Kadant Inc (KAI) 2008 Q4 法說會逐字稿

Good afternoon. My name is Jennifer, and I will be your Conference Operator today. At this time I would like to welcome everyone to the Kadant Fourth Quarter 2008 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 session. (Operator Instructions). Mr. O'Brien, you may begin your conference.

Thank you, Jennifer. Good morning, everyone and welcome to Kadant's Fourth Quarter and full year 2008 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 27, 2008, 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 represents 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 obligations 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 principals. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures is contained in our fourth quarter and full-year earnings press release issued yesterday which is available in the Investor section of our website at www.kadant.com under the heading Recent News. 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?

Thank you, Tom. Good morning, everyone. Thanks for joining us today as we review Kadant's 2008 fourth quarter results, summarize the highlights for the past year, and look ahead to 2009. As you know, the economic crisis that began in Q3 accelerated rapidly throughout the world in Q4. Our customers responded by taking unprecedented downtime to reduce inventory levels and bring production in line with reduced demand. In addition, many capital projects were delayed or canceled due to an inability to obtain financing or the desire to conserve cash. These events have adversely impacted our bookings for both capital and parts for Q4, and have tempered our outlook for 2009.

That said, paper and board, our staple products that are consumed to some degree in all economic cycles. We remain confident that the long-term fundamentals of our industry are intact. I will talk in more detail about our outlook for '09 and the paper industry in general after I review our results for the quarter. I'll start with the financial highlights of our continuing operations. Our revenues for Q4 were $67.2 million, or 25% lower than Q4 of '07. Excluding the effect of foreign currency. Revenue was particularly weak in our Stock Prep Capital Equipment product line. Gross margins were 43% in the fourth quarter. An increase of 500 basis points over the same period last year. This was due to an improved product mix as after-market businesses made up a higher percentage of our revenues as well as our ongoing efforts to optimize our manufacturing processes, and progress that we made on several global sourcing initiatives.

Our bookings for the quarter were $50.5 million, a sharp decline from Q4 of '07, which was one of our strongest booking quarters in our history, especially affected were stock preparation bookings from Asia where the liner board market is experiencing overcapacity. Stock prep bookings in other parts of the world were also impacted in response to concerns about the global economy as well as the tight credit markets. Even our historically stable parts and consumable bookings were affected by the high level of downtime paper mills are taking in response to the economic crisis. Backlog at the end of Q4 '08 stood at $65 million, a 41% decrease from Q4 of '07. The reduced order volume was evident across all Kadant business units during the quarter, particularly in December and the slower order intake resulted in a reduction of backlog levels. Adjusted diluted EPS for Q4 was $0.24, this compares to our guidance of $0.18 to $0.20 for the quarter.

Now let's look at our past-year performance. Without a doubt the economic uncertainty and global recession has adversely affected our customers' outlook and buying activity, especially during the second half of '08. A number of capital projects that were scheduled for '08 were postponed and others were canceled. In the first half of '08 we benefited from a relatively stable economic environment, in the second half all of our business units were impacted by the decline in global business activity. As a result we finished '08 with revenues of $329 million, a decrease of 10% compared to the prior year. As noted in our earnings release issued yesterday, the impairment charge, and other nonrecurring items, resulted in an operating loss of $13 million in '08, while our adjusted diluted EPS for the year was down 10% to $1.62. Finally, we generated $19.4 million of cash flow from operations in '08, compared to $33.5 million in '07.

Based on current and expected business activity and the weak economic outlook, we have taken a number of actions to adjust our cost structure and streamline our operations. We took a $3.1 million charge in Q4 related to a reduction of approximately 300 employees, or 15% of our workforce. The majority of these reductions took place in Q4, and the remainder will take place in '09. The cost savings from these measures will be phased in during '09 and the annualized savings is estimated to be nearly $5 million once fully implemented. We also have implemented a number of other programs in response to the current economic environment such as reduced work hours and salary freezes. These steps are never easy but it is the right thing to do for our company both in response to the reduced business levels we expect in '09 and to further strengthen the position of the company. We have successfully employed similar measures in the past such as when we integrated multiple operations in the region or merged sales teams to provide better market coverage at a reduced cost. We will continue to optimize our business structure to best serve our customers' needs and maximize internal efficiencies. Through these efforts, we are confident that we will strengthen our leading position in the pulp and paper industry and reinforce a strong cash position despite the tough economic environment.

