MillerKnoll Inc (MLKN) 2009 Q2 法說會逐字稿

Good morning, everyone, and welcome to this Herman Miller Inc. second quarter fiscal 2009 earnings results conference call. This call is being recorded. This presentation will include forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. These risks and uncertainties include those risk factors discussed in the Company's reports on form 10-K and 10-Q and other reports filed with the Securities and Exchange Commission.

Today's presentation will be hosted by Mr. Brian Walker, President and Chief Executive Officer and Mr. Curt Pullen, Executive Vice President and Chief Financial Officer. Mr. Walker and Mr. Pullen are joined by Mr. Joe Nowicki, Treasurer and Vice President of investor relations. Mr. Walker and Mr. Pullen will open the call with a brief presentation, which will be followed by your questions. We will limit today's call to 60 minutes and ask the caller's limit their questions to allow time for all to participate. At this time I would like to turn the call over to Mr. Walker. Please go ahead, sir.

Good morning, everyone. Our results and activities from this past quarter reflected two distinct themes. First, based on the strength of our opening backlog, the organization did a great job of executing and delivered very solid results. Second, as the news and turmoil of the economic crisis took hold we began to experience significantly lower levels of order entry as our customers deferred capital expenditures and began to adjust their businesses to what most feared would be a deep and longer than normal recession.

I'd like to open our presentation with a few remarks on each of these topics, and then I will turn the call over to Curt and Joe for a more detailed review of our results. As you will recall, we entered this quarter with a strong backlog in most of our businesses, but we were tepid about the strength of demand in the core North American office furniture business, and we faced a strong headwind from rapidly rising raw materials. In general the quarter played out as we expected. But we did not anticipate two very big factors.

First, the rapid acceleration and spread of the credit crisis had a significant impact on order entry levels as companies pulled back on the reins and began to defer projects and hold on to cash in anticipation of a deep and long recession.

Second, the very swift depreciation of the US dollar against many currencies resulted in a significant reduction in reported orders and a revaluation of our backlog. This drop in order entry levels was experienced across most areas of the business with a notable exception being healthcare. This business tends to have longer sales cycles and previously funded construction have remained strong.

Our business model is characterized by having a good deal of variable cost and light asset footprint and high terms of working capital. Therefore, within a reasonable range of demand our business will adjust naturally. This is clearly demonstrated this past quarter. We were able to adjust our expenditure levels and still deliver respectable bottom-line results and generated a good deal of cash.

While the price of raw materials and commodities began to rapidly retreat, this change will take some time to work its way through the supply chain. Therefore this positive development had very little, if any, impact on this quarter. As order entry trends became more convincing and the general economic climate continued to decline, we decided that it would be necessary to adjust our expenditure levels beyond what our business model would drive naturally. As a result, we moved deliberately to reduce employment and expenditure levels.

These changes announced earlier in the quarter were in most areas of the business and across the globe. The employment reductions were in both salaried and hourly positions and were implemented in four steps. Voluntary separation, involuntary separation, elimination of the temporary labor and layoffs. We've offered an enhanced severance package to enable folks who are near the end of their career at Herman Miller to volunteer for separation. Ultimately we received more volunteers than we had anticipated.

While this increased the cost of our actions we believe this investment has enabled us to retain the people and skill sets that we will need now and in the future. The first two steps of this plan were implemented in early December. We will complete the remaining two steps in early January. In total we have reduced our total employment by over 1000 people. Keep in mind this is a moving target as we will flex production employment levels with demand.

In addition to employment levels we have prioritized and reduced our program and capital expenditure plans. Of course we have also developed tactical actions to ensure we can win our fair share of what will be a very competitive environment. These actions are not a change of strategic direction for Herman Miller. We continue to believe our strategy of performance innovation and revenue diversification was and is working. And we believe the long-term trends we have been anticipating and building toward are still in play.

At the same time, while none of us like to live through down cycles, we have always used these times to sharpen our game, improve our efficiencies and anticipate new sources of customer value. And that is what we are determined to do this time. We have an experienced leadership team at the helm who has steered through difficult periods in the past. We know that we must manage the short-term performance while maintaining our most important forward investment that will be critical to our long term future and growth.

