NN Inc (NNBR) 2011 Q1 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the NN Inc. first-quarter 2011 conference call. During today's presentation all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions). This conference is being recorded today Thursday, May 5, 2011.

I would now like to turn the conference over to Ms. Marilynn Meek. Please go ahead, ma'am.

Thank you. Good morning. Welcome to NN's 2011 first-quarter results conference call. If anyone needs a copy of the press release, please call my office at 212-827-3746, and we will be happy to send you a copy.

Before we begin, we ask that you take note of the cautionary language regarding forward-looking statements contained in today's press release. The same language applies to the comments made on today's conference call and live webcasts available at www.earnings.com.

With us this morning is Rock Baty, Chairman and Chief Executive Officer, and members of NN's management team. First, management will give an update and an overview of the quarter, and afterwards we will open up the line for questions.

Rock, would you like to go ahead?

Thank you, Marilynn. Good morning, everybody. With me this morning I have Jim Dorton, our Senior VP and Chief Financial Officer; Will Kelly, our Vice President and Chief Administrative Officer; and Tom Burwell, our Corporate Controller. Today Jim is going to offer an analysis and commentary on our results for Q1. I will conclude the call with additional comments regarding the quarter, as well as providing updated guidance on our revenue outlook for 2011 and earnings for the second quarter.

I would like to turn the call over to Jim.

Thanks, Rock. Good morning, everyone. We are pleased to report a record in earnings for NN in the first quarter. This reflects out recovery of our sales to pre-recession levels and combined with a new lower cost base.

We earned $0.33 per share on sales of $111 million. A previous high quarter was the second quarter of 2008 with sales of $122 million and EPS of $0.57. But this included $0.26 per share in positive one-time adjustments for a land sale and tax benefit. So the EPS from operations then was $0.31 compared with $0.33 this quarter on lower sales.

This quarter we did not exclude the Whirlaway startup costs from normal operations since the four startup programs there are getting past the initial stages. We did report the Whirlaway loss of $2.2 million so that you could gauge the impact versus past quarters, and Rock will speak to these costs in a minute.

There were two items that we did not exclude that we did exclude from normal operations, however. But they offset each other almost perfectly for no net impact. The first was a non-cash foreign exchange loss on intercompany loans for $851,000. And this was offset by a net gain from the deconsolidation increase related to the bankruptcy of our German subsidiary. And there since we had more liability than asset, the final entry was actually a gain of $840,000, which also included some tax benefits.

I will speak to the situation in Germany in a moment. You can also see the nonoperating increase broken out in the table at the back of the press release.

Cost of products sold increased as a percentage of revenue to 81.1% compared with 80.8% in the first quarter of last year. But if we remove the startup losses from Whirlaway, cost of goods sold were 79.1% of sales compared with 79.9% in the fourth quarter and 81% for all of 2010.

Cost of goods sold benefited from the discontinuation of NN operations in Germany compared with last year. However, it was negatively impacted by the reinstitution of bonus accruals and higher spending on tooling, supplies and repairs and maintenance coming off of a low investment period during the recession.

Regarding SG&A expense, you can clearly see the earnings leverage here. As pointed out in the press release, SG&A was almost flat with the first quarter of last year despite the 30.4% increase in sales. So as a percent of sales it was 7.2% versus 9.2% last year.

There were a lot of pluses and minuses in SG&A. Last year we had a $1.1 million -- we had $1.1 million in stock compensation expense but no bonus accrual. Whereas this year we had no stock compensation expense but about the same amount of bonus accruals -- but about the same amount in bonus accrual and other compensation expenses. Plus we had higher legal and recruiting costs.

We did have savings from the Eltmann exit, but the items mentioned above put us over plan by about $600,000. SG&A in Q2 should be a little lower than in Q1, but higher than we advised you in last quarter's conference call primarily due to our growth.

Interest expense was $504,000 below the first quarter of last year even though debt was higher by $4.6 million. The lower interest is due to the reduced interest spread on a revised credit agreement.

Depreciation was $4 million which was flat with the fourth quarter and a bit lower than we told you to expect due to a slow start on capital expenditures this year. The elimination of the Eltmann depreciation was offset by depreciation on new [BP/E] that we put into service over the past several months.

