Douglas Dynamics Inc (PLOW) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to Douglas Dynamics second quarter 2011 earnings conference call. At this time, all participant lines are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. (Operator Instructions.) As a reminder, this conference is being recorded.

I would now like to turn the conference over to Mr. Bob McCormick, Executive Vice President and CFO. Sir, you may begin.

Thank you. Hello, everyone, and thank you for joining us on today's call. Two quick items as we begin.

First, please note that some of the information that you will hear during this call will consist of forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended. Such statements express our expectations, anticipations, beliefs, estimates, intentions, plans, and forecasts.

Because these forward-looking statements involve risks and uncertainties, our actual results could differ materially from those in the forward-looking statements. For more information regarding such risks and uncertainties, please see the sections titled Risk Factors, Forward-looking Statements, and Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Form 10-K for the year ended December 31, 2010, filed with the Securities and Exchange Commission and the updates to those sections in our subsequently filed quarterly reports on Form 10-Q.

Second, this call will involve a discussion of adjusted EBITDA, adjusted net income, and adjusted earnings per share, all non-GAAP financial measures which, under SEC Regulation G, we are required to reconcile with GAAP. The reconciliation of these measures to the closest GAAP financial measure is included in today's earnings press release, which is available at douglasdynamics.com.

Joining me on the call this morning is Jim Janik, President and Chief Executive Officer. With these formalities out of the way, I would like to turn the call over to Jim.

Thank you, Bob. Good morning and thank you for joining us on today's call to discuss our second quarter 2011 performance. I'm going to begin by providing an overview of our performance for the quarter, and then Bob will provide a detailed review of our financial results. And then finally, I'll be back to discuss current trends and provide additional details on the remainder of the year.

Overall, we're pleased with Douglas Dynamics' second quarter performance. It was an important quarter for the Company, as we successfully completed a secondary offering of our Company's stock in early May and restructured our debt agreement in April. I'm also pleased to report that we had a good start to our preseason order period and delivered strong financial results.

Overall net sales increased 8%, driven by an 8% increase in equipment shipments and a 25% increase in parts and accessories when compared to a strong second quarter last year. This growth reflected stronger total preseason orders compared to the prior year and the timing of preseason shipment shifting toward the second quarter versus the third quarter.

If you remember, we experienced this same trend during the second quarter last year. Although, over the long term, our preseason orders have been split approximately 50/50 between the second and third quarter each year, in recent years we have seen a shift towards the second quarter. This may be related to some distributors taking advantage of cash discounts associated with earlier shipments as a result of the cash incentives we offer.

In addition, we have recently changed the packaging of our equipment, allowing distributors to store more of our products outdoors, thus eliminating the pressure on indoor storage space. This is a small but important innovation within the industry, which means that distributors have more room for inventory and are perhaps purchasing more equipment slightly earlier.

As a reminder, the second and third quarters taken together comprise Douglas's preseason order period. We normally ship 60% to 65% of our annual equipment orders during this two-quarter timeframe. This is the period from April through September, when the snow is not falling. And in order to encourage distributors to place and receive orders prior to the fourth quarter selling season, Douglas offers special pricing, payment, and freight incentives. These orders are shipped to our distributors at their request during the April through September timeframe, and revenues are recognized when the order is shipped.

Well, the combination of our preseason order program and an average snowfall in any given year typically results in relatively equal shipments across the second and third quarter. There can be swings in revenue, based on whether more of these orders are shipped in the second versus the third quarter. The factors that cause these shifts are fairly tactical in nature and include simple storage space issues at our distributors. Given we view preseason as one time period, we don't over-analyze the shift between quarters.

As I mentioned, we continue to see steady demand for our equipment. We also continue to see increased demand for service, parts, and accessories, as shipments were up 25% year over year. These improved results were driven by heavy snowfalls across the country during the first quarter that produced significant demand for our parts, accessories, and equipment. While we are encouraged that we are seeing the beginning of an appetite for new equipment purchases, we believe a general trend towards repair versus replace will continue.

