and low-cost manufacturing.

Although China is the leader in terms of capacity additions, we also see opportunities in other fast-growing economies, such as India, Indonesia, Eastern Europe and Russia. All of these regions are experiencing strong growth in papermaking capacity as their economies develop.

Now let's discuss other opportunities for growth. In 2007, we plan to build on the outstanding performance at Kadant Johnson who we expect will continue to grow both in and outside the paper industry. Although energy prices have moderated somewhat, customers, particularly in Europe and North America, continue to focus on reducing production costs. Kadant Johnson's energy-efficient drying systems are instrumental in achieving this. In addition, Kadant Johnson will continue to expand beyond the paper industry. Following their model, we are working to introduce our other products in the non-paper markets such as steel, textiles, food and beverage.

Next, in Europe and North America, we see a good outlook for all our productlines. Overall, these markets have been stable and although we do not anticipate any large capacity additions in these regions, there is still a need for retrofitting and retooling as our customers seek to become more efficient.

Last and perhaps most significant, we plan to increase margins around the world by shifting our manufacturing to low-cost locations, such as Mexico and China. We have taken steps to move more manufacturing to low-cost facilities in these regions. We expect to benefit from this effort in 2007.

During our 2006 annual meeting, we presented long-term goals for the business that included EPS of $1.20 in 2006, $1.50 in 2007 and $1.80 in 2008. We are happy to report that we have achieved our 2006 goal and we are well on our way to meeting our projected future goals.

Let me now review our guidance for 2007. We expect to achieve GAAP diluted EPS of $1.50 to $1.60 from continuing operations for the year on revenues of $360 million to $370 million. For the first quarter, we expect to report diluted EPS of $0.22 to $0.24 per share on revenues of $77 million to $79 million. Our guidance includes a decline in our fiber-based products business of $0.08 per share for the year as they face increasing competition in a tough market.

Now I will turn the call over to Tom for a more detailed review of the financials. Tom?

Thank you, Bill. I will start with our revenues. Consolidated revenues were $85.9 million in the fourth quarter of 2006, an increase of 36% over last year's $63.1 million. The 36% increase was due mainly to the following -- 24% of internal growth, 4% from the favorable effects of foreign exchange, 3% from our most recent acquisition, Kadant Jining, and finally a 5% increase from an adjustment associated with changing the fiscal year at our Kadant Lamort subsidiary to conform to Kadant's fiscal year.

This one-time adjustment, which I will need to refer to several times this morning, had the effect of including one additional month of financial results for Kadant Lamort in the 4Q '06 consolidated financials.

For the second consecutive quarter, every productline in the papermaking system segment reported increases in revenues over last year -- 64% in stock prep, 30% in water management, 29% in fluid handling and 22% in accessories. The fluid handling productline reported its sixth consecutive sequential increase in revenues since the acquisition of this business in May 2005. And the accessories productline achieved its highest quarterly revenue results in over six years.

Let's now take a look at the performances in each productline in more detail starting with our largest productline, stock prep. Stock prep revenues were $33.1 million, 64% higher than last year's fourth quarter, including a 10% increase from Kadant Jining, a 4% favorable effect from foreign exchange and an 8% increase from the change in Kadant Lamort's fiscal year. Internal growth in this productline was 42% over last year.

Our stock prep revenues in China, including Kadant Jining, were $11.2 million, up 140% over last year. These revenues were well-distributed across 14 major products in 4Q '06 as compared to three projects last year. We also saw a significant growth in our North American capital business, which nearly doubled from the prior year due to higher revenues from several system projects.

In our water management productline, revenues were strong for the third quarter in a row. Revenues here were $9 million, up 30% compared to the fourth quarter of 2005, including favorable effects of 2% from foreign exchange and 5% from the change in Kadant Lamort's fiscal year. The internal growth of 23% was due to solid increases in both North America and in Europe. The latter of which benefited from higher sales to OEMs and to customers in Russia.

Accessories revenues of $16.8 million increased sequentially for the fourth quarter in a row and achieved their highest quarterly level since the second quarter of 2000. Revenues in this productline exceeded last year's fourth quarter by 22%, including an increase of 5% from foreign currency and 6% from the change in Kadant Lamort's fiscal year. North American revenues were up 8% compared to fourth quarter '05 with particularly strong performances in the U.S. and Mexico offset somewhat by a decrease in Canada.