We are building cash reserves to ensure we have the financial flexibility and security to invest in our future and take advantage of opportunities that present themselves. I am sure you have all noted that we did not provide guidance in the press release. We have been discussing the topic of quarterly guidance for some time and have come to the conclusion that it is often cross purposes to maintaining a longer-term view of what we are trying to accomplish. However, as we had anticipated this to be a more difficult year in terms of the business cycle, we continue to provide guidance so as to keep you informed of what we are anticipating.

Our decision to not provide guidance at this time was based on two factors. First, the third quarter of each fiscal year is by far the most difficult to predict. The holiday season contains several short weeks and many of our customers reset their annual capital plans during this period of time. Second, the fluid and rather cloudy economic environment will exacerbate the normally difficult seasonal pattern. So we've decided to spend guidance but rather to discuss with you some of the factors we are evaluating to manage and adjust the business. We hope this will give you the insight into the drivers and enable you to make informed analysis about where we are headed.

Let me close by saying thank you to the people of Herman Miller. This past quarter they delivered solid results while dealing with a very significant cost and employment reduction effort. And as we look back on the first half of this year, we accomplished a great deal. In June we launched a new lineup of storage products including the award-winning Teneo line. We announced a strategic alliance in China and Asia with POSH that is in the early stages of ramping up. Our healthcare business has grown rapidly, and the combination with Brandrud exceeded our expectations. We significantly expanded our retail distribution footprint with the addition of Costco. And this past quarter we introduced several new products at the German furniture fair, Orgatec.

The headliner of that introduction was the Embody chair. We believe and the design community appears to agree, Embody represents a step function improvement in the art and science of ergonomic seating. So yes, this will be a difficult period but we have and will continue to put in place the building blocks that will ensure a prosperous future for Herman Miller. To get a better understanding about results and financial strength I will now turn the call over to Curt.

Thanks, Brian. Good morning, everyone. As you've read in the press release we delivered sales and earnings levels within the range of our updated guidance. Our revenues were down 6% from last year and about 0.5% from the first quarter. Our ability to partially offset the volume decline by lowering our operating expenses enabled us to once again produce a double-digit operating income percentage, as well as continue building strength into our already healthy balance sheet.

Our earnings per share performance was strong for the quarter and for the first half of the fiscal year equaled the same period last year. All of this notwithstanding the business climate today is much different than at the beginning of the quarter. Our orders declined as the quarter progressed, which we will talk about in a minute. Let's look at sales for the quarter.

Consolidated first-quarter sales of $477 million are lower than last year by $29 million or about 6%. North American sales of $389 million marked a decrease of approximately 5% from the prior year. The decline was experienced across the whole of the US contract market, Canada and Mexico. Last quarter revenue had continued to grow in Canada and Mexico, but we are now seeing the effect of the economic downturn spill over into these regions, as well. Also the decline in value of those local currencies also detracted from our sales results. Consistent with what we experienced last quarter and what is occurring on a macro level, our non-North American business also felt the impact of the global recession.

Sales declined 13% from last year's very strong second quarter. We mentioned last quarter that several large projects in the UK were pushed out into the second quarter and these projects were completed. However, many of the other global markets had revenue declines, as business activity levels in these markets began to soften.

On a positive note, our healthcare business continued to see strong revenue expansion, both in organic product sales and from the Brandrud acquisition. Our retail business was up slightly from last year, partially due to our expanded distribution activities. During the quarter the US dollar strengthened significantly relative to most other currencies which reduced our revenue by $7 million.

Moving into order rates during the quarter consolidated orders totaled $426 million compared to $573 million last year, a decrease of 26%. Consistent with our comments last quarter, I will point out that the price increase implemented in August pulled roughly $35 million of orders from our second quarter up into the first quarter. If we back out this effect, our orders in Q2 declined about 19% from the same period last year and 8% sequentially from Q1. Similar to our sales numbers, orders were also negatively impacted by $13 million due to changes in foreign exchange rates.

Our pacing through the quarter was consistent in September and October at approximately $34 million per week and slowed in November to roughly $30 million per week. Looking more closely at the geographic order patterns, orders in North America decreased about 23% versus the prior year. Some of that decrease was due to the pull ahead affect of the price increase. However, our order levels have fallen across most regions of North America. Also order rates for our retail business declined during the quarter. We did however continue to see growth in orders for the healthcare business.

Orders for the non-North America component of the business decreased 30% for the quarter. This is a significant swing in our business compared to our recent performance and as a consequence of the slowing overall economic environment.

