Kadant Inc (KAI) 2010 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the fourth quarter 2010 Kadant, Incorporated earnings conference call. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions)

I would now like to turn the presentation over to your host for today's call, to Thomas O'Brien, Chief Financial Officer of Kadant, Incorporated. You may proceed.

Well, thank you, operator, and good morning, everyone, and welcome to Kadant's fourth quarter and full-year 2010 earnings call.

With me on the call today is Jon Painter, our President 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 of 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 outlined in the beginning of our slide presentation and those discussed in our quarterly report, on Form 10-Q for the fiscal quarter ended October 2nd, 2010. Our 10-Q 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 during this webcast 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 webcast, we will refer to 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 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 Investor News.

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

Thanks, Tom. Hello, everyone. We're going to try something a little different this quarter, in that we have slides along with our presentation. So you should have a slide up on your computer screen that is entitled business review. If you don't have that slide on your computer screen, you can find them on our website in our Investor Section.

The slides will automatically advance as we present. If you'd like to listen via telephone while you're watching the webcast, you can go to the Investor Section of our website and click on the webcast and then the listen live option. Prior to the Q&A session, we will provide the call-in number if you wish to ask questions.

Q4 was an excellent quarter, really, in every respect. Our revenues came in at $73.3 million, which was a 29% increase over Q4 2009, and is a 10 percentage growth sequentially from Q3. We were very pleased with the breadth of the growth. All of our product lines were up double digits and all geographic regions were up double digits.

Some other financial highlights, our gross margins came in at about 42%. It is a little bit lower than the 44 percentage that we saw earlier in the year, but we're actually quite pleased with these margins and they are fundamentally higher than the margins that we experienced prior to the recession.

Our EBITDA margins also increased to 12% from around 7% last year, and our earnings per share improved to $0.41 from a loss of $0.14 last year.

As many of you know, we did a lot of work in response to the recession to streamline our business and our cost structure. And now that we're getting some earnings lift, it's nice to see the operating leverage come through.

One of the most pleasing aspects of the quarter really was our cash flow which was nearly $14 million in Q4, and that's particularly nice because that's a quarter where we were growing revenues.

Probably the most extraordinary aspect of the quarter was our bookings. Our bookings were nearly $100 million, up 55% compared to Q4 2009, and up 71% from a fairly weak Q3. A bit of history here. I mean, this is the highest booking quarter we've had since 2007. Again, we are pleased with the breadth of the increases, particularly our stock prep had a really strong bookings performance. But fluid handling and accessory also had excellent year-over-year growth.

This next chart, which is slide eight, gives our quarterly bookings by quarter for the last three years. You can see from this chart that -- just how strong Q4 spans out. We -- and you can also see by looking at the blue bar in there that much of the growth was from our stock prep, although, again, fluid handling also had strong bookings increase, which was up 19% from Q4 2009.

This next chart is just looking at our capital bookings by quarter. And you can see that much of the increase was, in fact, from capital. And the -- our capital was more than double last year and more than triple a really relatively weak Q3. As you know, at the Q3 call, we did talk about timing being a factor and that some of the orders that might have been in Q3 actually slipped into Q4. And you can see that was indeed the case.

On the capital side, you can see that the main contributor was our stock prep business, up 180% compared to last year. But our accessories capital bookings were up 24% and fluid handling capital was up 19%. I will say that the strong capital bookings contribution in Q4 did change our mix from 53% spare parts to -- and consumables to capital in Q4 last year to more like 41% spare parts and consumables to capital this year. Of course, this is a booking mix since the capital, much of that capital in Q4 is going to really spread out through 2011, the mix will dissipate to some extent.

Looking now really at just our parts and consumable bookings. And you can see from this we did have a respectable quarter also in parts and consumables, our bookings were up 19% compared to Q4 last year and 3% compared to Q3 this year. We were particularly pleased to see that our stock prep business was up around 31%, our fluid handling parts business -- I mean fluid handling business in -- yes, parts business, was up 19%, our accessories parts business was up 13%.

Another point worth noting on this slide is, as although we have improved our spare parts quarterly bookings from the depths of 2009, it's still in the $8 million to $10 million run rate per quarter short of where we were prior to the recession. So we still have some room for improvement on parts and consumables.

I'm now going to go through the markets, North America, Europe, and China, give some kind of overall macro comments, and then go into a little bit about how we did in that region.

Starting with North America. We probably had two regions that were upside surprises. China was certainly one. We expected it would be strong, but it was even stronger. And the other, really, was North America. The US economy actually ended stronger than probably most economists thought with 3.2% GDP growth in the fourth quarter. The paper industry also ended fairly strongly, operating rates in the 90% range.

