McGrath RentCorp (MGRC) 2007 Q1 法說會逐字稿

Good day, ladies and gentlemen, thank you for standing by. Welcome to the McGrath RentCorp First Quarter 2007 Earnings Conference Call. (OPERATOR INSTRUCTIONS) This conference is being recorded today, Thursday, May 3, 2007. I would now like to turn the conference over to Geoffrey Buscher of SBG Investor Relations. Please go ahead, sir.

Thank you, Operator. Good afternoon. I'm the Investor Relations Adviser to McGrath RentCorp and will be acting as moderator of the conference call today. On the call from McGrath RentCorp are Dennis Kakures, President and CEO, and Keith Pratt, Vice President and CFO. Please note that this call is being recorded and will be available for telephone replay for up to 48 hours following the call by dialing 1-800-405-2236 for domestic callers and 1-303-590-3000 for international callers. The pass code for the call replay is 11087722.

This call is also being broadcast live via the Internet and will be available for replay. We encourage you to visit the investor relations section of the Company's Web site at MGRC.com. A press release was sent out today at approximately 4:05 Eastern daylight time or 1:05 PM Pacific. If you did not receive a copy but would like one, it is available on line in the investor relations section of our website or you may call 1-206-652-9704 and one will be sent to you.

Before getting started, let me remind everyone that the matters we will be discussing today that are not truly historical are forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934, including statements regarding McGrath RentCorp's expectations, beliefs, intentions or strategies regarding the future. All forward-looking statements are based upon information currently available to McGrath RentCorp and McGrath RentCorp assumes no obligation to update any such forward-looking statements.

Forward looking statements involve risks and uncertainties, which could cause actual results to differ materially from those projected. These and other risks relating to McGrath RentCorp's business are set forth in the documents filed by McGrath RentCorp with the Securities and Exchange Commission, including the Company's most recent Form 10-K and Form 10-Q. I would now like to turn the call over to Keith Pratt.

Thank you, Geoffrey. In addition to the press release issued today, the Company also filed with the SEC the earnings release on Form 8K and its first quarter 2007 Form 10Q. For the first quarter 2007, total revenues increased to $60.8 million from $57.9 million for the same period in 2006. Net income increased 19% to $9.3 million or $0.37 per diluted share, up from $7.8 million or $0.31 per diluted share for the same period in 2006.

Reviewing the first-quarter results for the Company's Mobile Modular Division. Mobile Modular total revenues increased $2.1 million or 6% to $35.2 million from the same period in 2006, due to $2.7 million higher rental and rental related services revenues, partly offset by lower sales revenues during the quarter. Gross profit on rents increased $2.3 million or 18% to $15.7 million from $13.4 million in 2006, due to higher rental revenues and higher rental margins. Rental revenues increased $2.4 million or 11% over 2006, while rental margins increased to 66% in 2007, compared to 63% in 2006.

Selling and administrative expenses increased $0.1 million or 2% to $6.4 million from $6.3 million in the same period in 2006. The combined effect of the rental revenue increase and higher gross margin on rental revenues resulted in an increase in pre-tax income of $2.1 million or 23% to $11.2 million for the first quarter of 2007 from $9.1 million for the same period in 2006. Finally, average modular rental equipment for the quarter was $412 million, an increase of $44 million from the first quarter of 2006. Average utilization for the first quarter declined from 82.8% in 2006 to 81.3% in 2007.

Turning next to first-quarter results for the Company's TRS-RenTelco division. First-quarter total revenues increased $1 million or 4% to $24.5 million compared to the same period in 2006, due to higher rental revenues partly offset by lower sales revenues. Gross profit on rents increased $0.5 million or 7% to $7.9 million as compared to 2006. The increase in gross profit on rental revenues is primarily due to 22% higher average rental equipment as compared to 2006, partly offset by lower average monthly yield as utilization of rental equipment decreased 4% and average rental rates decreased 9% in 2007 compared to 2006. Pre-tax income increased $0.3 million or 7% for the first quarter 2007 to $4.3 million from $4 million for the same period in 2006, primarily due to higher gross profit on rental revenues.

Finally, average electronics rental equipment at original cost for the quarter was $192 million, an increase of $35 million from the first quarter of 2006. Average utilization for the first quarter decreased from 69.5% in 2006 to 66.6% in 2007. On a consolidated basis, interest expense for the first quarter 2007 increased $0.2 million to $2.6 million from $2.4 million for the same period in 2006, as a result of the Company's higher average interest rates and higher average debt levels.

The first-quarter provision for income taxes was based on an effective tax rate of 39%, which was the same as the first quarter 2006 rate.