Gross margin is next. Our gross margin performance for the quarter ended at 32.6% of sales, a decrease from the prior year's margin of 35.6%. Gross margin was negatively impacted by continued higher commodity costs and the loss of overhead leverage as a result of lower sales volume. This was partially offset by the continued efficiency gains by our operations teams, as well as very good spending control. Raw material price increases pushed costs higher by $12 million compared to last year's levels, reducing our gross margin by 240 basis points on this alone. Sequentially rising material prices increased costs by $4 million.

We have worked through the majority of our agreements with suppliers and given the recent decline in commodities we do expect to see some improvements in these costs beginning in our third quarter. Lower production and sales volumes also had a negative impact in absorbing overhead costs. However, our teams have done an extremely good job of adjusting labor and manufacturing and related spending to alleviate some of this impact. Our cost reduction actions recently taken will continue to provide relief.

Moving onto operating expenses and income. Operating expenses totaled $100 million, a decline of $14 million from last year's second quarter bringing our operating expenses as a percentage of sales to 21.1%. Once again our variable model and cost reduction actions have allowed us to move costs lower as our sales volume has declined.

Operating income was again very strong at $55 million or 11.5% of sales. Going forward if sales volume continues to decline this double-digit level of operating income performance will be difficult to maintain.

The effective tax rate for the quarter was 33.5%, down from the first-quarter rate of 35%. Congress extended the R&D tax credit which enabled us to recognize a tax benefit thereby lowering our tax rate for the quarter. Our full-year rate should approximate 34%, but is dependent upon income levels going forward.

Consolidated net income was $33 million or 7% of revenue for the quarter, earnings per share were $0.60 for the quarter which compares to $0.67 for the same quarter last year. On a year-to-date basis we have produced EPS of $1.20 equaling our results at this point last year. Let me turn the call over to Joe, he will take us through the balance sheet.

Thanks, Curt. Regarding the current quarter balance sheet metrics we grew our cash balance by over $18 million to end the quarter with $166 million. Of this amount approximately $49 million located internationally. Cash flow from operations for the quarter totaled $42 million compared to $56 million for the same period last year. Capital expenditures of roughly $8 million are down from the $10 million spent during the second-quarter last year. Our plan is to continue our conservative capital expenditure spend levels for the remaining of the fiscal year; we are targeting $30 million in expenditures with $16 million already spent in the first half.

Adding to our cash reserves we have $237 million available on our five year $250 million revolving credit line. Considering our available revolver and our cash reserves, we are confident in our ability to continue funding our strategy and we feel well prepared for the uncertain times ahead.

We completed the accelerated share repurchase program in September with the final settlement of 2.1 million shares; in total our share count is down 12% from the year ago levels. This did not have a cash flow impact as the payments occurred in prior periods. Our current plan is to conserve cash, hold off repurchasing stock until the business climate becomes more stable.

We are in compliance with all of our debt covenants. We are currently running with a leverage ratio of approximately 1.3 times debt to EBITDA, which is toward the low end of our targeted range of one to two times debt to EBITDA but given the current market conditions is appropriate relative to our capital structure and business strategy.

Our debt position remains fairly conservative. We do not have any principal amounts coming due in the near future. In fact our earliest debt layer to renew or repay is $175 million due in March of 2011. That is it for now on the balance sheet for the quarter. I will hand it back to Curt.

Joe, thanks. We have not provided guidance, as Brian mentioned, in the press release. We believe the uncertain picture caused by the current economic climate does not provide us with sufficient visibility to confidently publish a sales or earnings range. The traditional drivers of demand in our industry, corporate profits, service sector employment and non-residential construction have seen or are expected to see declines at least for the near term.

In addition, this time of year always poses a challenge as we enter the holiday season which is typically slow for our industry. Adding this to the current economic uncertainty leaves us simply without a very good picture of our near-term expectations. However, our best two internal indicators of future volumes are order rates and backlog. Our order rates for the second quarter declined to a level of about 26% below the same time last year, 19% lower if you consider the effect of the price increase. Our beginning backlog is also down approximately 19% from the prior year.

We believe these two indicators begin to frame up how to think about our revenue projections for the next quarter. From a gross margin perspective we expect to see some good news starting in the third quarter as a result of lower commodity costs. This should drive a benefit of $3 million to $5 million when compared to the second quarter's results. As expected, this will be offset by lower production volume and our seasonal shutdown over the holidays. However, our cost reduction efforts in the overhead areas will also begin to mitigate the effects of lower volume.

