Kadant Inc (KAI) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Kadant second-quarter earnings conference call. My name is Chantalay, and I will be your facilitator for today's 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, Mr. Thomas O'Brien Chief Financial Officer of Kadant. Please proceed, sir.

Good morning everyone and welcome to Kadant's second-quarter 2011 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 provision 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 at the beginning of our slide presentation and those discussed under the heading, Risk Factors, in our quarterly report on Form 10-Q for the fiscal quarter ended April 2, 2011, 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 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 may refer to some non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of the non-GAAP financial measures to the most comparable GAAP measures is contained in our second-quarter 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 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.

Thanks, Tom. Hello, everyone. It is my pleasure to brief you on our second-quarter results, as well as our expectations for the second half of the year.

If you are viewing our webcast presentation, you should have the slide titled, Business Review, on your computer screen. If you don't have the presentation, you can find it on the Investor section of our website.

Prior to the Q&A session, we will provide you the call-in number for questions. In addition, if you are planning to read a transcript of the call after the webcast, I do suggest you print out the slides, as there may be information on the slide that is not presented orally.

Turning to our financial highlights, I think as you can see from our press release, we had another excellent quarter following, I think, a very good quarter in Q1.

Revenues for the second quarter were $82 million, which is a 19% increase from last year. We continued with very strong gross margin performance at nearly 46%. Although as Tom will discuss, we do expect lower gross margins in the second half of the year.

Most importantly, we generated diluted earnings per share of $0.59 in the quarter, which is a 40% increase over Q2 last year, and the second-best quarterly performance in our history. These results included a loss of $0.03, representing the acquisition cost and the operating results of M-Clean Papertech was acquired in May, also $0.02 of impact of a higher effective tax rate than we forecast.

Finally, our adjusted EBITDA margins for the second quarter were also strong. They increased from 13% to 15% of the revenues in the second quarter.

I think you can see by our growth and our increased profitability that our businesses worldwide are executing very well, both in taking advantage of opportunities to generate business in the marketplace, as well as maximizing the income that we yield from any sales they get.

You may recall that we implemented a number of initiatives to reduce our manufacturing costs by investing in key facilities around the globe, combining operations where possible, and taking advantage of lower-cost operations in China and Mexico.

We also integrated our sales coverage in various places around the globe with a goal of spending more time with our customers. Our employees put a lot of hard work into these initiatives, and I certainly want to thank them for that. And we are all very pleased to see that their hard work is producing good results.

Turning to our revenue performance. Our revenue for the quarter was a 19% increase, driven primarily by our Stock Prep and Fluid Handling product lines, which were up 29% and 22%, respectively. Also of note, our fiber-based products line had a strong quarter with revenues up 30% compared to last -- second-quarter last year.

Flipping to bookings. As we look at bookings in Q2, we generated $87 million in bookings in Q2, which is an 18% increase over Q2 of last year. We had nice [breadth] with increases in all of our product lines over last year by double digits, except for Stock Prep, which saw a decrease of around 3%. As many of you know, our Stock Prep bookings are quite volatile due to the timing of large capital orders, particularly in China.

Without question the standout for the quarter was our Fluid Handling product line, which increased bookings more than 40% compared to a fairly strong quarter last year. That increase was driven by several large dryer section rebuild orders which were won by our European Fluid Handling business, as well as excellent bookings for parts and consumables for this product line.

Also coming in pretty strong was our Water Management product lines, and they are benefiting from increased demand for our water filtration products.

Next we are looking at our bookings and revenue trends. This is a slightly different format than you have seen in the past. The red line is our revenues by quarter and blue bars are our bookings by quarter.

Starting with revenues, you can see our total revenues have been trending upward over the past two years. Not quite back to prerecession levels, but making steady progress.

Looking at bookings, the blue bar, you can see, first of all, they are certainly more volatile. Again, the booking trend over the last couple of years, again, shows improvement. Not quite as steady as revenue. You can see a big pop there in Q4, but the second-quarter bookings were, I think, quite strong, a 4% increase over Q1.

Also I think if you kind of compare the first half of 2011 compared to the first half of 2010, you can see there is a step up in bookings activity.

As we look to the second half of the year, I will say that we have several projects in the pipeline. If we are able to convert these to orders, it will give us possibly a very nice sequential increase in bookings in the third quarter.

