Enpro Inc (NPO) 2010 Q1 法說會逐字稿

Good morning. My name is Courtney and I will be your conference operator today. At this time, I would like to welcome everyone to the EnPro Industries' first-quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). I would now like to turn the call over to Mr. Don Washington, Director of Investor Relations. Mr. Washington, you may begin your call.

Thank you, Courtney and good morning, everyone and welcome to EnPro Industries' quarterly earnings call. In just a moment, Steve Macadam, our President and CEO, and Bill Dries, our Senior Vice President and CFO, will review the first quarter of 2010 for you and then we will open the line for a question-and-answer session.

The slides accompanying our conference call are available on our website and you can access the presentation through the webcast link on our Internet home page at www.EnProIndustries.com.

Before Steve and Bill make their remarks, I would like 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 facts. 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 statement included in our press release and are described in more detail, along with other risks and uncertainties in our filings with the SEC, including the Form 10-K for the year ended December 31, 2009. 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.

The call is being webcast on our website and a replay of the call will also be available on the website.

Before I turn the call over to Steve, I would like to mention our Investor Day in New York on June 10. Invitations went out earlier this week. This will be a half-day event that will include presentations by our senior managers. More information about the agenda is in the presentation that accompanies our call. We have a web-based registration system you can access by following the RSVP link found in the presentation or by selecting the Events tab in our Investor Relations section of our website. We have got a very exciting and informative day lined up for you, so we hope you will be able to join us. If you're interested in knowing more, you can contact me directly as well.

As I mentioned, we will conclude the call with a question-and-answer session after Steve and Bill make their remarks. If you have questions that aren't answered or if you have follow-up questions, call me please at 704-731-1527. Now I'll turn the call over to Steve.

Thanks, Don. Good morning, everyone and thanks for joining us. As you can see from our first-quarter results, the momentum that we picked up at the end of 2009 is continuing in 2010. We finished last year with a nice sequential improvement in our performance and we have begun 2010 by reporting better year-over-year results for the first time since 2008.

All of our businesses reported double-digit increases in sales over the first quarter of 2009 and our segment profits and profit margins were each more than twice what they were a year ago. Quincy Compressor is accounted for as a discontinued operation in this comparison. But to underscore the strength of our recovery, the sales and income numbers we reported this year without Quincy are better than the numbers we reported last year with Quincy.

A significant portion of the improvement in our profitability is the result of the costs we took out of our businesses last year, as well as our ongoing enterprise excellence improvement initiatives. All of our operations benefited from these efforts and we saw improved profits and higher margins across the board.

GGB, our bearings business, showed the greatest year-over-year improvement and was solidly profitable this year after reporting a sizable loss in the first quarter of last year. GGB has made a nice turnaround over the last 12 months. The business's automotive and industrial markets have strengthened significantly.

As I am sure you will recall, those markets were in a demand free-fall a year ago as the global recession devastated GGB's end-use markets. The team at GGB completed a very important and effective restructuring in their French operations, which has allowed GGB to significantly and permanently reduce costs in a generally high-cost country. The GGB facility that we built and opened in Slovakia back in 2004 will absorb much of the increased European volume going forward, which will position the business well from a cost perspective.

GGB also recently realigned its organization from one that serves customers based on geography to one that serves customers based on global market segments such as automotive, construction and agricultural equipment, renewable energy, pumps and compressors and so forth. This is proving to be a very successful model in helping to drive growth in GGB because it allows the business to tailor its offering and value proposition directly to these target segments. Bill will go into more detail about GGB's contribution to our results in the quarter, but each of those factors was important to an impressive turnaround.

I would like to call your attention to a couple of notable events in the quarter. First, Fairbanks Morse Engine was awarded a large contract for the supply of emergency diesel generators to the proposed expansion of a nuclear power plant in South Texas. This is the first award of its kind in close to 30 years and is very exciting news because Fairbanks Morse has good future opportunities in this market.