From an operating expense perspective as we have discussed, our cost reduction actions have been implemented and we will see the benefits of these actions beginning in January. We expect the actions taken to further reduce our expenses compared to our second-quarter rate which when combined with our actions taken in the overhead areas place us on track with our previously described $60 million annual savings targets.

In addition, we will also realize reductions in variable expenses, such as warranties, royalties and sales and distribution costs if in fact our volumes are lower. It is also important to remember that approximately $21 million in restructuring charges will also be included in our third-quarter results.

We have great confidence in our ability to continue serving our customers well and at the same time in adjusting our costs and maintaining our financial flexibility to meet current and future business conditions. Let's turn the call back to the operator, and we will take your questions.

(Operator Instructions) Chris Agnew, Goldman Sachs.

Thank you. Good morning. First question on your annual savings of $60 million. Will you be achieving a sort of $15 million quarterly run rate by fourth quarter, assuming third quarter would still be too early?

It will feather its way in throughout the rest of this fiscal year. We will see, as Curt said, some of it starting in January although that will probably be a little bit lighter because there are some folks that, while they are leaving us there is an extended period for them. There will be -- it will gain speed in the fourth quarter, and I would think by the time we get to the first quarter of next year we will be fully implemented. Partly that is just the transition of folks, if you will, from one spot to another.

The second question, have you seen any weakness in state or local government spending given the fiscal problems that they are experiencing?

No, actually not, Chris. It is Curt, good morning. The government continues to be fairly strong. In fact, the state and local governments were actually running stronger than they had been over this past couple of quarters. I think we commented on that before, as well.

Okay, thanks. And final question, is there any experience from 2001 to 2003, is there any change in product mix? Do you typically see as volumes are declining that impacts gross margin in any way?

Well, I would say a couple things. First, the international business has grown quite rapidly through increased distribution of seating products. And as you know, those seating products carry higher margins for us. So as John Portlock in the international business has started to sense a slowdown in some of those regions, that if those regions are more dependent mix wise towards seating that could affect his business. However, he is seeing growth in certain areas around his patch. But for the most part I don't think we've seen significant change in mix in the North American business.

Not yet. I think last time, Chris, if you went back to it, we did to see a bit of a movement last time towards seating and storage; more drop-in products. Because I think part of that is you are seeing less of the major project stuff but you are still seeing the drop-in work. Now whether that will repeat itself or not I don't know but I think last time if you went back and looked by product category, the bigger drop-off was actually in the systems category, which as you know we tend to have higher margins in the seating area. But of course you sort of lose that in the absorption picture when you look at it overall.

Thanks very much. Thank you.

Budd Bugatch, Raymond James.

Good morning, Brian, good morning Curt, good morning Joe. To start off talking a little bit about customer visits, if you would, we talk about backlog, and I know that usually works for the first half of the quarter or so. But I know that you monitor your customer visits and how that looks out longer-term. Have you seen a drop-off on that? And is that a significant -- Brian, I know you look way out in the horizon, too, with talking to the sales force. Can you give us an indication of what the appetite looks like out there even outside of this period?

Joe probably has the tracking numbers on his fingertips there, but we have been very busy here. I think we've all seen a lot of activity with folks coming in but Joe, I don't know if you have a --

Yes, the metrics specifically on customer visits, but, they were actually up from where we were at the first quarter. So first quarter, second quarter we saw a slight uptick in customer visits. Year over year down slightly; but nothing dramatically shifting in that area.

I think one of the things you find, Budd, -- this is Brian -- is that I think makes us visits happened faster I think, as the downdraft if you will, when we went through that period when every day in the news people were watching what was going to happen in the financial sector. That drop was pretty swift, and so I think when you look at customer activity companies had yet to filter that down throughout their organization. So we still had lots of folks who had plans in process coming forward. And I think even as I have listened to the salesforce talk about this, we have had lots of cases of customers saying, yes, we still plan to do this; it is a matter of when, not if.

So I think we are in that period where folks are holding on to cash. I think all businesses are doing that, and in fact all their bankers are telling them to do that. So we are in that period of time that people are holding onto cash, but so I think the visits have kept up because people are still trying to plan for themselves as to where they are going to be when things get back to normal, if there is a such a thing.