Now looking ahead to 2009. Our performance over the past few years has been exceptionally positive, but the global economy is clearly weakened and is far more uncertain than it was this time last year. That said, our business fundamentals are strong, our balance sheet is healthy, and we continue to take deliberate actions to remain well positioned to weather the economic downturn during the coming months. In past earnings calls, I have noted several initiatives that we are undertaking to improve our results that are less dependent on an expanding economy. These included, increasing our market penetration of broader management and accessory products in China and Germany, increasing our market share of stock prep parts in China, growing our global market share of screen baskets, and shifting manufacturing to lower-cost countries such as Mexico and China. I am pleased to report continued progress in these efforts. For example, at the beginning of '09, Kadant was awarded an annual blade contract from one of the largest printing and writing grade producers in China. Based on the customer's 2008 usage rate, we estimate this contract to be valued at approximately $1 million.

In addition, we have been awarded an annual screen basket contract from one of the largest liner board producers in China. This contract also has a potential to generate $1 million of revenue. Both of these contracts are evidence of our growing presence in the Chinese after market and further reinforce our belief that the Kadant model will work in emerging markets as it has in developed regions of the world. On a related note, our sales teams around the globe have been reporting increased success in converting competitive blade installations to Kadant due to the demand from mills for application expertise and process knowledge. A key value distinctive position proposition offered by Kadant for the pulp and paper industry worldwide. On the Stock Prep Equipment side of the business, I am pleased to report that we recreantly made a partial shipment of the Vietnam order mentioned in our Q3 '08 Earnings Call and have been paid for 80% of the contract. We are currently working with the customer to complete the remainder of this contract.

In addition, just a few weeks ago, we were awarded a contract to provide key components for (inaudible) system valued at approximately $1.8 million for a liner board producer in China. That order was followed by a pending order of similar size from another liner board producer in China, for a stock prep system. These examples demonstrate the opportunities that we are capitalizing on despite the challenging economic environment. In markets outside of the pulp and paper industry, we continue to seek new market-growth opportunities, as shown by our strong quote activity for a high efficiency steam jet thermocompressors and condensate handling systems. Like many of our product offerings to the pulp and paper industry, these products offer our customers a compelling return on investment through improved energy utilization and reduced energy consumption. Before concluding my remarks -- my comments, I want to take a moment to reiterate the major factors that we believe benefit us in slower times. For those of you who have been following Kadant over the years, you are well aware of these attributes and how they contribute to our stability through the ups and downs of economic cycles. But first is our substantial consumables and parts business that is generated from the large installed base.

Consumables and parts make up about one-half of our sales and provide a relatively stable base, even during slow downs. They also generate higher gross margins than capital projects. Second, many of our products offer energy and fiber savings benefits resulting in compelling returns on investment. Even during difficult times these products offer attractive solutions to reduce operating costs and improve energy utilization. Third, our global manufacturing and sourcing capabilities provide increased flexibility to manage our costs as currencies and other factors change the relative manufacturing costs from region to region. Fourth, we have consistently maintained a healthy balance sheet. In addition, we have access to capital at very attractive rates through our established credit facilities that will allow us to take advantage of opportunities such as stock repurchases and complementary acquisitions. We will continue to seek out opportunities that add value to our portfolio, and believe that patience is a valued attribute in the current environment.

Our business strategy for '09 remains consistent with previous actions we have taken to deliver value to our customers and shareholders. In '09, we will focus on increasing our after-market and consumables business, deliver products and technical solutions that provide our customers with good return on their investment through energy savings and fiber yield improvements and further penetrate existing markets where we see opportunity. In addition, we will continue to drive efficiencies through our global manufacturing organization, to capture cost savings and operating margins that support future growth initiatives. Our business model has been well tested during several business cycles and has weathered tough economic environments. In addition, our management team is very seasoned and has navigated through numerous slowdowns and recessions during the past three decades. Taking a broader perspective on the current situation, we believe that the paper industry's reduction in capital spending and replacement parts is a short-term response to the current economic environment. At some point, the pent up demand for consumables, parts and capital equipment will break loose and return to more traditional levels.

We know that the long-term outlook for grades such as tissue, packaging and printing and writing, are all fundamentally positive. Global tissue consumption continues at a relatively stable growth rate of approximately 4% per year in industrialized economies and higher in emerging markets where consumption is relatively low per capita. While packaging grade producers are more affected by economic cycles, there is no meaningful threat to replace the box as a packaging of choice. The need for boxes and container board will grow as trade increases and as consumers in developing countries require packaging for their products. And finally, printing and writing grades also hold promise as emerging economies become more organized and develop service economies. Based on recent analysis provided by [Resee], we expect that China will be both the largest Asian producer and the largest exporter of printing and writing grades in '09 and beyond.