The South Texas award follows two other previous nuclear accomplishments for FME. Back in 2008, the business was selected by AREVA to supply emergency generators to nuclear plants that they planned to build in the United States and last year, FME was awarded an emergency generator contract for a nuclear fuel reprocessing facility. However, the South Texas award is the first contract left on the actual construction of a next generation nuclear power facility.

There are currently 22 proposed commercial nuclear power projects under active review by the US Nuclear Regulatory Commission. Currently, FME is the only engine manufacturer licensed by the NRC to meet the safety requirements in this application and is well-positioned to participate in the growing nuclear power market over the next decade.

The other important event in the quarter was the closing of the Quincy Compressor sale on March 1. We received cash proceeds of $184 million at the close and we expect to receive an additional $6 million when the sale of Quincy's China operation closes later this year. The sale helped increase our cash balance to $254 million at the end of the quarter, although the balance does not reflect a tax payment of approximately $50 million that will be due on the sale sometime during the second quarter.

With this amount of cash on hand, we have ample resources to support our strategic growth program, including both bolt-on acquisitions and internal initiatives. We are currently reviewing several attractive opportunities in these areas. Now I will turn the call over to Bill for his financial review.

Thanks, Steve. As Steve said, the first quarter was a good one and a significant improvement over the first quarter of 2009. Our adjusted earnings from continuing operations, which primarily excludes asbestos expenses, was $0.73 per share compared to $0.20 per share last year on the same basis. These earnings use a normalized tax rate for the quarter of about 32%, which is above last year's rate of about 22%, but we anticipated a higher rate compared to 2009, which included first-year benefits from our new European tax structure.

On a GAAP basis, we reported net income in the quarter of almost $100 million or $4.83 per share. This reflects $93 million or $4.56 a share and income from discontinued operations related to Quincy. This is made up of a $92 million net of tax gain on the sale and $1.5 million of net earnings for the two months that we owned the business in 2010. The pretax gain on the sale was $147 million. Last year's earnings from discontinued operations amounted to $0.10 a share.

Sales from continuing operations were up 23%, which breaks down to about 16% organic growth, plus 7 points from the combination of foreign exchange and acquisitions. Increased unit volume was the largest contributor to sales growth. The increases were pretty well spread across most of our businesses and are another encouraging sign that our markets are recovering.

Gross margins were 38.8% this quarter, which is 4.1 percentage points higher than 2009 and 3 points higher than the fourth quarter. This represents an improvement of more than 6 points in gross margins since we reached the low point of 32% in the fourth quarter of 2008. Again, these figures exclude Quincy Compressor, which is now accounted for as a discontinued operation.

Our gross margins improved largely due to the positive volume leverage on our fixed costs at several operations, but most notably at GGB where gross margins doubled. As Steve mentioned, GGB has improved steadily since the second half of last year as we implemented cost controls and organizational realignments there.

SG&A spending increased by 10% in the first quarter of 2010, largely due to foreign exchange and acquisitions. However, as a percentage of sales, SG&A decreased from 2009 by over 3 points as actual spending was up only marginally on organic sales growth of 16%, allowing us to leverage the additional volume.

Here you can see how both our cost reduction programs and the increase in volume benefited our segment income, which improved substantially from the first quarter of last year. The combination of those two factors accounted for more than 70% of the improvement in segment income.

Looking at our segment results in more detail, sales in the Sealing Products segment were up 17%, about 11 points of which was organic. Sales in our Garlock businesses benefited from foreign exchange and acquisitions with a modest contribution from organic growth. Activity in the Americas increased while activity in Europe and power generation markets was basically flat.

At STEMCO, sales improved significantly as core original equipment and aftermarket sales improved and it benefited from its new brake products line. This is the first significant increase in core product sales we've seen at STEMCO in some time.

As you may recall, STEMCO first began to encounter weakness in its markets in the second half of 2007. So the improvement in the first quarter is a very encouraging sign. Lower cost and higher volumes helped the segment's EBITDA margins increase by 280 basis points.