Next, I would like to review our 2007 cash flows. We continue to generate strong cash flows to invest in our business and return value to our shareholders. For the three months ended March 31, 2007, highlights in our cash flows included net cash provided by operating activities was $16.4 million. A decrease of $7.3 million compared to 2006. The decrease was primarily attributable to the reduction in accounts receivable in 2006 that did not recur in 2007, partly offset by improved operating results and other balance sheet changes. We invested $27.3 million for rental equipment purchases partly offset by $5.2 million in proceeds from used equipment sales.

Dividend payments to shareholders were $4 million. Net borrowings increased $8.7 million from $165.5 million at the end of 2006 to $174.2 million at the end of the first quarter 2007.

We continue to have a solid, low-leveraged balance sheet. For 2007 first quarter EBITDA increased $3.9 million or 14% to $31.3 million, compared to $27.4 million in 2006 with consolidated EBITDA margin at 52%. Our definition of EBITDA and a reconciliation of EBITDA to net income are included in our press release and Form 10-Q for the quarter.

Turning next to 2007 earnings guidance. At this time based on our first quarter 2007 results and our outlook for the remainder of the year, we are reconfirming our full year earnings per share guidance to be in a range of $1.65 to $1.73 per diluted share. At this point I would like to turn the call over to Dennis.

Thank you, Keith. Let's begin with some color on our Modular Rental business for the quarter. I was very pleased with our 11% increase in rental revenues to $23.8 million for first quarter 2007 from a year ago. This increase is primarily related to educational and commercial shipments in the second through fourth quarters of 2006. We should experience a full 12 months of rental revenues in 2007 on a large number of these orders. We experienced very favorable educational rental opportunity and booking levels during the first quarter.

In California, we are benefiting from strong demand in modernization of public school infrastructure and the passage of the November 2006, statewide facilities bond measure to fund these projects. In Florida, the popularity of our hybrid classroom product, class size reduction, and the phasing out of older model code portable classrooms continues to support our educational business growth.

In the Texas market, although the educational rental opportunity today is smaller than our other markets we are continuing to make good progress in growing our classroom business levels. Keep in mind that the great majority of the classroom rental orders booked during the first quarter and those that will be booked during the second quarter will not ship and begin billing until the third quarter of 2007. However, virtually all of these orders will be multi-year transactions.

For the first quarter of 2007, our commercial rental booking activity in California and Texas markets was generally strong with some weakness in the residential developer sector. As discussed earlier this year, we launched commercial modular operations in Florida, in late 2006. We are excited about the long-term opportunity to grow our commercial rental business in the Florida market. Thus far in 2007, we are very pleased with the volume of commercial opportunities we've been experiencing in Florida. Although we've had lower than expected opportunities to bookings conversion during the first quarter due to our market and operational learning curves we expect a marked improvement in our closed ratios going forward.

At the end of the first quarter, utilization for our modular fleet stood at 81.5% compared to 82.1% a year earlier. This lower utilization level is due cheaply to idle classroom inventory in California related to the 2006 shortfall in school modernization funding. With a strong classroom opportunity and booking levels we are experiencing in California we would expect to see a favorable increase in utilization by the end of the third quarter of 2007.

We have very nice increases in both gross profit on rents at 18% to $15.7 million and on gross margin on rents to 66% from 63% a year ago. These results are due to higher rental revenue levels and lower direct cost of inventory center operations compared to a year ago. The lower level of equipment preparation cost quarter-over-quarter was mainly the result of the mix of equipment process through our inventory centers and to a lesser degree favorable materials procurement pricing and benefits derived from productivity and cost control programs that have been implemented over the past year.

Although we do expect higher quarterly inventory center costs for the remainder of 2007, with our anticipated rental revenue growth levels, we believe low to middle 60% gross margins on rents are likely to be achieved for the full year.

Now, let's take a closer look at TRS-RenTelco our test equipment rental division. TRS-RenTelco had a solid increase in rental revenues of 7% to $19.5 million from $18.3 million a year ago. We benefited from favorable market demand across a fairly broad base of customer segments including communications network, and aerospace, and defense applications. However, we also experienced a more competitive market environment that has contributed to a lower average monthly rental rate of 5.09% in the first quarter of 2007 compared to 5.32% in the fourth quarter of 2006.

Other contributing factors to the lower average monthly rental rate are the phasing out of TRS acquired equipment at approximately 55% of the list price compared to new equipment purchases at approximately 95% of list price, and a higher mix of general purpose equipment that typically has lower rental rates but longer lives compared to communications test equipment.

At the end of the first quarter utilizations stood at 66.9% compared to 70.6% a year earlier. The lower utilization level is mainly attributable to the orderly phasing out of older model technology test equipment from our inventory. This is being driven by a number of new product introductions in oscilloscopes and other select areas of general purpose test equipment over the past year.

