NN Inc (NNBR) 2006 Q4 法說會逐字稿

Good morning, ladies and gentlemen, welcome to the NN Inc. 2006 fourth quarter and full-year results conference call. This conference call is being recorded today, Wednesday, February the 28th, of 2007.

I would like to turn the conference over to Susan Garland of the Financial Relations Board.

Thank you, good morning. Welcome to NN's 2006 fourth quarter and full year results conference call. If anyone still needs a copy of this morning's press release, please call my office at 212-827-3746 and we will send you a copy. Before we begin we ask that you take note of the cautionary language regarding forward-looking statements contained in the press release. That same language applies to comments made on today's conference call and live lab tests available on www.earnings.com. With us this morning is Rock Baty, Chairman and Chief Executive Officer and members of NNs management team. First, management will give an update and an overview of the quarter and full year results, and afterwards we'll open up the line or questions. Now I'd like to turn the call over to Rock. Please begin.

Thank you, Susan. Good morning, everybody, and thanks for joining the call. I have Jim Dorton with me this morning, our CFO and VP of Business Development, along with Will Kelly our Chief Administrative Officer. Today Jim is going to offer initially in the call here an analysis and commentary on the fourth quarter and full-year results through December 31, of 2006. And then I'd like to turn the call back to me and I'd like to conclude the call with comments regarding an outlook for 2007 and an update on our overall business strategy. I'd like to turn the call over to Jim now.

Thanks, Rock. Good morning, everyone. I'm going to discuss the results today excluding the one month of operations for the new acquisition that we had, Whirlaway Corporation because that will give you a clearer comparison of our performance and then I'll cover Whirlaway's one-month results.

So excluding Whirlaway, sales in the fourth quarter were up about 7% from the same quarter last year from $76 million to $81 million. Most of this increase was due to the fact that the euro was stronger than last year, and our euro-based sales translated into more dollars. Without the euro effect, sales were up about 1%. So basically about flat with last year. During the quarter we made up any losses of shares to old customers with increased sales to new or existing customers. For the full year, sales were up $4.2 million or 1.3% to $326 million. About 1/3 of this increase was due to the stronger euro and for the rest, weak automotive segment orders and planned share reduction by Ina was offset by price increases for raw material pass-throughs and sales to new customers. We had $738,000 in other income during the fourth quarter which was primarily from the impact on intercompany debt of the strengthening of the Slovak koruna against the euro.

As mentioned before, we have now converted this debt into equity thereby eliminating future fluctuations. In Q4 last year we had a similar currency gain based on the koruna up $368,000. In addition we had $398,000 gain last year on a -- for the sale of land in the Netherlands and a $334,000 gain from the release of restructuring reserves in Europe. The tax rate for the quarter was 34.6%, down from 36.6% in the fourth quarter of last year. This is primarily due to making more money in low tax rate countries and some year-end adjustments to tax accruals. We think the tax rate for 2007 should be in the 35% to 36% range. Net income for the fourth quarter was $3.7 million or $0.21 per share. Again, this is without Whirlaway, compared with $5.1 million or $0.30 per share in the fourth quarter of last year. Translation of the euro -- of euro earning and the appreciation of the Slovak Koruna accounted for $0.044 per share in the fourth quarter versus $0.017 last year.

Compared with last year, gross margins were 3% lower due to higher startup costs in China and Slovakia and a less profitable mix of business during the quarter. SG&A expense was also higher than last year due to primarily to new accounting rules requiring the expensing of stock options. For the fill year, net income was $15.0 million or $0.87 per share, which was exactly flat with 2005. Gross margins were flat as well at about 22%. As a higher margin mix in the first half was balanced out by a lower margin mix in the second half. Currency impacts added $0.09 per share for the year, which tended to offset the higher SG&A expense for stock options, higher depreciation, the lower margin mix, and restructuring costs.