Yes, have you seen many of those organizations within companies start to get trimmed and downsized like many companies are doing in terms of reducing the employment?

You mean employment in terms of the facilities folks?

Yes, that would be obviously if they cut back those folks, then that appetite goes away.

I don't know if I can comment on any specific trends around that. I don't know that -- I think part of the thing we are all dealing with, and maybe you've got better information than I do, but these employment reduction announcements have been sort of fast and furious. I don't know that many have been implemented yet. So unlike us who we not only announced, we implemented, so I can tell you exactly who is here and who is not here. I think most of those announcements have been almost forecasted reductions more than you've actually seen the folks leaving. And I think that makes it a little harder to pick right now what is going to happen on the other side.

But certainly I would say we have not seen major reductions in the facilities side. If there is an area we've seen employment reductions in that are sort of along those lines I guess it would be in the -- and I know you watch this I see it in some of your writing -- in the architectural and design firms there certainly has been some employment reductions throughout that group. Sort of which are specifiers. Now one of the things you've heard is that much of that pullback has come as a result of some of these sort of ancillary areas that have been pulled back pretty hard, too, like hospitality is my understanding have pulled back pretty far. Things like stadiums, those kind of deals have been pulled back pretty hard. So exactly how much of that relates to folks that would be interfacing with us or not I think is still a debatable question.

You normally keep a figure of the project business versus what I call regular or over the transom business. Do you have that for what went on in the second quarter?

Sure. Again, that was another one that was pretty stable. Projects were about 41% -- and this is again in the North American business where we track that, which is pretty consistent with the prior quarter and what we saw last year, as well, too.

And when look at the savings of $60 million annually, can you parse that out for us maybe with what is payroll and what are other kinds of components of that savings?

Maybe Joe has got the --

Yes, the $60 million split 50-50. Half of it, or $30 million is compensation related and $30 million is non compensation, programs and other activities.

Right, and part of the $60 million, Budd, is in overhead, as well.

That's true.

You've got part of this showing up in OpEx, part of it in cost of goods sold.

It is about $10 million in overhead numbers and $15 million are in SG&A.

And do you have the dollar numbers for the North American orders and non-North American orders and how much of the pull through for the pricing effect did non-North American? I thought that was only in North American (multiple speakers).

They were on a different time schedule, so the $35 million we talked about is all the North America piece.

Okay, all right, so when you look at the -- a few orders, will that be in the Q the orders for North America and non-North America?

Yes, it will.

Do you have those numbers or can you disclose them now or should we wait for the Q?

They are working over the holidays to get me a draft. I haven't seen it yet.

I don't have those at my fingertips right now.

Okay, thank you very much. Good luck. Well managed during this time period.

Thank you, Budd.

Todd Schwartzman, Sidoti & Co.

Good morning, gentlemen. What are you seeing, and have you seen in cancellation of any large projects, and where are they concentrated in terms of geography?

I don't -- we have certainly seen deferrals more than we've seen cancellations. So that is always an interesting question about does a deferral become a cancellation. I don't know that there has been any particular concentration; as Curt mentioned we had seen some deferrals in the UK when we were in the first quarter. Some of those got completed, many of them got completed in the second quarter. Certainly I would say the places that have seen the majority of that sort of activity have been in the financial services groups in particular, where they've deferred things out as they've been having to obviously scramble to hold onto cash.

Some of those you've got to keep in mind, those are not necessarily orders we had in hand. Those were prospects, so it is not as if we had an order then it was canceled as much as it was a prospect that then got deferred out in terms of when we thought we would see the order. And I know of one that we had in the Southeast that was a deferral that we hope is going to come back online here as we get into the spring. But I don't think there was a specific pattern to it that I know of.

The comment I would add to Brian's on this, Todd, is that the total number of projects we are tracking both in numbers and dollar volume continues to increase. That is not to say that some of those projects haven't been put on hold and not all of those are necessarily short-term business, so we have a pretty big funnel. We look at a lot of stuff. Some of the things in that funnel have been deferred or start to slow down, but the total number and the total dollar value of what we are tracking is actually up from over the past several months.

When you say tracking, are you simply working harder to find out what is upcoming and what is out there?