The Engineered Products segment recorded a nice turnaround in the first quarter with sales up 32%. About 12 points came from acquisitions and foreign exchange. The segment's EBITDA margin grew from a slight loss in 2009 to 14.6% this year. As Steve mentioned, GGB made the most significant contribution to the turnaround. GGB's sales were up 40% with increased volumes across all productlines and in most markets. GGB also contributed significantly to the higher segment EBITDA, reflecting leverage on fixed costs and improved labor productivity of the sales group.

Some portion of GGB's gains reflect inventory restocking by customers, so we don't expect to sustain these rates of growth in the second quarter. Even so, we believe favorable year-over-year comparisons should continue for the balance of the year.

At CPI, sales were basically flat with 2009, excluding foreign exchange and acquisitions. Natural gas storage remains high and refinery capacity utilization, while improving, remains below historical levels. However, CPI had solid booking levels in the first quarter and the trend is continuing. So the business's markets appear to be turning in the right direction.

In the Engine Products and Services segment, Fairbanks Morse continued to do well with sales up 25% and earnings up even more. Engine shipments were the same this year as the first quarter last year, apart from service sales, which tend to be more profitable, were up 40%. The segment also benefited from productivity improvements and cost reductions and segment EBITDA margins of almost 28% were well ahead of 2009.

As attractive as the first quarter was at Fairbanks Morse, I will remind you that it is a lumpy business. The first quarter will contribute to a strong first half at FME, but orders for aftermarket parts have slowed somewhat and we don't expect activity levels of profitability to be as strong in the second half.

We generated over $11 million of pre-asbestos cash flow from operating activities in the quarter, an increase over 2009 despite significantly higher working capital levels due largely to the sharp upturn in sales volumes. The first quarter reflects a return to the normal seasonal pattern that we experienced in years prior to 2009 where working capital builds in the first half of the year and reverses in the second half.

Capital spending was down compared to the first quarter of last year, largely because of timing. For the full year, we expect it will increase over last year to the $30 million plus range. Net cash outflows for asbestos were higher than a year ago due to the timing of payments for both settlements and legal fees. We expect this to improve in the second quarter.

With the sale of Quincy, non-operating cash flow was about $182 million, which gave us about $177 million of total cash flow and increased our cash balance to about $254 million at March 31. I would like to repeat a couple of things on the Quincy sale. The total sales price was $190 million, but about $6 million relates to the sale of the China operation, which we anticipate will close in the second quarter.

We will also pay about $50 million of taxes on the gain sometime in the second quarter. So our net total proceeds on the sale will be approximately $140 million. That will leave us with a very healthy cash balance to put to work in our acquisition program and in our businesses. That wraps up my review of a very good first quarter. We saw a lot of improvement in the quarter and many encouraging signs that give us confidence that the recovery in 2010 will continue on track. Now I'll turn the call back to Steve for his concluding remarks.

Thanks, Bill. As Bill said, the first quarter really gives us increased optimism and confidence for 2010. Our balance sheet positions us to pursue acquisitions that complement our core businesses, both by expanding our geographic footprint and by broadening the products we offer in the markets we serve. Our cash balance gives us plenty of capacity to execute this strategy and we expect acquisition spending to pick up as the year goes along, but as always, we will be disciplined in our approach.

We also expect capital spending to return to a higher normal level this year now that our markets are recovering and we move from a cash preservation to a more normal pace of capital investment. The increase in first-quarter asbestos spending compared to the first quarter of 2009 is primarily timing-related and should moderate in the second quarter of 2010.

As we mentioned last quarter, recent filings against Garlock don't yet reflect the scientific evidence that the incidence of serious disease -- serious asbestos disease is in decline. Although the filing of these claims against Garlock has increased in each of the past three years, we are confident they should begin to decline soon.

Additionally, the current cost of resolving claims against Garlock does not reflect any credit for the billions of dollars that are now paid to claimants each year from the more than a dozen 524(g) bankruptcy trusts established by the truly culpable former defendants. Our team of lawyers and experts is defending Garlock in the courtroom and managing claims and payments as well as possible in the current environment. We continue to evaluate Garlock's strategy and alternatives to bring fairness and transparency to the asbestos claims resolution system as it relates to Garlock.