The average tax rate was 20.8% during the quarter, which was at the low end of the guidance we gave you last quarter. I mentioned earlier that we had tax benefits related to the deconsolidation of Eltmann. If you were to eliminate these one-time tax benefits, the average tax rate would have been 29.9%, which is a bit higher than we guided you toward last quarter. But as you will recall, we are not booking a tax benefit for losses in the US until we have a positive three-year look back on income and this likely will not happen until 2012.

So we are booking tax charges for income in foreign locations, primarily Italy and the Netherlands. So when we have income taxed overseas at rates varying from 19% to 36% and no benefit, no tax benefit on losses in the US related to Whirlaway, the average rate can really vary widely.

So with all of these moving pieces, our best guidance for the second quarter is still about 25% average tax rate.

EBITDA was $12.2 million or 11% of sales during the quarter. If we exclude the Whirlaway loss, EBITDA would have been $14.4 million or 12.9% of sales.

Looking at the balance sheet, you can see that we added $18.9 million in new debt during the quarter. The negative cash flow was primarily the result of our growth during the quarter and the timing of payables.

Accounts receivable rose $20.9 million versus year end, and this is due to the higher sales versus December levels and the slight increase in DSO due to mix. We do not have any collection issues with our customer base so the increase in receivables is all timing.

Inventories were held flat as we sold down some year-end strategic inventory that we had built and as we continue to push -- our push to keep our factories very lean. We expected to see an increase in payables that would have offset some of the investment in receivables, but as you can see, we barely had an increase over year-end. And this is because many of our large vendors had high balances due at year end that were almost all paid down at the end of quarter one. This is a normal pattern for NN, but it was a bit more pronounced than we had expected.

At the Q1 run rate, our debt to EBITDA ratio was 1.9 times including the Whirlaway losses and about 1.6 times excluding these losses. So our credit profile is good and will continue to improve throughout the year. We do expect to repay some debt during the year, but the strong growth we are seeing may require a larger investment in working capital than we had initially planned.

As I mentioned, we spent -- or I didn't mention -- but we spent $3.8 million of capital during the quarter, which was just 16.5% of our $23 million capital plan for the year. Almost all of the planned growth and maintenance projects are underway and on schedule, but the spending was just -- the actual amount spent was a little bit lower than planned. But this will get back on track in the coming quarters.

Now just a final word on NN Germany. We previously announced in great detail about the bankruptcy of NN Germany, and this quarter we were able to complete the deconsolidation accounting, which is a bit earlier than we expected and this resulted in a small gain with a tax benefits of $840,000.

The situation in Germany became more clear in early April when the trustees sold the assets of the company to one of our customers, the Umbra Group. Umbra has a business relationship with our large customer, the Schaeffler Group, and if you will recall, our German subsidiary was formerly owned by Schaeffler, and Schaeffler was the landlord there.

So the bottom line is that the ball production assets are still in use and will be producing product primarily for Umbra and Schaeffler. So NN will not retain that business, which is about $7 million to $9 million per year.

Given that we lost money on this business from Germany for years and that we removed approximately $5 million in fixed costs from our financial structure, this final outcome is quite positive for NN.

That concludes my comments. I will turn the floor back over to Rock.

Thank you, Jim. I would like to begin my comments with general comments on the first quarter. Our revenue and earnings for the first quarter exceeded our own internal 2011 business plan expectations. Once again, we saw significant sequential growth from the previous quarter. Revenues were up $15 million or 15% from the fourth quarter of 2010. Net income from normal operations was up 65%.

We continued to experience good levels of growth from our global customers in North America, Europe and Asia and in both of our served end markets, namely automotive and industrial.

Again with the exception of the third quarter of 2010 where we experienced a normal seasonal reduction in revenue in comparison to Q2 2010 results, we have seen sequential revenue growth in the consecutive quarters beginning in the third quarter 2009 and a corresponding quarter-to-quarter improvement in earnings.

From an operating and historical perspective in particular our core metal bearing components operations, namely our ball op facilities in Tennessee, Italy, Slovakia and China, our tapered roller and cage operation in the Netherlands, and our tapered and cylindrical roller operation in Tennessee, all delivered outstanding levels of profitability during the quarter. Good contributions were also made from our Plastic and Rubber Components operations in Texas and Connecticut.