While our distributors still remain cautious on the sustainability and pace of the recovery, there is a reasonable amount of optimism about the upcoming winter retail selling season. This growing optimism is supported by strong 2010 and '11 snowfall, continued increases in truck sales, and a very stable year-over-year dealer field inventory.

As we've said in the past, a certain amount of pent-up demand likely exists in the industry as professional snowplowers continue to delay some purchases. We expect that demand to materialize over a several-year period rather than one particular quarter or a season.

Before I turn the call over to Bob, I want to share a few other recent developments. First, Nav Rahemtulla recently resigned from the Board of Director. As a principal at Ares Management, our former private equity partners, Nav has provided invaluable strategic counsel to the Company. We wish him all the best and we'll thank him for his guidance over the past four years.

Also, on July 5, we appointed a new independent Director, Kenneth Krueger. And Kenneth will serve as a member of the Audit Committee, the Compensation Committee, and the Nominating Committee. Ken previously served as Chief Operating Officer for Bucyrus International and has significant management experience during his career in the manufacturing industry. We're pleased to welcome Ken, who brings extensive knowledge, both in finance and operations management across the manufacturing industry. And we look forward to the insight he'll bring to the Board as we take Douglas to the next level of growth as a public company.

And finally, I'd like to share some news that we're all very proud of. The Douglas Dynamics Milwaukee facility was again recognized as one of southeast Wisconsin's best places to work. Our Company ranked number three in 2011, up from number seven in 2010, on the Milwaukee Journal-Sentinel's Top 100 Workplace lists. We're honored to be recognized by our employees for the second consecutive year as a great place to work. We believe this, as an award, recognizes the effort on the part of our entire team to make Douglas the very best it can be, and that is very important to us. Our performance is a direct result of our employees' great execution, dedication, and consistent excellent service to our loyal customers.

With that, I'm going to turn the call back over to Bob to discuss the specifics on our financial results, and then I'll conclude with comments on our business and outlook for the remainder of the year. Bob?

Thanks, Jim. While we continue to see some caution on the part of our distributors, based on overall concerns regarding the economic situation, the combination of the above-average 2010-to-2011 snow season requiring above-average equipment usage, and a continued shift to preseason shipments toward the second quarter, led to increases in sales and shipments in the quarter.

For the second quarter 2011, Douglas Dynamics generated sales of $71.6 million compared to $66.2 million in 2010, an increase of 8%. Shipments of equipment units increased by 1,303 units, or 8% versus the prior year, driven largely by stronger preseason orders versus the prior year, along with the timing of preseason shipments shifting more towards the second quarter than the third quarter.

Parts and accessories sales increased $1.6 million, or 25% versus the prior year, driven both by the heavy snowfall and the continued trend towards repair rather than replacement of equipment as a result of economic conditions.

The mix of products we sold during the second quarter fell within normal historical trends, whereas in the prior year, our product mix included a larger percentage of our higher-margin products, which consequently positively impacted prior-year margins.

Cost of sales was $45.2 million, or 63.2% of sales for the quarter, compared to $41.2 million, or 62.2% of sales in the second quarter of 2010. This year-over-year increase in cost of sales was driven by both the unit volume increase and the favorable product mix experienced in the second quarter of the prior year. If you recall, we discussed this positive product mix in last year's second quarter earnings call.

SG&A expenses were $6.8 million for the quarter, a decrease of $1.2 million over the prior year. Although current quarter spending includes $1 million related to the secondary offering, prior year expenses included $2.7 million related to the IPO, thus accounting for the year-to-year decrease.

Second quarter 2011 adjusted EBITDA was $21.9 million compared to prior-year adjusted EBITDA of $21.7 million, an increase of $200,000. As expected, current year gross margins softened compared to the second quarter of 2010 due to unusually favorable product mix in the prior year. This margin variance versus the prior year was largely negated by the incremental profit generated by the 2011 second quarter revenue increase.