In general, in 2010, the US paper industry recovered about half the production that was lost during -- in the recession. So production went down about 10% from 2008 and 2009, and then they really gained about half of that back in 2010.

As we commented all through last year, one of the factors that was growing production last year was inventory build throughout 2010. That has essentially stabilized. So I don't think that's going to be a tailwind going forward. But on the other hand, there's not an overhang of inventory either. It's probably right about right.

Another positive for us, I think, is we are seeing signs from our customers of some willingness to increase their capital spending in 2011, from the somewhat suppressed years that they've had in the recession and the immediate year afterwards. International Paper is a good example of that. They actually announced plans in their call earlier this week to spend about $1.3 billion in 2011. That's higher than their normalized $1 billion per year. And this is a global number. But it's well ahead of the $775 million that they spent in 2010, and even more ahead of the $537 million that they spent in 2009.

Another thing that our customers are starting to struggle with is higher fiber cost, and that's particularly the case for recovered paper and OCC. This is largely coming from the Chinese paper producers buying OCC on the world market and kind of driving that cost up. This is somewhat of a problem for our customers, but it's actually kind of good news for us because our equipment, particularly our stock preparation equipment, part of its return on investment is improved fiber yield. So that the more expensive the fiber is, actually the better the return on investment for our equipment. So we're -- we obviously want to see our customers do well, but we don't mind higher fiber costs.

There are, of course, some clouds in the US market. The US consumer is kind of keeping their wallet shut. We've also had stubbornly high unemployment. And in the white collars ranks, that does impact printing and writing grades. And there's still the long-term structural weaknesses in printing and writing and newsprint.

Another event worth note in North America is Rock Tenn's acquisition of Smurfit Stone. Quite likely this is going to lead to some capacity rationalization which will take some production off the market. On the other hand, it'll probably lead to some increased spending, capital spending, in the Smurfit mills because many of those mills have really under invested as that business struggled over the prior years, prior to their bankruptcy.

This next chart is RISI's projection for paper and board production in North America. RISI, of course, is the leading forecasting firm for the paper industry. And you can see from this chart, they certainly project relatively flat growth over the next five years, in fact, slightly down in 2011 because we have some inventory build in 2010.

The thing I -- the point I'd make within this is that there are -- that as you get into the individual grades, there actually are opportunities. Containerboard and boxboard, for example, expected to grow kind of 1.8% annually, tissue 1.3% annually for the next five years. Those improvements in production will be offset by actual declines in printing and writing and newsprint. But regardless, it's still opportunities for us to sell our equipment.

The other area which we've -- has been the driving force for the sale of our equipment in North America for the past 10 years is really helping the mills reduce their cost per ton. And as input costs like recovered fiber and energy increase, these are good opportunities to for us help the mills lower their cost per ton.

In terms of recent bookings that we've had in North America, in fact, this first one here, OCC system that we sold for a US containerboard producer in the southwest is a good example of finding an opportunity in a [grade] and an otherwise flattish market.

The other order I think that's worth some special attention is we sold 1,000 rotary joints to a machine tool OEM in actually January of this year. What's significant about this is that of all of our industrial customers, probably the machine tool market globally was hit the hardest. So it is nice to see them showing some signs of life, and we're happy to place orders like that.

Looking at our North American bookings, and this is slide 15. You can see this is our bookings per quarter for the last three years. The bookings were up 8% from Q4, really driven by double-digit increases in stock prep at 14%, accessories at 12%, and fluid handling at 11% growth over Q4 of last year. And the bookings were actually up 25% from a relatively weak Q3.

One of the things we were particularly pleased about in North America was we did have a 15% increase in our parts and consumables bookings over Q4 of last year, and that was driven by a 38% increase in our stock prep spare parts and an 11% increase in accessory spare parts.

Turning now to Europe. I would say in general that the situation in Europe is similar to the US, although I'd say Europe is a little bit weaker than the US. They did -- they do have solid demand for containerboard right through the year Q4, as well as Q1. And you can see that the demand for graphic papers increase 4.5% during the year. Both these things really contributed to stabilization of their inventory, and operating rates in Europe kind of hover around 90%.

I think as we look forward into 2011, a couple of factors worth watching. One is the strength of the euro. If the euro gets stronger, obviously, that hurts industrial exports, particularly from countries like Germany, which is not good news from linerboard. And, of course, we always kind of watch the whole sovereign debt issue on the peripheral countries.

But I would say, in general, Europe and North America are in pretty good shape heading into 2011.

In fact, this next chart on slide 17 is RISI's projection for Europe, paper and board production growth. You can see a little bit stronger than the US, but still relatively flat. Similar situation in Europe as we have in North America in that containerboard and boxboard are projected to have annual growth rates of around 1.8%, and, in fact, tissue is expected to grow 3% annually over the next five years. So we certainly see opportunities in Europe and we see projects in various parts of the pipeline in Europe.

