Powell Industries Inc (POWL) 2003 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and thank you all for standing by. Welcome to the Powell Industries third-quarter 2003 earnings release teleconference. At this time, all participants are in a listen-only mode. Following today's presentation, instructions will be given for the question-and-answer session. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded today, Wednesday, August 27, 2003. I would like to now turn the conference over to Mr. Ken Dennard, managing partner of DRG&E.

Thank you, Wendy, and good morning, everyone. We appreciate you joining us for Powell Industries' conference call today to review fiscal 2003 third-quarter results. We would also like to welcome our Internet participants listening to the call simulcast live over the Web. Before I turn the call over to management, I have the normal housekeeping details to run through. You could have received a fax and/or an e-mail of the earnings release this morning, but occasionally there are technical difficulties experienced during these broadcasts. So, if you did not get your release, please call our offices at DRG&E. And that number today -- we've had some phone issues, but that number today is 832-200-8066. And we'll get it right out to you. Also, if you want to be on the permanent distribution list, relay that information to us. There will be a replay of today's call, which will be available via Webcast by going to www.DRG-E.com, or a recorded telephonic replay, which will be available for the next seven days by calling 303-590-3000, using the pass code of 549573. And that information is in today's press release.

Please note that information reported on this call speaks only as of today, August 27, 2003, and therefore, you are advised that time-sensitive information may no longer be accurate as of the time of any replay. And also, as you know, this conference call includes certain statements, including statements related to the Company's expectations of future operating results, that may be deemed to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties, and that actual results may differ materially from those projected in the forward-looking statements. These risks and uncertainties include, but are not limited to, competition and competitive pressures, sensitivity to general economic and industry conditions, international political and economic risks, availability in price of raw materials and execution of business strategy. For further information, please refer to the Company's filings with the Securities and Exchange Commission.

Now, with all that behind us here, we will get with -- with me today, we have Tom Powell, the Company's President and Chief Executive Officer, and Don Madison, the Company's Chief Financial Officer.

Thank you, Ken, and good morning to each of you. I want to thank you this morning for joining us for the third-quarter conference call. In general, the market conditions from the second quarter persisted into the third quarter, where we saw continued weakness in our electrical product markets and intense competitive pricing pressures. However, we are beginning to see limited signs of recovery in our domestic markets, and more so in our international markets.

Since our second-quarter call, there have been three major developments. First, we witnessed the power outage across the Northeast and the Midwest. Second, we have watched natural gas prices rise due to increased demand and limited supply. And, three, we have had more tragic violence in the Middle East. Each of these unfortunate circumstances necessitates change, and change presents opportunity. I will be happy to elaborate on these points and how they impact Powell after Don Madison's comments.

Now, I will hand it over to Don for a detailed review of our financial results and our outlook for the balance of the year.

Thank you, Tom. Our third quarter was another challenging one. Revenues for the third fiscal quarter were $60.4 million compared to prior-year results of $74.3 million, almost a 19 percent decrease. The third-quarter revenue decline was due to continued weakness in most of our electrical product markets versus a year ago, when we were benefiting from the strength of the power generation market. Gross margin for the quarter was 17.5 percent, compared to 22 percent a year ago. Gross margin was adversely impacted by lower production volumes and competitive price pressures. Our SG&A expense has been reduced by $1.2 million to $8.5 million from this time last year. However, SG&A as a percentage of sales was 14.1 percent in the third quarter, versus 13 percent in the third quarter a year ago, due to reduced sales volumes. Earnings from operations before interest and income tax, or EBIT, for the third quarter was $2.1 million versus $6.7 million last year. During the quarter, interest income increased by $74,000 to $207,000 compared to the same period in the previous year. Interest expense totaled $178,000 for the quarter. Net earnings from continuing operations for the quarter were $1.3 million versus $4.5 million for the third quarter of 2002. Earnings per diluted share were 13 cents, compared to 42 cents a year ago.