Net income for the second quarter of 2011 was $9.7 million compared to prior-year net income of $75,000. Net income in the second quarter of 2011 included one-time add-back expenses totaling $1 million net of taxes incurred as a result of the secondary offering and debt refinancing.

Earnings per share for the second quarter 2011, including the impact of one-time expenses that I mentioned earlier, was $0.44 per diluted share compared to breakeven in the second quarter of 2010. Excluding the impact of one-time costs associated with the secondary offering and debt refinanced, second quarter 2011 adjusted earnings per share would be $0.49 per share.

Net cash used in operating activities June year to date 2011 was $2.9 million compared to prior-year net cash used in operating activities of $24.7 million. This improvement was driven by working capital changes and nonrecurring cash costs incurred at the time of the Company's initial public offering in the second quarter of 2010.

Cash on hand at the end of Q2 totaled $165,000. The unused borrowing capacity on the revolver is $65.2 million. With total liquidity of $65.4 million, we are well positioned to fund upcoming dividend payments.

Accounts receivable leveled to $56.4 million, or $2.3 million lower than the prior year through June, driven by a slight increase in preseason shipment payment terms towards cash discounts versus extended dating in the second quarter.

Inventory levels of $30.9 million are $5.3 million higher than the prior year through June. Inventory levels in 2010 were lower as we reduced production levels during the Johnson City plant closure.

As previously mentioned, we completed a restructuring of our debt agreement on April 18, 2011. Not only did we extend the maturity dates on our term debt and revolving credit facility to 2018 and 2016, respectively, but we also lowered interest rates, improved dividend payment flexibility, and provided additional mechanisms to support financing for potential future acquisitions.

Finally, I wanted to note that in mid-July, the Company filed a shelf offering with the SEC. This would allow certain stockholders a straightforward and cost-effective way to conclude closing out their position in the Company. Given the shelf offering among certain stockholders is going to occur, management and the Board deemed it prudent to piggyback the filing to provide the Company with additional capital flexibility, should the need arise. However, at this time we have no plans to sell shares in the near term.

With that, I'll turn the call back over to Jim for some concluding remarks. Jim?

Thank you. Let me now take a few moments to share a view on the current market conditions and a glimpse of what we are expecting in the second half of 2011.

So far in the third quarter, we have focused on executing against our preseason sales objectives. The preseason order period provides early directional visibility on sales for the remainder of the year, but not definitive guidance. While we believe the overall economy will continue to have a dampening effect on the regular replacement cycle, we are encouraged to see a slow return to a more normal environment.

Sales of parts and accessories continue to be strong, trending higher than the average when compared to the preceding 10 years, which we believe is largely the result of the heavy product use during the past winter, combined with the continued deferral of new equipment purchases. While we believe there will be a gradual unwinding of pent-up demand over the next several years, we do remain cautious about the impact of escalating fuel prices on truck sales and the pace of the economic recovery.

As we mentioned in our last call and as you probably saw in our release, we are updating our guidance for the year now we have more visibility based on our preseason orders. Based on our results thus far in the year and assuming a steady-state economy and average snowfall, we expect sales for the full year of 2011 to range from $185 million to $215 million, and adjusted EBITDA of $48 million to $58 million, and adjusted earnings per share of $0.76 per share to $1.04 per share.

Our message for the remainder of 2011 and beyond remains consistent. Snow and ice is a replacement cycle-driven business. The equipment has been used hard over the last few years of above-average snowfall. Due to the deep recession, plowers have tended to spend relatively more money than in prior years on repair, which is still less expensive than replacement, resulting in increased parts and accessory sales. As we've discussed, we are beginning to see some signs of a shift back towards replacements, among other signs that the consumer is slightly more optimistic about the future and should, hopefully, return to a more typical replacement cycle.

We will now open the line for your questions. Operator?