Another trend in Europe that's an opportunity for us is in the containerboard industry there's a shift from heavyweight containerboard towards lightweight containerboard. So that's where a producer will actually shut down a heavyweight mill and build a lightweight mill. This is certainly an opportunity for us to sell our stock prep equipment, as well as our paper accessory and other equipment onto the paper machine. But it actually shows up in the chart like this, as a decrease in tonnage because, of course, lightweight linerboard is lighter than heavyweight linerboard.

Some highlights of our European bookings. We did sell a [deinking] line in Russia for a tissue producer. I think Russia's going to be an interesting market going forward. Projections are that they are going to have a shortage of containerboard for the next few years. So in Russia they either have to increase their containerboard and linerboard mills or they're going to have to import more from Europe, either of which is good for us.

Another order worth noting is we sold the two PETAX Fine Filtration systems to a craft packaging mill in Thailand from our European operations. This filtration equipment, the PETAX and even all of our equipment is finding a real need in places like Thailand, China, Australia, where water's a scarce resource. So this is something that we're really trying to expand our offering here and help our customers with that problem.

The next chart on slide 19 is a chart of our European bookings. You can see that in Europe our bookings increased 20% from Q4 and 15% sequentially, although they are down a bit from the first half of 2010. You may remember 2010 started with a bang for us, particularly in Q1.

All of our businesses in Europe had double-digit growth in bookings from Q4 '09, led by stock prep at 24% and our fluid handling at 12%.

We were really pleased to see our spare parts business in Europe was up 20% as well, driven by really a very strong performance in our fluid handling business, which was up 46% compared to last year.

Going to shift now to China. And, of course, the situation in China and Asia couldn't be more different from the US. The US and Europe, of course, modest growth, quite stable, China really very strong growth, and we saw this really in dramatic fashion in Q4. According to RISI, China's expected to add 15 million tons from the end of last year through 2012. That is a lot of tons.

China's also last year closed 3.8 million tons from older inefficient small mills that either had pollution problems often or water usage problems. This is actually good news [for us] because, in general, those smaller mills really weren't customers of ours, they tended to buy their equipment from local Chinese suppliers. And as that tonnage migrates towards the more modern mills, much more likely that those are customers for us. So that's -- those create opportunities for us to either sell our equipment or sell our spare parts.

If you look at the overall economic situation in China, it's quite the opposite of the US and Europe. China's actually more concerned with an overheated economy, and you can see that they're doing things like raising interest rates and increasing some bank lendings to try to slow down things like their housing market as they struggle with some inflation.

I think the expectations are that China's going to continue its rapid growth for the next five years, but maybe not quite the same pace as we have in the last five years.

This next chart is, this is RISI's projection for Asia, and you can see it's growing at 6.1%. And when, of course, Asia includes Japan, a sizeable economy with growth similar to North America and Europe, relatively modest growth, so that's quite an impressive growth rate. In fact, if you look at the growth rate for China alone, it's around 8% per year, and that's off a very big base. So this is the real opportunity for us in the world.

This next chart I think really illustrates the shift from the developing to the developed world. So this is a breakdown of world demand for paper and paperboard by region. I can tell you when I first started looking at this in -- many years ago, the rule of thumb typically was that North America, Europe, and Asia, were relatively evenly divided, maybe Europe a little smaller. You can see by 2005, Asia has grown to 35% of world demand, and China alone was 16%, and that by 2015, really not that many years away, Asia's expected to be nearly 50% of world demand, with China alone nearly 30%. So this is an extraordinary shift of demand and, of course, productions going with it of paper.

We're fortunate because our two biggest product lines, stock prep and fluid handling, have very strong positions in China. So it's -- I feel very much we're on the right side of this trend. And as you know, one of our real initiatives as a company is to grow our market position in our accessories and our water management product line in China.

I put this chart in really for purposes of completion, since I've kind of given growth rates for everywhere in the world. This is summing it up, if you will. So this is RISI's projections for world paper and board production. You can see that they talk about an annual growth rate of about 3.4%, which is about 14 million tons per year. And again, as you -- as I'm sure you get the picture by now, the heavy growth is coming from the developing worlds, with much more modest increases in the developed worlds.

Flipping back to China for us, we had an extraordinary booking period in China in Q4. The headline is certainly our stock preparation product line, which booked 14 stock prep systems, including an approach flow system and a deinking line for total value of $31 million in the fourth quarter. I can tell you we're very pleased with the approach flow in the deink order as we have opportunities to increase our market position in those areas.