Turning now to our parts and consumables bookings and revenues. The same format of course -- the red line is revenues, the blue bars are bookings. You can see focusing on revenues, making steady progress. Overall our revenues for spares and consumables were $46 million, which is a 12% increase from Q2 of last year, although down 2% on a sequential basis due primarily to weaker sequential revenues in North America compared to a very strong Q1.

I should note in particular our fiber-based brand-new business which is 100% of a consumable product is a seasonal business, and Q1 is typically its strongest quarter.

Most of our geographic regions had revenue increases in parts and consumables compared to Q2 of last year. Europe led in parts and consumables with a growth rate of 24% compared to the same period.

Looking at bookings, parts and consumable bookings were 16% -- increased 16% over Q2 of last year. All of our product lines, except for Stock Prep, increased their parts and consumable bookings, led once again by our Fluid Handling product line which increased 28%.

As was the case with revenues, the Q2 increase in parts and consumables was led by Europe, which increased 34% from Q2 of 2010. And once again this strong performance was largely driven by our European Fluid Handling product line, which was up an impressive 79% compared to the same quarter last year.

Turning now to backlog. You can see backlog has steadily built to what is a record at $120 million. You can also, I would say, from -- if we do as well as I hope on bookings in third quarter, we may actually increase that backlog a little bit in Q3. But in any event, it does provide a very nice tailwind as we head into the second half.

Now I'm going to talk a little bit about our major geographic markets around the world, really starting with North America. The paper industry in North America, I would say in general reflects the general sluggishness of the US economy. A fairly good start in Q1 with some softening in Q2.

Paper and board production was down around 1% through May. And the numbers coming in in June for some of the larger grades are more or less in line with this. That said, operating rates in container board are excellent in the mid-to upper 90s. Inventory levels are low. Printing and writing, I would say though continues to be relatively -- suffer from fairly weak demand.

I would say in general, talking to our customers, there is a little more uncertainty about the economy going forward than there was in the first quarter. They are uncertain about whether it is going to kind of continue to languish, as it has been in the last couple of months or it will pick up speed. I will say that we have -- we continue to see project activity at the mills and a fairly steady flow of business.

One thing you hear about in North America and really around the world is the inflation of input costs. Recovered paper in particular is up 44% in the last year. And this is driven largely by buying demand for recovered paper, particularly in China.

I will remind you that in general input cost favor us, in the sense that our products, Stock Prep, Fluid Handling, a number of other, are sold often on a return on investment for either increasing fiber yield or saving energy.

Looking at our results on bookings and revenues, Q2 revenues in North America were $38 million. That was up slightly compared to the same period last year, but down slightly compared to a relatively strong Q1.

Bookings in North America saw an increase of 10% in Q2 compared to the same period last year, also down slightly from a very strong Q1. I will note that as I have said on the last call, the first quarter does tend to be a relatively strong quarter for us because budgets are newly set. So we often have -- it often turns out to be from a bookings perspective one of our better quarters.

The increase over last year was led by our Stock Prep and Doctoring product lines, and they saw increases of 26% and 11%, respectively.

Turning now to Europe. Marketing [conditions], I would say, similar to the US. Price is relatively stable, inventory somewhat in balance and under control. I think the key in Europe is the state of their export economy, and that is going to depend on the world economy as well as the strength of the euro.

Flipping to how we are doing in Europe, and I would say one of the headlines of the quarter from my perspective is Europe for us. That is both -- we had very good growth both in revenue and bookings. And this is nice to see because this is really coming off on a fairly extended period of relative weakness.

Revenues increased 24% over Q2 of last year, and this really made Europe the strongest region for us in terms -- from a growth perspective in the quarter. The performance is due to strong growth in our Stock Prep, Fluid Handling, and Water Management product lines. All product lines saw increases in revenues. We were particularly pleased by the growth of our energy and our water conservation products.

Bookings from European businesses were also excellent with an increase of more than 50% compared to the same period last year and up over 60% from Q1. It is becoming a theme. The outstanding bookings again handled by our -- driven by our Fluid Handling product line. They booked 12 large capital orders with a combined value of around $6.5 million in Q2. They also had that 79% increase in spare parts over Q2 that I talked about earlier.

The European bookings also benefited from a large Stock Prep system for a specialty packaging producer in Europe for around $6 million that we announced earlier this quarter, as well as two orders for Ptech fine filtration units for South Africa and Thailand.