(Operator Instructions.) Jason Ursaner, CJS Securities.

First, just on SG&A. How should we be thinking about a normalized run rate and seasonality in that expense? And is all of the offering cost included in the quarter's number?

Yes, all of the offering costs for the secondary are captured in the second quarter number. I think, as we've talked a number of times, Jason, there isn't a tremendous amount of variability between quarters when it comes to the SG&A line. I think if you take out the one-time items that we noted, you ought to be looking at what could be considered a fairly typical run rate.

Okay. And then relatively small, but the litigation fee you pulled out from EBITDA, is that also in SG&A, and is that related to the Buyers litigation, and do you have any update on that process, and should it be coming out of SG&A soon?

Legal expenses are in the SG&A line, and they do relate largely to the Buyers lawsuit. I'll let Jim comment on the status of that.

Yes, Jason, the lawsuit continues to be in the hands of the courts. And at this particular point, we're waiting for them to hand down some rulings.

Okay. And then I didn't hear you provide any, the unit volume or a breakdown of equipment versus part sales. Could you possibly give that data?

Jason, that's going to be in the Q, which will be filed today.

Okay. And without that, can you just generally what you're seeing in terms of the variable gross profit per unit on the equipment side? Gross margin was down a little bit year to year, and you mentioned the mix shift, but there's also higher sales. So is it only mix or are you also seeing some pricing pressure out there, pushback from distributors or on the cost side?

It is almost entirely mix. As we noted a year ago when we saw a very unusually favorable mix fall into the second quarter, we wanted to highlight that for folks, because the odds of that repeating this year were very, very low. So as we look at those numbers, it's almost all mix-related.

Okay. And then just the last question for me. So with the sales outlook still being pretty strong, I'm trying to figure out what's leading to the implied reduction in operating profit margin despite some one-time SG&A costs being in the quarter. Are you expecting any headwinds to the variable gross profit that you're running now?

We think margins will be fairly stable over the back half of the year. There's two things that we -- or one thing that we're keeping our eye on. Then there's one other factor that I will note.

We're certainly watching steel prices, still, at this point. We did take a surcharge out to the marketplace to cover anticipated steel inflation, and we have to watch what happens to steel between now and the end of the year. And that could have some negative impact on our margin if it doesn't begin to decline at the pace that we hope it does.

Secondly, and this is just FYI. If we go back to what I talked about the balance sheet and inventory being up $5.3 million this year, it makes logical sense that during the Johnson City plant closure a year ago during the second quarter that we didn't build a lot of inventory, thus the increase this year. But that has an impact on the overhead absorption that flows to the P&L.

So we had a favorable impact to overhead absorption this year, and we'll have a corresponding unfavorable impact in the back half of 2011 as we take inventory levels back down to where they should be by the end of the year. So that's another drag on our second half margins, but it's really a tiny thing that doesn't have any impact for the full year.

Okay. Thanks a lot. I'll jump back in the queue. Thanks, guys.

Tom Hayes, Paper Jaffray.

I was just wondering a little bit, if you could go over some of the changes you made into your AR terms as far as what you made. Another question is why did you make them?

Yes, Tom. We didn't make any changes to our program. And just to educate a little bit, you've got two options, and most people choose the extended dating term option, where they take shipment in Q2 and Q3 and pay for it in Q4.

There's another available option that says you take shipment in Q2 and Q3, but if you pay that bill early, you get a corresponding cash discount. So those program elements are the same, year over year. But what we saw, at least in second quarter shipments so far this year, is a slight shift towards more people taking that early payment discount and not the extended dating discount. So we got a little bit more cash coming in earlier and ending up with a lower accounts receivable balance at the end of the quarter. Nothing of a dramatic shift. It's only a couple of percentage points at this point, but enough to move the needle.

Okay. And then maybe if you could just remind us, because it sounds like there was a meaningful, from the storms that hit in the late season storms, that your distributors sold off some of their parts and accessories. Maybe you could just provide some level of magnitude between the margin profile in some of the parts and accessories versus the basic plow units?