Our backlog for the third quarter was $178 million, compared to $203 million in the second quarter and $189 million in last year's third quarter. New orders for the quarter were $35.8 million versus $98.7 million in the second quarter, which included the $37 million Lincoln and Holland Tunnels award. We generated cash flow from operations of $14.9 million, and invested $588,000 in capital improvements during the third quarter, resulting in free cash flow from operations of $14.3 million. Year to date, we have generated free cash flow just over $30 million. As of the quarter end, days sales outstanding averaged 68 days, compared to 71 days at the end of the second quarter. We ended the third quarter with $43.5 million in cash and marketable securities, compared to $14.4 million as of October 31, 2002. As of quarter end, long-term debt was $7.3 million, in line with our second-quarter and year-ago levels.

Now, let me touch on our business segments. The electrical power products segment reported revenues of $53.1 million, compared to $67.8 million for the same period last year, a 22 percent decline. As mentioned earlier, this drop in revenue was due to weakness in most of our markets, and was compounded by last year's strength in the power generation market. Earnings from continuing operations before income taxes for electrical power products were $1.8 million, compared to $6.7 million a year ago. The process control systems segment reported revenues of $7.3 million versus $6.5 million in last year's third quarter, an increase of 12 percent. Earnings from continuing operations before income taxes for process control systems were $386,000 versus $379,000 a year ago.

Now, looking ahead to the fourth quarter, we expect our fourth-quarter earnings from continuing operations to range between 10 and 15 cents per diluted share, and full-year 2003 earnings to range between 65 and 70 cents per diluted share. Full-year 2003 revenue is now expected to range between $250 and $255 million. And we expect free cash flow to range between $30 and $33 million.

With that, I will turn it back to Tom.

All right. Thank you, Don. While our performance has not met our expectations, we do see encouraging signs on the horizon. The country appears to be in the initial stage of a general economic recovery, and there is more chatter about projects. In addition, there are the three special situations that I mentioned earlier -- the blackout of the Northeast and the Midwest, rising natural gas prices and the Middle East turmoil.

Let me start with the Northeast power failure. When the legislators stop the finger-pointing and get to work, we're going to see change, and money will be appropriated to improve our transmission grid and associated electrical systems. Powell will participate in most aspects of these needed changes. We will see additional substations and distribution drops. We will see more spot or distributed generation, locating the generating capacity closer to the load or the user. We are already seeing interest and the need to boost voltage and improve the efficiency in our power transmission systems. We are seeing increased interest in replacing outdated equipment, much of it which is 60 years old or more. Failure of aged equipment could be the catalyst for future brownouts. We are seeing much greater interest in load management, controls and smart switchgear systems. We are seeing more focus on higher-efficiency in-transit systems. In some areas of the country as much as 10 percent of the electrical energy is utilized by the transit agencies during rush hour. That is a significant number, so there is an urgent need for higher efficiency in that market. We will play a role in that development. We also see greater emphasis and enthusiasm for emerging technologies, and we expect increased funding for those projects we are actively engaged in.

The second issue I mentioned is the rise in natural gas prices. We believe this will spur additional exploration and production, both domestically and internationally. Gas transmission systems and compressor stations for distribution will be added and upgraded. We're going to see more activity in the liquefying and compression of natural gas. Most of this is in the international arena. There will also be opportunities in transportation, offloading and regassification of the liquefied natural gas. The existing facilities will be enlarged, and others will be added, both onshore and offshore. Higher natural gas prices will spur more investment in alternative sources of energy and methods of generation, such as windfarms, where we play an important role. And due to the high cost of natural gas, we are seeing renewed interest in coal as an energy source. This presents a number of opportunities for the Company.

Finally, to the tragic situation in the Middle East. There is an urgent need for fresh water, wastewater processing, power generation and rebuilding the petroleum pipeline and refining industry in Iraq and Afghanistan before we will be able to bring our troops home. There are urgent projects on the horizon already being discussed in those areas. We are involved and positioned, well-positioned, to support many of those needs. In Saudi Arabia, Yemen and other countries of the Middle East, there is growing political unrest as a result of a following per capita income and population growth. Governments in these countries are threatened by this unrest, and are considering a number of major projects in an effort to expand their economic base. Many of these projects call for additional exploration, development of natural gas reserves, with subsequent investment in the areas of liquefied natural gas. There will be opportunities for us to provide electrical equipment and systems to support these projects that we are currently engaged in discussions.

