NN Inc (NNBR) 2013 Q2 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the NN Inc second-quarter 2013 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, August 6, 2013.

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

Thank you and good morning. Welcome to NN's conference call. If anyone needs a copy of the press release, please call my office at 212-837-3746 and we will be happy to send you a copy.

Before we begin, we ask you to 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 webcast available at www.earnings.com.

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

With that said, Rich, I will turn the call over to you.

Thank you, Marilynn. Good morning everyone. Before we begin our remarks relative to the second-quarter and first-half results, I would like to just take a minute to speak specifically about my first two months with NN.

First, I will tell you that my first two months have been jam packed with activity. I've spent quite a bit of time listening and learning, getting to know the owners of the Company, the individuals that make up the Company and the culture within the Company. I visited most of our locations in the US and Europe and by the end of September, I will have visited all of the locations around the world.

As I visit these locations, I find myself becoming more and more excited about our ability to grow and our future on a regular basis. It is just really exciting to see the things that our folks are doing out in the field.

It is very evident to me that NN's past is rich in history, culture and success and I am personally very excited to have the opportunity to work closely with the Board and the leadership team in honoring this rich culture and history and more importantly to begin to write the next chapter of NN's future which will be one of growth and incredible success.

With that said, I am going to turn it over to Jim to speak to the financials.

Thanks, Rich, and good morning, everyone. First, I will say on behalf of the management team at NN, we want to welcome Rich to the first of what we hope will be many inspiring conference calls. We have all enjoyed getting to know Rich these last two months. We have learned a lot and we are very excited about NN's prospects under Rich's very clear leadership.

So just to briefly cover the numbers overall, revenue was up $2.5 million or 2.7% versus Q1 which was much stronger than our normal seasonality and most of this strength was in Europe. Revenue was down $2.5 million or 2.5% versus the second quarter of last year which is still reflective of the low recovery in Europe. Rich will discuss some more about the sales momentum and our strategic response in a minute.

The good news is that our pretax profitability from normal operations was flat with last year despite the lower sales levels. Gross margins are up on lower revenue and our profitability was more favorable than one would expect due to excellent cost controls and to the deliberate elimination of some lower margin business.

We are excluding only $138,000 in after-tax foreign exchange gains on intercompany loans from normal operations or about a penny a share. This compares with an excluded FX gain of $1.1 million or $0.06 per share last year.

In comparison to the second quarter of last year, there is another significant difference from foreign exchange which is included in normal operations but is large enough for us to discuss this quarter. Last year, we had an FX gain on the translation of European AR balances which we do include in normal earnings versus a loss in the Q2 of this year. The net swing was $280,000 after tax or about $0.02 a share so the profitability comparison to last year is even stronger if you consider this FX effect.

SG&A was $8.3 million, down from $9.1 million in Q1 and in line with the guidance we gave in the Q1 call. SG&A should run at about this same rate for the remainder of the year.

Interest expense is well below last year and slightly down from Q1 as we paid debt down during the quarter and short-term rates as you know remained very low.

EBITDA totaled $12.4 million for the quarter which is 2.9% of revenue and this compares with $9.6 million or 10.2% of revenue in the first quarter. The improvement between the first and second quarter is primarily the leverage on the higher sales, lower SG&A and more favorable nonoperating items.

Pretax income from normal operations was $1.8 million or 33% higher than in the first quarter due to higher revenue and excellent profitability leverage on the higher sales level. Every dollar of higher sales from Q1 to Q2 dropped $0.72 to the pretax line. This is again due to good cost control, lower SG&A and depreciation and strong Level 3 savings at all of our operations. That accounts for the profitability improvement.

Income taxes are a negative comparison versus last year and versus the first quarter. Last year the tax rate was around 19% as we were not accruing taxes on US earnings. The tax rate this quarter was just over 36% which was higher than the 33% rate in the first quarter and this was due to higher income in our high tax rate areas particularly the US and Italy. Based on our forecast for the remainder of the year, the tax rate should be around 34.

So we had EPS from normal operations of $0.27 and if you include the small adjustment, $0.28 in total which was slightly higher than the consensus analyst estimates due to the higher revenue and the good cost control partially offset by the higher tax rate.

