Modine Manufacturing Co (MOD) 2010 Q1 法說會逐字稿

Good day ladies and gentlemen and welcome to the Q1 2010 Modine Manufacturing Company Earnings Conference Call. My name is Keisha and I'll be your operator for today. At this time all participants are in listen-only mode. We will conduct a question-and-answer session towards the end of this conference. (Operator Instructions).

I would now like the turn the call over to Ms. Susan Fisher, Director of Investor Relations and Corporate Communications. Please proceed, ma'am.

Good morning and thank you for joining us today for Modine's first quarter fiscal 2010 earnings call. With me today are Modine's President and Chief Executive Officer Tom Burke and our Executive Vice President of Corporate Strategy and Chief Financial Officer, Brad Richardson. Tom will lead us off today with opening remarks and his perspective on the business amid challenging economic and market conditions. Brad will follow with a review of our financial performance and an update on our liquidity. Finally, Tom will wrap up with comments on our business strategy and specific actions we're taking to strengthen our business. We will then be happy to take your questions.

We will be using slides with today's presentation. Those slides are available through both the webcast link as well as the PDF file posted on the investor relations section of our company website, modine.com. Also, should you need to exit this call prior to its conclusion, a replay will be available through our website beginning approximately 2 hours after this call concludes.

Before we begin, I would remind that you that this call may contain forward-looking statements as outlined in today's earnings release as well as in our company's fillings with the Securities and Exchange Commission. And now with that it is my pleasure to turn the call over to Tom Burke. Tom?

Thank you, Susan, and good morning everyone. Clearly the global research recession continues to challenge our business. Sales during the first quarter of fiscal 2010 were down 42% versus the prior year. As we have communicated on prior calls, our teams around the globe have met these challenges head on and our confidence is building as we continue to execute on our four point plan consisting of portfolio rationalization, manufacturing realignment, SG&A costs reduction and capital allocation discipline. This framework has been invaluable in focusing our actions and maintaining alignment across our organization.

During the first quarter, we did see our sales stabilize versus the fourth quarter of fiscal 2009. It is too soon to declare that we have reached bottom and we anticipate the next several quarters to remain challenging. However, we saw the stabilization of sales levels as a positive sign. At the same time we're also encouraged by the sequential improvement in performance of the business from Q4, 2009 to Q1, 2010. The difficult SG&A actions and manufacturing cost reductions, as well as the impact of our significant repositioning undertaken in fiscal 2009, are now flowing through and favorably impacting our financial results.

In terms of portfolio actions, during the first quarter we completed the sale of our non-core passenger thermal management China joint venture for $4.9 million resulting in a $1.5 million gain. And we continue to actively market our Modine Korea business. As we move forward into fiscal 2010, I feel positive about the rate of new customer orders, including a notable new order from a major truck manufacture utilizing our patented new Origami heat transfer technology. These new business wins underscore that the fundamental growth drivers of our business, chiefly emissions reductions, energy efficiency and infrastructure investment, are squarely intact and driving our business forward.

This market downturn has been challenging in general to relationships, but our focus now is in growing our strategic customer partnerships as the global economy returns. In parallel to our efforts to reduce costs, we continued to aggressively drive the leadership principles that are the core of the Modine operating system to enhance our culture of continuous improvement. Continuous improvement is becoming a way of life at Modine, which will help us to sustain our growth and our value to our customers. The next several quarters will remain challenging. However, our shareholders and investors need to know that we are engaged and prepared to take additional actions if needed as we move forward.

Turning to slide 5, you can clearly see the evidence of our progress reflected in these sequential performance trends. As I mentioned earlier, Q1 fiscal 2010 sales were relatively flat to Q4 as shown on the sales chart. In the same period we were able to reduce our SG&A versus a prior year quarter by $20 million. The five sequential quarters of reduced SG&A now is at an annualized run rate of approximately $160 million for fiscal 2010 versus the previously annualized run rate of $240 million in fiscal 2009.

Despite the flat quarter over quarter sales, in Q1, with our aggressive actions, we improved gross margins on a sequential basis by 480 basis points to 14.1%. This is our highest reported gross margin in four quarters and a direct reflection of lower material costs, but also more significantly our company's concerted efforts to reduce both direct and indirect cost.

As the final chart on the right indicates, adjusted EBITDA for the quarter of $16.8 million is also up significantly compared to the previous two quarters. This is well ahead of our bank covenant commitments.

It is clearly premature to declare victory and we must and will remain diligent to deliver Modine through this recession. Yet I am obviously very pleased with the sequential performance trends of the company and this has strengthened our confidence that we will survive the recession and come out a stronger Modine.