Turning back to our markets, we see signs of sustainable strength in most markets, which we expect to result in higher levels of activity throughout 2010 compared to 2009. The normal seasonal patterns should continue to apply, with levels of activity higher in the first half of the year. But year-over-year comparisons in 2009 will continue to be favorable.

In summary, we had a good first quarter and we think we will continue to see good results through the rest of the year. Our markets have turned and we believe activity will continue at a healthy level throughout 2010. We are committed to effectively executing our strategies for growth and we expect to benefit from them as the year progresses and as we take steps necessary to ensure a long and healthy future for EnPro.

I would like to add a final reminder of our Investor Day in New York City on Thursday, June 10. If you're interested, please take a few minutes to complete the registration. We have an exciting agenda and very much hope to see you there. With that, we can open the lines for your questions.

(Operator Instructions) Joe Mondillo, Sidoti & Company.

My first question has to do with the margins on the sealing and engineered products side of the business. I was wondering if you could just expand on the margin expansion that you are seeing. Is that mainly just due to the increased volume that you are seeing or is there anything else involved in terms of product mix or pricing, etc.?

Joe, I think it's mostly leveraged volume over the cost base, including the impact of the costs we took out last year. But there's no notable change in mix or pricing other than one of our efforts that we talked about in the past as a pricing initiative. It's really a tactical pricing initiative, so we think we continue to make progress on that. But at the high level, it's not enough to really move -- it's mostly volume.

Okay, and then on the Engine Product side, obviously the margin spiked up considerably. Where do you think that sort of comes down to in the second half of this year? Are we going to be at a level of about 18% that we were sort of seeing in 2009 or what do you expect or what are you looking at on that side of the business?

You know, it's tough to say. A lot of that is mix because we had a really good aftermarket volume pace in Q1, which, as Bill mentioned in his remarks, we have actually -- those get booked a month or two ahead of when we ship them. So we've seen that moderate a little bit. So I guess my -- I will let Bill answer this in a second, but I would guess that, on the year for the balance of the year when you look at 2010 in total, including blending in the first quarter, we will be back in the 18% to 20% range would be my sense. Do you think that's about right, Bill?

I think we will probably be a little lower. I think the mix of sales will be more heavily weighted to engines in the second half of the year. So -- whereas we had the exact opposite phenomenon in the first half. So I think we will see margins not holding up the second half at the level we will see in the first.

Okay, and then how does that backlog look in that business?

Exceptional. As Steve mentioned, we booked a major contract in -- during the first quarter, that South Texas nuclear project. Our backlog, I believe -- I didn't go back and check -- but I believe it's the highest it has been since we spun off. We're just shy of $350 million and Fairbanks Morse accounts for $250 million of that, which is up over $100 million from the end of the year, both the total and the Fairbanks Morse numbers.

And is more -- is most of that or a majority of that more heavily a year out or --?

Yes, it is, Joe. None of that -- We will see none of that in the second half of the year. It's all next year and beyond. The South Texas project will ship in '11 and '12. So as we said in our remarks, we do see some softening in some of our parts orders and most of the -- all of this work, these recent orders are 2011, 2012 and beyond. So we won't see the immediate benefit of that in the second half of the year. There is activity, most of which is engineering activity and procurement of long leadtime items and so forth. But in terms of when the engines actually ship, as we've said before, it's always a minimum of 12 to 18 months leadtime and many times two or three years.

Okay, most -- in the past, we've sort of seen volume climb quarter -- basically quarter-to-quarter. There's been lumpiness I guess in the first and third. Should we sort of see that seasonal -- that same pattern that we've seen in the past in that business this year?

There's not a pattern. There's not a seasonal pattern in FME. It's lumpy quarter-to-quarter and it's driven -- the lumpiness in sales is driven by how many new engines we actually ship. So we will ship fewer -- we will ship overall less in the second half of the year.

