Enpro Inc (NPO) 2007 Q4 法說會逐字稿

Good day and welcome to this EnPro Industries fourth-quarter earnings conference call. Today's call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Mr. Don Washington. Please go ahead, sir.

Good morning, everyone, and welcome to EnPro Industries quarterly earnings conference call. On the call this morning Ernie Schaub, our President and CEO, will discuss our earnings for the fourth quarter and full year of 2007 and our current outlook for 2008. We also have Bill Dries, our CFO, and Rick Magee, our General Counsel, here as usual to participate in the Q&A session. In just a moment, Ernie will make his remarks and then we will open the lines for your questions.

But first I want to remind you that you may hear statements during the course of this call that express a belief, expectation, or intention as well as those that are not historical fact. These statements are forward-looking and involve a number of risks and uncertainties that may cause actual events and results to differ materially from such forward-looking statements.

These risks and uncertainties are referenced in the Safe Harbor statements included in our press release and are described in more detail along with other risk and uncertainties in our filings with the SEC including the Form 10-K for the year ended December 31, 2006 and the quarter ended September 30, 2007. We do not undertake to update any forward-looking statements made on this conference call to reflect any change in management's expectations or any change in assumptions or circumstances on which such statements are based.

As usual, this call is being broadcast or webcast on EnPro Industries.com. A replay of the call will be available on the website shortly after its conclusion. In addition, if you have any questions that aren't answered on the call or if you have any follow-up questions after the call, please give me a call at 704-731-1527.

Now I'll turn the call over to Ernie.

Thank you, Don, and good morning, everyone. We're glad you joined us today. As you know from our earnings release, 2007 was another year of continued improvement for EnPro. We saw sales in excess of $1 billion for the first time and both segment profits and segment profit margins reached new annual highs.

We've announced our financial results as an independent public company for six years now and in each of them, we reported increases in sales and segment profits supported by strong cash flows. We feel very good about what we have accomplished and we expect to continue to improve again in 2008.

Sales in 2007 were up 11% to $1.030 billion. Increased demand and pricing improvements drove growth of about 5%. The remaining 6% came equally from acquisitions and foreign exchange. Segment profits improved by 14%, to almost $163 million, and segment profit margins improved to 15.8% from 15.4%. The growth in margins reflects a very strong performance in our engine business, where margins improved by more than 7 percentage points and helped offset a slight decline in Sealing Products margins which were affected by higher costs.

Net income in 2007 was $40.2 million, including a gain of $2.5 million on an extraordinary item. This compares to a net loss of $158.9 million in 2006, when we adjusted the estimate of our liability from the low-end of a range of possible liabilities to a point within the range. Earnings per share in 2007 were $1.80 including the extraordinary item. In 2006, we reported a net loss of $7.60 a share.

The extraordinary item recorded in 2007 relates to a gain on the acquisition of shares held by a minority interest -- minority shareholder in one of our subsidiaries.

Before asbestos expenses and other selected items, we earned $3.75 a share in 2007, a 21% increase over 2006, when we earned $3.09 on that same basis.

Now let's look at the fourth quarter 2007. As is typical in the fourth quarter, we saw the effects of seasonality at the end of 2007, especially in our Sealing Products segment. However, we recorded a 13% increase in sales over the fourth quarter 2006. Organic growth contributed about 4 percentage points of that gain and foreign exchange also contributed about 4 percentage points, while acquisitions added about 5 points. However, segment profits were about 3% below 2006 as a result of higher restructuring costs, increase in operating costs, weakness in certain markets, especially those served by Stemco, and increased non-cash expense for amortization of intangibles associated with acquisitions.

Segment margins were 13.1% in the fourth quarter of 2007 compared with 15.3% in 2006. While the margins are down from a year ago, they are more typical of what we see in most fourth quarters when activity levels are generally lower. The fourth quarter of 2006 was an exception because of unusually high levels of activity in some of our higher margin businesses driven by demand from energy markets.

Asbestos-related expenses were $30.9 million in the fourth quarter, compared to $305 million in the fourth quarter of 2006, when we adjusted the estimate of liability to a point in a range of possible liabilities from the low end of the range.

The expense in the fourth quarter of 2007 includes cash outlays of $6.2 million for fees and expenses and non-cash charges of $24.7 million. The non-cash portion was higher than in previous quarters of 2007 because we adjusted our estimate in the quarter and added about $19.4 million to the liability. The adjustment reflects changes to our estimation model made in light of current trends, which show that as new claims and commitments decline, settlements are being paid more quickly than they were in the past. Our assumptions about the numbers and the cost of claims have not changed significantly.