Excluding Whirlaway startup costs, gross profit margins, as Jim mentioned, were 20.9% for the quarter. As we forecasted in our March conference call, Whirlaway incurred losses due to start-up costs of $2.2 million during the quarter. Including the impact of the Whirlaway start-up costs, NN first-quarter earnings from normal operations of $0.33 a share represented an historical record reflecting the excellent earnings momentum in our core businesses.

I would like to conclude today's call by commenting briefly on our 2011 revised revenue outlook and comment on Q2 2011 second quarter earnings outlook.

Based upon the strength of the first quarter and the continuing strength we are experiencing in the second quarter, we mentioned in our press release this morning that we are revising upward our full-year revenue for 2011 to be in a range of $420 million to $425 million. The midpoint of the range, if achieved, would represent a 15% increase over 2010 revenue levels.

As we also mentioned in the release, we have yet to see any impact on our second quarter revenues from the tragedy in Japan. Our customers' orders and forecasts continue to exhibit solid growth in the second quarter with current visibility 30 days out through the end of May.

Our revised guidance assumes that the revenue impact of the Japan quake will be around $4 million for the remainder of the year. Our Japanese automotive exposure currently represents approximately 2% of total NN annual revenue.

Our guidance also assumes the global economic recovery will continue and that the impact of rising oil prices will have no impact on the economic recovery in either automotive and/or industrial end markets.

From an earnings perspective, as most of you know we have not historically provided either quarterly or annual EPS guidance. In breaking with that historical practice, we did comment in our press release that we believe the second quarter will represent earnings improvement and significant improvement over Q1. We are forecasting our Q2 earnings to grow 21% from Q1 and to be in line with current consensus estimates of approximately $0.40 a share for the quarter.

We expect revenues in the second quarter to be up sequentially again in comparison to Q1. Of course the rate of incremental improvement will slow in comparison to the Q1/Q4 comparison. In the second quarter, we see continuing strong results from our core businesses and improvements in the rate of start-up costs incurred at Whirlaway.

While the monthly trend line is improving at Whirlaway, we expect these costs to be cut in half during the current quarter. Start-up costs are forecasted to negatively impact our EPS guidance by approximately $0.06 per share or $1 million for the quarter. From our internal business client perspective, this negative EPS impact will be more than offset by the earning strength in our Metal Bearing Components and Rubber and Plastic businesses.

As we mentioned, Whirlaway is now in the midst of launching four new programs of business, major programs that will grow the revenue 85% in a single year effectively adding $40 million of new business annually beginning in Q3 2011 and on into 2012. The sheer magnitude and scope of these programs continues to present significant challenges to our organization at Whirlaway.

First, we mentioned in the March conference call the issue of manufacturability and significant start-up costs on a single product in one of these programs. During the first and second quarter, we were able to achieve a unit price increase, a premium price for quantities in excess of certain specified amounts, and changes to commercial terms with our customer that will provide for future profitability of this program moving forward.

Second, although these programs represent great opportunity, the timing coming out of the global recession created human and capital resource challenges. Like all of our global operations, Whirlaway restructured their business by, among other things, freezing capital expenditures and reducing employment in response to the global recession.

On the HR side, many of these reductions occurred in the technical engineering area. And in hindsight, at the time when we could least afford to lose the talent. Our new management team has shored up both the technical engineering staff and capital moving forward but the pace of improvement to state the obvious is slower than we would like. The end result is that the timing has extended by approximately one quarter the ultimate return to break even in profitability moving forward.

Finally, we said in the Q1 conference call that we expect earnings for NN to accelerate incrementally from Q1 for the remaining three quarters of the year. We still believe that is the case with a small qualifier based upon normal seasonality in the third quarter of our business.

Coupled with our solid earnings momentum in our Metal Bearing Components and Rubber and Plastics businesses, a Whirlaway return to profitability will have the impact of creating future earnings momentum for us at NN moving forward.

With those concluding comments, I would like to now open up the call to answer any questions you may have.

(Operator Instructions). Holden Lewis, BB&T Capital Markets.

Good morning, gentlemen. In terms of the Whirlaway revenues, are we still -- and I apologize, I missed the first few minutes of the call, so I apologize if this was covered. But are we still looking at $25 million to $30 million in incremental revenues, or has that amount also gotten pushed to the right along with the profitability in the sort of the corrective actions?

A slight reduction in that number, Holden. Our second quarter was down about $2.5 million versus our expectations in that $25 million to $30 million guidance. And we see about another, call it $2 million slip in the third quarter. This is simply because the customers on these new programs also the timing has slipped with them.