On the balance sheet, the largest change from last quarter is that total debt is down by approximately $12 million. We had positive free cash flow of $9.5 million during the quarter which is stronger than normal for the second quarter. Good profitability combined with low working capital growth and low capital spending combined to give us the good cash flow quarter. And I also want to point out that the second quarter dividend that we declared was not paid until July so this is not included in the Q2 cash flow.

Our year-to-date capital spending is $4.9 million versus our plan of $17 million. We do expect for spending to be heavier in the second half based on the timing of the projects we have underway. We continue to project that capital spending will total between $15 million and $17 million for the full year and that total free cash flow will be in the $15 million range.

That concludes my comments on the financials and now back to Rich to talk about business trends and strategic outlook.

Thanks, Jim. Let me frame our overall situation by saying that the persistent global economic slowdown continued to affect our business during the first half. Most notably, we are still operating about 10% below our historic highs but clearly in line with what the IHS indicates are the European auto industry is off as a whole so we are right in line with those numbers.

With that said during the second quarter, we experienced positive revenue momentum as was stated earlier. This is mainly due on the backs of the European heavy truck industry and a very positive note, it was better penetration around existing customers. We have quite a number of initiatives where we are doing some different things with our existing customers and I think it is starting to bear a little bit of fruit.

Second quarter sales of $96.3 million was an increase of $2.5 million over our first quarter and I think the significance of this as we stated a little earlier we shed approximately something north of $2 million in sales that was noncore nonstrategic business. The decision to walk away from business is never easy especially when it negatively impacts our short-term revenue. However, we firmly believe that this decision will strengthen our opportunities for profitable growth and optimal capacity utilization going forward over the course of the next 18 months.

These developments as well as discussions with many of our customers have been encouraging and although we are bullish about the potential for upside to our business plan, the nagging uncertainties of the global economy cause us to remain cautious regarding the second half of the year. Therefore, we will hold our original estimates for the third quarter as well as the remainder of 2013.

It is important to note that all of our operations have worked diligently to improve the operating performance of our cost structure. Our balance sheet is now stronger than ever and provides us with many opportunities to return value to our shareholders.

We have challenged the organization to accelerate our Level 3 initiative for the balance of the year in order to fund various infrastructure investments to ready ourselves for growth. Additionally, our continuing cost structure improvements will allow us to return improved incremental margins to the bottom line when the European economy begins to recover in full fashion.

Finally, I would like to briefly discuss the direction of our new strategy. Our new strategy will leverage the work we have completed over the last couple of years during the global recession around fixing our cost structure and we will now focus on accelerated growth. Our plans will be to aggressively pursue both acquisitive and organic growth in our core business as well as exploring opportunities in adjacent markets. Our goal is to have the strategic plan completed and vetted by early fourth quarter and to be ready to share publicly by mid fourth quarter.

With that said, thank you for joining us today for our 2013 second-quarter conference call. Hopefully you can tell that we are all excited about the future of NN and I can assure you that the Board and the management team are more excited than ever to write the next chapter in NN's future.

With that said, we will now take questions.

(Operator Instructions). Steve Barger, KeyBanc Capital Markets.

Good morning, guys. Just, Rich, you talked about the next chapter being one of growth. Can you give us your initial impressions around the state of readiness for the plants to take on that growth after your kind of initial review?

I think specifically in our core business, the plants are ready. We have appropriate capacity, we have the appropriate machinery and candidly, we can add in our core business without adding a lot of direct labor or indirect labor. So it is pretty exciting the opportunity that we have especially since we have already somewhat fixed the cost structure. So we are ready in the core business.

As we look into the adjacent market, we are still doing some work around that because as we move into those markets, we will utilize some of the technology we currently have as well as acquire new technology. So we are still working through some of those pieces.

Any more color on how you are driving penetration at existing customers? How are you approaching that and how much opportunity do you think is there?

In terms of the opportunity, I think the opportunity is significant. I don't know that I can quantify it for you. Our basic thesis is that we are at a stage in the capital cycle that folks are going to have to do a substantive amount of investing and our customers are clearly demonstrating a posture that says they don't want to recapitalize their business in the way they did before. And so we have positioned ourselves as the theater operation of choice, if you will.

So our discussion with them really is around helping them de-capitalize much faster than they have and deferring the capital investment that they would have to make going forward. We have been fortunate to get some audiences here recently that I guess on the strength of some changes and so on in Europe that has really helped us quite a bit as well as here in the US with our ball business.