And you may remember that our European businesses also cover other parts of the world like South Africa, Thailand, India, Russia, things like that. The order from Thailand is noteworthy and nice to see. It is a repeat order from a customer who bought some units last year -- was very pleased with their results and actually purchased another three to help him with his water conservation efforts.

I would say another kind of highlight for the quarter in general is the strong demand that we are seeing for our energy and water conservation products, particularly from our European businesses.

Turning now to China. We continue to see significant developments in China in the pulp and paper market. Earlier this month the Chinese government announced a new round of closures. This time it is affecting -- it's affecting mills that produced 8.2 million tons. You may remember last year they had announced some closures there were around 4 million tons.

As I have noted on previous calls, these closures are really a positive for us because those smaller mills tend not to be customers of ours. And as that demand is absorbed by more modern mills, it's -- they are more likely to be customers of ours.

Things like closing water loops, reducing freshwater consumption continues to be high on the active project list for mills in China. And we are benefiting this by -- from strong demand for our Water Management products.

As many of you know, the market in China is quite volatile, and producers are rapidly bringing on capacity, one, to meet the growing demand in that economy and, two, to compensate for the government-mandated mill shut downs.

The effect -- we can see the effects of these startups in things like the world pricing for recovered paper. I talked about that increasing a lot. And the Chinese mills buying up recovered paper to get ready for these startups is part of what is pushing that.

One thing, kind of watching China over the years, new capacity doesn't come on China evenly and smoothly. It rather comes on in waves. And I would say a significant wave of capacity additions is coming on in China right now, and we expect to see a lot of startups in the second half of the year.

This is going to affect the supply/demand balance and may lead to some short-term overcapacity. We have seen this before. It is absorbed as the economy grows. Despite this, we do still have several projects in the pipeline, although I will say our project list is at a lower level than we had in Q4 and Q1 of this year.

Turning to how we are doing in China. Revenues in our China operations were up significantly, and that's large part thanks to the Stock Prep capital orders that were booked in Q4 of 2010 that are now being delivered. Stock Prep revenues in Q2 were more than double last year, and Water Management was actually up 90%, albeit off a smaller base.

On the bookings front, of course bookings are much more volatile as you can see by the blue bars. Our bookings in Q2 decreased by around 16% compared to Q2 of last year and 26% from Q1, with the clients primarily the result of the decline of our Stock Prep product line bookings. I would say there are two reasons for this.

One is there is some slowing in booking activity compared to what we had at the end of last year and earlier this year, as producers are assessing the impact of the new capacity that is coming online.

And second, as we have seen before, Q3 of last year in particular, there is definitely an impact of timing of orders. For example, we have a pending order for an OCC system for $6.1 million, which is awaiting deposit. And once we get back, it will be recorded as a booking, but it was not in that in Q2.

Our Fluid Handling bookings in China, which cycle a bit differently than Stock Prep, saw an increase of around 31% in the second quarter compared to last year. And we also saw positive momentum continuing with our Water Management and our Doctoring product lines.

Turning to our guidance, we are increasing our revenue estimate for the year to $325 million to $335 million. And this reflects the inclusion of the M-Clean business we acquired in May, as well as some expected higher Stock Prep revenues.

However, we are maintaining our earnings-per-share guidance of $2.15 to $2.25 because, one, we expect the M-Clean business will be diluted next year -- this year rather. And we also expect the tax rate to now be 28%, which is higher than what we earlier had thought.

I will say we do expect M-Clean to be accretive in 2012. And in fact, as we start to roll out M-Clean's products to our worldwide sales force, we are considerably more excited about what this acquisition is going to do for our business than we were when we acquired it.

For the third quarter, we expect to generate $0.40 to $0.42 of diluted earnings per share on revenue of $80 million to $82 million. Those of you who are quick with a calculator will notice that this implies a very strong fourth quarter in revenue and earnings. This is largely due to an increase in Stock Prep revenues in Q4, which includes a large number of systems -- including systems sold in China which are not on percent complete.

I will now pass the call over to Tom for some additional details on our financial performance. Tom.

Thank you, Jon. I will start with a review of our gross margin performance. We had another very strong quarter in gross margin results. In fact, it was our second best quarterly performance ever.

Consolidated product gross margins were 45.7% in the second quarter of 2011, up 60 basis points over last year, exceeded only by the record-setting margins of 47.6% the first quarter of 2011.

In our Papermaking Systems segment, gross margins of 45.3% were up 40 basis points compared to the second quarter of 2010, and included improvements in all our major product lines, with the exception of Stock Prep.