Now on to our guidance. As I outlined earlier, we have taken a number of actions to align our cost structure with the anticipated business levels in '09, and to strengthen the position of the Company. That said, the global recession and economic uncertainty have adversely affected our customers and their buying patterns. As a result, we expect to report a GAAP diluted loss per share of $0.03 to $0.05 from continuing operations in the first quarter of '09, including $0.07 of restructuring costs on revenues of $62 million to $65 million. For the full year, we expect to achieve GAAP diluted EPS of $0.43 to $0.53 from continuing operations including $0.17 of estimated restructuring costs on revenues of $260 million to $270 million. Now I'll turn the call over to Tom for more detailed review of the financials. Tom?

Thank you, Bill. Although I usually start with our revenue performance, let me first make a few comments on our balance sheet and our liquidity position since those are areas of even more importance in the current economic climate. From an overall perspective, our balance sheet is healthy. We had $15 million in net debt at the end of 2008. We have no significant debt maturities in 2009. The weighted average cost of all of our outstanding debt at the end of the fourth quarter was under 4.3%. We are well in compliance with our debt covenants and we ended the fourth quarter with $40.1 million in cash.

In terms of our liquidity, in addition to the $40 million in cash, we have approximately $33 million available in committed lines of credit. We also have an additional $75 million in uncommitted lines under our multi-bank five-year credit agreement which we entered into in February 2008. Likewise we have $100 million in uncommitted lines under our three-year (inaudible) shelf agreement which we entered into in May 2008. We were unfortunate to have entered into these agreements early last year before the financial crisis had expanded into collapse of the global credit markets. Since we negotiated these facilities when credit was still readily available under our attractive -- under attractive terms, our marginal borrowing cost under the bank group facility is quite low, ranging from 50 to 120 basis points over LIBOR. Currently we are borrowing at 70 basis points over LIBOR.

As I mentioned at the end of the quarter, our net debt position, that is debt less cash, was $15.3 million, compared to a net cash position of $20.9 million at the end of 2007. Our net debt to EBITDA for 2008 was 0.4. Net debt to equity was 7.9%, and net debt to total capital was 7.3%. Also we purchased $47.6 million of our common stock in 2008, of which $10.3 million was purchased in the fourth quarter. Cash flows from continuing operations were $2.2 million in the fourth quarter of 2008, compared to last year's record quarterly results of $25.8 million. For all of 2008, cash flows from continuing operations were $19.4 million, compared to last year's record performance of $33.5 million. Encouragingly, we have had solid cash collections so far in the first two months of 2009. With an emphasis on reducing our levels of working capital, we expect our net debt position to decrease over the next several quarters, and depending on the amount of stock repurchases we make during the year, we could be in a net cash position by the end of 2009.

Turning now to our revenue performance, consolidated revenues were $67.2 million in the fourth quarter of 2008, 30% lower than last year, including a 5% unfavorable effect from foreign exchange due to the strengthening of the US dollar in the fourth quarter, particularly as compared to the euro, the British pound, and the Canadian dollar. Revenues were below our guidance for the quarter, which was $75 million to $77 million, largely due to this unfavorable effect from foreign exchange which was $4.7 million, as well as lower than anticipated sales in our Stock Prep product line. In general, revenues were lower in all of our major product lines as compared to last year, although Water Management revenues did increase 6%, if we exclude an 8% unfavorable effect from foreign exchange. Let's now turn briefly to the revenue performances in each of our major product lines. Stock Prep revenues were $24.4 million in the fourth quarter of 2008, down 44% from last year, including a 2% unfavorable effect from foreign exchange. Revenues in China were $4.1 million, a decrease of 69% from the fourth quarter of 2007, and included a 1% favorable effect from foreign exchange. We noted during our last Earnings Call that our capital business in China was very weak, and that continues to be the case, although as Bill mentioned we were pleased to secure some large contracts there in the past few weeks.

Revenues in North America were also quite weak, again most notably in the capital business, and were down 60% from last year. In Europe, Stock Prep revenues increased 7% from the fourth quarter of 2007, including a 10% unfavorable effect from foreign currency. The increase here was largely due to higher capital sales originating from several large projects. We do expect weaker sales of Stock Prep products in Europe in 2009, due to the economic environment. Revenues in our Water Management product line decreased 2% from last year, including an 8% unfavorable effect from foreign exchange. In North America, revenues decreased 4% compared to the fourth quarter of 2007. Including a 3% unfavorable impact from currency. European-based revenues were flat with last year, but up 26%, excluding foreign exchange largely due to higher sales to OEMs.