On the initial conversations, is that a hard argument to make or are they receptive to the idea? Is this something they would do quickly?

I think they are very receptive and I think it is something that they would be willing to do -- I'm going to say relatively quickly. In having been with big organizations -- quickly is very much a relative term.

Right. If you look at the next quarter or two, how are you thinking about specific opportunities to drive margin expansion? Is it leveraging the supply chain, is it spreading best practices? What can you do internally to really set the stage?

We are definitely making a move toward leveraging the supply chain. We have created a position within the organization to bring in someone to look at the supply chain and begin to do an awful lot of work around that. We buy on the order of about 105 million or so of material input and we really don't have a program today that allows us to leverage that in any way, shape or form.

So when we get this individual in, it is probably going to take a couple of months for that individual to get their arms around this but we expect to see -- begin bearing some fruit around this probably late fourth quarter.

As I said earlier, we challenged the organization to come up with some more aggressive numbers around the Level 3 program. We think that is there. We think the opportunity to take some more costs out of the business is still there and we want to use those savings to continue to fund some basic infrastructure needs that we have to ready ourselves for growth.

We've got to make some IT investments and we've got to make some system investments so we don't put the organization under too much pressure when the growth starts to come.

Great. Just a couple of more and I will get back in line. For the product lines you dropped, should we be straight lining that reduction of $2.5 million to think about $10 million for the year? Is that the right way to think about it?

That is a really good question.

Some of those product lines that we are dropping out started dropping out in the third and fourth quarter of last year so it is not a straight $2 million incremental. We are seeing the biggest impact in Q2 of this year.

Got you.

I would pare it down in Q3 and Q4 of next year -- of this year comparable.

Does reducing those product lines or eliminating them, does that free up capacity? Do you have the opportunity to put in other product lines that have much higher margins relative to whatever you freed up?

Absolutely.

Okay. I will get back in line and see who else is there and then I will come back. Thanks.

Keith Maher, Singular Research.

Good morning, gentlemen. Could you -- when you look at some of the opportunities for growth and I'm thinking several avenues, you've got acquisitions, you've got -- we just talked about in terms of penetrating existing customers and then also say going out winning new customers. Of those three, could you kind of weight them in terms of where you see most of the growth coming from going forward?

Yes, I think -- let me answer it this way. I think the answer is different by our business segments. I think in our Rubber and Plastics business, the opportunity there really is going into adjacent markets. We have the technology, the equipment, the engineering skills to have a larger breadth of market access so we will be increasing our window to market and we will be going after some things that we hadn't gone after before. So in the Plastics business, I think that is where that comes.

In the Ball and Roller business, it really is around greater penetration of our existing customers and bringing a value proposition to them much like the value proposition that created this business quite frankly and it is allowing them to de-capitalize and us being able to produce a product at a much lower capital base and hopefully price at that point in time for our customers.

In the Precision Machining business, that is where I think our ability to grow will come largely in our verticals and in adjacent verticals as well as a greater level of acquisition into different verticals. So we are a very, very high-end precision machining business. We are application-specific and so we can take that technology and that cadre of technology if you will across multiple verticals and that is what we would intend to do in that business.

Again, all of this will be vetted and publicly available -- we'll start talking to this middle of the fourth quarter. We are still working through many of these things so we can't quantify it just yet.

Okay, great. That was helpful. I understand the whole review but would this mean if an opportunity came along say for an acquisition between now and then, that you still might do that, right? You wouldn't necessarily wait for (multiple speakers)

Absolutely. All of these things while they sound like they are a series of events, they are not. They are all simultaneous. We are working on all fronts.

Okay. In terms of some of these products that have been discontinued, are there additional product areas you are looking at to get out of -- that they just don't fit the margin profile for the business?

As we fine-tune our strategic plan, I think it is just good business to always review the products and everything within the business to make sure that it is not necessary -- it may be always necessary to prune the tree. So we will always be reviewing our products to ensure it fits those strategic profile. But right now we think we have made a fairly substantive move and the likelihood is we probably won't make a move like this again this year.

Okay. And just a question on debt reduction. I think the target for the year, we are at $15 million in net debt reduction and I think you have reduced it about $4 million in net debt so far this year. Are we still on target to do that reduction this year?