Although the Stock Prep margins were down in North America and in China compared to last year, we did see a significant improvement in our Europe-based operations. In general, the increase in gross margins in the Papermaking Systems segment resulting from improved manufacturing efficiencies, along with better pricing in some markets, offset partly by an unfavorable product mix in the second quarter of 2011 compared to the second quarter of 2010.

As we've noted during last quarter's earnings call, we expect to take several large relatively lower-margin Stock Prep systems to revenue in the second half of 2011. And these will serve to decrease margins from the first half levels.

Also, product gross margins in our fiber-based products business reached a level -- a record level rather of 56.6% in the second quarter of 2011. It will be significantly lower in the second half, as is normally the case with this he seasonal business. That said, we still expect consolidated gross margins for the year will be approximately 44%.

Now let's turn to slide 23 and our SG&A expenses. SGA expenses were $25.8 million in the second quarter of 2011, up $3.1 million or 14% from last year, including an increase of $1.3 million or 6% from the effect of our exchange translation.

Approximately 60% of the increase in SG&A compared to last year is due to higher selling expenses, much of which in turn is due to higher commission and travel expenses associated with the higher revenues over the 2010 period.

As you can see on the chart, operating leverage improved 150 basis points compared to the second quarter of 2010, and was 280 basis points better than the first quarter of 2011.

Looking forward, and now including the acquisition and operating expenses of M-Clean, as well as the amortization of the intangibles associated with that acquisition, we expect SG&A expenses to be between 30% and 31% of revenues for the full year.

Now let me turn to our EPS results for the quarter on slide 24. We reported GAAP diluted earnings per share from continuing operations of $0.59 in the second quarter of 2011 compared to $0.42 in the second quarter of 2010, an improvement of $0.17.

This increase of $0.17 in diluted EPS consists of the following -- increases of $0.36 associated with higher volumes in the second quarter of 2011 compared to the second quarter of 2010; $0.04 from higher gross margin percentages; and $0.01 from lowered net interest expense.

These increases were partly offset by decreases of $0.18 due to higher operating expenses; $0.03 associated with the acquisition costs and operating results of M-Clean; and $0.03 due to a higher effective tax rate. I should also add that included in all of the categories I just mentioned collectively was a favorable foreign exchange translation effect of $0.03 in the second quarter of 2011 compared to last year.

Our effective tax rate in the second quarter of 2011 was 28.4%, slightly higher than the 26% rate we had forecasted. Note that this higher rate reduced our diluted earnings per share by approximately $0.02 when compared to our guidance for the second quarter.

For the full year we now expect the effective tax rate to be approximately 28%, again, slightly higher than we had expected primarily due to an un-favorable mix of earnings from higher tax jurisdictions which we operate.

Now let me conclude my remarks by turning to our cash flows, working capital and debt leverage, starting on slide 25. Operating cash flows were $6.8 million in the second quarter of 2011, an decrease of $2.2 million compared to the second quarter of 2010.

As you can see on slide 25, the strong income from continuing operations was somewhat offset by an increase of $3.7 million in working capital. Most of this working capital increase resulted from a buildup in inventory, most notably in China, where we are manufacturing a number of larger Stock Prep systems which are slated for shipment later in 2011, possibly into early 2012.

Looking at our key working capital metrics on slide 26, you can see that our number of days in receivables improved slightly from the first quarter of 2011, while the number of days in inventory remained essentially the same, albeit, up 17 days over last quarter's -- over last year's quarter for the reasons I just noted.

Despite the inventory buildup, however, our overall working capital performance, as measured by working capital compared to the last 12 months' revenues, was a very respectable 13.4%. Working capital here is defined as current assets, less current liabilities, excluding cash, debt, and the discontinued operations.

Our net cash position, that is cash less debt, at the end of the second quarter of 2011, $28.6 million, a decrease of $11.4 million compared to the first quarter of 2011, but an improvement of $4.4 million compared to the net cash position in the second quarter as -- at the end of the second quarter of 2010.

As you know, during the second quarter of 2011, we purchased M-Clean for approximately $16 million, including $900,000 of acquired cash and $500,000 of acquired debt.

And finally, on slide 28, you can see that our leverage ratio was 0.4 at the end of the second quarter of 2011, increasing slightly from the first quarter of 2011. This ratio represents our total indebtedness divided by our consolidated EBITDA, as defined in our credit agreement.

