Kaman Corp (KAMN) 2012 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Kaman Corporation first-quarter 2012 earnings conference call. At this time all participants are in a 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. Eric Remington, Vice President Investor Relations. Please proceed.

Good morning, welcome to the Kaman Corporation's first-quarter 2012 conference call to discuss our earnings results. Conducting the call today are Neal Keating, Chairman, President and Chief Executive Officer, and Bill Denninger, Executive Vice President and Chief Financial Officer.

Before we begin this morning please be advised that this call may contain certain forward-looking statements such as projections of revenue, earnings and other financial items, statements on the plans and objectives of the Company or its management, statements of future economic performance and assumptions underlying these statements regarding the Company and its business.

The Company's actual results could differ materially from any forward-looking statements made due to several important factors described in the Company's latest filings with the Securities and Exchange Commission. Additionally, I'll note that our discussion today will include references to certain prior-year non-GAAP financial measures. Reconciliations of these non-GAAP measures to our GAAP financial statements have been included in table 6 of our earnings press release. With that I'll turn the call over to Neal Keating. Neal?

Thank you, Eric. Good morning and welcome to our call to discuss Kaman's first-quarter 2012 results. Our first-quarter earnings per share were $0.36 compared to an adjusted $0.47 last year. Although below last year, results were in line with our expectations and we are reaffirming our outlook for the full year.

Industrial Distribution posted another solid quarter with sales up 7.9% and 9.6% on a same-day sales basis to a record $258 million. Despite significant headwinds from increased pension and medical expenses, we achieved a 5% operating margin. This was driven by continued improvement in gross margin which set a quarterly record and was the seventh consecutive quarter of year-over-year increases.

Organic sales in the quarter were up 3.3% on a same-day sales basis against a strong first-quarter 2012 performance. This growth was led by strength from OEM customers, primary metal manufacturing, durable goods and mining. However, we did experience a 1% decline in national account sales due to weakness in food, beverage and paper manufacturing end markets.

Acquisition sales were strong with the contribution of Catching FluidPower which performed very well in our first full quarter of ownership and was slightly accretive to EPS. We are moving aggressively with the conversion to Parker fluid power lines and the transition is going well as we team with local Parker tri-motion distributors.

To date hundreds of our inside and outside sales personnel have attended online Parker training sessions and our fluid power specialists have logged over 120 man weeks of Parker factory training. It is been a very busy quarter for both the Kaman and Parker teams and overall we are pleased with our progress in both conversions and new product sales.

Our distribution operating margin growth moderated in the quarter due to higher medical and pension expenses and partly due to additional investments we are making in the business. As you know, our sales and distribution have grown by almost 50% over the past two years. We've accomplished that with almost zero headcount growth in our base business and we have benefited from this operating leverage and increased our operating margin 310 basis points over that two-year period.

In addition to higher pension and medical expenses in 2012, we are making investments in people and infrastructure to support the new higher sales base. While this will lead to a more moderate improvement in operating margin for the year, it will position KIT to provide the levels of customer service and sales growth needed to achieve our 2014 goals.

On the Aerospace side of our business we posted sales of $131.1 million, $7.9 million below last year. Operating margin was 12.1% compared to 15.4% in last year's first quarter.

Our bearing product lines continue to perform very well. In addition to the strong sales performance and profit contribution our backlog in these product lines is up more than 30% over the prior year as bookings continue to exhibit consistent robust growth.

However, while the bearing product lines continue to show strong performance, the timing of some of our other programs offset these gains. We experienced lower sales from Unmanned K-MAX, C-17, BLACK HAWK fuselage joining and installation, BLACK HAWK cockpits and missile fusing, all of which delivered solid revenues and margins last year.

The mix of JPF sales also contributed to lower margins as we had the benefit of direct commercial sales in the prior year which are more profitable than sales to the US government. Finally, start-up costs on several new programs pressured margins near-term, but these programs are expected to provide significant contributions in the years ahead.

Deliveries of Joint Programmable Fuzes were within about 10% of our goal of 5,000 fuzes per quarter and we remain confident in our ability to achieve our full-year target of 20,000 fuzes. This program has a $141 million backlog and we are negotiating the next four-year contract with the Air Force to remain the sole source manufacturer of this device through 2017.