So call it about a $4 million to $5 million impact over the next three quarters versus the $25 million to $30 million that we guided.

So we are kind of in a $20 million to $25 million range now?

That is a better number.

And that is -- we sort of -- it's probably lost but we get up to normal production levels next year?

Yes, it is certainly not lost and in fact, I mentioned the $40 million annualized run rate on into 2012, and we do expect that coming out of the chute January -- well, actually late in the fourth quarter to be running at that rate.

Okay, and how much of that $20 million to $25 million did you get in Q1?

Golly, that's a good question. But I don't know that I've got an immediate answer. Not much.

Not much, okay.

Yes, sorry.

I guess what (multiple speakers)

Call it -- Holden, excuse me -- but call it between $3.5 million and $4 million.

So you think you got $3.5 million to $4 million in Q1 out of that?

Yes.

But by Q4 you think you are running at $10 million per quarter?

Very close to that. You've got some seasonality in Q4 of course, so -- but yes.

Okay, so when I think about your revenue guidance, you know you did $111 million in Q1. You're talking about sequentially a little higher than that in Q2. So let's call it $112 million. To do the midpoint of your new range would suggest that given $111 million, $112 million would suggest that your average Q3 and Q4 numbers are going to have to average out at about 99 to 100, so significantly lower yet you are going to have a hat ramp up in the Whirlaway revenues. Certainly currency becomes more favorable as you go forward during the year at this point. So I guess I'm having a hard time looking at $420 million to $425 million and thinking that the numbers should be anywhere near that.

Don't forget that in our core business our base business in the third quarter and the dominance in Europe that you have seasonality there. So we, as I mentioned, we see -- we have historically seen that seasonality even in 2010 when the economy maybe was coming back very strong.

And the other issue of course is that we've got some coming out on the $4 million or so coming out on the Japanese auto reduction, which is -- and that impact we really haven't felt yet, but we anticipate that will come out of the -- in Q3 and Q4.

Okay, and in terms of the $7 million and $9 million that you lose out of Germany, did you have a negative delta in Q1 because you weren't really producing in Q1 and you are certainly not in Q2. So I mean are you sort of at your full run rate of that $7 million to $9 million loss in Q1 and Q2?

No, that also is a factor in 3 and 4 as well. But we did -- we saw an impact in the first quarter and we will see an impact in the second. But it does accelerate in 3 and 4.

How does it accelerate? Because you haven't been producing there -- I mean when did the shut down happen and all that? It happened in Q1 judging by the cost and all, right?

We sold out of inventory in the first quarter. So that has an impact. So you just add up all those factors and that is why the guidance given sequential improvement in the second quarter. And I mean, the other thing is that first-half revenue versus second-half revenue for us at NN has always been -- there has always been -- it has been traditionally 55/45 kind of spread as you sequence the quarters.

Okay (multiple speakers) The German, the revenue loss out of Germany though, in Q2 where you are not producing at that anymore, I mean is the Q2 number that you are talking about fully burdened with the loss of that revenue?

Yes.

Okay, and then the Japanese revenues do you assume you are going to lose that $4 million. Again is that fully -- is the Q2 number you are talking about fully burdened by that $4 million?

No, zero.

Why do you lose that in the second half when the Japanese issues happened in March?

Well, because you've got a supply chain -- you've got how much inventory you have in the supply chain. If we have not seen it yet from our second tier customers supplying into the OEs and through the end of May. And so we are anticipating we are going to see it of course, and we believe it will be primarily in the last half.

Your exposure to Japan in terms of revenues directly into Japan is how much?

2% of our total (multiple speakers)

Okay, and then how much do you sell to Japanese OEMs domestically or in Europe?

It is split about 50-50. About 1% is North America and about 1% is Europe.

1% of what?

50% of the 2% exposure to Japanese automotive.

Got you.

Half of it is in North America; half of it is in Europe.

Okay. So you don't sell to Japanese OEMs directly into Japan. That 2% is product that you are selling to transplants in Europe and North America?

That's correct.

Got it. Okay. All right, thanks guys. I will jump back in.

Phil Gibbs, KeyBanc Capital Markets.

Rock, Jim, good morning. I had a couple questions. Rock, could you clarify the comments you made on earnings trajectory as far as EPS as we move through the year? And qualify what you had said there? You had mentioned something about sequential improvement aside from seasonality.