At this point, I would like to have Brad Richardson, Executive Vice President and Chief Financial Officer, to present the first quarter highlights and an overview of our financials. Brad?

Tom, thank you and good morning to everyone. Today Modine released its first quarter 2010 results for the period ending June 30. Before I get into the detail for the results, I want to underscore three key messages related to our financial performance.

First, as Tom mentioned the end market for our products in both the vehicular and commercial products remains very weak. Secondly, the company continues to manage the controllables with over $100 million taken out of our cost structure versus the comparable cost structure a year ago. The elements of Modine's four-point plan are working. And finally we continue to perform well relative to the minimum EBIDTA financial covenant established in February, providing the company access to liquidity to support the ongoing restructuring and growth investments.

On slide 8 we show select quarterly financial information for fiscal 2009 and the first quarter results that we are releasing today. Starting with the sales level, you can see that our overall sales of $254 million were relatively flat versus the fourth quarter fiscal 2009, providing us a good indication that we are seeing stabilization in the market place.

What is most noteworthy is the significant improvement in the gross margin, as Tom mentioned, increasing over 480 basis points versus the fourth quarter of fiscal 2009. As we indicated in our last conference call, significant actions at that time were underway to dramatically take costs out of the manufacturing operations. These actions have been delivered in this quarter.

The SG&A expenses continue to drop and are expected to level out at the current level for an annualized run rate of approximately $160 million. Cascading to the bottom line the pre-tax and adjusted EBITDA results improved markedly due to the favorable gross margin performance.

Modine did use approximately $20 million in cash during the quarter as the positive cash flow from operations was insufficient to fund the high level of capital investment, which consisted of commitments made prior to the economic slow down. The negative cash burn was funded through a draw down of excess cash balances.

Slide 9 shows the P&L for the first quarter fiscal 2010 versus the first quarter fiscal 2009. That is comparing a deep recessionary period versus a pre-recession quarter, a very difficult comparison. Modine sales declined by 42% or 38% if we exclude the impact of foreign currency, as we saw the impact of the global slow down across all of our markets except the startup operations in Asia. The decline was most extreme in Europe driven by lower automotive build rates and commercial vehicle production.

The lower sales translated into a drop in the profits earned in our manufacturing operations declining by $37 million. As we will cover further, we were able to stem some of the decline through aggressive cost reduction actions and lower raw material cost. Further, we reduced SG&A expense by $20 million, reflecting to very difficult actions to reduce our salaried headcount by approximately 25% and our management ranks by 35% and aggressive control over other expenditures across the board.

The overall impact of these factors was a pre-tax loss of $4.6 million. Modine's EBITDA adjusted for the add-backs of restructuring and impairment charges as defined in our credit agreement was $16.8 million. On slide 10 we have presented Modine's results on a reported basis and excluding the impact of unusual items including restructuring charges and impairments. Excluding these factors does not significantly change the message; the overall results were down on all profit measures as the significant actions to reduce our cost structure were not sufficient to offset entirely the decline in revenues driven by the full onslaught of the global recession.

Slide 11 reinforces a very strong message. Our organization is highly focused on what we can control. Focusing on the fundamentals, the theme of our annual report. We have shown the gross profit as a percent of sales and the adjusted EBITDA for the first quarter of Fiscal 2009 bridged to the most recent quarter. Turning to the left graph, in the first quarter of fiscal 2009 our gross margin as a percent of sales was 16.6%. The benefit of lower material cost added 5 percentage points to the bridge and our manufacturing cost reductions added 2.9 percentage points to the comparison. Unfortunately, these were not sufficient to offset the impact of the lost variable cost margin on the $184 million in sales reductions.

On the right side, you can see the absolute dollar impact of the favorable materials and the controllable cost reduction activities in the manufacturing plants and in our SG&A cost structure. Again, although sufficient in absolute terms these factors were not sufficient to offset the approximate 30% variable contributions on the lost sales revenues. As noted at the bottom of the slide, these cost reduction actions do position the company for significant operating leverage when the markets begin to recover from their recessionary load.

Turing to slide 12, the left side of the table shows the change in sales by segment on an absolute basis and without the adverse impact of currency translation. Most notable is the decline in sales volume out of Europe driven by the decline in the automotive and commercial vehicle markets. I would also draw your attention to North America where we saw our revenues decline by one-third as the overall commercial vehicle build rates declined by 55% and our agricultural and construction end markets face significant recessionary pressures.