Yes, we are ahead of target to reduce debt. But as I mentioned in my prepared comments, capital spending is more heavily weighted to the second half so the cash flow generation won't be as strong in the second half as it was in the first but we should easily make our $15 million target debt repayment.

Great. On CapEx, I don't know if you talked about this before but kind of what spending this year is just maintenance CapEx and how much is related to capacity additions?

This year less than half of the spending is on maintenance. The majority of it is specifically for new programs that we have won that will begin generating revenue in late 2013 and 2014.

Okay, great. Thanks a lot. That was all I had.

Ross DeMont, Midwood Capital.

Thanks for taking my questions, and Richard, welcome to the Company. Jim, I know this should be easy but what should the year-end net debt number be based on your guidance?

One second. It should be approximately $35 million.

That is great. Either Jim or Richard, there has been a little less discussion on this call about destocking especially in Europe. I think, Richard, you said that your sales are down commensurate with vehicle sales in Europe so sort of implying or suggesting that we are no longer suffering destocking from our largest customers. Am I interpreting your comment correctly?

Yes, as we look at the numbers, it has seemed like our customers are at the level maybe a little lower than they would like.

In terms of their inventories?

In terms of inventory. We are not giving any indication that there is going to be any more destocking taking place.

Okay. So I guess I'm a little confused because previous guidance assumed a continuation of the destocking trend. Now I am hearing that we are not going to face destocking but guidance is staying where it is. Is there sort of an upward bias here but it is just a little early to lift it. Or I am confused why guidance hasn't changed if we are not suffering destocking any longer.

From my perspective, we have an awful lot of uncertainty going on and some of the pieces of the market are not behaving in a sensible fashion. So again while we think there is probably some good potential second half of the year, we are just not willing to lift the guidance just yet. We need a few more data points I think.

Okay. Thanks, that is helpful. Look forward to meeting you, Richard.

Same here.

(Operator Instructions). Steve Barger, KeyBanc Capital Markets.

Thanks for taking my questions again. Just following up on that last line, is some of the revenue momentum that you have seen in the heavy truck market in Europe holding through July?

Yes, definitely. It looks good through the end of July for sure.

And any kind of -- you said there is still weakness in Europe. I'm sure you are talking about light vehicle but as you talk to your customers as you have been making your reviews beyond just seeing an end to destocking, are they optimistic that the production schedules will increase as we go in the back half?

I don't know if -- optimistic may be too strong a word. I think they certainly feel that we have bottomed out. So with that, I think they feel that maybe there could be a slight uplift but I don't think anyone is willing to commit to that just yet.

I am heading back over there actually later on this month to have some more customer discussion so it is a tough time. These are interesting [variants] that are taking place.

Right. Just a little more clarity on the margin improvement in Europe, was it due to the sales momentum and seeing some benefits from operating leverage? Or was it more on the operational side in terms of discipline and cost take-outs and that sort of thing?

Candidly it was a little bit of both. The cost structure, they have done a really nice job over there of getting the cost structure in line. So when we see the incremental sales, we are getting better than a 35% leverage uplift so it sort of proves our thesis all along -- when this business comes back, we will drop a lot more than our normal incremental to the bottom.

Right, that is great. Switching gears, you said you are working on all fronts for the various avenues of revenue growth. Can you talk to your early read on the slate of opportunities, have you actually started doing diligence on any specific targets?

I will say this. We are certainly attracted by a few targets and discussions are taking place.

Okay. Any specific markets you see as being at the forefront of your efforts?

Candidly, Steve, I'm not sure I am comfortable.

Okay. But overall, it sounds like you are excited about these slate of opportunities that are in front of you both in terms of the things you can do internally and the external growth initiatives that you can drive?

Absolutely. Absolutely.

Okay, great. That is all I have. Thanks.

There are no further questions at this time. Please continue with any closing remarks.

Wonderful. Thank you all for joining us today again. I hope you can see that the leadership team as well as the Board are very excited about our opportunities to grow and to write the next chapter in NN's future.

With that, we look forward to speaking with you next quarter. Thanks for joining us.

Ladies and gentlemen, this concludes the NN Inc. second-quarter 2013 conference call. This conference will be available for replay after 1 o'clock today through August 13, 2013 at midnight Eastern time. You may access the replay system at any time by dialing 1-800-406-7325 and entering the access code of 463-0855.

Thank you for your participation. You may now disconnect.