Beyond seasonality we see improvement on the basis of the improving results at Whirlaway. In particular for the last half of the year versus the -- (multiple speakers)

At Whirlaway, okay.

Yes, you got $3.2 million of negative losses impacting EPS in the first half of 2011 that won't repeat in the second half. And then of course we sold -- we don't guide on quarterly guidance or at least we (multiple speakers) haven't until today.

No, no, no, I wanted to qualify that that was a difference between Whirlaway and the whole enterprise.

Yes, that's correct.

Okay, and then the incremental margins, the gross profit incremental gross profit margins were a little lighter than I was looking for ex the startup costs. Ex the startup costs they were relatively in line sequentially on just a cash basis call it 25%. Would you expect that to be the level going forward? I know you had made some comments about bonus accruals and some maintenance that was perhaps neglected during the downturn. Should we expect these margins to be the type of incrementals?

Jam also touched on some first-quarter expenditures associated with tooling in our -- this is in our base business and production supplies and ramping those up coming out of '09, '10. We said incrementally in '10, we were delivering at a 40-plus percentage range that we still think 35%, 32% to 35% is more normalized moving forward. You said 25% on a cash flow basis. I'm not sure (multiple speakers)

I just -- we're on the same page. The 25% is comparable to the 40% you are talking about. 25% would be sort of the number that you had delivered in the first quarter. Is that correct?

Well, no, we calculate that to be north of 30%, around 31%. So again excluding Whirlaway. And so we are saying 35% -- there was probably four points there but we are saying 35% is normal moving forward.

Okay. Was that on a (multiple speakers)

I'm not sure honestly the difference between the 25% and 31%. Could it be depreciation?

(inaudible)

I don't know if your calculation includes depreciation or not.

I think mine is just cash. We can talk about it later. I think that was the basis of my questions. But so the first-quarter rate was a little bit lower than what you were expecting from that basis given the supply cost?

Yes, even though our base business and especially our Metal Bearing Components business really delivered great earnings improvement, there were a couple of points there on the purchase [MNR] and tooling and so forth that were higher than what we expected.

Is that front-end loaded, or would you expect just the tooling --?

I don't think that we expected that to continue into the second and third quarter.

Okay, all right. Thanks a lot.

(Operator Instructions). Holden Lewis.

Thank you. Again if I missed this I apologize at the early part of the discussion, but in the release you referenced a $0.8 million gain from your German subsidiary and then a $0.8 million loss from ForEx losses. And I think those are after-tax. What was kind of the pretax sums on those and in which lines on the quarter did they fall?

On the foreign exchange loss, the pre- and after-tax are the same, and that falls in other income. The German one is more complicated. We took about a $200,000 gain from the fact that we wrote off more liabilities than assets. So however, because we wrote off intercompany assets, we had tax gains in other lines. So that was about $600,000. So you add those two together, that is the $800,000. $600,000 of it is down in the tax line. And that is why I kind of try to break that out on the -- our average rate analysis.

I got you. So then and then the 0.2, that is what you are referencing in your document. That is that 0.209.

Yes (inaudible)

You show it for a disposal of assets.

Okay, yes.

So we need to make that adjustment and then we need to make the adjustment just tax which is the 0.6 and then that 0.8. That is both after tax and before tax, that is other income?

Yes.

Got it. Okay, thanks.

Thank you. And there are no further questions at this time. I would now like to turn the call back over to management for closing remarks.

Thank you. Let me conclude today's call with a summary comment regarding 2011 in general. We continue to be encouraged by the overall pace of what we've seen in the recovery and in our served end markets. And while there are potential short-term issues that could impact our topline in terms of growth continuing, namely the Japanese impact on oil prices, we have yet to see any evidence that indicates anything but continued strong topline growth moving forward.

As a result of our $25 million fixed cost reductions associated with our restructuring, we are witnessing great earnings improvement and momentum in 2011. We look forward to the remainder of the year and our continuing positive development in revenue and corresponding earnings and cash flow. Thanks again for listening to today's call.

Ladies and gentlemen, this concludes the NN Inc. first-quarter 2011 conference call. If you would like to listen to a replay of today's conference please dial 1-800-406-7325 or 303-590-3030 with the access code 4437584. ACT would like to thank you for your participation. You may now disconnect.