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

(Operator Instructions). Rick Hoss, ROTH Capital Partners.

Good morning. On the M-Clean, based on your guidance of 30% to 31% of SG&A as a percentage of sales, it kind of -- it implies that M-Clean doesn't really add a whole lot to SG&A, is that correct?

No. They will be adding a couple of million to SG&A.

Okay.

Some of that is the amortization of the intangibles in their operation expenses.

Okay, alright. And then production, if I recall correctly, production is in Sweden, is that correct?

Sweden is correct.

Is that going to stay there or is there low-cost sourcing options for that business?

Well, it is going to stay -- it will remain kind of a technology center, but in terms of manufacturing, we will certainly be looking to manufacture that product in places like Mexico and possibly China.

Okay.

They do a lot of outsourcing in Sweden. They don't have a very big manufacturing facility there themselves.

Okay. And then penetration of accessories in China, I know that has been an initiative for you guys over the last couple of years. How is that going?

It's -- I would say making slow and steady progress. What's doing better is the Water Management products. It's kind of like I said in my remarks, you do have an interest in the mills in terms of closing water loops, cutting down their water usage, etc. So I would say that is doing a little -- is a little bit stronger than the Doctoring. So it's -- they are nice percentage increases, although the base is still relatively small.

So is the problem with the blade, the doctor blade, is it trying to sell them the value-added portion of that sale? I know it is at a premium to probably domestic offering. Is that the (multiple speakers)?

Yes, it is -- I would say a couple of comments on that. So it is a different culture there. You know, our model in China is to say, hey, you are going to pay more for that doctor blade, but you are going to get all this service and advice associated with this.

In China, it is a very price-driven, price-focused market. So that is very much of an education that they are going to get a return on that better advice. It is kind of ironic because that's probably a region that can benefit the most from the advice, but I would say they have -- they struggle paying for it.

The other thing is in the paper industry in general, it's -- there is a lot of inertia. Things are very entrenched. Most of the time we are on the right side of that barrier, but when you are in a place like China trying to break into that market, it does make it so much slower going.

Okay and then, Jon, can you --?

I will add -- if I could just add one thing about that. One of the things about M-Clean that we really like about it is they have a very good position in China. And we are going to use their good relationships with more mills in China to sort of bring along some of our other Water Management and Doctoring products. And that was a big part of our thinking in acquiring M-Clean.

Sure. Okay. And then, Jon, can you walk me through the 8.2 million tons that will be closed in China? Can you describe the impact from a second half 2011 perspective as well as 2012 -- where is it negative, where is it positive, and why?

Well, what -- they've announced that they expect it to be closed -- this to be closed by the end of the year. They are in various grades. I would say mostly linerboard. Is that -- you know, again, from our perspective when those tons come off and they have to be absorbed by the modern mills, it is almost like an increase in demand. Because those mills were not our customers really at all. So now we are moving towards mills that are our customers. I'm not sure I'm answering your question, but is that --?

No, not really. So, these mills are going to be closed. They are not your customers. In the meantime, I think, maybe in your prepared remarks you had mentioned something about -- maybe about some sort of negative impact to the second half of 2011. And I am assuming that as these customers that are not yours right now, the mills close, that capacity is taken up by the more modern mills, which are your customers, then you would see an uptick in orders in 2012. But you mentioned at some point in your remarks, you'd mentioned excess capacity.

Right. Okay. I'm glad -- if that wasn't [firm], I should take a moment to explain it.

So you have two things going on in China. One is this closure of these mills, right? And that demand is there for those mills and it is going to have to be absorbed by newer mills. You also have an economy that is growing rapidly and sucking up paper.

The large modern producers are adding on capacity as fast as they can. But, my point about potential overcapacity was those modern mills, they've got to add on capacity to meet demand and to absorb this -- the tons that are being displaced by those closed mills. But they have got a lot of demand coming online. So you might have somewhat of an overcapacity coming up towards the end of the year, despite the fact that mills are closing. The old mills are closing, but new mills are more than making up for that in terms of added capacity.

Are you selling product into these new mills right now?

Oh, yes. Yes, we sell products into these new mills that are opening up. I mean if you look at our bookings in China, you saw kind of a big slug in Q4, a pretty nice slug in Q1. That's part of this capacity addition that is going on right now in China.