Excluding the adjustment, our asbestos-related expenses averaged about $12 million a quarter in 2007. The average is slightly lower than we anticipated due to lower legal expenses. We will continue to monitor our estimate liability and make adjustments as required.

Moving to the bottom line in the fourth quarter, we reported net income of $1.8 million or $0.08 a share. Net income included the $2.5 million extraordinary gain I mentioned earlier. Before the gain, we reported a net loss of $0.04 a share primarily because of the higher asbestos-related expenses. In 2006, when we made a significant adjustment to our estimated asbestos liability, our net loss was $173.6 million or $8.28 a share.

Earnings before asbestos-related expenses and other select items improved to $0.93 in 2007 compared to $0.81 in 2006. We benefited from reduced foreign tax rates and increased interest income in 2007 as well as an improvement in segment profits when they are adjusted for the restructuring expenses.

At the segment level in the fourth quarter, sales of Sealing Products increased about 2% to $110.8 million. Although all of the increase and more was a result of foreign exchange. Foreign exchange -- excluding the foreign exchange, sales were down 2%.

Looking at the segment's operations, Garlock reported growth in European sales and an increase in sales related to nuclear power generation. And it benefited from price increases as well as foreign exchange. At Stemco, however, demand from heavy-duty truck markets remained below the levels of 2006 and sales declined. Sales were also lower at Plastomer Technologies which is seeing reduced demand from the semiconductor equipment manufacturers.

The segment's profits declined by about $5 million from the $19 million we reported in the fourth quarter of 2006 and were impacted by $2.9 million of restructuring expenses. The segment's margins decreased to 12.6% from 17.4%.

Garlock's profits and margins were lower than in 2006 for a couple of important reasons. First, 2006 benefited from demand for high margin products or oil and gas markets that didn't repeat in 2007. Second, Garlock reported temporary increases in certain operating costs as well as higher restructuring costs associated with the modernization of the Palmyra facility.

Stemco's profits were affected by lower volumes from heavy-duty truck markets and both profits and profit margins declined from last year. Lower volumes also reduced profits and margins at Plastomer Technologies.

In the Engineered Products segment, sales increased by 23% over last year's fourth quarter to $119.4 million. The largest factor in the growth was the contribution of acquisitions we completed earlier in the year. They accounted for about 13 percentage points of the growth. The remaining 10 points were equally divided between foreign exchange and organic growth.

At Compressor Products International, sales more than doubled as a result of the acquisitions, but the core business also benefited from the strong [energy-related] markets especially in North America. GGB sales also increased over last year as they benefited from favorable foreign exchange rates and higher demand in European industrial markets. Demand in GGB's North American markets was about the same as it was a year ago.

At Quincy Compressor, sales were flat with 2006 as the increased sales of compressor units in China helped offset reduced demand for markets in the United States. Profits in the segments improved by 10% to $14.9 million but segment profit margins declined to 12.5%. At CPI, volume increases benefited profits, but margins declined due to costs associated with the integration of acquisitions. At Quincy, profits and margins increased as the compressor business benefited from efficiency gains and better pricing. At GGB, profits were about the same as a year ago but margins declined as SG&A expenses increased more quickly than sales.

The performance of the Engine Products and Services segment was a very bright spot for us in the fourth quarter of 2007. As you know, we worked very hard to get this business on the right track and its performance in the fourth quarter is evidence that our efforts are paying off. This segment's sales in the quarter increased 15% to $45 million of shipments of engines and associated equipment increased from a year ago. More importantly, the segment recorded its strongest quarterly profits and highest profit margins in the six years that we've been an independent company.

Profits are up by 46% to $7.3 million, and margins grew to 16.1%, up from 12.7% in the fourth quarter of 2006. To see this kind of year-over-year improvement is quite remarkable and it is a real tribute to the efforts of the team at Fairbanks Morse.

Now let's talk a little minute about cash flows. Operating activities provided almost $105 million in cash during 2007, compared to about $76 million in 2006. Increased net earnings, decreases in working capital, and lower net asbestos payments contributed to the improvement.

We spent about $47 million on capital projects in 2007, compared to just over $41 million last year. The largest of these projects continues to be the Garlock Palmyra modernization, but we also invested in new facilities in China and India and in other projects to modernize facilities and improve operating efficiencies.

While I am on the subject, the Palmyra modernization is coming along well. We are completing the interior work on a second new building and we expect to be making product in that building later this year. The project remains about on budget and about on schedule.

We spent $77 million on acquisitions in 2007 compared to $27 million in 2006. A significant amount of the spending was for the acquisition of CPI, which is our largest to date. Total asbestos-related payments were about $115 million in 2007, an 8% decrease from 2006 and the continuation of the decreasing trend in total payments we've seen over the past six years.