U.S. accessories revenues were higher in both the doctor blade and capital business as we believe some U.S. mills have shifted their focus from rationalizing production capacity to making investments in productivity. European accessories revenues increased 48% over 4Q '05, including 18% from the Kadant Lamort fiscal year change and 14% from the favorable effects of foreign currency. Internal growth in Europe was 16%.

Revenues in the fluid handling productline of Kadant Johnson were a record $23.4 million in 4Q '06, up 29% over the fourth quarter of last year, including a 5% favorable effect from foreign currency. As was the case throughout all of 2006, this productline continues to benefit from strong demand stemming from energy savings projects being undertaken by paper companies. Revenues were particularly strong in the U.S., Latin America and throughout Asia.

In our fiber-based products business whose revenues are included in the other category on the chart attached to the press release, revenues were $2 million, down 18% from last year. This decrease was entirely attributable to lower sales of Biodac, which was due to increased competition. As Bill noted, we do anticipate lower revenues and profitability for this business in 2007.

Turning to our product gross margins, consolidated product gross margins were 38.6% in the fourth quarter of 2006, up 10 basis points from last year's 38.5%. Overall, gross margins in our papermaking system segment were slightly lower than last year offset entirely by margin improvements in our other category.

Gross margins in our papermaking system segment were 39.0% in 4Q '06, down 50 basis points from last year's 39.5%. The decline is largely due to lower margins in our capital products, especially in China offset largely by higher margins in our fluid handling productline. The margin results in China were mainly caused by lower than normal margin levels on large stock prep jobs, a more competitive pricing environment and an unfavorable product mix. The strong gross margins in fluid handling reflect the robust demand worldwide for Kadant Johnson's energy-efficient products.

Product gross margins in the other category were 26.3% in 4Q '06, up from 20.1% last year due to higher margins in both our fiber-based products business and Kadant Johnson's casting products business. The fiber-based products margins benefited from lower cost of natural gas used in the manufacturing process.

Now let's move down the P&L a bit and look at our SG&A expenses for a moment. SG&A expenses were $24.1 million in the fourth quarter of 2006, up $3.1 million from last year. Included in this unfavorable variance of $3.1 million are the following increases -- $1.5 million from the change in the fiscal year-end at Kadant Lamort, $0.9 million from the inclusion of Kadant Jining and $0.7 million from foreign exchange. Excluding these increases, SG&A was flat with last year. As a percentage of revenues, reported SG&A was 28% in 4Q '06, down 520 basis points from last year due to better operating leverage associated with the higher level of revenues in the 2006 period.

Our EPS, we reported GAAP diluted earnings per share, including the discontinued operation, of $0.27 in the fourth quarter of 2006 compared to last year's reported EPS of $0.03. The discontinued operation incurred losses of $0.02 per diluted share in 4Q '06 and $0.04 in 4Q '05. Excluding the discontinued results in both periods, income from continuing operations quadrupled to $0.29 per diluted share in 4Q '06 from $0.07 in 4Q '05 or an increase of $0.22.

Included in the increase of $0.22 per diluted share were the following increases -- $0.01 due to a reduction in the effective tax rate, $0.01 due to the favorable effects of foreign currency translation.

There were also two factors that lowered diluted EPS in 4Q '06 compared to 4Q '05 -- $0.03 due to restructuring costs incurred in the fourth quarter of '06 and $0.01 due to slightly higher diluted shares outstanding.

If I net the items I just noted, that is the increases of $0.02 offset by the decreases of $0.04, then I have explained the $0.02 decrease in the 4Q '06 results compared to last year. Given the overall increase of $0.22, we therefore had an improvement of $0.24 in operating results in 4Q '06 compared to last year. This improvement includes a significant accretive contribution from Kadant Johnson. Kadant Jining on the other hand was somewhat dilutive to our consolidated diluted EPS results in the fourth quarter of '06.

During our February 2006 earnings call, we projected that the accretion from Kadant Johnson for the full year 2006 would be approximately $0.25 per diluted share. I am pleased to report that we significantly exceeded this target. We also noted in our August 2006 earnings call that we expected $0.03 to $0.05 of dilution from our Kadant Jining acquisition in 2006 and our actual results for the year were within that range.

EBITDA -- consolidated EBITDA was $8.8 million in the fourth quarter of 2006, more than doubling from last year's $4.1 million. I should point out that the 4Q '06 EBITDA results include restructuring costs of $0.7 million, all of which occurred in our papermaking system segment.

The restructuring costs were taken in three of our subsidiaries outside the U.S. Our papermaking system segment EBITDA also more than doubled to $11.2 million in 4Q '06, up $5.9 million over last year. As a percentage of sales, papermaking systems EBITDA was 13.5% in the fourth quarter of 2006, up 470 basis points over 4Q '05.