Turning now to our Accessories product line, revenues were $12.9 million in the fourth quarter of 2008, down 14% from last year and included an 8% unfavorable effect from currency. Revenues declined in North America by 14%, including 4% from the unfavorable effect of foreign exchange, and by 20% in Europe, including a 19% unfavorable effect from foreign exchange. This, and other product lines, were affected by belt tightening on the part of our customers and this behavior generally increased as economic news worsened throughout the quarter. Overall, it was a quarter characterized by mill closures, machine shutdowns, and extended production curtailments even by some customers who have rarely taken extended downtimes in the past. Revenues in our Fluid Handling product line were $20.8 million in the fourth quarter of 2008, down 24% compared to last year, including a 6% unfavorable effect from foreign exchange. Most of the major geographic areas in which we market these products experienced lower demand in response to the world wide recession. For example, our European revenues were negatively affected by a delayed capital project for a large rebuild at a Russian paper mill, lack of available financing, hurt revenues in Latin America. China was tracking well against our forecast through November and then experienced an unusual sharp drop in orders in December.

In the US, revenues were down 6%, compared to the fourth quarter of 2007, primarily due to reduced activity for paper mill equipment upgrades and some softening of the [ethanol] and machine tool markets. Turning to our product gross margins, consolidated product gross margins were 43.1% in the fourth quarter of 2008, up 500 basis points over last year, and reached their highest levels since the first quarter of 2000. This improvement occurred entirely in our paper making system segment, with gross margins of 43.5% or 530 basis points higher in the fourth quarter of 2007. The gross margins in our paper making systems segment continued on the favorable trend we have seen now for several quarters. The higher margins in this segment reflect both a better product mix, that is a larger proportion of higher-margin after-market revenues, as well as efforts we have had under way to shift our production in sourcing to lower-cost countries, particularly to China and Mexico. Encouragingly, we saw higher margins in all our major product lines in the fourth quarter of 2008 compared to the fourth quarter of 2007, especially in Water Management and Stock Prep. The increase in these two product lines were especially noteworthy in the order of magnitude of 5 to 600 basis points. Gross margins were lower than last year in our other category, although it is only adversely affected our consolidated gross margins by 30 basis points, largely due to lower sales and higher prices for natural gas in our Fiber Based products business. Natural gas prices have since dropped significantly and we expected improved results for this business in 2009.

Now let's look at our SG&A expenses for a moment. SG&A expenses were $23.6 million in the fourth quarter of 2008, down $1.5 million or 6% from last year. This decrease includes $1.2 million, or 5%, from the favorable effects of foreign exchange, that is as the local currency amounts have translated into fewer US dollars, offset partly by an increase of $600,000 in bad debt expense associated with a customer bankruptcy. Due to lower revenues in the 2008 period, SG&A as a percentage of revenues increased from 25.9% in the fourth quarter of 2007 to 35.1% in the fourth quarter of 2008. Bill noted in his remarks some of the restructuring efforts we have underway and these will serve to reduce our SG&A run rates in 2009.

Now before explaining our EPS results for the fourth quarter, I first need to address three unusual and large items which reduced our net income in the fourth quarter. The first of these is the goodwill impairment charge we recorded in our Stock Prep business. As required under Financial Accounting Standards No. 142, we completed an evaluation of goodwill at the end of the year for all our reporting units, and determined that we had an impairment of goodwill in our Stock Prep reporting unit. On a pre-tax basis the impairment was $40.3 million, and after giving effect to a $13.6 million tax benefit, it reduced net income by $26.7 million, or $2.10 of diluted EPS in the fourth quarter of 2008. This impairment largely results from lower revenue and operating income projections for this business over the next several years, compared to our earlier projections. Importantly, this impairment charge had no impact on our operating cash, nor will it in any way affect our compliance with the debt covenants under our borrowing facilities, both committed and uncommitted.