Overall, while business conditions are still difficult, the long-term outlook is improving. We have the products, we have the people and we have the resources to benefit from increased capital investment in each of these areas that I have discussed this morning. And I can tell you we are ready.

That concludes my remarks, and we will open the call up for questions. Thank you.

(OPERATOR INSTRUCTIONS). Mr. George Gaspar, please state your company name, followed by your question.

Robert W. Baird. Good morning, everyone. First question is on the backlog in your switchgear electrical apparatus area. Can you give is a measurement of what kind of margin you might be looking at in this current backlog versus, say, six months or a year ago? Can you define that at all?

I am debating that right now. Yes, I think we can define it. Do I want to? I would have to say -- I would have to say it is still going to remain in a competitive situation, in about the same area it has been in the last quarter. In this quarter that we've just discussed.

Okay. And basically, what you are continuing to see on this pull-back in the power generation market in general, and electrical apparatus area in general, is a requirement to bid down off of normal trends in terms of margins? And do you have a focus on where that might tend to change? What are we going to have to see in order to get the opportunity back up for you to, in terms of time ahead of us, where we might see margin improvement?

George, looking forward as to where we -- the fundamental issue is there is an overcapacity in the electrical equipment industry today, relative to demand. As demand improves and capacities are utilized, there will be opportunities for price levels to appreciate.

Richard Leader. Please state your company name, followed by your question.

Burnham Securities. Tom, you talked about very limited signs of recovery in the U.S., but perhaps better overseas. Does any of that already stem from opportunities that you see in the Middle East, particularly Iraq? And do any of the major contractors over there already come and talk to you or placed orders for any equipment in rebuilding Iraq's electrical system?

We have certainly been engaged in conversation. We have quoted some projects. We have no orders in hand at this particular time.

When people talk about the power outage, there was a little bit of a controversy, I guess, between how much of the current grid has just has just been allowed to deteriorate, and therefore spending on the maintenance of the current grid, and then other places talking about an expansion of the grid, especially in certain places that are difficult to get through the power. Do you see greater opportunities in either one of these areas -- one, the maintenance side, or two, actual rebuilding or building more of the grid?

We certainly are seeing a lot of activity currently in maintenance on the grid, the upgrading of existing equipment, replacement of aging circuit breakers which, as I said, could be a catalyst for further catastrophic power failures. That is quite active. Almost each of the areas I mentioned, we are engaged in one form or another of conversation and/or negotiations for projects.

And these would stem through direct sales to the electric utility companies, or through contractors, normally?

Both. Some will go through E&C firms, some will go direct to utilities.

And have you actually seen any pickup in inquiries there since the blackout at all, anything other than just noise at this point?

Yes. I would call it chatter more than anything else. We have seen a direct impact in the maintenance arena, but as far as the bigger projects, just a lot more chatter -- positive chatter.

John Franzreb. Please state your company name, followed by your question.

Sidoti & Company. My first question is regarding the cash -- you're starting to build some up. I know there was some talk about instituting a dividend. Tom, what is your stand on what the best use if of that cash you are building on the books?

The best use of that cash would be for a nice acquisition. We have been involved in discussions in the arena of joint ventures and acquisitions, but nothing is imminent. Frankly, there is not a lot out there right now that we are that encouraged with, but that would be the best use of the cash.

And what are your thoughts about instituting a dividend, then?

We have discussed that. We will discuss that at the next Board meeting again. I would rather have the acquisition, but I am not going to eliminate the fact that the dividend is a potential.

But the environment is not very attractive for acquisitions? Am I right in hearing that?

I am not finding any attractive candidates.

And when I am looking at the backlog, when I am stripping out the Lincoln Tunnel project -- it looks like we had some substantial drop-off in the current quarter compared to the previous two, which kind of had more of a stabilizing backlog trends. Could you discuss why the big drop in the backlog, on an apples-to-apples basis?