Sure. From a margin percentage perspective, we talk about plows or equipment units in total being north of 40%, and parts and accessories are just shy beneath 50%. So parts and accessories margins are a little better. And so when you see parts and accessories volumes jump up or, conversely, go down, it can have an impact on overall margin percentages.

Okay. Just lastly, then, as far as your municipal market, and maybe you've got some granularity from talking to distributors. Has there been any change in their outlook as far as outsourcing their plowing activity just due to their budget constraints as you continue to read about municipalities having budget issues?

Yes, Tom. Most of what we hear are examples, and somewhat limited, about people outsourcing. I do believe, my instinct tells me, that it may increase -- municipalities outsourcing plowing, snow removal, ice removal, to private contractors. I see that increasing. The pace at which it increases, it's difficult for me to tell. But from my perspective, whether it's done through the municipality or through private contractors, they still need to use our type of equipment. So it shouldn't have any impact on our business.

Okay. Just lastly, did you guys introduce any new products this season?

This season, relatively limited new products this year. I think next year we will have a couple of new products. Most of this year primarily was spent on getting our factory closed and getting all of the production transitioned from one factory to the other. So there were a few minor things that we did, product enhancements, but nothing that I would call material new product introductions.

Great. Thanks, guys.

Robert Kosowsky, Sidoti.

Just got a quick question, Bob. Do you have any idea what the exact margin impact was, because of the negative mix, on the gross margin line?

I don't have that figure with me, no.

Okay. And then maybe this question for Jim. Could you maybe comment on the financial health of some of the landscapers out there? Like what are you seeing or what are you hearing from your dealers about their customers?

Sure. Actually, it's very interesting. I think what you see in landscaping is that it's relatively easy for people to get into the landscaping business. So I think you see a fair amount. Even on an annual basis, you'll see a fair amount of new customers, you'll see a number of people going out of business.

But I think landscapers in general are a bit more positive than they were last year. I think they had a good snow season last year. Early this year there was a lot of rain. So I think landscapers are in a better place than they were last year. And the discussions I've had with landscapers over the last few weeks, and dealers, is that there's some general optimism.

I don't think anybody's hugely excited and think that this is going to be a breakout year. But again, I think comparatively, they're feeling better off than they were a year ago.

Okay. And then just on other -- supply chain constraints. Do you see anything with getting components or prices going up on non-steel-related pieces of equipment? Just some more context there would be helpful.

Sure. Bob, you want to take that?

Sure. Yes, we currently don't see any major supply line issues, Rob. When the tsunami and earthquake did impact some of our Japanese supply lines for a short amount of time during the second quarter, but those things are back on track. So right now we feel like we're lined up and ready to go.

Okay. Just one final question. How would you characterize fourth quarter last year? Was that an average year for sales? Was it good, bad, kind of the same? Kind of qualitative thoughts about that.

I guess I would -- Jim can also comment. But I would say it was an average equipment year, if you will, but it was an above-average parts and accessories quarter.

Okay.

Yes, we had some strong snowfall later in the quarter and that drove some pretty strong parts and accessories sales.

Yes, I would take it from a different -- I think Bob's exactly right. My point of view was it was a very slow start to the fourth quarter. There was very warm weather nationwide. So landscapers were working on landscaping up until perhaps even late November. So it started very slowly, but it ended quite nicely.

Okay, thank you. Good luck with the back half of the year.

Thank you. (Operator Instructions.) Peter Lisnic, Robert Baird.

First question -- sorry, I may have missed this. But can you give us a little color commentary on what you're hearing from your distributors in terms of field inventory?

Sure. As you know, we take field inventories four times a year. The last one we took was in May, the end of May. And year over year that was flat, which is very positive. And when you add to that, that retail sales were up for that same period, it puts dealers in a good position.