Included in these results is Kadant Johnson's fluid handling business, which posted a record quarterly EBITDA sales performance of 25.5% in the fourth quarter of 2006, up from last year's 9.6%. You may recall that when repurchase Kadant Johnson, we estimated that their 2004 EBITDA margins were in the range of 15% to 17%.

In the corporate and other category, which includes the results of our fiber-based products and casting products businesses and our corporate expenses, we reported an EBITDA loss of $2.4 million compared to last year's loss of $1.1 million due to higher expenses reported in the corporate category and to lower EBITDA results in fiber-based products.

Now let me spend a moment on the balance sheet and our cash flows. We ended the fourth quarter with $39.6 million in cash and $54 million in debt, leaving us with a net debt position, that is debt less cash, of $14.4 million. Net debt as a percentage of our total capital was 5.7% at the end of 4Q '06, down slightly from last year's 6.6%. As I noted last quarter, this percentage is well below our targeted capital structure, which, given the right opportunities, would allow for a net debt to total capital percentage in the range of 20%.

Looking at uses of cash for a moment. During the quarter, we spent $3.2 million in connection with the acquisition of Kadant Jining, $0.7 million to acquire the remaining minority interest in one of Kadant Johnson's subsidiaries and $1.9 million of additional consideration for the Kadant Johnson acquisition that is called for in the purchase agreement. We paid down $2 million in debt and we purchased $1.5 million of property, plant and equipment.

Also, we purchased $4.1 million of our common stock or 167,500 shares at an average price of $24.28 per share. We currently have approximately 8 million of stock repurchases available under the limit prescribed in our Board authorization. The limit under our credit facility is $9 million.

With regards to the major sources of cash, we generated operating cash flows from continuing operations of $8.6 million in the fourth quarter of 2006 and we received proceeds and related tax benefits of $2.6 million associated with the exercises of employee stock options.

I noted during our November 2006 earnings call that we expected our operating cash flows to improve considerably in the fourth quarter and they did. In fact, operating cash flows at $8.6 million in 4Q '06 achieved the highest quarterly level since the third quarter of 2003 when we recorded the highest quarterly performance in the history of the Company. We also have had very good cash collections in the U.S. in the first six weeks of 2007.

Before concluding my remarks, I would like to give you some additional details on our earnings guidance for 2007. In terms of our quarterly EPS performance in 2007, although this may change due to the unpredictability of large stock prep orders, especially from China, we expect sequential improvement in each of the quarters throughout 2007. The first quarter will be our weakest quarter of the year as was the case in 2006.

For our tax rate, last year at this time, we targeted a rate of 35% and we did considerably better, ending the year with an effective tax rate of 32%. Although the rate may vary from quarter to quarter, we expect the effective tax rate in 2007 to be in the range of 31% to 32%.

We anticipate our CapEx spending in 2007 will be approximately $6 million to $7 million, somewhat higher than the levels of the past couple years as we invest in accessories and water management manufacturing capabilities in China and continue to make investments and productivity improvements in both Kadant Jining and Kadant Johnson.

For the expense associated with our employee stock options and our employee stock purchase program, we expect a small effect in 2007 of approximately $0.01 of diluted EPS based on the unvested stock options outstanding at the beginning of the year. This will of course change if options are granted during the year. And finally we expect depreciation and amortization to be approximately $9.5 million for the year.

And with that, I would conclude my review of the financials and turn the conference back to the operator for our Q&A session. Operator?

(OPERATOR INSTRUCTIONS). Claudia Shank, JPMorgan.

I was just hoping you could provide a little bit more color on the expectations for the fiber-based business in '07?

Yes, in fact, that represents a small piece of our business today, less than 5%. And it had a good year in 2006. There is some competition, which from time to time surfaces on it and based on that, we expect the performance to be down as we commented and impacting us on $0.08 per share for the year and I have to add it is still a profitable business for us. It is just going to be less profitable than it has been. In the past when we have seen people try to come into that marketplace and that happens from time to time, over time, we are successful in recapturing that. So I look at this as hopefully just a temporary impact on us in 2007.

Great. You mentioned the restructuring you did in the fourth quarter in some of your subsidiaries. I just wondered if you could just explain a little bit more about that and then are there any expectations for restructuring in 2007, especially as you work to relocate some of your manufacturing facilities?