The net [add] is that as we are purchasing and putting on rent the latest technology equipment we need to adjust inventory levels of prior models as utilization of this equipment moves downward over a period of time. This is a fairly common dynamic in the test equipment industry. We would expect overall utilization to be favorably impacted as we sell targeted quantities of older technology equipment in our inventory today and rent more of the latest technology test equipment.

Gross profit in rents also increased 7% for the quarter compared to a year ago. Gross margin on rents was flat quarter-over-quarter at 41%. We would expect rental margins to improve as we sell lower utilized previous generation test equipment and eliminate its associated depreciation expense.

Let's take a closer look at the key factors impacting our 19% increase in EPS for the quarter. We had a favorable 9% increase in rental revenues Company-wide. In modulars, we have an 11% increase in rental revenues. However, we actually saw our inventory center expenses decrease by 6%. This decrease was driven mainly from the mix of rental equipment processed.

We saw higher levels of pre-prep buildings and more capitalized refurbishments as compared to last year's first quarter. In layman's terms, we had significantly lower material expense during the quarter due to performing more standard maintenance work on preparing classrooms for rental and refurbishing buildings as compared to customized commercial projects.

We also experienced favorable materials procurement pricing when we were expecting increases to occur and we benefited from various productivity and cost control programs implemented over the past year. All of these factors led to our direct cost of inventory center operations as a percentage of rents declining to 21.7% compared to 25.7% a year ago.

Looking forward, we would expect higher quarterly inventory center costs in 2007 to the extent the mix of rental equipment process changes or there are general material or labor inflationary pressures. Our earnings benefited from SG&A expenses that were comparable to last year's quarter.

Expenses were flat because higher labor and benefit expenses were offset by lower general administrative and bad debt expense and we did not yet fill various new management positions planned for 2007. SG&A as a percentage of rents declined to 26.9% compared to 29.1% a year ago. Looking forward, we expect higher quarterly overhead expenses in 2007 as we continue to invest in our planned modular geographic expansion, investigation and incubation of other strategic growth initiatives, creating greater management bench strength, and IT infrastructure and ERP application platform changes.

On the strategic front, we continue to move ahead with work on our expansion into two new modular geographic markets in 2007. We are excited about the long-term impact these new markets can have on our modular division results. We are also on track towards completing our new test equipment product lines investigative work by the end of the third quarter. We have now completed our market studies and exploration work on possible geographic expansion of our test equipment business and we will provide [net outs] on our next earnings call.

Finally, we have been actively investigating multiple potential third leg rental products in 2007. And we're looking to complete our analysis on the most attractive opportunities during the third quarter. We will have more to share on all of these efforts throughout 2007.

Overall, we are off to a very good start in 2007. We are very pleased with our educational rental business. The California classroom rental market appears to be very strong, Florida is continuing its very favorable growth, and Texas, is making great progress in growing its level of educational rental revenues. Our test equipment rental business is steady with favorable rental revenue, and gross profit on rents growth, and a positive market outlook. We are managing both direct costs of rental operations and overhead smartly. We are also moving forward with our strategic launches and exploratory work, and investing in IT infrastructure and applications to support a larger McGrath RentCorp in the years ahead.

In closing, we would like to remind everyone of our upcoming annual shareholders meeting at our corporate offices in Livermore, California on June 6, beginning at 2 p.m. We'd also be pleased to provide you a tour of our Northern California sales and inventory centre operations during your visit. And now Keith and I are available to address any of your questions.

Ladies and gentlemen at this time we will begin the question and answer session. (OPERATOR INSTRUCTIONS). Our first question is from [Amy Ruderman] with CIBC. Please go ahead.

Hi, how are you?

Hi Amy. How are you?

Good. My first question is on the TRS. Could you just give us a little more color on the competition in that market and the lower average rental rates?

What we -- in the first quarter, what we've experienced is on general-purpose equipment, especially in larger accounts, we've just seen more -- a more competitive market space, with a couple of competitors in particular. And from time to time you have those dynamics in the market and so in order to book business and also to hold on to certain businesses you have to -- you need to adjust rates.

Okay. So, basically in that market you're going to be phasing out the old equipment and bringing in new equipment that's going to be longer life but maybe at a lower rental rate, you said.

Well, what occurs from time to time is new products are introduced. Such as, for example Tektronix has introduced a really --re-done their entire oscilloscope line. We're buying that new technology, which is what many companies desire. So, you need to be putting that out there, at the same time you got the prior model inventory that you phase out over a period of time. And what that does then is, it brings more on the line, utilization will rise as we move more of that equipment out. Also, we get that depreciation savings as we -- as that comes out. And again on the equipment we're moving out we book a gain on sale. So, there is some good news there in that process. It is just a real orderly flushing out but it doesn't happen overnight.

Okay. And just to review because I missed part of the first part of your call. The gross profit on the modular, you said that it was directly related to the direct cost related to the inventory management?