We also booked a steam and condensate system order for eight new machines with a value of around $700,000. And we continue to see success in that product offering in China.

And finally, another important order we got in China, we're -- we sold some water -- of our water filtration equipment for four tissue machines for a major tissue producer in southern China. As I mentioned earlier, water is a real issue in China and we're looking very closely at what we can do to expand our offering and help our customers deal with that problem.

This next chart is our -- shows our China bookings. Obviously, you can see that the Q4 was very good over the past years. In China, the recession started to show its effects earlier in 2008, but -- so these are, well, relatively weak comparisons. But Q4 is a strong quarter, no matter how you slice it. You can see that our bookings are up four times over Q4 of last year and five times sequentially. So quite a strong -- quite a strong booking.

And you can see from the blue bar on the chart that it was mainly our stock prep product line, which booked overall $32 million, five times higher than last year. Although, I will say our fluid handling business also had a very strong quarter, up 55%. And all of our businesses are up at least 20% compared to last year.

With this chart sitting up here, I should make the point that, if you haven't got it by now, that capital certainly is volatile, and I wouldn't necessarily expect that we expect to see this kind of quarterly bookings on a regular basis. In fact, as we look into 2011, we do see somewhat of a slowing of capital orders as the industry digests all the capacity that they're putting online.

And although the growth in China was mainly driven by capital orders, we did make some progress growing our spare parts in China, which increased 50% compared to a relatively weak Q4 of last year, and it was down 13% sequentially.

I'll also add that one of the pleasing things about this capital, of course, is it does increase our install base and gives us opportunities to increase our spares business going forward.

The burst in bookings in China has, as you might imagine, put some strains on our manufacturing facility in China for stock preparation. In general, the world of stock prep is characterized by large systems that often come in concentrated periods. We've dealt with this before, the last period being kind of 2006, 2007.

In general, one of the ways we handle these spikes is increased outsourcing. That's somewhat less of a possibility in China, really for two reasons. The first is is that many of the local suppliers really can't meet the quality and delivery requirements we have. And second, we really don't want to have happen to us what we've seen happen to other industrial companies in China, where your supplier after a few years suddenly shows up as your competitor, particularly through your spare parts.

So I think the prudent thing to do in China is really to try to do it within our own facility. We have a good facility there, but we're going to take this opportunity to make it stronger. We're increasing the capacity in that facility, expanding the work force. We've actually hired 50 additional people who are now being trained. We're also going to invest some more in capital equipment this year. This is all equipment that we intended to purchase anyway, but the -- but this burst in orders has kind of accelerated the timing a little bit.

I do think, if you look at the needs in China going forward, having a first-class facility's going to be a really good asset for us going forward as we compete in this marketplace.

The other thing we're doing to deal with this heavy [load to] manufacturing is out -- using our sister companies in North America and Europe. We have the ability to manufacture really all of our equipment in pretty much North America, Europe, or China. I will say that it's not a great thing for margins when you shift manufacturing from a low-cost area like China to a high-cost area like Europe or North America, but I think it is a prudent thing to do in this case.

Turning now to our guidance. You can see for 2011, we're anticipating revenues of $300 million to $310 million and creating a diluted earnings per share of $1.65 to $1.75. For the first quarter, we anticipate revenues of $71 million to $73 million, which should generate diluted earnings per share of $1.35 to $1.37 (sic - see press release).

Some of you may remember at our annual meeting last year and also some investor conferences we've given in the interim, that we had our, what I call our $300 million example where we were trying to demonstrate the operating leverage I thought that we felt we had. And that in that example, we said, geez, if we could get to $300 million, we should be able to generate $1.80 of earnings per share. And here we are in 2011, quite a bit earlier than we thought we'd be at $300 million, but we're at $300 million but our earnings per share guidance is a little light -- a little short of $1.80.

The primary reason for this is that we now expect our tax rate to be 28% versus the 23% that was implied in our hypothetical example. And that alone would -- could make up the difference. I will say the other thing that's impacting our results in 2011, is the mix of capital and spares. We're going to have in 2011, at this point, we think more of a capital mix than we've had historically, and that certainly hurts our margin as the stock prep systems are lower margin compared to spares.

But in short, we're looking at -- we're looking at what we believe will be a very good year in 2011.

So that concludes my remarks. And I'd now like to turn it over to Tom who will give a review of our financial results. Tom.

Thank you, Jon. I'll start with a review of our revenue performance. Consolidated revenues were $73.3 million in the fourth quarter of 2010, 29% higher than last year, including a 2% unfavorable effect from foreign currency translation. The revenue results exceeded our guidance for the quarter, which was $64 million to $66 million, mainly due to higher revenues in stock prep combined with smaller increases in our fluid handling and accessory product lines.