Compared with last year, we had a net $0.03 per-share benefit from the sale of land in Italy which happened in the first quarter, and our net -- our net -- our income tax rate was lower due to booking taxes and low tax rate countries as I mentioned, like Ireland and China, or $0.03 per share benefit. Netting it all out without Whirlaway, earnings for 2006 were flat with 2005 and sales were flat, as well in the bearing components businesses. With some of the increases in costs offset by currency, lower taxes and the land sale gains. Plus cost reductions from our successful level-three program.

Now, to Whirlaway. We acquired Whirlaway Corporation on December 1, so we will be consolidating one month of Whirlaway's operations into our 2006 financial results. December is not historically a good month for Whirlaway as sales are down seasonally. For December, Whirlaway had sales of $4.7 million versus an average monthly sales for the year of about $6.5 million. So at $4.7 million in sales, they were at break even from operations. In addition, there were several purchase accounting adjustments that we made in December.

The first is the elimination of profit on acquired inventory. We are required to write -- acquired inventory up to sales value so when it's sold there's no profit. This adjustment cost Whirlaway $603,000 in December. We don't believe there will be much if any impact of this adjustment in future quarters.

Next because of the step up in asset value, depreciation was adjusted upward by $46,000 per month. And we also booked and will book in the future $39,000 per month for amortization of acquisition intangibles. Finally, there was interest on the acquisition debt of $240,000. So combining the purchase accounting costs with break-even results caused Whirlaway to have a $598,000 after-tax loss in December or just under $0.035 per share. And Rock will discuss the 2007 earnings and accretion expectations in a moment.

So on a consolidated basis net sales for the quarter totaled $85.9 million, up $10 million or 13.2% from last year. Net income for the quarter totalled $3.1 million or $0.18 per share. For the full year, sales were $330 million, up $8.9 million or 2.8% versus last year. Net income for the year was $14.4 million or $0.83 per diluted share compared to 15 million or $0.87 last year.

Taking a look at the balance sheet which was presented within the press release with the Whirlaway added in, you can see the impact of adding Whirlaway in that assets are up $56 million from the third-quarter level. We added an estimated fair value of $53 million in assets for the acquisition. Debt ended the year at $103 million which included $48 million of acquisition debt plus other acquisition accruals. Subtracting this from the debt, it shows we repaid approximately $8 million of debt during the year. And this was slightly below our target of $10 million. Working capital needs in the fourth quarter offset other positive cash flow items, which kept us from quite hitting the target. Currently our debt to EBITDA ratio is 1.9 times, which still leaves plenty of room under our new bank facility which has a cap of 2.5 times.

During the quarter, we repurchased 249,000 shares of stock, bringing the year-to-date total to 437,000 shares acquired at a cost of $4.3 million and our share rematch program remains open. Capital spending totaled $19.5 million during the year, excluding $1.8 million which was spent to complete the S&R acquisition which was started in 2005. This was relatively high as we continued to build up our capacity in China and Slovakia. Capital spending for 2007 should be at about the same range as we have another 6 to $7 million to spend to complete the new plants. That concludes the financial comments, and now Rock will discuss strategic issues and the 2007 outlook.

Thank you. I'd like to close today's call if I could with comments regarding specifically our outlook for 2007 as well as some comments regarding an update with our business strategy. Let me begin with an outlook for 2007 revenue and an EPS outlook.

As Jim mentioned in his comments, we expect relatively flat revenue moving forward for our bearing components business in 2007 from 2006. We finished 2006 exactly on plan and exactly on the beginning of the year guidance that we provided at $325 million. We are forecasting full-year revenue in 2007 of approximately $400 million, with a $77 million contribution from our new Whirlaway acquisition, and our base bearing components business at $323 million. Our underlying revenue forecast is impacted by several factors. Overall, global economic conditions and our served end markets, currency, pricing, and net changes in market share and product programs. From an economic perspective, we really see no big changes in the end market demand dynamics that we experienced in 2006.