And my point in the prepared remarks is that that kind of stuff -- and we have seen this time and time again, it is not this steady every quarterly add a little bit. They kind of come on in waves. And we have a wave coming on, and I think that will affect the supply demand/balance until the economy absorbs them, which it does, because the economy is growing in the 8% range.

Sure. But then you also mentioned something about additional potential bookings for Stock Prep maybe in the third quarter that makes you optimistic.

So did we have -- we had the big wave in the fourth quarter. We had a taper off. Second quarter was weak, and then we have another wave or how would you characterize that?

I'm glad you -- that's a good question. I think I said we got -- we see projects in the pipeline for the Company globally. And actually they are in places like South America, North America, Russia. We have good activity. I am pretty optimistic about bookings in Q3. And that's really outside of China.

So if we do have a little bit of a slowing in China from a bookings perspective, it is more than made up for -- at least where we are sitting right now in terms of increased activities in other parts of the world.

Great. Thanks, Jon. I appreciate it.

All right. Thank you.

Stuart Benway, Standard & Poor's.

Have you disclosed the revenues of M-Clean?

Well, we said at the time we acquired it that it had a run rate of around $16 million.

So the same as what you paid for it, I guess. And how much dilution are you expecting in the second half? I think you said the second quarter was a couple of pennies or something, similar to that in the second half or quarter or --?

Yes, I think it is going to be more in the third than the fourth. I would say for the year, it could be in the $0.07 to $0.09 range. And I should talk a little bit about what causes that.

It is a number of things. One is you have the acquisition expenses that we now have to expense right away, you don't capitalize. We also have to write-up the inventory, and in fact we have to write-up the backlogs. So you have an increased amortization. And I don't remember what the EPS [in fact, what that] was.

Okay, so both of those, for the acquisition costs and for the write-ups that Jon is referring to. Both of which will be taken to the P&L in the third and the fourth quarter. That is about $0.04. So there's $0.04, and we are saying $0.09 diluted for the year here. About half of it is coming from those unusual items.

The other point I would make about M-Clean, this is a business with -- a nice margin capital business, but it doesn't have a big spares business because it is a fairly young company.

So we had a couple of projects that slipped out of 2011 and 2012, and because of their margin nature and the lack of that stability of a spares business, it has an impact. The other thing I would say is that our accounting is such that you will have projects that are shipped, but we can't recognize the revenue until the performance guarantee passes, maybe a year later, nine months later, at start up, whatever. So we have a little bit of an accounting revenue recognition issue with them as we transition them into our accounting network.

Okay, so it sounds like those costs are pretty much one-time items, and so that 2012 you would be able to just accept their -- whatever earnings that they make?

Well, you will have the $0.04 that Tom talks about, that's absolutely one-time writing. The other thing I would say is more of a timing thing. And incidentally, not so much of a cash thing, it is a timing of recognition of revenue that should normalize itself next year.

And you expect their margin -- or how are their largest right now compared to your margins?

We didn't get into their margins quite on purpose, but it is a healthy business.

And is there any potential for synergies?

Absolutely. I mean, I would say the main -- there's two kind of exciting areas of synergies. And just for your reference, I would -- what I would call this is kind of a world-class [hike] -- fairly high price point, but very high-performance showing system for cleaning fabrics.

So it fits very nicely into our sales force. They have a very strong position in China, which as I said earlier, we are going to use that to kind of increase our position in China for our Doctoring and Water Management projects. They also are stronger in Europe than we are.

Where they are relatively weak is North America, and we are quite strong. So we have lots of projects in the pipeline and on our hit list, if you will, for introducing their product through our sales force in North America in particular, but also South America, China, and so forth.

So I would say we have very good sales synergies in that regard. And then on the manufacturing side, as I said earlier, we do have opportunities to manufacture their products in our Mexican facility, for example, as well as our Chinese facility. So it is a really -- it's an acquisition with a lot of synergies.

And is there -- are there any other acquisitions on the horizon?

Well, we continue to look. I would say we kind of have this thing we often talk about. What do we do with all of this -- the cash we are building up? I think you just say -- you saw from Tom's report there, we certainly are not overleveraged.

So I would say we are definitely looking at acquisitions. We would love to find something like M-Clean. We also look a little bit outside of the paper industry, but it's -- finding a nice strategic acquisitions like M-Clean is something we would definitely love to do. I can't say we have anything immediately on the horizon or anything like that, but we definitely have feelers out and are working it, I would say.

Thank you.

(Operator Instructions). Walt Liptak of Barrington Research.