These are sort of universe of potential to consume sort of situations. So we and other competitors are probably looking at these things, they are probably on their tracking radar, too. But from an overall macro perspective our project activity, the things we are looking at and the things we are pursuing has not declined. So it is back to the question I think Brian was alluding to a minute ago. There may be some capacity to consume constraints but the fundamental demand feels like it is still there, it is just a matter of when some of this stuff is going to occur that we are having a difficult time predicting right now.

Got it. Now with the corporate office market, the traditional customer activity declining, what percentage of the Q2 sales were to government, healthcare, education, combined on a worldwide basis?

To be honest, Todd, we don't have that level of granularity today in front of us. I don't know that we've seen a big shift of that yet. It is likely that we will see a shift towards government tends to run a higher percentage when we get through these periods of time barring the question we had earlier around state and local government which has held in so far. But to be frank I just don't think we have that level of detail right now.

Okay, and also just shifting to the cost reducing activities, thus far the ones you've talked to are centered on North America. What are the opportunities for savings outside of North America? When might we hear more of a formal announcement, if you will, on that front?

Todd, they were not centered on North America. We actually all the changes we made were global in virtually across all areas of the business with the be one exception. We did not make many changes although there were some in the healthcare business because it was growing so rapidly. In fact, it is really two areas that didn't see a lot of change, healthcare and retail, retail because it is fairly small in terms of infrastructure but generally it was across the globe where we made the changes.

Now I say that. It doesn't mean it was even everywhere and in fact if you looked at the international business, more of the changes were in the UK than they were anywhere else. Asia because it was continuing to grow and South America, we made fewer changes in some of those areas. So it was more disproportionate, and it wasn't equal across even functions, if you will. But I would say all areas of the business did some level of change as a result.

But on the whole and in the aggregate, is the absolute dollar amount consistent with your sales mix geographically?

You got to be a little careful with that. I would say not necessarily, but remember it because we leverage a lot of the infrastructure in the US for all of the other businesses. You remember our business model for the most part is we have in a four sort of market facing units, and then we have four kind of key centers of excellence. Most of those centers of excellence are centered in the US, quite frankly. So we leverage much more of that infrastructural cost. So it's never going to look even if you try to look at where the costs are geographically versus where the revenue is.

Okay, and finally, were you able to realize as much price as you had hoped to?

I think the answer is we are still pretty early days after the price increase, so I don't think that we actually have enough data to even draw a conclusion. Remember we just got the price increase really this quarter. Most of what we saw coming in of course we've always said this, is a bit of a lag because we have long-term contracts with folks that have price holds for periods of time. So was a little less than we may have thought of at this point, but I would say way too early to conclude anything.

Thank you.

(Operator Instructions) Matt McCall, BB&T Capital Markets.

Good morning, everybody. I'll follow up on that last question. Curt, I think you said maybe a $3.5 million benefit sequentially from maybe easier inflation. Does that include any benefit from price?

No, Matt, it is $3 million to $5 million is what we talked about relative, and that was commodities related. That is not factoring in any expected benefit on that number relative to price realization.

I know it is tough, but is there still an expectation that there will be some price benefit showing up next quarter?

A little. I mean, I don't know that we are forecasting that for the way we are rigging the business but for sure we would look for those opportunities where they present themselves.

Okay. And then you gave kind of some of the puts and the takes that will impact some of your margins; volumes down, shutdowns are going to impact you, cost savings will help, cost declines will help, points like price is another variable. Maybe help us understand that a little bit more. Looking at the fixed and variable costs in your model right now both from the cost of goods and SG&A line, I don't know how much detail you can give, but in general what does that look like now? What do the incremental margins look like going forward? And then how does that compare to the '01 versus '03 timeframe?

I can give you a little bit on the fixed and variable pieces, which might help fill in the blanks a bit. On the cost of goods sold side, so on our cost structure, as you know on the cost side our overhead costs run 12%-ish of sales. I think last quarter that was around $60 million in overhead costs. Those numbers on the down side, so those volumes come down tend to be around about 90% fixed. So you can use that as a rule of thumb to guide you.

On the SG&A side, our SG&A expenses tend to be again on the down side, tend to be about 80% fixed, so around 20% variable. That excludes any of the discussion around bonus. I'm sorry let me go back on that one. The 20% included the bonus in there. They tend to be somewhere around 90% fixed even on the SG&A side on the down cycle. And then the bonus is the other part of it, which moves as you know with our EVA results and gets tracked differently.