Revenues in all our major product lines increased significantly compared to last year's relatively weak fourth quarter, ranging from a high of 42% in stock prep to 18% fiber-based products.

Stock prep revenues was strong in all our major territories, as well as in both the parts and consumables and the capital portions of this product line. China revenues more than doubled compared to last year. North America revenues increased 38%. And European-based revenues increased 9%, including a 10% unfavorable effect from foreign exchange.

Encouragingly, stock prep parts and consumables revenues increased 53% over last year, while capital sales were up 35%. Fluid handling revenues increased 25% compared to the fourth quarter of 2009, including 1% of unfavorable foreign exchange. As with stock prep, these increases were broadly based with increases of 41% in China, including a 10% favorable effect from foreign exchange, 40% in South America, including 3% of favorable exchange, 25% in Europe, including 8% of unfavorable exchange, and 18% in North America, including 1% of favorable exchange. Our parts and consumables revenues in this product line were up 36% compared to last year, while capital revenues were up 2%.

Now I want to switch back to consolidated revenues for a moment and look at the sequential comparisons. Consolidated revenues in the fourth quarter of 2010 were up 10% on a sequential basis due to increases of 21% in stock prep, 13% in accessories, and 41% in fiber-based products. The sequential growth in stock prep was largely due to increases in North America and Europe, as well as a significant increase in the capital business in China.

Accessories revenues were 13% higher than in the third quarter of 2010, largely due to growth in North America and Europe. It was particularly encouraging to see the solid performance in the accessories product line where revenues are at their highest level in over two years.

Fluid handling revenues were flat with the third quarter of 2010, with a 5% increase in parts and consumables offset by a decrease in the capital portion of this business.

The slight decline in water management revenues was due to lower sales in both parts and consumables, as well as in the capital portion of this product line.

So looking at revenues in the papermaking system segment by our major geographic territories, we have solid increases across the board, both compared to last year's fourth quarter and to the third quarter of 2010. Revenues in China were particularly strong, almost doubling over last year, and up 13% compared to the third quarter of 2010.

And finally, taking a look at our revenue performance from another perspective, parts and consumables revenues in our papermaking system segment increased 33% compared to last year, and represented 57% of total revenues in the segment. Encouragingly, the sequential growth in parts and consumables was 5% and points to the ongoing improvement in operating rates in the paper industry, as well as the efforts we had made in all our subsidiaries to grow the aftermarket business.

Turning to our product gross margins. Consolidated product gross margins were 42.4% in the fourth quarter of 2010, up 110 basis points from last year's 41.3%. On a sequential basis, product gross margins were 170 basis points lower than in the third quarter of 2010.

In our papermaking system segment, gross margins of 42.4% were 80 basis points higher than last year due to a significant increase in our water management margins, as well as a slightly favorable product mix, offset partly by several discrete, nonrecurring warranty and inventory obsolescence provisions that were recorded in our stock prep business. These provisions had the effect of decreasing our consolidated gross margins by approximately 130 basis points in the fourth quarter of 2010, compared to what they otherwise would have been.

The water management gross margins have now returned to more normal levels following the completion in 2010 of the consolidation of the US water management manufacturing facility into our manufacturing facilities in the US and Mexico.

In our other category, gross margin's of 41.8% were up over 10 percentage points over last year, largely due to lower natural gas prices in our fiber-based products business.

Now let's turn to our SG&A expenses for a moment. SG&A expenses were $22.9 million in the fourth quarter of 2010, up $2.7 million or 13% from last year, including a decrease in the effect of foreign exchange translation of $300,000. Over half of the increase in SG&A compared to last year is due to higher incentive and commission expenses associated with the improved results over the 2009 period.

We did experience a market improvement in operating leverage this quarter, as SG&A expenses compared to revenues were 31.3% in the fourth quarter of 2010, down from last year's 35.6%. For the full year, SG&A expenses of $89.2 million in 2010, were 33% of revenues, compared to last year's $81.2 million, or 36% of revenues.

And let me turn to our EPS results for the quarter. We reported GAAP diluted earnings per share from continuing operations of $0.41 in the fourth quarter of 2010, compared to a loss of $0.14 in the fourth quarter of 2009, or an improvement of $0.55. This increase of $0.55 in diluted EPS consists of the following. Increases of $0.44 associated with higher volumes in the fourth quarter of 2010, compared to the fourth quarter of 2009, $0.05 from higher gross margin percentages, $0.12 and $0.11 respectively for lower taxes and restructuring costs, and $0.01 for lower net interest expense.

These increases were partly offset by decreases of $0.17 due to higher operating expenses and $0.01 for higher minority interest expense in the fourth quarter of 2010, compared to last year.