The second unusual nonrecurring charge we recorded was related -- related to the goodwill impairment charge, it involved establishing valuation allowances on certain of our deferred tax assets. These valuation allowances reduced net income by $15.4 million or $1.21 of diluted EPS in the fourth quarter of 2008. Again, this was a non-cash charge, which had no effect on our debt covenants, since the compliance formula is based on a pre-tax measurement. The third unusual nonrecurring charge we recorded was for various restructuring initiatives which we have either already completed or which have been approved by management and are in various stages of implementation. Since Bill covered these in his remarks, I won't repeat them here other than to note that the pretax charge we incurred in the fourth quarter of 2008 was approximately $3.1 million, which had a negative effect on diluted EPS during the quarter of $0.18. So that said, we reported a GAAP diluted loss per share, including the impairment charge, the tax valuation allowances, the restructuring charge, and the discontinued operation of $3.25 in the fourth quarter of 2008, compared to income per diluted share of $0.53 in the fourth quarter of 2007. The discontinued operation reported break-even results in the 2008 period, compared to a loss of $0.01 in the 2007 period.

Also, as I just explained, the fourth quarter of 2008 includes losses per diluted share of $3.31 associated with the goodwill impairment in Stock Prep and the tax valuation reserve and a loss of approximately $0.18 per diluted share from restructuring. So excluding the discontinued results, the impairment charge, the tax valuation reserve, and the restructuring charge where applicable in both periods, adjusted diluted EPS was $0.24 in the fourth quarter of 2008, compared to $0.54 in the fourth quarter of 2007, or a decrease of $0.30 per diluted share. You can see the calculation of adjusted diluted EPS in tabular form in the Earnings Press Release which we issued yesterday. This decrease of $0.30, which I should note compares to a very strong quarter last year, includes the following effects -- an increase of $0.04 from a lower effective tax rate in 2008 before giving effect to the impairment and valuation items, offset by decreases of $0.06 from the unfavorable effects of foreign currency translation and $0.01 from higher net interest expense. Since I have just explained a net decrease of $0.03, it leaves us with a decrease of approximately $0.27 attributable to lower operating results in the fourth quarter of 2008, compared to the fourth quarter of 2007.

Now, before concluding my remarks I would like to give you some additional details on our earnings guidance for 2009. Looking at our quarterly EPS performance in 2009, we expect some sequential improvement in the second quarter, and a stronger second half of the year, assuming operating rates slowly increase in the paper industry, and market conditions stabilize and gradually improve. We do believe that the paper industry's current usage of parts and consumables is well below normal even at the current operating rates. We expect our bookings rates for these product will return to more traditional levels later in the year, once our customers have fully adjusted their inventories and operating rates to demand. Also, the benefits from our restructuring efforts will be higher in the second half of the year as the various efficiency plans and improvements we have noted will, by then, have been fully implemented. With respect to those restructuring plans we expect to incur an additional restructuring charge of approximately $3.1 million, or $0.17 per diluted share, and this is included in our annual GAAP guidance.

We expect that the tax rate, excluding any discrete items, will be approximately 33% to 34% in 2009, compared to a 29% recurring rate in 2008. The reported rate in 2008, of course, includes a number of discrete nonrecurring items, including the tax valuation allowances. We anticipate our CapEx spending in 2009 will be $4 million to $5 million, with approximately half of that amount associated with continued investments in our manufacturing capabilities in China and Mexico. Included in our 2009 guidance is approximately $0.14 per diluted share associated with our estimated non-cash employee equity compensation expense, compared to a similar amount in 2008. And finally, we expect depreciation and amortization to be approximately $8 million in 2009. That concludes my review of the financials and I will now turn the conference back to the operator for our Q & A session. Jennifer.

(Operator Instructions). We will pause for just a moment to compile the Q & A roster. Your first question comes from Tyler Old with JPMorgan.

Good morning.

Good morning, Tyler.

Just looking at your top-line guidance for 2009, if you had to break it up in to recurring revenue and new equipment orders, how much of that $260 million to $270 million is true recurring revenue, and what portion do you expect to be driven more by new capital equipment orders? And then if you could just give a little bit more detail on your expectations for demand by geography, that would be helpful.

Well, see Tyler, I think that the parts and consumable business that we have, which makes up about half of our business, I would expect that, if anything that that may grow a little bit, I mean as a percentage in this down cycle. I mean, I would think that could get up to maybe 60% of our revenues in this down cycle. The remainder being capital equipment. And the capital equipment that we would be looking at is not necessarily the big huge orders, major systems, but more replacement of a lot of machinery and equipment that we have. We will still have some opportunities just as we announced like -- the (inaudible) flow screening and some of the smaller Stock Prep systems. But in general, I would say the consumables and parts should take up a bigger piece of our revenue in this down cycle. And what was the second part of your question that you had?