What I do hear from dealers, at least at this point, is they're pretty confident. They're seeing some relatively good activity for this early in the year. Typically, this time of year there isn't a lot of retail, but I think people are generally positive. But I don't think our dealers are ready to go ahead and place large orders or restocking orders in anticipation yet of a real strong sell-through. I think they're positive, they feel good, but they're waiting to see the actual demand. And then once they do, I think they'll start to get some reorders. And we do typically get some reorders in the third quarter.

Okay. So it's safe to say, if you look at your revenue forecast, that's more of a sell-through number, not necessarily any inventory building up?

Yes, I think that's fair to say.

Okay, all right. And then if I look at that forecast, plus 13 at the midpoint. But the run rates in the first half of the year, I think, if I got the numbers right, are units plus 13 or so and parts plus 40. Can you just give us some color as to what the outlooks are in the back half of the year for units and parts and accessories?

Bob, do you want to take that?

Sure. Obviously, the first half numbers are going to be skewed by the very heavy snowfall that we saw during the first quarter, which very positively impacted the first quarter results, Pete. I think I'll go back to Jim's comments about preseason orders in total being up high single digits. So that's baked into part of our second half projection.

And then, as we always do, we plan right down the middle during the fourth quarter and plan for average snowfall with fairly average types of equipment replacement. Probably a little softer on the parts and accessories side at this point because there was above-average snowfall late in the quarter last year. And again, we always look at average snowfall when we put these forward-looking projections together.

So no way that we're going to repeat the number that we did in the first half, because the first quarter snowfall just drove those numbers through the roof. Still positive numbers for the second half compared to a year ago.

Okay. And then if you take that one step forward, I know you had mentioned rising steel costs and some of the absorption accounting impacting the EBITDA margin in the second half. But could adverse mix be part of the formula, too, as to why you're looking at an EBITDA margin that's lower year over year in the second half of the year?

Not very much at this point. And that's not to say that mix shifts couldn't happen. We're not anticipating any unusual mix shifts at this point, Pete. If you look at the impact of absorption, if you look at the impact of steel prices and timing, that's going to turn out to be the majority of what's driving that number.

Okay, all right. That is very helpful. Thank you for your time.

David Schmookler, Kingsland.

Maybe I can take a stab at the margin question a different way. So total revenue was up 8%, and then you said the equipment sales were up 8%. So it implies flat unit pricing, although you mentioned, you said a steel surcharge. So I'm just trying to get a sense of the unit pricing trend you're seeing here. Was the discounting any greater this year than it was last year? If you could just expound on that.

Sure. This goes back to the mix issue. When you sell a plow, you sell various components that get assembled together and make a usable plow. You don't always sell all of those individual components in the same mix. If there's four different components that have to be put together to make a plow, you don't sell one of each of them, you put them together, and you've got a plow. Sometimes you sell six of one, four of another, two of another.

Each of those components has different average sell prices and different margins. When we talked about favorable mix from last year, that would have been more higher-average-sell components falling into Q2 at higher margins than we normally see. Therefore, when you compare revenue year over year, it looks like it's flat or there is some possible degradation.

It has nothing to do with the pricing out in the marketplace. It just has to do with the mix of components that were shipped in that quarter versus a year ago. A little difficult to understand unless you live in our world, but I want to make sure that the message is clear. There isn't any pricing changes. In fact, we took our normal annual price increase to the market this year. No discounting taking place out in the field. It's just purely an issue of the mix of components that shipped in the quarter.

Thanks for the clarification.

Thank you. (Operator Instructions.) I am showing no further questions in queue at this time. I would like to turn the conference back over to Jim Janik for any further remarks.

I appreciate everybody being on the call, and I appreciate your interest in Douglas Dynamics in joining us today. And we look forward to speaking with you again during the third quarter announcement. Thanks again, and have a great day.

Ladies and gentlemen, thank you for your participation. That concludes the conference. You may disconnect, and have a wonderful day.