What we are doing, Claudia, is taking advantage of the bundled locations that we have now along with Kadant Johnson and accessories and the water management business, especially because that relates to paper machine as opposed to the fiber side of the business. And from time to time, we continually look at what we can do to restructure to be much more efficient and also certainly to reduce cost. And this type of ongoing looking I think may take place in 2007. Although we don't see any major, major restructuring whatsoever.

What we are doing is combining -- in some cases, combining some sales forces and operations. In one particular case, which I will point out very close to us up in Canada, we have two operations that you could throw a football from one to the other and from Kadant Johnson along with our other Kadant operation, we are going to combine them and call it Kadant Canada and it is going to be a much more efficient operation with combined sales forces and operations.

We also see opportunities like that perhaps in Europe where we are taking some of these minor restructuring, but in all cases, it helps us reduce cost and I think what is very important it also makes us much more efficient in responding to the market and actually in those cases, gives us better market penetration.

For example, in Germany, Kadant Johnson had a much stronger market presence than we had in the doctor blade business and in water management and they are dealing with the same people. So we look at that as a real opportunity actually not only to reduce cost, but also to enhance our market penetration.

Okay. And then just in terms of the guidance for next year, is there any expectation of restructuring charges built into that guidance?

No, we didn't have anything built into that.

Great. And then just finally maybe just comment a little bit on the efforts to pursue some of these new markets for some of the legacy Kadant products.

Oh, yes. We see a great opportunity for us for example in China with the accessories and water management business. And we are really going to be working with the Kadant Johnson operation, which is well-established in the Chinese market. We have one of our top doctor specialists in our Company and in the world who is committed to living over there for three years to train the Chinese sales force and to transfer our process knowledge, which is very, very important on this productline and we have a great brand name recognition.

The big players in China certainly know the name Kadant because of Kadant Johnson and Kadant Black Clawson in the stock prep area. We intend on piggybacking on that and so we look at that as a huge opportunity. We're going to start to see progress throughout 2007.

As I commented, we expect to be manufacturing doctor blades over there by the middle of the year, as well as we're going to have the capability to manufacture capital equipment for those productlines as well through our recent acquisition in Jining.

We're also putting plans together, not just for China, but all of Asia and using China as a base because we do see opportunities in India and Indonesia. Vietnam gives us some nice opportunities. We have good orders from that in the past. So did the Jining operation. Also we look in penetrating markets on all of our productlines, continue to in Eastern Europe and in Russia where we have always had a pretty decent presence in the past and we intend on reinforcing that.

That's great. Thank you very much, guys.

Michael Hutchison, Barrington Research.

I was wondering what rate is the non-paper business at Johnson growing at. Is that something you are willing to break out?

Actually I would say this. As the Johnson business has grown and I don't have that exact number that I would like to just break out at this point, but as their total business has been growing, that piece has been growing along with it.

Is it growing at a rate faster than the paper business at Johnson?

I am really not that certain on that. What I would say is this. I think that the paper business has -- I think it has grown at perhaps about the same rate is my sense. But the paper business has shown some nice growth as well because of the focus on energy, Mike.

What about -- how much do you expect the new Chinese manufacturing facility to contribute in terms of revenues and earnings this year?

This is our Jining operation.

Yes.

Which is really -- that is kind of a tough one for us because on earnings, we are in the process and have been optimizing it and what we have been doing is we have people over there constantly getting it up to the same manufacturing standards and quality that we have throughout the rest of the organization and they are tooling up to manufacture. They are going to be capable of manufacturing all of our stock prep products by the end of this year. But the income opportunity with that is kind of difficult. We have been somewhat cautious on that as we get into this. Although we have been making progress on it.

In terms of what we expect on their traditional productline, that again -- we are optimizing the margin opportunity on that business and so I think I will give you more color on that as the year progresses on that, but we expect that to be a contributor this year certainly.

What about revenues? Are you expecting say $15 million out of that facility this year?

About $18 million to $20 million.

$18 million to $20 million?

About $18 million to $20 million is expected out of that.

And I just had one last question. What are the North American paper producers saying about CapEx plans for this year?

Well, certainly we see some opportunity there. Again, there with a continuing focus on energy, which really applies to all of our productlines, a particular benefit out of that is the Kadant Johnson operation and I think that is where they are going to be focusing a lot of -- continuing to focus on their investment. They are also much more sensitized to reducing their cost per ton where all of our productlines can play a role in that.