To Steve's point, it's very lumpy quarter-to-quarter. We shipped two engines in the first quarter. We will have significantly more in the second quarter. It will drop down again in the third, go up in the fourth. So it's very -- it tends to be very lumpy.

But it doesn't follow the same quarter pattern, Joe, from one year to the next. It's really just dependent on scheduled shipments and that kind of thing.

When the customer wants the engine delivered.

If one year happens to look like the previous year, it's really just a random thing.

Okay. My next question is I was wondering if you could go into a little more detail in terms of the acquisition pipeline. Has that been a little slower than your expectations or how is that looking for this year and next?

Well, we closed -- if you'll recall, we closed two transactions in the fourth quarter of last year, including a fairly sizable investment for us, literally the last day of the year last year. We didn't close anything in the first quarter, but part of it was, during the year of 2009, we kind of put a number of discussions on the back burner. As we said numerous times in a bunch of our calls, we were continuing our program, just not at the pace that we had seen in 2008 because we were still in kind of a cash preservation mode through the depths of the recession.

We kind of reignited that pipeline, if you will, in the fourth quarter, and that has continued and continued to grow. So we feel pretty good about the pipeline and the stuff coming down. As you know, our strategy has and continues to be to work on strategic bolt-ons and many of those are smaller in nature. So it's going to continue to follow that same model as we go forward. But we are very confident that activity will -- in terms of the deals we actually get closed -- will pick up throughout the year.

Okay and then last question, I was wondering what the foreign -- the currency effect was on EPS for the quarter?

It was relatively insignificant. It doesn't -- there were only -- at the sales line, it was about 3 to 4 points of that growth. And when you percolate that down to the bottom, it has a very insignificant impact.

Okay, great. Thanks a lot, guys.

Gary Farber, CL King.

Good morning. I just had two questions. One, can you just give us an update on trends and raw material input costs? And then your thoughts on Europe?

Yes, Gary, obviously, we are seeing the same pressure on raw materials that are fairly common that you see year-to-date or at least -- let's first look from April of last year. Copper is up over 50%. Steel are up over 50% from a year ago. There were at the bottom, but for March, things are fairly flat, up a few percentages, a few percentage points. So we see it kind of leveling out a little bit. There's still -- in steel for instance, there's still a number of blast furnaces that are off-line and I think as those -- some of those return to operation, the steel price will flatten out and won't have that kind of pressure.

So we did not stop any of our work on supply chain efforts or pricing, and so we feel we are in a short-cycle business. We feel very confident that we will be able to pass along increases as we incur them in our products. So I think it'll put a little bit of pressure on us, but I am pretty confident that, over time, we will be able to maintain the same kind of gross margin levels that we are not impacted by raw material costs.

Right, and Europe, what's your take on --?

Sorry, sorry. Europe -- even before this whole debt debacle over there, Europe was slow. I think all industrials are seeing the same kind of thing. The recovery was slower. It was certainly getting better, but just not at the pace that we've seen in North America or the rest of the world. So our markets I think are pretty much global markets, products that we sell into over there. A lot of them in Germany find their way to the rest of the world.

So who knows what kind of uncertainty this debt issue is going to impart on the European economy as a whole. But from what we hear from our customers, our order patterns, etc., I would say we are continuing to see recovery and growth. It's just at a more modest pace than what we have -- what we are experiencing in other parts of the world. So I don't know if that helps you any, Gary, but that's my sense.

Yes, that helps. Just one more. Just on your input costs, is natural gas much of an input cost to you and is the low price helping you at all?

No, we like to see a high cost of gas because that helps drive our CPI business. From an input cost, it's not really a significant factor.

Okay, all right, thanks.

(Operator Instructions) Kevin Bennett, Davenport & Co.

Good morning, guys. A couple questions. First one, could you just give some color on some of your major end markets? You said things are improving, but is there any way you can quantify that? I guess the trucking and the auto would be the major ones.