Overall Aerospace's backlog rose about $26 million in the quarter which helps fill in our outlook for the year. Our backlog does not yet include orders from the next multi-year agreement with Sikorsky on the BLACK HAWK program which will extend the program through 2017 and has a potential value in excess of $200 million.

In addition to our growing backlog, we are pleased that the performance of the Unmanned K-MAX in Afghanistan continues to be outstanding. To date the aircraft has delivered over 1 million tons of cargo including 28,800 pounds in a single day. During these operations the aircraft has achieved a mission ready record of 95% and our anchoring only 1.4 man hours of maintenance per flight hour.

We continue to work with our partner, Lockheed Martin, on additional capabilities and are testing systems under an army technology program that will enhance the autonomous mission for the aircraft and may be incorporated onto the deployed Unmanned K-MAX.

We are also part of the Lockheed team that has recently been selected by the Office of Naval Research on the autonomous aerial cargo utility system program to integrate, test and demonstrate autonomous system technology utilizing the Unmanned K-MAX.

We are also encouraged by the increased interest in our SH-2G(I) aircraft in recent months, including having one country fly the aircraft in the first quarter with two additional countries currently scheduled for demonstration flights.

In summary, we expected the first quarter to be our weakest quarter of 2012 due to our forecasted delivery schedule and product mix in Aerospace combined with new program start-up costs and higher medical expenses. However, we expect improving performance and I remain confident in our plan for the year. I'd now like to turn the call over to Bill for some additional color on the numbers. Bill?

Thank you, Neal. Consolidated sales reached a record $389 million for the quarter as a result of continued growth of distribution offset by slightly lower sales at Aerospace. Neal discussed the reason that Aerospace segment sales and profits were lower compared to last year. There were several other factors that impacted year-over-year comparisons as well.

Pension and employee medical expenses were up 4% and 22% respectively in the quarter creating headwinds of about 40 and 30 basis points in Aerospace and distribution respectively. Also in the first quarter we incurred $750,000 of acquisition expense.

These costs, which were included in corporate expense, related to a sizable acquisition we evaluated but also ultimately chose not to pursue. This demonstrates both our level of active engagement in pursuing acquisitions and our discipline in the due diligence process. Finally, our tax rate was 30 basis points higher as a result of income mix.

We typically use cash early in the year in 2012 was no exception. Cash flow during the quarter was impacted by investments in new multi-year programs such as the A-10 and the AH-1Z, higher receivables as a result of higher distribution sales, the second of three payments to the Australian government and a pension contribution of $5 million. We continue to expect free cash flow of $30 million to $35 million for the year.

With our earnings release we have reaffirmed our full-year expectations for sales and operating profit. This outlook clearly anticipates acceleration in the performance of each of our segments as the year progresses. In distribution we will continue our margin expansion as a result of higher volume, increasing contribution from the Catching acquisition and a continued focus on gross margin improvement.

Within Aerospace we are expecting improvement in the top-line and in operating margin as we progress through the year. Sales growth will come from our bearing product lines, higher deliveries from fusing programs and increases in sales from the A-10, AH-1Z and various composite programs. Margin growth will come from an improved mix as we progress through the year, moderation of some of the start-up costs we've been incurring and the leverage of higher sales.

We present our outlook as ranges as there are uncertainties inherent in any projection. To achieve the upper end of our sales and profit ranges and distribution we will need to maintain mid-single-digit organic sales growth for the balance of the year. In Aerospace achieving the upper end of our sales range would require additional revenue from the Unmanned K-MAX program and the recording of initial sales of the SH-2G(I) aircraft. While we do not currently have any orders under these programs, there is still some time to achieve this during 2012.

In summary, our first-quarter performance and growing backlog in Aerospace provide us with a solid foundation to start the year and the confidence that we will achieve our full-year expectations in each of our segments. Thank you and I would now like to turn the call back over to Neal. Neal?

Thanks, Bill. So as we've said, we are maintaining our full-year outlook and are looking for sequential improvement in results as the year progresses. With that I will turn the call back over to Eric. Eric?

Neal. Operator, may we have the first question, please?

(Operator Instructions). Arnie Ursaner, CJS Securities.