Just a little bit more detail on demand expectations by geography.

Well, by geography, I think that certainly in North America, we see softness and that's [due] directly to the economy, and that impacts more of the -- the liner board. Also, by the way, news print, -- news print is making up a much smaller piece of our revenue, and we bake in expectations that that is going to continue to decline in North America. Latin America has somewhat of a similar profile. I must say that in Mexico, we have seen -- which is a smaller market -- we have seen some strength in the Mexican market. If I take a look in Europe, I would say Western Europe is going to be somewhat similar to what we see in North America. In Eastern Europe there's need for some projects, and it's really dependent upon when we may see capital available to fund those projects because they have been impacted and postponed until the economy changes or until they have access into capital. China is one that right now, for a period of time, and by the way, speaking of Asia, and China in particular, I think the outlook for China certainly hasn't changed. I think what has changed is we are going to see a shift over -- over the guide -- over what was expected over the next five years to maybe go out over the next seven years, and we're going to see a stalling of projects certainly in the next year or two, probably a couple of years, because they just have anticipated continuous growth in that marketplace, and that has been on the packaging grades, and that has certainly going to be stalled off for a couple of years, but we -- the expectations over the next five to seven years is still as strong as we ever anticipated and this is further endorsed my [Resee]. We do see some opportunities in the white grades of paper, and certainly in the tissue grades, and all the white grades, uncoated free sheet, light-weight coded grades, and to a smaller extent even some newsprint activity there. And if I take a look at the rest of the world there will be pockets of opportunity but very difficult to forecast and there will be smaller projects -- could be in regions like India and other parts -- parts of the world. But the US economy certainly, in my opinion, has impacted -- has global impact that we see. Does that answer your question, Tyler? Hello? We lost Tyler. Operator? Jennifer?

Jennifer are you there?

Yes.

Okay. I guess we'll take the next question if Tyler isn't there.

Okay. Your next question comes from Paul Mammola with Sidoti & Company.

Good morning, Paul? Hello.

Operator?

Operator?

Yes, sir.

We're not hearing the question here on our end.

Okay. One moment.

Hello?

Paul, your line is open.

Hey, good morning, guys.

Hi, good morning, Paul.

There we go. Now we have sound.

All right.

I thought it was like, Houston we have a problem.

Good thing we're back in. Alright, well first off thanks for the guidance and all of the good color you have given so far. Can you comment on what the breakdown is for gross margin in terms of how it helped -- was it mix versus your performance enhancement initiatives -- what was the percentage breakdown there would you say generally?

It was roughly split half and half. I mean half from product mix and half from all of the initiatives we have taken -- lower-cost sourcing, Mexico, China, et cetera. So it was roughly -- is -- roughly half of the improvement was due to mix.

Okay. That's fair. And then can you comment on customer financing and whether you think it has gotten materially worse or better in one or two Q versus the fourth quarter?

Well like we said, we have certainly seen difficulties in some regions like Russia, for example, we have not -- we did a lot of business with Russia last year, particularly out of our European operations, and there has been some difficulty there in securing financing and there is some in China as well. So I think that's -- It's occurring in some regions and with some of the larger systems I think.

Okay. And to my knowledge, I don't think there was any serious price improvement last year, I guess, so I would -- is it right to assume there are no price give backs and maybe potential for improvement. Is that fair to say?

You mean with our pricing?

Correct.

Well we constantly look at pricing especially on our after-market products and so forth, and this is a tougher -- certainly under these economic times it's much tougher, and I think we're going to get more benefit out of the manufacturing efficiencies and the shift to lower cost -- manufacturing lower cost areas which are going to certainly -- we have expectations for margin improvements for that -- for those sources.

Okay. And it is it fair to say that you still see China at somewhat depressed levels through the first couple quarters of -- excuse me, the first couple months of the first quarter here?

Yes, in fact we're probably going to see basic softness, Paul, through -- probably through most of this year in terms of big major systems. On the other hand I have been very encouraged by our success in going in -- after the after-market products both in the Stock Prep area as well as penetrating that marketplace with Accessories and Water Management. So we see still some opportunities, although I don't expect to see the large major recycling systems in '09.

Okay. And on the restructuring number, I think it was $0.17, $0.07 in the first quarter. Is the other $0.10 in the second quarter; is that right?

It's kind of spread throughout the rest of the year.

Okay. Perfect.

Most of it will be done by the third quarter, though.