Down North American automotive is more than offset by slight improvements in European automotive, and again, very good demand in general industrial markets on a global basis. The vast majority -- as a result of these factors, the vast majority of our global manufacturing operations are forecasted to operate at relatively good capacity utilization rates during 2007, although it bears saying that our automotive in North America being down and housing starts in particular are impacting our short-term demand at our newest operation, Whirlaway.

Overall we are forecasting just over $2 million of increases associated with economics, which is essentially flat in comparison to 2006. Our revenue forecast reflects a belief that the overall continuing strength of the euro versus the dollar will continue for the upcoming year, and have a favorable impact on translation of our euro-denominated revenue of approximately $6 million or 1.5% of our 2007 revenue. Based upon new contract provisions with major customers, particularly in Europe, we anticipate price reductions of approximately $3.2 million for 2007 or 0.8% of revenue for the year. Finally, net market share gains and losses and new programs net to a negative impact of approximately 8 million. This again is principally associated with previously communicated share loss with Euroball contract expirations and renewals.

We did finalize a two-year contract with Ina in January of 2007 and we do anticipate the completion of a three-year contract extension with FKF before the end of the first quarter 2007. With respect to earnings, we anticipate EPS in a range of $0.98 to $1.04. The mid point of this range is up 16% from our 2006 result of $0.87 a share from ongoing operations. Some highlights associated with profitability changes year over year and improvements that we're forecasting for 2007, accretion from our new acquisition, Whirlaway. It's expected to be -- the accretion is expected to be in the range of $0.10 to $0.12 per share for 2007. In our core bearing components business, we're expecting improvements in operating results at Slovakia and China, and continuing improvements associated with our Level 3 program, and these two basic improvements in bearing components will more than offset volume reductions associated with market share losses in Europe and general cost inflation in our business. The resulting gross profit margins we see improvement in our bearing components business of approximately 1% on gross profit margins.

SG&A spending companywide as a percent of revenue will improve from 9.1% in 2006 to 8.5% in 2007. For the year we anticipate essentially flat gross profit margins of around 22.4%, the 1% improvement in bearing components I just mentioned in terms of margins improvement will be tempered by Whirlaway's first full-year margins that are less than our current corporate average. With slight overall improvement companywide and operating margins from 8% in 2006 to 8.2% in 2007.

Finally, let me conclude just, if I could briefly commenting on our strategic business plan from an execution progress perspective. Recall that we completed a revision to our business strategy in late 2005. This revision to an existing strategy that had been in place for around five years was driven by management and our Board's belief that our core bearing components business, the growth was slowing, and also by an underlying need and belief in our core business model that diversification in both served customers and end markets was necessary moving forward. This diversification could not come at the expense of abandoning our core manufacturing competencies or our core bearing components business. In other words, any new platform had to be closely related to our existing business to ensure both successful execution and integration moving forward.

In addition to the future growth objectives in our bearing components business that we've outlined over the next five years, fully developing this related precision metal component platform was a key element in our new strategy. Overall in the five-year planning period, we set five-year target for revenue and growth of -- growth of earnings of 15% on a compound annual growth rate. Which would more than double the revenue in earnings to NN by the end of 2010.

On December 1, 2006, as Jim mentioned, we announced the acquisition of Whirlaway. A critical first step in building our new metal component product platform consistent with the articulated business strategy I just mentioned. Whirlaway provides the following long-term benefits in our efforts to build this new platform. Manufacturing process and design engineering competencies that have allowed the business to more than double in size since 2002 from approximately $37 million in revenue in that year to $77 million in the upcoming year, 2007.

Whirlaway serves a variety of customers in diverse end markets that require technically challenging component solutions in a collaborative design and engineering environment with their customers. We've inherited an excellent management team and group of production employees in Ohio and Arizona. Fully capable, we believe, of growing the platform both organically and via complementary acquisition. NN provides from our part the new acquisition with global sales marketing network, an existing manufacturing infrastructure in global markets to expand the business globally, level 3 skillsets and the financial and management resources to grow the business in a strategic manner. Although our newest acquisitions margin -- our newest acquisitions margins are lower than our corporate average, we see long-term margin -- excuse me, long-term margin enhancement improvement consistent with what we've been able to accomplish with our other historical major acquisitions. In particular, product and end market targeting, Level 3 and higher capacity utilization rates associated with solid organic growth will provide future margin improvement.