My first question relates to the medical expense and pension expense issue. Obviously pension expense is easier to explain, but can you highlight what's causing the jump in medical expense and quantify the actual dollars that you incurred in the quarter and if it's likely to continue?

Arnie, medical was up about $1.5 million compared to the first quarter of 2011. Back in 2010 we changed our medical plan. That caused medical expense to flatten for a year or so. So we went back and looked at the compound annual growth rate on medical since 2009, about 7.5%, certainly within the range of reasonableness and so that's what we're seeing. It's really a timing issue and we think that over the rest of the year we'll see that percentage increase moderate.

And another one while I have you, Bill. The start-up costs that you highlight will have downward pressure from new programs. When do you see that swinging to your more normal margins?

Toward the end of the year, we think in the first quarter, Arnie. It was 50 to 75 basis point impact on Aerospace group in total and would hope by the end of the year as we ramp up on the A-10 and AH-1Z we'll see that start to moderate.

And a final real quick one for Neal. We keep hearing a lot of chatter about Amazon entering the Industrial Distribution space. Do you care to comment on how you see it impacting your business?

Sure, Arnie, as a matter of fact, we have seen some questions on that since Amazon's announcement earlier in -- actually I guess early this week, late last week. Frankly, as you know, we've really positioned KIT as the technically differentiated distributor. And because of the complexity of the products that we deal with and the broad range of products that are available through our suppliers, we really in the near term don't see much impact from it.

I think a good example is our relationship with Parker where Parker alone has about 200,000 SKUs that we would make available for sale. And I think that -- that's a single supplier. I think that Amazon quoted something like 400,000 or 500,000 SKUs. So we would make up half of their total package with just one supplier.

So I think that when you look at some of the other more Internet-based commodity catalog number suppliers, they may be more impacted by Amazon than we would be in the near term. The other is that we have so many products that are specialized. For example, again, using Parker. They come out with are called PTS or Parker tracking numbers on their hose assemblies, etc. So those are all custom-made parts that we're able to track back and fabricate based on that tracking system.

So our -- the market that we're in is different than what they're after right now and we think it would likely have more impact on some of the more Internet-based suppliers than Kaman.

Thank you. I'll jump back.

Ladies and gentlemen, we ask that you please limit your questions to one questioned and a follow-up. And we will allow follow-up questions at the end. Edward Marshall, Sidoti & Company.

The Industrial Distribution business, was it smooth month-to-month as you progressed through the quarter as far as the sales line is concerned, and maybe if you can comment on April as well?

Sure. Actually -- it actually was relatively smooth through the quarter, Ed, we had a little bit of additional strength right at the end of March. The relative comparisons to prior year were a little bit tougher. As we commented in our fourth-quarter call, we had strong growth in -- at that time in January and February, it moderated during March. But also as we look at 2011 our sales actually grew by 10% from January to March of 2011, so we did have a much tougher comp for March.

We haven't gotten final numbers for April, and by that I mean predominantly we haven't gotten Canada and Mexico numbers in yet. But we did have slight organic growth in the -- in April and still good contribution from the acquisitions that we did last year.

And then, Bill, you mentioned due diligence expense in the quarter. I didn't catch the number, I don't know if you quantified it.

Yes, we did, it was $750,000, Ed.

Okay. Thanks, guys.

Matt Duncan, Stephens, Inc.

The question I've got is on the JPF program. Neal, when do you expect -- I know you said May is when you'd be back in LAT testing. Do you know sort of when within the month you'll be back? And as a follow-up to that, do you think you'll be able to do the 5,000 fuzes this quarter?

Matt, we do have confidence that we'll be able to do the 5,000 fuzes this quarter. We actually have about 4,000 actually built and ready for test. We started the LAT process yesterday; we have to do some conditioning of fuzes prior to actually performing the LAT. So we are restarting the LAT process currently.

Okay. And then, Bill, as I look at the Aerospace guidance, help me think through the -- or just the quarter-to-quarter progression through the year. I want to make sure we don't -- (inaudible) in front of you here in the second quarter. It sounds like the second quarter is going to be up from the first, but -- you're going to see in the third and fourth quarters. Can you give us a little help?

Matt, I think probably the best we can do is indicate that we expect about 40% of Aerospace profit to occur in the first half, 60% in the second half.

What about from a revenue perspective?