Okay. Perfect. Thanks for your time.

Okay. Thanks, Paul.

Your next question comes from Walt Liptak with Barrington.

Good morning, Walt.

Hey, good morning, guys. Let me start with the big picture, and you sort of addressed this already, but I just want to ask it. What is an upturn in your business going to look like? It is mostly financing of equipment related or, as you kind of alluded to in some regions, or is it utilization rates, and what is it going to look like when -- when the equipment sales start coming back in to the market.

That's a good question. In some of the regions we see it is impacted by finance. Such as -- Eastern Europe is a key example. And in other parts of the world like North America, Western Europe, it is really on consumption of paper. And because right now, many of the mills are running at -- some of them are running as low as 65% of capacity, and most of them are probably around 75%. The good news -- on the good news front what we do see is that inventory rates are relatively low on paper, which would tell me that when there's any type of pickup, we should start -- we would see the gain quicker. I think that what we would see is -- one of the things I look at -- and I have been in this business a long time -- and certainly on the parts and consumables base -- we've see a slowdown of that activity in North America and Western Europe, and in my opinion that's certainly not sustainable because they really need to replace components. They run 24/7 and they need to replace on a more of a normal level, and I think that if not, they are going to start straining their ability to have good operation on their paper machines, and also they could cause some damage to things like rolls, which they need to protect, because they not only need their equipment for [runability] but also to protect their equipment. I see that as not sustainable, and we would expect a pickup in that level of business throughout the year, and again, that's the parts and after-market business and we also generate higher margins in that piece.

Okay. What -- on the $50 million in bookings that you got in the quarter, can you break that out, what was -- how much was equipment, how much was parts?

On the equipment side that -- do you have that Tom -- (inaudible) was small?

Yes, it probably was smallest so it is probably weighted at 65% maybe in the parts and consumables side, 60% to 65%, I would say. Higher than the average.

Okay. And are -- what is the China capacity utilization running at in the Stock Prep?

In the Stock Prep side, it's the big -- the big -- big systems are all in the liner board grades, they have smaller impact on the white grades of paper. The white grades of paper are doing fairly -- fairly well here at this point. On the liner board, they have had shutdown of some capacity, and they have -- I think that their utilization rates -- it's more difficult to get precise information out of them what their utilization rates were up, but I would give you -- what I would probably guess that it is probably below 80% at this point.

Okay. So not as bad as in the US -- I guess (multiple speakers).

It is because -- because, yes, the real impact was they shut done some operations, and they also, they stalled off installing some of the new systems that -- that they had anticipated putting in.

Okay. And I just had a couple of -- I wonder if we can get guidance on R&D spending for '09 and -- and corporate expenses?

Yes, R&D spending is going to be around a 2% level. Pretty close to what we have historically have been doing, and on the --

We don't give the guidance on that, Walt, but I would say that included in that other category really are two things. One is the corporate expenses and the other is our Grantek Operations. And as I mentioned in my comments, the Grantek Operations, which is our fiber-based products business, will have a better year in 2009, significantly better, probably to the tune of $0.06 to $0.07 improvement. Due to lower gas prices and a little bit better revenues.

Okay. Okay. Thanks very much.

Thank you, Walt.

Your next question comes from Mark McGrath with Kenmare

Good morning, Mark.

Good morning. I just wanted to clarify one thing, you said of the $329 million in sales last year, you guessed about 50% came from after-market parts and service and then of the -- I guess let's look at the midpoint of your guidance, about 265 and you were guessing 60% of that would be in the same category?

You are right, last year we were more -- probably closer to around 55%.

55?

Right.

Okay, well then that changes the math a little bit. So that -- if it was 50 it implied that the -- that that business would only be down 3% or 4% this year. So you would be down a little bit more than that.

Right. That's our expectation at this point. I can tell you this is really one of the toughest years we look at, and, fortunately we got a -- we have a base that we can build the business from, but on the other hand it is very difficult to call. We're looking at moving targets often.

Right. Right. But if it's 55, it's still --

Hello?

Hey, operator, we lost -- we lost the caller.

Okay. One moment -- one moment sir .

Operator?

Yes, sir, I'm trying to get Walt back.

Okay. Thank you. That was Mark.

Mark McGrath.

Okay. Mark, your line is open.

Can you hear me?

Yes, we can hear you now Mark.

Okay. Okay. So -- so by the new math, 55% is parts and service for last year.. That means your down about 12% in that business -- does that sound right?

Yes, at this point, yes, that's about the best visibility we have at this point.