Good morning. I wanted to ask about the lower margin Stock Prep? And I guess, what region of the world is that going into -- is that going into China?

While we don't -- what we don't do, we don't typically talk about our margins by product line by region. But what we do say in general is the large Stock Prep systems are lower margin than our average margins, which has a big component of spare parts and so forth.

So when you have got a big systems -- call it a systems of Stock Prep coming through, it changes the mix -- the capital to spares, which tends to depress margins. But also I would say in general the bigger the system, usually the lower the margins.

Okay, so this, it's not -- it's regular product mix? It's not that you have to bid lower for the project to work?

Of no, in fact, I would say China quite the opposite. In fact, if you compare our profitability in the '07 kind of range, look at our gross margins there, which were kind of the upper 30s to where we are now. And even with a big hunk of Stock Prep going through let's say in Q4, we are not going to have margins in the upper 30s.

That's largely to do with pricing in China. We do have better pricing in China than we did two years ago. Because 2 years ago the customers were buying six Stock Prep systems at once. And it was, I would say, brutal pricing. Right now it's much more of a diverse customer base.

All right, good, that helps. I'm wondering if you could help me understand what is going on in North America? Because revenue is growing nicely in the rest of the world, and your commentary was generally -- it was positive about even OCC price is going up, it's good for your source of product.

Do we just continue with this high 30s level of revenue in the back half of the year? And are there any dynamics going on that are keeping North America from growing as fast as the rest of the world?

Well, I'm glad you asked that question. So I would say in North America, you know, if you kind of look at our booking and revenues chart -- maybe we can even put that up, slide 15.

It's markedly up from last year. I would say if you want to talk about the decline from Q1, we typically have, and particularly in North America, Q1 is a very strong quarter. So that isn't so much of a -- I don't think that is so much of a trend.

The paper industry in North America is obviously impacted by the economy, but I would say we have decent bookings in the pipeline in North America. It is not -- I don't consider it a weak region particularly. In fact, historic -- in the last two years I would say China first and North America second. And in general I think we've been talking about North America being surprisingly strong. Now this time Europe is surprisingly strong, but it is not that America, I would say, is weak.

You know what, I don't have the slides open anymore. What was the bookings for first quarter, second quarter?

Q2 bookings were -- Q2 bookings in North America were $34 million. And what was the other?

Into the first quarter.

First quarter they were $38 million. And in Q2 last year they were $31 million. If you kind of look back -- and Q1 of this year was an excellent quarter for bookings in North America. (multiple speakers). So it's a little bit -- they are suffering from a kind of tough comparison.

I'll also tell you that -- I talked about projects in the pipeline, some of those are in North America. But I'm actually decently optimistic about Q3 bookings in North America.

Okay. And then let me just ask one more and then I'll let this topic go. The consolidation that's pending in North America with large papermakers, does that have any impact on the near-term spending?

Yes, it does. Let's talk first about RockTenn and Smurfit-Stone. I mean, Smurfit-Stone, because of their financial situation has been under-investing in their mills. I don't think there is any secret about that.

RockTenn has already disclosed. They are going to make investments in these mills, and they see good return on investment. So that is good.

Obviously with these acquisition there is potential of closure of mills, and that applies both to the IP Temple [want], as well as RockTenn Smurfit. But often what you see when they do that, they close a mill and then they have to do something and increase capacity in another mill.

Okay. Got it. Alright, thanks very much.

At this time there are no further questions in the queue. And I like to turn the call back over to Mr. Jon Painter for closing remarks. Please proceed, sir.

Okay. Thank you very much for listening. Thanks for your support. Kind of in closing I would say there are three -- in my mind there are kind of three takeaways from the quarter.

First, you can see we have had sharply improved profitability and a record backlog, which as I kind of said it might even build. We expect some pretty solid bookings in Q3. So I think we are in pretty good shape in terms of looking at the rest of the year.

Also, as I mentioned, we do have a lot of capacity coming on along in China. This is probably going to impact the supply/demand balance, but as the economy grows in China, that will certainly be absorbed.

And finally, after a long period of weak growth, Europe -- we've seen some resurgence in our businesses in Europe, particularly Fluid Handling. And that's something that we are very pleased with.

Again, our European business cover not just Europe, rest of the world, but we do see nice activity in places like Russia, South America, as well as Europe.

So with that, I thank you for listening. And we will be updating you soon on our third quarter. Thanks very much.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.