Revenues would track pretty closely to that ratio as well.

Okay. And then last thing for me and I'll hop back in queue. Neal, the KIT business has seen a decelerating organic growth rate for about five quarters now. I'm curious if that's more in-market exposures that you guys have are starting to show a slowing, or is that something within KIT that you think needs to be addressed? Just help us understand why the decelerating growth rate and what you guys are doing to get that moving again.

Sure thing, Matt, first of all, we are absolutely focused on increasing our organic growth rate; I don't care if it's 3%, 5% or 7%. That is the lifeblood of being able to continue to drive increased profitability in that business. So irrespective as to what our quarterly performance is, I know that both myself and clearly Steve Smidler and his team are keenly focused on that.

I think what you touched on in terms of end market mix has had a significant impact on that in recent quarters. As you know, our national account strategy has primarily had us focused on consumer goods, food, beverage, tobacco and paper, which has held us in very good stead up until about the last three quarters. And we have clearly seen slowing growth in those industries and it's come through in a little lower organic growth rate for us.

I think an addition some of the industries that have really popped up and done well, such as automotive, energy, are areas that we're not well represented in simply because of our geographic footprint. So that's had a disproportionately positive impact for some of our competitors and obviously we haven't benefited from that.

The last thing I would say, if you were to go back four years and look at total sales, I think we line up pretty well against our two closest competitors. And clearly our increased emphasis on OEM business has helped us to offset a lot of that decline in end-market growth in some of our national accounts.

Okay, thanks.

Steve Levenson, Stifel Nicolaus.

Did Parker make a contribution? I mean sales of Parker equipment and components make a contribution that was at all meaningful this quarter or is that something you expect to grow as the year progresses?

Well, it made a meaningful contribution in terms of the acquisition of Catching FluidPower, Steve, and having them as part of our business for the first full quarter. In terms of our national reseller agreement, that was relatively small in the back (multiple speakers) end of the quarter.

Okay. And I take it what, this will be the smallest quarter for that, you expect it to pick up pretty quickly?

We do expect it to accelerate, yes. Now it will be -- in particular this year, Steve, we want to keep in mind that we will be transitioning some competitive product lines to Parker, so it will not have the positive impact on the top-line. We would expect some positive impact, but it's going to be muted by the transition of competitive products to Parker over the course of the year.

Got it, thank you. And as a follow-up, just can you talk a little bit more about the SH-2s and what's going on? It's sort of been a long time coming, it sounds like you're getting closer.

It has been a long time coming, Steve. We believe that we are getting closer. Quite frankly we've had increased activities. As I said in our prepared comments, we had one of the countries that is interested in and flying the aircraft in the first quarter, actually we had someone in in the fourth quarter I believe as well. And we have two additional parties that are scheduled to come in in the next couple of months for demonstration flights and assessments as well. So the interest has picked up.

And could one assume that since they're coming in to fly it, it's not a current operator?

That's not a -- that's not necessarily a good -- an accurate conclusion.

Okay. Thanks very much.

Jeff Hammond, KeyBanc.

I just want to be clear on 1Q. I mean, did 1Q come in line with internal expectations or it's light and you feel good about the year? Because clearly there's a disconnect between what you reported and what the Street was?

Yes, Jeff, the quarter came in in line with our expectations. I think that I have to (technical difficulty) responsibility that we should have done a better job communicating the timing of our revenue and profit through the course of the year and I didn't get that done.

Okay, and then just a little -- if you can give us a little more color on -- you gave us the Aerospace split; maybe a similar mix on distribution would be helpful. And then just qualitatively on some of the programs, if there's any moving pieces that are maybe not apparent in kind of the year build, I think that would help getting more comfortable with the achievability of the full-year numbers.

I'll comment on distribution. A slight pickup in the second quarter, relatively flat through third and fourth quarters. Typically we see a downturn in the fourth quarter; we don't expect that this year. There's one more sales day in the fourth quarter. So distribution relatively flat, pretty steady through the rest of the year.

And on the Aerospace side, as we commented, we have a number of programs that we expect to ramp up during the course of the year, which is really driving the 60% both in revenue and operating income in the second half of the year. I think the wild cards that will be around that will be if we have any additional orders for JPF and if we feel comfortable ramping up from the 5,000 units per quarter that we're currently planning on, that would be a potential upside.