Okay. And then can you give us a little bit of an idea how much sales you had in China last year versus how much you expect in the 265 of sales this year.

In 2008, Mark, we had -- this is Stock Prep now -- about $45 million in revenues, and in 2009, I think we're expecting somewhere in the range of about $25 million, again that's just Stock Prep.

Yes.

So our Fluid Handling business in China, you could add another $15 million to $16 million to those numbers.

In both years?

Yes, in both years. And then just to -- yes, right, in both years.

Okay. Okay. And then -- looks like you did more share repurchase in Q4 -- what is the year-end share outstanding?

It is about $12.7 million, $12.8 million.

12.7, 12.8 is year end?

Yes.

Okay. And then I missed it, the D&A and the CapEx estimates for '09?

D&A is about $8 million, and the CapEx is say between $4 million and $5 million.

4 or 5, okay. And then -- and then you mentioned that you expected to squeeze some cash out of working capital the next couple of quarters, if you -- if the sales estimates are roughly right -- how much would you expect to come out of working capital over the whole year?

That's a very good question, and I would say, again, this is a little bit difficult to forecast, but I would say it could be in the range of $10 million.

$10 million?

Yes.

Okay. Great. Thank you very much.

Thank you, Mark.

Your next question comes from Tyler Old from JPMorgan.

Hi, Tyler, welcome back.

Just touching briefly on the restructuring again, is most of that expense you guided to in 2009, is that mostly severance or is there some more significant right sizing of whole business lines?

It is mostly severance.

Right.

Predominantly severance on that, Tyler.

Okay. And then aside from share repurchase, which you have been pretty aggressive on it looks like, what are just the other priorities for cash flow at this point in the cycle? Are there opportunities out there?

That's a great question. In fact, in past down cycles we have always taken an opportunity to acquire businesses, and this type of cycle, this is something else that could be a nice opportunity for us to expand our product offerings, for example.

Are you seeing some distressed assets out there that could be attractive?

We keep an eye -- we keep an eye out for them, and yes, we have some that we've been watching and probably looking at for a number of years that may become much more reasonable and attractive in this period.

Great. I think that's it for me. Thank you.

Thank you, Tyler.

Your next question comes from Walt Liptak with Barrington Research.

Hi, Walt.

One follow-up on the parts business in China. How would you characterize the opportunity -- is it from your install base of equipment or is it -- are you getting on to other machinery? And I wonder if you could quantify for us what the opportunity is?

Well, I think on -- on the Parts business and Stock Preparation is predominantly off of our installed base, and I can tell you that it is going to be relatively close to what we have been looking at, the opportunity comes in once all the machines up and running, close to the opportunity we have in the US, because they actually are going to have more capacity in liner board over the next couple of years than the US has. And that has been a nice business for us. We also see additional opportunity and that is in the basket business -- screen basket business -- that we look at in the Stock Prep area. On the other parts of the business -- on the Accessories, Fluid Handling, and Water Management. Some of that is off -- some of the original equipment that went on new machines -- the majority of that is out replacing equipment. We're going in with a -- with a much higher technology and advanced equipment than -- than they have seen -- than they have had the experience of. Along with, I think what has been a real tool for us to penetration that market, is our application knowledge and service capability, which really, there is no one that comes close to that, considering those product lines anywhere in the world.

Okay. And my understanding in especially Stock Prep, you are early in your China Parts business. How long is it going to take you, do you think to get to the max market opportunity?

Oh, I think we're going to continue to see gains on that, because a lot of those systems have been up and running for a couple of years, just in the entry stages now, requiring parts and services, as well as the screen basket business that we have had. In fact in our latest designed screen basket, our wedge warrior basket, we have seen quarter-to-quarter, for example in the fourth quarter they were up 100% over the previous year and over -- year to year we have seen a gain of 55%. So we are making good penetration in those markets.

Okay. All right. Great. Thank you.

All right. Thank you, Walt.

At this time, there are no further questions.

Okay. Well in that case I just have a couple of closing comments. Thank you, operator. In closing I would just like to say that we believe Kadant is well positioned to capitalize on opportunities, and that's even during times of economic uncertainty. And more importantly, our Parts and Consumable business, energy-saving products, and healthy balance sheet provides stability during challenging times and flexibility to achieve our goals. I look forward to reporting on our progress as we work toward implementing our strategies and meeting our operational and financial goals for 2009. Thank you for joining us today.

This concludes today's conference call. You may now disconnect.