Well, our trucking -- our trucking -- first of all, our STEMCO trucking business is driven by two key drivers. One is trailer builds and the other is the ton mile and when we came into the year -- we follow FTR and other industry trackers that publish their forecasts for trailer builds. And so the forecast going into the year was about 90,000 new trailers and they have since raised that forecast to almost 98,000. So that's another 10% increase on top of what it was. I think it was, what, about 71,000 last year? About 70,000 last year.

At the end of the year, they were predicting we go from 70,000 to 90,000 and now they are predicting we will go from 70,000 last year to let's call it 98,000. And ton miles are up as well. The forecast for ton miles is up another few percentage points. It's encouraging to me because actually our January and February in STEMCO from a sales and order pay standpoint were following the pattern of the second half of last year, which was just kind of a steady, but very gradual increase in volume. And then all of a sudden in March, our order booking rate really took off, really spiked substantially. That has continued through April even up until now.

So I think that's actually a very good sign for us and a very good sign for the US economy because that's, as you know, our best leading indicator on overall economic health. That was the first business that we had to go into decline, which was quite frankly as early as the second half of 2007. 2008 was a very weak year sequentially for STEMCO and then of course, 2009 was even weaker, particularly the first half. And so for us to see that strengthen our orders in STEMCO is a very positive sign for EnPro and I think overall for the economy because, as you know, most of our STEMCO business is aftermarket-related. So it's really a direct function of the ton miles that are moving over the road. So anyway.

Got you, that's helpful. How about some of the industrial markets?

Well, let's see, automotive -- you asked about automotive? We've seen -- look, globally, the automotive industry has returned. It's very difficult to make a year-over-year comparison in automotive because I believe that the first half of last year was artificially low. Then you had the whole stupid Cash for Clunkers thing last fall that just distorted things as well. But I would say the automotive industry is now back on a solid footing, the order patterns that we are seeing are, I think, sustainable. There's some of this inventory restocking going on, we think, but on the other hand -- it's still going to be strong. I don't see -- it may -- the pace of increase may moderate a little bit, but I think it's going to continue to move in the right direction.

And then industrial markets in the US are strong. Our Brazilian business for GGB is strong. Our gasket business for Garlock continues to be very healthy and the order input continues to improve over time. So I am one of the more bullish people on the state of the recovery. It certainly has surprised us to the upside in Q1 and as we peel back the covers, as Bill and I look at it, I think it's real. I don't think there's a lot of artificial stuff in there.

Got you. That leads perfectly into one of my next questions was everything seems to be headed in the right direction. So Steve, what's keeping you up at night? What are you worried about?

Well, look, it's a challenge. It will be a challenge for us to redeploy the cash proceeds from Quincy. I don't think it will be a challenge for us to do that over time. But as you know, Kevin, the Street's expectations are typically much more near term than mine and ours. And I hope that everyone is patient with us because we're not going to do any stupid deals. We're going to continue to do deals that make a lot of sense for our Company strategically over the long haul. They are incredibly accretive and value-created on their own bottom, but because of the nature of what we are doing, it takes a decent flow to make this happen over time.

When you look at our -- when we look, it's not all public stuff, but when you look at our track record over the last four or five years and you look at our acquisition program in total and the money that we've invested in sales and earnings that we've gotten as a result of it, it's fantastic. So we know the program works and I am very confident we can deploy it and I'm very confident there's a number of opportunities out there. They're just not in really huge bites. So it's going to take us 12 to 18 months to really move the needle on that front. But we're not going to -- I am not going to allow us to get reactive in that to short-term expectations. We're still going to be very disciplined and deploy this money effectively for the long term.

Fair enough. The last one is more of just a housekeeping question. Can you break down what segments the restructuring charges were in?

Yes, Bill?

In the first quarter this year?

Yes.

Yes, we had a $0.5 million and half of it was in Sealing Products and half in Engineered Products.

Okay, great. Perfect. Thanks, guys.

There are no further questions at this time.

All right. Well, we'd like to thank everyone for joining us this morning. Again, if you have questions, please call me and we look forward to seeing you at our Investor Day on June 10.

This concludes today's conference call. You may now disconnect.