Clearly with AH-1Z and A-10 we expect them to contribute significantly in the late third quarter and fourth quarters of this year. There is -- if there is any slip there, either customer driven or internal, that may cause some downside pressure.

And we also have to realize that from year to year we had -- we're looking for some -- excuse me, we're also looking during the course of the year for increases in our composites business and predominately in our UK composites business where they've been successful on winning a number of packages for Airbus that will go into production later in the year.

Okay, and then you mentioned within the Aero guidance kind of high and low end needing additional K-MAX and I think there was another program, additional revenue. Can you just talk about visibility for capturing that?

Sure. At this point in time, as Bill outlined, we feel to achieve the top end of our guidance we would need additional revenue and profit contribution from the Unmanned K-MAX and/or the SH-2G. In terms of visibility, as we commented earlier, we have experienced increasing activity and interest in the SH-2, obviously for us to mention it we have to have that.

And then secondly, we've had really tremendous performance of the Unmanned K-MAX in Afghanistan. So there has been discussion around a bridge buy on the order of perhaps three aircraft. And while we don't have an order for that, we feel that it is a possibility during the course of the year and that is one of the two key factors that would enable us to achieve the upper end of our guidance.

Okay, thanks, guys.

(Operator Instructions). [Lupinder Morrow], Jefferies.

First question on Catching Fluid, if you guys can just give us some update on like cost and sales synergies, how that business is coming along?

The business is performing well; it was accretive in the first quarter. We are investing significantly in training of our people. As we commented, we've had literally hundreds of our people do online Parker fluid power training and over 120 man weeks of our product specialists actually going to and attending factory training.

So we appreciate the effort and investment that Parker is making in bringing us up to speed. We're fulfilling our side of that commitment and we're very pleased so far and anxious to work through the conversion of competitive product lines to Parker then use that as a platform for growth going into 2013.

Okay. And you said it was accretive. Do guys give out the number like how many cents was it or --?

No, we don't disclose specific amounts of accretion.

Okay. And accretion basically increases as the year progresses I guess?

Yes, it would.

Okay.

Typically, yes.

Okay. And the second question on your Aerospace. I just wanted to -- you guys said some negatives basically, K-MAX, BLACK HAWK, I don't know if you want to give some color on like what happened with BLACK HAWK and C-17?

BLACK HAWK -- a year ago we were doing joint in here in Bloomfield and Sikorsky pulled that back in-house. That's about half the shortfall year to year from Sikorsky. The other is just a fewer number of cockpits out of our Jacksonville facility, that largely is timing we think. And then the legacy fuze programs were another area where we had a shortfall.

Okay. Thanks a lot.

Arnie Ursaner, CJS Securities.

A couple quick follow-ups. You mentioned you -- on the AH-1Z and the A-10, you're building them into the back half of the year. What sort of unit or revenue expectation are you building in and how should we think about the margin of those two relative to the Aerospace segment?

Early in that program, Arnie, they will be full load, the average for Aerospace. And I think in terms of units we've got --

A-10 is around 25, AH-1Z I think is six or seven. In both cases, Arnie, the dollar value of sales in the last half of the year was close to $10 million for each.

Okay, perfect, thank you. And obviously, as you said, back half of the year we should not expect --?

Right.

We're basically incurring expenses for the first half and then it turns to revenue and more modest margin contribution than overall, but still some margin contribution?

That's fair, yes.

Okay. And when you made the acquisition of Catching you had expected several customers to consider moving (technical difficulty) you as a distributor. Now with hindsight of a couple of months are you seeing the trend you thought you would see? And if not maybe it will be less of a headwind than you had originally built in.

You know, Arnie, it's a good question. We've -- I think overall we've actually seen a couple suppliers want to continue a relationship with us where there is specific requirements and would require us to source their product. So I think overall it probably hasn't been as bad as we'd anticipated in terms of suppliers moving away from us immediately.

I think that's because of the contribution we've made of their business over the years. But it doesn't change the long-term and that is where we have committed to being a Parker sole-source in terms of resale except for those instances where we are asked to source a competitive product.