Turning to our cash flows, working capital, and liquidity. Operating cash flow of $13.8 million were one of the highest quarterly performances in the company's history, and we're up $2.4 million over a strong quarter last year. This is quite a remarkable performance, especially given the increase in revenues in the fourth quarter of 2010, compared to last year, and the increased demand on working capital.

For the year, operating cash flows were $28.3 million, down from last year's record performance of $43.1 million, which included, of course, a significant effect from reductions in working capital. Encouragingly, we were able to grow revenues by over $44 million in 2010, with no corresponding increases in working capital for the year.

The key working capital metrics that we track continue to show solid improvements, both as compared to last year and to the third quarter of 2010. Specifically, days sales in receivables were 62 in the fourth quarter of 2010, slightly better than last year's fourth quarter and the third quarter of 2010.

The major improvement in working capital was in inventory management, where days in inventory is 90 in the fourth quarter of 2010, we're down from 103 days in the fourth quarter of 2009, and 101 days in the third quarter of 2010.

Overall, our working capital as a percentage of the last 12 months revenues, where lower is obviously better, decreased to 9.1% in the fourth quarter of 2010, an improvement over very good performances in both the previous year and the sequential periods. Working capital here is defined as current assets less current liabilities, excluding cash, debt, and the discontinued operation.

The higher operating results and the continued focus on working capital management have greatly improved our cash position over the past two years. Our net cash position, that is cash less debt, at the end of the fourth quarter of 2010, was $39.1 million, an increase of $12.5 million compared to the third quarter of 2010, and an improvement of over $46 million compared to the net debt position at the end of the first quarter of 2009.

I also want to make a few brief comments on our liquidity position, which has improved considerably over the past year. In addition to the $62 million in cash on hand, we had approximately $59 million of borrowing capacity available under our revolving credit facility at the end of the quarter. Our leverage ratio, which represents our consolidated indebtedness divided by our consolidated EBITDA, as defined in our credit agreement, was 0.6 at the end of the quarter. This exceptionally low leverage ratio will afford us the best possible pricing under the credit facility beginning later in the first quarter of 2011.

In terms of how we deployed our capital in 2010, we expended approximately $14 million as follows - $5.8 million on acquisitions, $3.4 million on CapEx, $4.4 million on share buybacks, and $0.5 million on repayment of debt.

Now, before concluding my remarks, I'd like to give you a few additional details on our earnings guidance. As we noted in the press release issued yesterday, in the first quarter of 2011, we expect GAAP-diluted EPS of $0.35 to $0.37. For the full year, the expected GAAP diluted EPS is $1.65 to $1.75.

Looking at our quarterly EPS performance in 2011, we expect that the second half of the year will be stronger than the first half, although I should caution that there could be some choppiness and uncertainty in our quarterly results due to the timing of revenue recognition for the larger system orders in China. Revenue for these orders is typically recognized on the completed contract method and is not -- it is not unusual at all for customers in China, for any number of reasons, to temporarily delay delivery of their orders, and this can obviously and materially affect our quarter-to-quarter results.

With respect to our effective tax rate, we expect that the rate for 2011 will be approximately 28%, somewhat higher than 2010's recurring rate of 24%, primarily due to higher tax expense in the US. I should add that this increase in the US tax expense will have no effect on cash as we expect to pay no federal taxes in 2011.

We anticipate CapEx spending in 2011 will be $7 to $8 million, higher than what we historically spend, largely due to re-tooling our stock prep manufacturing facility in China to meet the additional demand and to update our capabilities there with more efficient equipment. We are also selectively upgrading several key machine tools in other manufacturing facilities in the US and Europe.

Our 2011 guidance includes approximately $0.19 per diluted share associated with our non-cash equity compensation expense, compared to $0.17 in 2010.

And finally, we expect depreciation and amortization to be approximately $8 million in 2011.

That concludes my review of the financials, and I will now turn the call back to the operator for our Q&A session. Operator?

(Operator Instructions) And our first question is from the line of Rick Hoss from Roth Capital Partners. You may proceed.

Hi. Good morning.

Hi, Rick.

Hey, Rick.

A few questions. One, if you're able to disclose this, I'm not sure if it's sensitive or not, but can you compare the gross margin profile of the Asian stock prep systems versus say North America or Europe systems?

No. I mean, that is something that we don't really disclose for competitive reasons. I will tell you, in general, China is the most competitive market in the world, because that's where the business is. That said, we are seeing some improved pricing in that area, but it is typically not as strong as the other [parts of] -- and, of course, there's big exceptions to that all the time.