Now to the extent that as we see these projects develop throughout the year, there is always that uncertainty as they commit their resources where they are actually going to be spending them. And hopefully we will see some opportunities. And also we see opportunities for example with the announced -- some of the announced consolidations that are continuing -- Bowater and Abitibi. I think that there may be some opportunities for them because, especially in Canada, they have been looking to upgrade some of their newsprint production into other grades, more valuable grades of paper. So we see selective, but we don't see a big, a huge increase, but I would expect continued improvement as we did see throughout '06.

(OPERATOR INSTRUCTIONS). Mark McGrath, Kadant (sic).

Just a few questions. I was wondering in your Kadant Lamort segment, could you comment generally where you are kind of margin-wise at year-end?

I think we said that they are improving. They are improving their operating margins. I would say they are in the low single digits, which is a significant improvement over where they were the last two years where they were unprofitable. They are not quite where we want them to be and that is one of the areas quite frankly for opportunities for us in 2007 is to get those operating margins back into say high single digits, maybe double digits.

So is high single digit to double low double digit, is that like a one-year target or is that quite a bit longer than that?

Maybe 18 months, something in that range.

Yes, we would like to be close to that by the end of this year and I think what will also help us is they have always had all these outsourcing components and now as we get our operation in China up to speed, that is going to be an opportunity for them to really enhance their profitability as well.

Great. Great. And roughly how much in sales was that in '06, Kadant Lamort?

They generally run around $50 million.

$50 million.

Yes.

And could you comment on the -- on your China sales, the penetration you have had to date in terms of the aftermarket parts and service to the installed base that you have got?

Well, in there, we see as a real opportunity because we have a relatively new installed base that has been developed really over the last four or five years. Now with our operation in China itself, we see that as a huge opportunity because you have to be very close to the customers to be able to really supply the aftermarket products and also often when they put a new system in, they take a couple of years supply of spare parts with that system simply because in the past, they were relying on that coming out of the U.S. into there. But I think the fact that we are going to be focusing on that with a team and being close to the marketplace, we intend on really enhancing the value of that installed base.

The other thing I would just comment on briefly again, as I mentioned, the basket business I think is a huge valuable piece of business for us and in the past, we manufactured a relatively low percentage of all of our baskets that we really purchased from other suppliers and now we are going to have that capability in-house with really the best technology basket I think on the market today, which we have demonstrated in the last couple of years and now we have a hands-on, low-cost manufacturing operation of our own and really one of the lowest-cost manufacturing regions in the world. That is going to supply baskets not only within Asia and for China, but also for the rest of our screens that we have throughout Europe and North America.

It sounds obviously like a great opportunity. I am just curious to how much of it is, at this point, prospective. For instance if you were to look at your sales in China over all of '06, is it call it 5%, is it somewhere in that ballpark that is aftermarket?

In China you mean, Mark?

Yes.

No. It would be less than -- you mean just in the Chinese business itself?

Part of it -- that element. I would say it is going to be certainly no higher than that level and a lot of those parts are in ones that we included on in the initial sale.

Okay. So almost no penetration so far.

It is going to be a nice opportunity for us.

That's great. And then just lastly, Tom, you mentioned over the last six weeks or so some cash coming in in terms of collections in North America and kind of looking over last year, your operating cash flow for the whole year really trailed net income. Are you -- should we expect a material liquidation of working capital over the next quarter or two?

Well, there will be definitely some, yes. I would say looking back at 2006, net income was $18 million, $8 million of D&A. So that's $26 million. We invested $14 million, which is a big number, in working capital. So that is why the operating cash was $12 million. So if I kind of flip to 2007 and pick a number in the range, say it is $22 million, $23 million of net income, $10 million of D&A, so it's $33 million, I don't think we will see anything like the $14 million of investment in working capital. So I think we should, all things being equal here in making the guidance, we should see a pretty significant improvement in operating cash this year.

Great. Sounds good. Thanks a lot.

There appear to be no questions. I'll turn the floor back over to Mr. O'Brien for any closing remarks.

Actually it's Mr. Rainville.

I will make the closing remarks. This is Bill Rainville. Anyway, thank you, operator and just a couple brief comments. Following the momentum of 2006, we believe Kadant is well-positioned for continued growth in '07.

First, China remains strong and we look forward to another solid year of revenue from that area. Second, we believe Kadant Johnson will continue to make substantial contributions this year and finally, we expect improved margins through low-cost manufacturing around the world and other programs we have in place.

We have an exciting year ahead of us and I look forward to reporting on our progress as the year unfolds. Thank you for joining us today and for supporting Kadant.

This concludes today's Kadant conference call. You may now disconnect your lines and have a wonderful day.