I think what you got to keep in mind, Matt, is that I think when everybody talks about costs being variable, and we believe we've got a pretty good variable model, that is sort of a step function question. So if you are moving around in that kind of 10% up, 10% down, it adjusts pretty naturally. When you get outside of that a lot of costs that once looked variable all of a sudden get fixed unless you take specific actions to make them variable. Hence the decisions we made this quarter to say we are going to have to do something once we start seeing order entry rates that are running, as Curt said, 19% down. We have to do something to be able to continue to see the costs be variable at all.

So the real question is, the first increment of 10 points down or so is relatively natural because as Joe said, the bonus and other things that we set variable with volume levels or profitability levels, and of course those go hand in hand, that moves naturally. Once we get beyond that, then the tough stuff starts to come into play that says to get it to be variable other than the ones that are obviously variable like materials, you've got to start to take actions to get them to move in a variable nature.

It sounds like because there has been this sudden step function down that you are not going to be able to recognize the full cost savings, you're not going to see the full benefit of cost declines or price. The Q3 could be maybe an exacerbated move to the downside on margins before you start to push through some of these variable cost changes. Am I hearing you correctly?

I think Brian did comment about the timing of when we would see some of the cost savings initiatives that we just went through right, those cost reductions. Just kind of getting implemented now, so we won't see the full effect of those in the third quarter. So your point of the volume is going to be down in third quarter, we are not going to have all those cost savings initiatives in place. That would be correct.

The other point I was trying to make, Matt, is as you look forward and you start thinking about models, sometimes I think people get carried away with how variable things really are because it depends on how fast they move and over what time frame. They move, but they move largely in some ways and depending on how many actions you can take to make them move.

Right, okay. That's fair. And just curious, you spoke with us last on November 10, and you gave us a guidance range. The reported number came on the top line came in at the low end of that range. Obviously things got weaker. I understand that. But just curious if there was, was it the project activity, was it the day-to-day activity, was it everything that kind of deteriorated and kind of surprised you to make things, to make the top line come in at the low end of your revised range?

It is not anything in particular, Matt. It is certainly in some situations we invoiced directly on certain large projects and if those don't get completed on the schedule, that gets wrapped up in our delayed invoicing, which is part of the reason you see inventory up slightly. It is an inventory issue relative to our production. It is more of the work in process moving towards a project that we may have taken directly and we've got the exchange rate effect of some of that in there, as well. So, which we were trying to anticipate the effect of and that is fairly significant for the quarter.

I think, Matt, that is more, besides the factors of FX that Curt mentioned, I think that is more not a result of any specific thing as much as the nature of the beast right now with how fast people are moving and making decisions. Coming into this quarter if you would have told us we were going to see the number of layoffs that we saw in the general economy I don't think anybody would have predicted that. I think that is what is happening as things are moving fast enough, and as companies are reviewing what they can do they are trying to pull on any lever that they've got in their hand. So I think it is more that side of things that it is fairly choppy out there.

Okay. Thank you all.

Leah Villalobos, Longbow Research.

Thank you. I was just wondering about a little bit more about your customers and how much business you are getting from new customers at this point versus existing customers and how that is changing.

I don't know if I have that detail with me. I mean, Joe gives us the project versus base business numbers, which we typically talk about. I don't know if I have anything right here on that basis.

I don't know if that is a number that we specifically do a lot of detail tracking on new customers versus existing customers. We track it by kind of project size, but.

We track it. I just don't know if we typically talked about it in the call, and I don't know if I have it with me.

Okay. Thank you.

With no further questions I will turn the conference back over for any additional or closing remarks.

Thank you all for joining us today and for your continued interest in Herman Miller. I will also want to express again my appreciation to all Herman Miller employees for their outstanding work and commitment to our shared success. The recent uncertainty in the global markets and difficult view of the next several months challenge all of our stakeholders. We have solid plans and outstanding committed teams in place to keep our business moving and gaining strategic strength.

We are committed and confident that we will have the right long-term vision for Herman Miller, a strong network of business partners to make it a reality and the financial resources to keep it moving forward. On behalf of myself, Joe Nowicki and Curt Pullen, we wish you all happy holidays and a great new year, and we look forward to talking to you all in March. Thanks.

Once again, ladies and gentlemen that will conclude today's conference. We thank you for your participation, and you may disconnect at this time.