Whirlaway provides NN with a complementary and healthy diversification in end markets, products, and customers. Current major customers include Emerson Climate Technologies, Caterpillar, Siemens, TRW, Eaton, Bosh, Delphi, Borg Warners, iTech, and MTD. Whirlaway's current served markets include automotive applications and power trains, steering, brake chassis, and engines. And this -- the automotive applications are focused on technologies and applications that improve fuel economy, emissions, and vehicle stability control. Residential air conditioning, diesel engine, and diesel fuel systems and appliances are further end markets. Each end market offers excellent organic growth opportunities based upon a focus of high value-added components and component assemblies. Based upon their current capabilities, we have targeted new end market diversification including such markets as oil and gas, medical, and aerospace.

Current automotive concentration in the Company is at 45% with about 60% of that 45% in big three, the traditional big three-served customers, while 40% comes from transplants. The automotive concentration based upon our five-year strategy for the business is headed to 30% based upon targeted new end markets and additional acquisitions. In summary, we like the growth prospects and opportunities for this new platform in business over the next five years from both organic targeted new end markets that I mentioned and additional inquisitive sources. Finally, just an overall comment, we remain committed to the growth objectives I mentioned in terms of midteen compound annual growth rate in revenue and earnings over the next five years and believe the acquisition of Whirlaway represents a real solid foundation in the creation of this new platform at NN. With that I"d like to close the call and open it to questions that you might have.

Thank you. [OPERATOR INSTRUCTIONS] Our first comes from Michael Corelli with Barry Vogel & Associates. Go ahead.

Good morning.

Good morning.

A question about the Whirlaway. Obviously some of their end markets are a little soft right now. And it sounds like you're projecting, what did you say, full-year revenues of $77 million from them. Which I think is, what, just down slightly from last year.

It's about flat with last year, Michael. But I think that we -- we I think in the press release indicated revenue of approximately 80, and that was an estimate based upon how the full year was going to end up. But yes, it's essentially flat with -- with '06.

So does that mean that you're expecting them to start off softer than '06, but expecting some kind of improvement later in the year?

Yes.

And what gives you that optimism?

Well, I think -- I think there's a couple of things. Number one, it's -- as I mentioned, both automotive and housing starts are down. But in the other kind of general industrial end markets that they serve plus new programs that are coming on stream in 2007, will mitigate some of that.

Okay. And as far as the accretion expectations that you have out of that, is there any changes that you're assuming, margin enhancements, things like that for this year, or is that more or less based on the traditional margins of the Company?

Good question and essentially traditional margins of the Company, although a small improvement toward the end of the year associated with Level 3 initiatives but not a great deal.

And so you would assume that going forward you would make more positive changes then?

Certainly in '08 as we integrate Level 3 and as new programs that are committed to Whirlaway in terms of '08, in terms of revenue enhancement and leveraging existing capacities are put in place, yes.

Okay. And then just one numbers question for the coming year. What do you think depreciation amortization will look like in 2007?

It will be up slightly from -- oh, well, that's a good question I'll get back to you. I'll answer that in a minute if you'll hang on the line. Or continue to listen.

No problem. That's fine. I'll be here. All right. Thank you.

Thanks. Your next question come was Mark Parr with KeyBanc Capital Market.

Actually that is [Michael Bartlett] filling in for Mark Parr. He stepped away. If possible, could you just provide additional comments on maybe your automotive order books for both the US and Europe individually?