Right. Okay. And then, Jonathan, I know one of the initiatives that you have focused on the last couple years is increasing water management and accessories in China and trying to expand your footprint. Can you give us more detail on how that's going - what are the challenges, where you're finding success, et cetera?

Yes. I would say we are having success in that market from a percentage point of view, but is -- but it's quite small. Our plan in that area is to -- really was to take advantage of the very well-placed and a sales force with good mill relationships. In our fluid handling product line, we put a -- sent an expat sales-type guy over there. But it's a ground game. It's a slow, nil-by-nil kind of thing.

So the -- let's see. If I look at our -- if I look at the percentage improvements, accessories was up about 8% over Q4 last year, and water management was pretty flat, even a little down. But a single order will make a big difference there.

So we're seeing progress. I would say the more attractive piece for the customers is our water management products with -- for filtration and the other stuff I talked about. But it's a slow and steady race. I think it's very important for us to do it, given the importance of that market. But it's very much of a ground game, I would say.

Okay.

You don't have big capital orders like you have in stock prep.

Right. Okay. And then on the operating margin goals, and, Tom, I know we've gone through on different conference calls the different scenarios, the revenue and where things would play out. What -- thinking about, say a $350 million revenue level which is slightly below what '07 was, '07 posted a 10.1% operating margin. Obviously, it's a much improved company, the restructuring has lowered your costs. What's your estimate on, if we were at 350, what sort of operating margin do you think is reasonable?

Well, that's a good question. I guess I should have anticipated after the success of my 300 million case, that someone would ask me for a 350 million case. Maybe to answer that we could go to the slide 48, and just look at, I think a factor in there would be our operating leverage, particularly at the SG&A line.

So you're going back to 2007, and saying, okay, you did 10% operating income in 2007. We did that, I think with gross margins of around 36%, maybe even a little less than 36%. So we talked about the fact that we should have better mix as we continue to grow the revenues. Margins are significantly higher than what they were back in '07, if they were in the 42-plus range.

I think this chart here with -- on the SG&A shows that back then, look at the leverage we had in SG&A. We had 26% in '07. So if we're at 33% in '10, we still have some operating leverage left to go. So off the top of my head, our guidance for 2011 implies operating income of around 10%. There's certainly a couple of hundred basis points of improvement here, just on the SG&A line alone as we continue to build those revenues.

But I think I'm going to have to -- I'm going to have to think a little bit more about my 350 million case, and we'll expand on that in the future. But I think the main point I want to make is that we do have good -- still, we still have some good operating leverage potential, particularly at the SG&A line.

Okay. So maybe at the next conference call or the next shareholder meeting?

Right. And just to kind of follow up on that, I think that we would have higher gross margins as well, because we did some changes on the -- in the cost of sales level, that even with a decent amount of capital we should have north of 40 --

Right.

-- maybe even 41, 42, those kind of numbers, depending on the mix.

Right. Okay. Thanks, guys.

Okay. Thanks, Rick.

Your next question is from the line of Walt Liptak from Barrington Research. You may proceed.

Hi, guys.

Hi, Walt.

Morning, Walt.

Hi. I wanted to ask about the, and I think you went into this, Tom, a little bit, but the gross margin is a little bit higher for the full year versus the fourth quarter. And if you could talk a little bit about your input cost and material cost and pricing for your products.

Okay. So let's go to 46 on this one just for a second. I know this is for the year. But -- I'm sorry, 47. Okay. So I think one of the things all throughout the year we kept saying we thought the margins had -- were going to decline somewhat.

Were -- exactly, yes.

And one of the things that was encouraging during the year is that did not happen for any one of a number of reasons. But I think probably one of the main reasons is the fact that all the restructuring that we did had a larger effect, probably, than what we expected. And we were able to maintain the margins throughout 2010. And look at this chart, we -- the margins here are slightly under 44%. I believe it's not quite a record, but it's a near record for us in terms of the history of the company.

So we really have fundamentally, I think, moved the mark here in terms of our margin performance.

Absolutely.

And the results in the second -- I'm sorry -- in the fourth quarter were slightly below this 44%, we were 42-and change, 42.4%. But as I mentioned in my remarks, we had some nonrecurring provisions that we made in the fourth quarter for some obsolescence, for one warranty issue. Had we not made that, we would -- made those provisions, we would be back in this range for the year.

So I think the point is that the margins are still strong and were -- we believe they'll continue to be strong in 2011, although we do expect --

Yes.

-- and then look at the capital bookings --

Yes.

-- so I think this time it's really going to happen there will be some deterioration due to mix in 2011.

Okay. And, but you're not expecting any deterioration related to material cost, [do you have] --

You know our principal --

-- price escalators?