We recovered about $90 million of insurance in 2007 compared to about $88 million in 2008. As a result, net outflows decreased about $25 million from $38 million in 2006. The total estimated liability for asbestos claims and expenses at the end of 2007 was about $524 million, including a $19.4 million adjustment I mentioned earlier. As you know, our estimate covers 10 years and does not include legal fees and expenses which are recorded as they are incurred. These costs are currently averaging about $25 million to $30 million a year and are included in the asbestos-related expenses recorded on our income statement.

At the end of the year, about $382 million of solvent insurance remain to be collected for asbestos claims. We expect to collect the insurance in various amounts each year over the next 10 years or so. We received about 5200 new asbestos claims in 2007, the lowest number of claims in many, many years and almost 90% below the peak of new filings in 2003. As we said in the past, we expected the trend of declining claims to continue for many reasons including reforms in some states and declining incidences of asbestos-related diseases.

Now let's turn to our outlook. Based on our current market conditions and the general economic outlook, we expect another year of improvement in 2008. Acquisitions completed in 2007 will bring us additional sales. We anticipate our traditional industrial markets in the United States and Europe will continue to grow, although we expect those markets to be flat in the first half of the year in line with most economic forecasts.

We will also benefit from new product introductions and from our expansions into India and China, where we have recently added facilities to serve those growing markets. Increased activity at Fairbanks Morse Engine will also contribute to sales growth. Higher sales volume and increased efficiencies should lead to higher segment profits in 2008 and segment profit margins should remain strong. We will continue to benefit from the improvements of Fairbanks Morse Engine. But amortization costs associated with the acquisitions will also affect our margins. As a result, segment margins in 2008 are not likely to significantly improve over 2007.

We expect cash flows during the year to be strong and working capital to increase in line with increases in activity. Capital expenditures will increased from the $47 million we spent in 2007 as we continue our geographic expansions and our investments in facilities. Total payments related to asbestos claims and settlements should decline again in 2008, but we'll collect less insurance during the year. As a result, our net cash outlays will increase and are likely to be closer to the levels of 2006 when we spent $38 million.

We'll look at acquisition candidates throughout the year. We are on track to close a couple of these deals in the very near future. With our strong balance sheet, we are in a good position to pursue additional acquisitions and other opportunities to build value.

In summary, we're very pleased with our position and our performance as we enter 2008. We are confident in our management strategies, which have clearly proven to be effective, and we believe our current course will continue to deliver long-term increases in the value of our company.

Thanks for your attention. That concludes my prepared remarks and now we'll open the lines for your questions.

(OPERATOR INSTRUCTIONS) Liam Burke, Ferris Baker Watts.

Good morning, Ernie. Could you give us a little more detail on the step up on the engine products? You had talked about maybe a 10%, 11% operating margin. Now they are up at 16. Is there something significantly different in there now?

16 was for the quarter. For the year --

Right. I'm sorry, I'm talking about the fourth quarter. Forgive me.

We have a good mix, some good aftermarket sales. We shipped -- we had good volume and volume always helps; as well, we shipped a lot of engines in the fourth quarter. Bill, anything else in the fourth quarter? Typically we should be at about 12.5 I would think.

Liam, I think that we ended up shipping half of our engines for the full year in the fourth quarter alone. The difference, in the past we've talked about the engine business and the margins being very little if any on the engine side and we make our money on the parts and service side. We had some -- we got some margin in the engines that we shipped and we also had a very good parts quarter, parts and service, and our margins on our parts and service were up 5 points quarter-over-quarter.

But, Liam, having said that, as I said in my prepared remarks, we are expecting this business to continue to be strong in 2008 and there's no reason to see a decline. It has done a great job for us. Those guys really worked hard.

Okay, and on the free cash flow front, even with your asbestos needs, you generated roughly $2.50 per share, which is including asbestos. Are acquisitions going to be your primary use of cash going into 2008 or do you see any need to either buy back shares or reduce -- well your debt, your current convert?

We continue to see acquisitions playing a roll, and the Board, as we have said, is always looking at buyback options and all the other options in using our capital resources. Acquisitions, capital spending to improve our facility, and share back are all considerations as part of our strategy going forward.

Thank you.

(OPERATOR INSTRUCTIONS) With no further questions in the queue, I would like to turn the call back over to Mr. Washington for any additional or closing remarks.

Thank you very much for joining in. If you did not get a chance to get your questions answered on the call, please call me at 704-731-1527 and we look forward to talking to you again soon. Thank you very much.

Thank you, ladies and gentlemen, for your participation. This does conclude today's conference call and you may disconnect at any time.