The inventory center operation is mainly labor and material to process equipment to our inventory centers.

Okay. So, that is the key thing to the gross margin, the labor and the material.

The combination of rents rising and lower expenses there.

And as Dennis mentioned in his comments, it was really the mix of work being done in the centre resulted in lower expenses in the first quarter compared to a year ago and helped expand the gross margins on the rents from 63% to 66%.

Okay, one more question and then I might just get back into the queue. In Florida, you talked about phasing out of units that don't meet the current standards. Can you talk about how, when was the most recent code change? And how long does it actually take to phase out these old units? Is it something that happens immediately? I am just trying to get a better understanding of how that works.

Certainly, to your first question. After Hurricane Andrew, the code changed in Florida. So, it was a number of years ago that the code changed but the legislature really allowed school districts a window of time in which to deal with the code change. Because you just can't do a mass change out of that older code product. So, what's occurred over the last few years is districts are slowly phasing out this, what is considered -- what is called type six product that we don't own any of because we came into the market post code change. And what happens over time, it's a progression here of where those get phased out. So, there is no final date set but what we've seen over the last year or two since we have been in the market that the rate of this equipment coming off school sites is accelerating. But there is still a fairly significant quantity of that on school sites and we -- needless to say are placing buildings on school sites that are replacing that product as well as some of that product comes off and permanent construction is replacing some of that as well.

Do you have an idea of how much is still out there?

We don't, but in terms of actual hard numbers but there still is a fairly significant base of that equipment on rent or owned by school districts today.

Okay. Great, that answers my question. Thank you.

Thank you, Amy.

(OPERATOR INSTRUCTIONS) Our next question is from [Jim Warner] with Carlson Capital.

Hi, gentlemen. Congratulations on a great quarter.

Thank you, Jim.

Thank you, Jim.

Wanted to just dig in a little bit further on to your -- into your expansion opportunities. You mentioned the two new markets. If you could maybe give us a little bit of color there. As well into the third leg that you might entertain.

Well, on the two new geographic markets we still haven't identified those specifically. Which we would hope to do by the next earnings call. We are still working on various tactical moves in those markets to be able to not give our competition any further advance notice than we need to. But you can trust that both those markets have long-term demographics that are consistent with our current markets and that afford us a lot of opportunity to grow in those regions. With respect to other initiatives here in terms of third leg opportunities there is a number of areas we've been looking at including storage containers, portable sanitation, and various other types of rental products. I just mentioned a few there but those are items we are trying to view and see what synergies there can be with our existing modular rental base, as well as how those could be melded in to our existing businesses or done as a expansion in terms of branches.

You also mentioned that you are seeing strong demand in California for your classroom product. We've heard from William Scotsman that they have had a nice strong order book as well. I was interested in getting a little bit more color perhaps on the -- or even quantification on the orders that you are seeing or orders that are in the pipeline?

Well, what I can't say is -- we don't give any specific numbers. But I will say this, the level of opportunities are higher than what we anticipated and we had anticipated a fairly strong start to the year. But they're actually ahead of even our original expectations. So, that's what I can say.

And finally the last question. You just mentioned to the last caller how you are working through in an orderly way the purchasing and renting of the newer high-tech equipment. To what extent will this help drive the rental yield in the TRS-RenTelco business? And as a follow-up to that to what extent should we see slightly higher sales levels within the electronics business going forward as you clean out the old inventory? Thank you.

Well, let me address the latter part of your questioning there. We should see, as we begin moving this, we should see increased sales levels for the business over the next couple of quarters, and that should be at fairly decent margins as well. Some of this equipment that's here it's in the two to three year old kind of state of life category. So, it's still actively being utilized. The resale market is very healthy for it, so we feel very good about that. Again a very -- it's a very good kind of transitional opportunity here as we've moved into the later products.

With respect to the yield side of things what we --the benefit we get when we're buying new equipment is we get longer life. So, that's the good item there. On most of this equipment a lot of it is general purpose, which typically has a lower rental rate, but a lot of times can have a longer term associated with it so there are some different tradeoffs there. You could see a lower rental rate but again you get more horsepower off the term piece of things. So, that gives you some color there.

And again with the expected improvement in utilization that directly helps your question regarding yield, but it is an orderly process and we're just working our way through it.

(OPERATOR INSTRUCTIONS) At this time there are no further questions. I'd like to turn the call back over to management for any closing comments.

Well, thank you all for joining us this afternoon and we'd love to see as many of you as possible at the upcoming annual shareholders meeting here in Livermore, California on June 6. So, thank you all very much. If we don't see you at the annual meeting we'll look forward to chatting with you on our next earnings call in early August. Thank you, now.

Ladies and gentlemen, this concludes the McGrath RentCorp first quarter 2007 Earnings Conference Call. We thank you again for your participation, you may now disconnect.