Yes, that's a good question as well. Our principal input cost that we see increasing is steel. For things like our -- the big stock prep systems, those are the big steel users. We use current steel prices, or even sometimes what we see is forward steel prices. So those jobs are priced at the time of -- in real time, if you will. And then we're careful to protect ourselves either buying the steel and stuff like that for long deliveries as best we can.

The other parts of our business that certainly have steel as their main component, but maybe not quite as much, we have had success passing price increases on to the customers for steel.

Okay. And if I could just add a question about, with the political uncertainty in the Middle East and the rising oil prices, if this can affect the timing of some of your deliveries. Or maybe it's too early. But are you hearing anything from customers about concern on when they'd take deliveries or placing orders?

Yes. Sure. So I'm going -- you sort of touched on two things. So one is just the cost of oil and that sort of thing, and in the paper industry, they -- their energy cost is much more tied to natural gas than it is to oil. So I don't see much impact directly to the paper industry from oil itself.

Another part worth mentioning is, of course, we do do business in the Middle East, and we've got some projects in the Middle East that we're -- seem to be going fine, no -- moving forward at a normal pace. But for our own forecast, we've actually slid them back in our expectations towards later in the year, just in case, if you will.

Okay. And then --

That answer your question?

Yes. And then, Tom, you mentioned second half a little bit stronger than the first half. Your -- when you -- just to be clear on this. You're taking first half revenues, combining them, and comparing them to second half revenues that you might have some quarters in the second half that are seasonally weaker than a quarter in the first half?

I was really talking more about the earnings performance. We think that the earnings will be better in the second half than the first half. That's really what I'm suggesting. Now, that also follows or implies revenues would be better in the second half. And the reason for that is that some of these large system orders that we've taken for China will -- we know the delivery dates for those will be in the --

-- second half.

-- third and fourth quarters.

Yes. And we don't, as Tom mentioned, we don't take that on a percent completes basis; you get it all pretty much when you ship it.

Okay. Got it. Okay. Thanks very much. Good job, guys.

Thanks, Walt.

Thank you.

(Operator Instructions) Our next question is from the line of Eric Prouty from Canaccord. You may proceed.

Great. Thanks. Good quarter, guys, and good outlook. First question is, in the past you guys have looked to diverse away from the pure paper end market. I know you mentioned some machine shop work. But maybe just a little bit more detail of what you're seeing out there as you try to expand beyond the core paper end market with some of your sales.

Sure. I mean, we're, I would say actively looking for acquisitions, both inside paper and outside paper. We've had a number of things that we've looked at and, typically, we can't get there on price. But we continue to look. I've talked in the past about the kind of companies outside the paper industry that would be interesting to us. It would be an industrial company, something with -- something similar to us in the sense that it's got good gross margin, is a high consumable or aftermarket component, and something that we can, ideally, something that we can add value to either in -- on the sales side, allowing -- helping us sell into the paper industry or on the manufacturing side with some of our low-cost manufacturing in Mexico and Asia.

But we're looking. I'd say we don't feel particular pressure or rush to do an acquisition. So we're being somewhat picky about it.

Sure. That's fair. And then second, obviously the consumables are kind of a steady business. We're seeing the big pickup in stock prep. But maybe you could discuss the different business lines you have. And beyond those two, is there any economic kind of cyclical nature, whether they be early cycle, early to rise in the cycle, late to rise in the cycle? From a revenue modeling standpoint should we expect businesses beyond stock prep to start picking up kind of a little bit later in the cycle?

Okay. So a couple of -- I'm going to answer that in a couple different ways. First of all, you make a good point about the cycle. And the cycle, really, if you look at differences in our product lines, comes much more to impact on capital. Stock prep capital is first in the cycle typically, okay. On the spare parts side, I don't know that there's so much of a cycle element. Spare parts are very much tied to production and operating rates, that kind of thing.

If anything, maybe our fluid handling tends to go a little early because it has a nice return on investment. But all the spare parts tend to, on the spare parts side, tie more to operating [rates] than anything else. If anything has distinctions in the cycle, if you will, it's more on the capital side.

Okay.

The last time we saw a major increase in oil prices, we did see --

-- see fluid handling --

-- some increase in fluid handling.

Fluid handling went up, yes.

Great. Okay. Thanks a lot, guys.

Thanks, Eric.

And, gentlemen, at this time there are no other questions in the queue. I'd like to turn the call over to Jonathan Painter, Chief Executive Officer, for closing remarks.

Well, thanks very much for your attention and your support. As you can see, we had a very good quarter, and I think we're looking forward to what we think is going to be a very strong year. So thanks again, and we'll see you for the first quarter call. Bye-bye.

And, ladies and gentlemen, thank you all for your participation in today's conference call. This concludes the presentation, and you may now disconnect.