Further, I would add that our South America and Commercial Products businesses, although they have held up reasonably well, saw material declines in the end markets. From a segment operating income standpoint the far right column shows the change in profitability, excluding the impact of foreign exchanges and other unusual items. The overall decline in operating income was driven by Modine Europe as depressed volumes and under absorption of fixed manufacturing costs had a negative impact on income delivery versus the prior year.

In the North American OE segment, despite the weak market demand, North America results improved to a slight positive driven by the intense cost focus, favorable material costs and much better operational performance. South America and commercial products businesses maintained relatively strong performance, despite the weakness in their end markets. The comparison on slide 13 shows the sequential performance of each of the segments to give you an understanding of how each of our segments is operating during the depth of the economic downturn. The top half shows the sequential trend in sales revenue. From Q4 fiscal 2009 to the first quarter of fiscal 2010, the revenue was roughly flat as higher revenues in Europe driven by a 20% increase in modules delivered to BMW were offset by further weaknesses in North America as the commercial vehicle build rates declined by a further 10%.

What is evident is that the cost reduction actions and material savings are flowing through, positively benefiting the sequential performance comparison. We had indicated in our previous earnings call that the significant reductions in manufacturing cost were effected late in the fourth quarter. These benefits are flowing through and have significantly improved the results out of Europe and more than offset the market weakness in the North American business.

On slide 14, you can see the cash flow summary for the first quarter of fiscal 2010. Also provided for reference are the fiscal 2009 and fiscal 2008 periods. During the first quarter, Modine's operating cash flow was $8 million. We invested $27 million in capital due to commitments made prior to the downturn in the economy. The $27 million included outlays for new programs in our Joplin, Missouri plant where we are launching approximately $80 million in new EPA 2010 EGR programs. Further, the $27 million included outlays to complete the construction of Modine's new plant in Austria to support new condenser programs for Volkswagen. We still expect that our full year capital expenditures will be less than $65 million.

Our operating cash flows were insufficient to cover the $27 million in capital investment, resulting in a negative free cash flow of $20 million, which was funded through excess cash balances. As shown on the graph, Modine's overall net debt after remaining relatively flat started to increase in the fourth quarter of fiscal 2009, and increase further in the first quarter of fiscal 2010, again, driven by the front-end loading of our fiscal 2010 capital plan.

We do expect that net debt will decline in the second half of the year driven by divestment proceeds and lower capital investments. With regard to divestment, I would note that we continue to actively market the business in Korea. Even in normal times this would be a challenging process. It has been further exacerbated by the economic downturn in South Korea. We are in negotiations with interested parties, though there are still multiple hurdles to overcome in order to bring this transaction to completion.

In my final slide, slide 15, I would like to provide an update on our current liquidity situation and our expectations around covenant compliance on a go-forward basis. At the close of the quarter, Modine had capacity to borrow about $97 million as well as unrestricted cash on hand of approximately $24 million resulting in total liquidity of about $121 million. Access to the domestic credit lines require Modine to remain in compliance with financial covenants that were adopted as part of the February 17 amendments. As shown on the table, for the fourth quarter of fiscal 2009 and for the first three quarters of fiscal 2010 the company must achieve the stated minimum cumulative adjusted EBITDA.

The Q4 fiscal 2009 EBITDA of $1.7 million and Q1 EBITDA of $16.8 million yields a cumulative EBITDA for the two quarters of $18.5 million. This compares to the minimum cumulative adjusted EBITDA covenant of a minus $22 million, yielding a cushion of $41 million.

Looking at the last column on the table, in the fourth quarter of fiscal 2010 in addition to a minimum fourth quarter cumulative EBITDA covenant requirement of $35 million, traditional leverage and interest coverage ratios must also be achieved. Our first quarter performance, where we achieved nearly half of the full year required EBITDA, coupled with the launch of new business and the continued flow through of cost reduction should enable Modine to stay in full compliance with the covenant throughout fiscal 2010.

Let me now turn it back to Tom.

Thanks, Brad and, turning to slide 17, as we have discussed earlier, we continue to execute on the elements of our Four Point Plan. As mentioned earlier our portfolio rationalization actions continue with the sale during the first quarter of our China joint venture and we are continuing to actively market our Korean based business as Brad described. Although we have in cases delayed some of our previously announced plant closures as a means to preserve cash, we are targeting to close or will close a total of 7 facilities by the end of fiscal 2010. We keep a continual eye on our manufacturing footprint to ensure we maintain an advantaged cost position for our core products.