I think that we -- in previous calls, Michael, we kind of outlined our reliance on North American automotive versus kind of the rest of the world and said essentially that some 25% to 30% of our existing revenue comes from kind of North American sources. And the balance and the majority comes -- is driven by European demand on the automotive front. And the -- kind of right out of the chute here in the first quarter, the automotive in Europe is improving slightly, as I mentioned in my original comments. While North America is down obviously. So -- but kind of when we look at the total mix of our automotive business, both Europe and North America and Asia isn't a big factor yet, when we look at the total mix, the -- on a consolidated basis and on a revenue of $400 million, it's a slight improvement, not a reduction.

Okay.

And again, that's on the basis of the concentration in Europe versus the US.

Thank you.

You bet.

This is Jim. I'll just answer the question about depreciation. I mentioned that CapEx, capital spending should be about the same level as this year. That includes Whirlaway. Spending of 19 to $20 million. Depreciation for NN pre-Whirlaway would have been about $18.5 million, up slightly from this year. And depreciation on the appraised fair market value of the Whirlaway assets because we had to write them up to fair market value will be about $4 million, for total depreciation and amortization next year of $22.5 million.

Thank you. [OPERATOR INSTRUCTIONS] And our next question is a follow-up from Michael Corelli, please go ahead.

Just a question about the Chinese and Slovakian facilities. What's the status of those contributing to profitability?

The Chinese facility in terms of our outlook for 2007 turns to profitability in the third and fourth quarter. And the total year is just slightly above break even. And the Slovakian operation for the year is slightly below break even. And both I think it's safe to say from management's perspective here that both operations relative to the volume that we have running in the facilities were behind the curve versus where we thought we would be from a pure revenue and production volume perspective. Not necessarily from an operations perspective in China as much as our ability to develop new incremental business for that facility. Slovakia on the other hand is a combination of overall reduced volumes and a continuing operational challenge to get it up and running. So it's a combination of both, but with what I just mentioned in 2007, our forecast for 2007 and our belief, on both facilities, that's a pretty significant improvement versus '06.

And Slovakia, what is the problem as far the operational challenges?

Yes, I think that initially, Michael, it -- we had a period of an 18-month period where everybody was going into Slovakia. We had challenges associated with selecting and retaining the employees. As a result of what a hot spot Slovakia really is in terms of new manufacturing locations, and our first 18 months in the facility we incurred pretty significant turnover with new employees. That has stabilized over the last six to eight months. And so we're starting to see operational improvements toward the end of '06, and -- and confirms our belief that it will improve in '07. But that -- it's been essentially centered around that issue as opposed to not having the equipment or processes in place.

Okay. And then as far as acquisition activities, you have pretty lofty growth goals over the next couple of years. And obviously Whirlaway is a step in that process. What do you think the odds are we'll see some more acquisition activity let's say this year?

It's an excellent question. And if you -- if you kind of do the math associated with the compound, mid teen compound annual growth rates that I mentioned, we envision over the next three to four-year planning period two to three additional acquisitions that are complementary to Whirlaway in the creation this precision metal components platform. And there are plenty of complementary potential targets associated with bolt-ons to Whirlaway on a global basis. And we're, of course, in the current environment, it's always a challenge to execute and develop and deliver acquisitions, but we are relatively confident that there's -- there's a significant enough pipeline out there to deliver what we would think would be slightly smaller acquisitions to build this platform. Slightly smaller in terms of revenue from a Whirlaway perspective, targeting bolt-on acquisitions, at least the next couple in the 50 to $60 million range potentially as opposed to 80. But we are very active, and I would say that 2007 would be spent, the vast majority of 2007 would be spent integrating Whirlaway, but we would certainly from an execution perspective be working on the pipeline so that toward the very end of 2007 or very early in 2008 we would have another complementary acquisition as an addition to Whirlaway to announce.

Thank you.

You bet.

Thank you. And management, I'm showing there are no further questions. I'll turn the conference back to you for any closing comment you may have.

Okay. Again, thank you for joining today's call.

Thank you. Ladies and gentlemen, that will conclude today's teleconference. If you would like to listen to a replay of today's conference, please dial in 2-303-590-3000 or 1-800-405-2236. Enter access code 11084471 followed by the pound sign. We thank you again and at this time you may disconnect.