Okay. And then my final question is, again, trying to build a better understanding of the margin in Aerospace as we think about Q2. You mentioned you have 4,000 fuzes sort of ready for final testing and the margin issue in Q1 was clearly the fact that you sold more to the United States government rather than direct commercial sales. Of the 4,000 you had sitting there, how should we think about the likely end market for those and the margin impact?

Yes, Arnie, in the -- for clarity, in the first quarter of 2011 we had very high DCS sales which are better margin for us. In the second quarter we would anticipate that the majority of those fuzes would be sold to the US government.

So lower margin in Q2 than one would normally expect on the JPF?

No, I don't think it's fair to say normally. We should have nice margins on that business. The DCS sales are very lumpy, Arnie, and in the first quarter of last year it really did help drive profit improvement. But I would say that we're back to more normalized rates in the second quarter.

And again, going to the margin question. The specialty bearing, I think I heard you say your specialty bearing backlog was up 30% and normally you don't go out more than six or eight weeks if you can avoid it. Given that that should have a very strong incremental contribution to Q2 wouldn't that drive much higher margins in Q2?

Arnie, our lead-time is four to six weeks, our backlog was up 30% year on year, but that's backlog. And I don't have the numbers right in front of me, but I would say that perhaps 70% of that increase or 60% of that increase would be for delivery this year and the balance, maybe 30% to 40% next year.

Okay, thank you.

Matt Duncan, Stephens, Inc.

Thanks. Bill, just want to get some clarification on the Aerospace guidance. So if I do the math and 40% of revenues are in the first half and 60% are in the back half your 2Q revenues would have to be down from the 1Q. I'm assuming that's not what you expect. So if there's any more guidance you can give us to help us get the ramp right it would be very helpful.

Yes, we do not expect a drop in second-quarter sales levels for Aerospace. Let me do a little work on that and come back to you.

Okay. And then in terms of the profitability of that segment, you need to average of 16.7% rest of the year to hit the low end of the margin guide for that segment for the year. Obviously it sounds like kind of below that number in the 2Q, but then above it in the 3 and 4Q.

A, what margin do you think you can have when you sort of ramp up into the fourth quarter and start to cover some of the start-up costs on the AH-1Z and A-10? And then can that carry into next year or is there something special that would be pushing the margin higher than maybe is what is sustainable back half of the year?

No, there's nothing special. I mean, we do and expect obviously an increase in the Aero -- for Aerospace starting in second quarter and up to the sort of 17% range in the second half of the year.

Okay. And then (multiple speakers) as we think about the run rate for next year from a revenue perspective, are there any programs in Aerospace that are going to run their course this year or is everything you're working on now going to carry into next year?

Everything pretty much carries -- C-17 will drop out sometime in 2013, but that's about it.

Okay, that's helpful. Yes, if you don't mind getting back to us on the 2Q Aerospace number, that would be helpful.

I will do, yes.

Jeff Hammond, KeyBanc.

Just on KIT margins -- one, in the first quarter did you have any kind of purchase accounting that would have held back the margins? And two, I think, Neal, you mentioned investments that help kind of the longer-term margin but hold back the near-term. And so, I guess given the slower start and those comments, what's the risk we don't hit the 5.4 to 5.6 range?

You know, Jeff, I think that we're prepared to manage the business appropriately so that we can both make the investments that we need to achieve that longer-term growth and also hit the 5.4 to 5.6 range. We did have a little bit of impact in the first quarter from purchase accounting related to (multiple speakers).

But it was minimal.

It was small. We had probably a little bit more than that related to the acquisition on the training costs that we incurred.

And I did indicate that the medical was about a 30 basis points to 40 basis points headwind in the first quarter.

And that goes away?

Sorry?

We hope that it will moderate during the course of the year.

Right.

Yes.

And is it fair to say that the Catching/Parker is additive to the margin mix (multiple speakers)?

That's fair, absolutely.

Do you have the Vermont revenue contribution?

I don't think we --.

It was about $8 million in the quarter I believe.

Okay, thanks, guys.

We have no further audio questions at this time. I will now turn the call back over to Eric Remington for any closing remarks.

Thanks for joining us for today's conference call. We look forward to speaking to you when we report second-quarter results in July. Thank you.

Thank you for your participation in today's conference. This concludes the presentation. Everyone may not disconnect and have a great day.