Our focus on the portfolio and the resulting manufacturing realignment is enabling us to maintain a strict discipline in terms of both capital allocation and SG&A planning. Our Four Point Plan is serving us well in aligning our organization and leveraging our critical resources. It's easy in these challenging times to become disconnected from both a strategic and organizational standpoint. The Four Point Plan framework prevents this from occurring.

In this recessionary climate I would note, however, if you will now turn to slide 18, that we are not simply cost cutting our way to prosperity. As shown on the lower graph on the slide, during fiscal 2009 our investment in research and development was in excess of $80 million or 5.7% of sales which is consistent with our level of R&D spending historically. Modine's research and development is resulting in both nearer term and longer term opportunities such as our Origami next-generation heat transfer technology, which recently received a significant new order from a customer in Europe to meet euro 6 emission standards beginning in 2012/2013 as well as our exciting work in waste heat recovery and several other prioritized technologies. Our waste heat recovery technology, which is being developed with a major engine manufacturer with funding support from the U.S. Department of Energy, as well as a project where a European commercial vehicle provider promises significant gains of fuel economy for commercial trucks. This technology shows significant opportunities in the five year time horizon.

Turning to slide 19, there is no doubt that the end markets of our business remain significantly depressed. Our latest projections for Class 8 truck builds in North America are now running at 105,000 units for calendar 2009. There are some possibilities of a small 2010 pre-buy to avoid pricing for new engines, and we would note that the overall fleet age is the oldest it has now been in decades. With that said, there's still an overabundance of fleets and we expect to see more consolidation. Hence, we are managing our business to a very conservative volume assumption.

Similarly in Europe, automotive sales are now projected at just over 10 million units for the calendar year. This is down from our previous estimate of 11 million vehicles, although we'd note that light vehicle production in Europe has been climbing since beginning of the calendar year. Again we have calibrated our business to be conservative in our assumptions.

Turning to the Off-Highway markets within agriculture, we have seen estimates of a 15% to 20% decrease in volume related to access to capital and cost of capital as well as investment risks. Within the construction market the decline has been even more pronounced, in some cases off by more than 50%, with building related equipment impacted the most severely. Road construction equipment is also down as stimulus money is not yet flowing through to generate new sales. Despite these depressed levels, Modine continues to win new business attributable to the fundamental growth drivers of the business and more importantly Modine's recognized expertise in thermal management and heat transfer.

In clear evidence of this on slide 20, I have listed a cross section of recent new program launches globally. In North America we are focused on protecting and leveraging our core strengths in the commercial vehicle and Off-Highway markets. In the commercial vehicle segment our next generation EGR business is ramping up nicely while in the Off-Highway we continue to win new orders from major Tier 4 programs. Although we are placing less emphasis on North American automotive market as part of our recent portfolio rationalization initiative, our forecast and mix in recent launches remain favorable with no material impact from recent GM and Chrysler bankruptcies.

In Europe, despite the weak automotive volumes, we are winning new condenser programs with premium automotive manufacturers. We also continue to make inroads in the off-highway market with new orders for our Tier 4 cooling modules. And very notably as I mentioned previously we recently received our first series order from a major commercial vehicle producer to meet Euro 6 standards using the Origami technology.

In Asia our new facilities in Chennai, India and Changzhou, China are now fully operational and serving as a platform for multiple oil cooler and cooling module launches. The strategic importance of these facilities is notable as we gain market acceptance and solidify developmental teams, supplier agreements, and customer relationships with both local and international customers.

As noted on the slide, our Commercial Products business also continues to win incremental business in both North America and Europe with a steady stream of high efficiency offerings. As I mentioned last quarter and again in our annual shareholder meeting, our commercial HVAC business will be a high priority for future growth.

In conclusion, although we anticipate the recession to continue to challenge our business for the next few quarters, we are encouraged by our first quarter financial results reflecting sequential improvement and the favorable impact of our cost reduction actions. While sales remain depressed, we are seeing strong indications of relative stabilization sequentially versus the fourth quarter fiscal 2009.

We are actively investing in new technologies and programs while re-focusing our product portfolio to ensure we have the right products and technologies in place. Current customer orders are tracking to our expectations, driven by our innovative technology solutions as well as continued fundamental growth drivers including the world's demand for emissions reductions, energy efficiency and new infrastructure investment.

As we move forward, we are cognizant of our need to remain ever diligent with respect to our cost structure, capital investment and preserving our company's liquidity. Yet as we do so, we also are highly energized around maintaining our technological leadership in the thermal management and delivering on our customers' commitments. This combination gives us the determination and momentum to bring Modine through the recession and to emerge a stronger company as market volumes recover.

Thank you and, with that, we will take your questions.

(Operator Instructions). Your first question comes from the line of [Janet King] with JP Morgan. Please proceed.

What do you view the maintenance CapEx level? Because the $27 million that you had for this quarter was clearly higher than what you view on a maintenance, is that correct?

Yes, that's correct. Again, the $27 million was high, it was front-end loaded for the full year and the expenditures were in support of the EGR programs here in North America that Tom spoke to, as well as finishing up our new plant in Austria. We historically have said the underlying kind of base maintenance capital for the company is in the kind of $10 million type range with the balance of that capital being used to fund programs with specific customers.

All right, thank you.

Sure.

Your next question comes from the line of David Leiker with Robert W. Baird. Please proceed.

Hi, good morning, everybody.

Morning.

Morning, David.

Are you, as we go through earnings here and there are a lot signs and evidence of things stabilizing; there aren't very many signs of things improving. Is there anything you see out there in your end-markets where you feel somewhat comfortable that sequentially there is some improvement?

Not really, David, I mean right now, we take relief when we see this stabilization. We've seen some impact potentially on this Cash for Clunkers and some incentives in Europe maybe raising sales as we mentioned in Europe a little bit, but we are going to hold on conservatively with our forecast on our projected lines as I mentioned. Right now it looks like it's going to be a tough road for several quarters.

Yeah, it's a lot better than it has been, so I think that's a good first step, right?

Right.

As you look forward, on this $100 million in new business, is an annualized number or is that what we should see in your 2010 fiscal year? How should we look at that?

Yeah, and this is consistent with the message that we delivered, David, at the last call is if you kind of take the $250 million of revenue that we had here in the first quarter, you've annualized that -- that's about a $1 billion base and then there's $100 million of new business on top of that, such that our full year revenue projection is in the $1.1 billion range.

Okay, great and how do you think that flows quarterly? Is that evenly, or is that $100 million going to be back-end loaded?

Yes, I mean I think it will be back-end loaded, just the timing of the launches, for example, the EPA 2010 programs kicking in here in North America and the launch of various programs in China and India. So, I mean I think you should be thinking about that as having a modest impact in Q2 and then kicking in much more significantly in Q3 and Q4. Again that's the net incremental business.

Okay, and --

With the underlying markets being stable.

Okay, great. And then I am guessing on what you have listed here on slide 20 is the bulk of what makes up that $100 million?

Right.

Is there any one particular or two particular pieces here that are large enough that could move the needle one way or the other if they come on more quickly or they're pushed off a little bit?

As Brad mentioned, the EPA '10 launches clearly have the biggest impact as far as total sales. With our small exposure in India and China to date coming off a very low base, those increases will be significant and we would like to see the China economy maybe kick those in a little bit higher as part of that opportunity. But I would say mainly it will be the North American launches for this fiscal year that will have the biggest impact.

And then lastly is there -- well, I have two things left. As we look quarterly going forward, what should we be looking for in terms of incremental costs as you execute your four point plan here versus the timing of the savings coming in? They seem to be close to costing each other here where the savings are bigger than the incremental costs.

Yes, I mean I think, David, that the majority -- you can even see that the restructuring charges that we took, and repositioning charges that we took in the first quarter is declining rather significantly as again the significant costs we've incurred as a result of the SG&A reductions, as well as the indirect and direct cost that we took out of the manufacturing plants were are largely incurred in 2009 and, again, a little bit in this first quarter. So, it is phasing down at this point. I mean, I think the restructuring costs for the rest of the year should certainly be in the less than $10 million type range.

Okay, that's great. And then the last item here, is this your first order for Origami?

It is our first serial order, yes. And again it is with a significant manufacturer, although we have development orders underway as well. But right now it is our first serial order.

And what's the timing for the launch on that for hitting your Euro 6?

I said 2012, 2013. And as you know there's kind of a phase in approach over there so it's going to be in that time frame.

And then should we draw any conclusions from the picture that's on slide 18?

Well, you can draw whatever you want there. Good eye.

Thank you very much.

(Operator Instructions). And there are no further questions in queue. I will now turn the call back over to management for any closing remarks.

Well, thanks for joining us. Again our sentiment in the room, I hope you can feel it, is that we have a lot of positive and confidence building momentum building in the company, but you need to know that we also are very much focused on delivering on our commitments and driving this into an established trend that we can move the company forward in.

We're very pleased with the efforts of everyone at Modine around the globe to support what it's taken to get to this point, and we look forward to coming through this economic challenge as a stronger company. Thank you very much.

Thank you for your participation in today's conference. This concludes the presentation, you may now disconnect. Good day.