I assume you are talking about setting the Lincoln and Holland Tunnel project aside.

Exactly. Exactly, Tom. It looks like it's about 141 million versus 160 to 168 in the previous two quarters.

What did you say, Don?

If you look at the changes in the backlog, that has come predominantly from softer orders in the third quarter, relative to what we saw as far as closing in the second quarter. Revenues are relatively constant period to period. We have seen a fairly constant base of inquiries during the period, but we did experience a softening in the actual closure of orders during the last 90 days.

Do you see think it's more of a deferral process, or do you think we're still in the process of bottoming here? I really had an indication that we are at a trough point in the cycle.

At this point in time, I still think our position is that we are at the trough, but there are still some bumps along the way. So I think you're going to see some ups and downs from quarter to quarter that we did incur around the $2.5 million of cancellation that was netted against new orders in the current period, that if we basically had to give an update on that subject specifically, in the first quarter, we talked about $14 million on hold. At this point in time, a portion of that has been released. This last quarter, we had about $2.5 million of it there was canceled, and the balance of it we're still having discussions on. But for the most part, still feel positive that the majority of that will be eventually released to production.

You have had two consecutive strong free cash flow quarters, yet your guidance implies either a cash-flow-neutral fourth quarter or a $1 to $3 million quarter of cash flow. Why the difference in the fourth quarter compared to the second and third strong free cash flow numbers?

The fundamental conservatism there is that we collected a lot of money very late in the quarter that would actually put us in some situations below what I would think would be a normal level of Accounts Receivable relative to our volume. So therefore, that's going to offset a little bit into the fourth-quarter activity.

(OPERATOR INSTRUCTIONS). Tim O'Toole. Please state your company name, followed by your question.

Delta Management. I am trying to get a little bit of a -- I guess trying to put a little more color around kind of the backlog trends, et cetera, because I think in the press release, you characterized the environment as stable and obviously, I guess, some more encouraging signs from international. But the bookings rate and the book to bill obviously less than one this last quarter. So could you put a little -- it's obviously hard to understand exactly what you're going to do; you have a couple more months to do, et cetera, in the quarter. But could you put some definition around what you mean by stable, in the context of is stable kind of the current order run rate representative of stability, or would a book to build from here of approximately one be representative of stability, in your mind?

When we refer to stability, what we're looking at is the level of inquiries. The level of inquiries has now been fairly steady for two consecutive quarters. Our success in some of those areas at securing work -- we have not been as successful, because of the competitive price pressures. And we really try to do well on these projects.

So I guess would you characterize the environment such that you are willing to give up a little share -- if that's even the right context to put it in here -- for not taking un-economic work?

That's right. I don't believe that you can price yourself to success.

No, no, no; I agree. Could you talk a little bit also about -- I missed this last quarter, so I'm sure you did talk about it. But could you talk a little bit about both the timing of how the work will come into the flow, as well as what the kind of inherent margin is for the Lincoln and Holland Tunnel projects?

The quality of that order I would characterize as being consistent with the typical order that we have in our process control systems revenues historically. When you are looking at the timing, we expect roughly $1 million of that contract will flow into revenues in the current fiscal year 2003. Approximately $20 million will be realized in 2004, and the balance of it will be in 2005.

In terms of the request for quote pipeline, do you have anything in that order of magnitude that you're looking at currently, also, or is that kind of a very special case, do you think?

That's a pretty special case. There should be -- there is conversation about a phase two on that.

Obviously, that would be a little bit further out, but it's something that you would obviously be able to quote on?

Tim, there are several projects that are out there in the process control systems area, but the biggest issue that all municipals are facing right now is available capital.

Budgets, sure.

The budgets today make it very difficult to predict when money will be allocated to any one of these particular projects, but a $37 million award is an unusual size.

I know; it does seem like a big chunk of business. Let me jump out of the queue. I may have a couple more in a minute.

George Gaspar.

Yes; a little bit more on the process control systems area. Can you break down the revenue stream in the quarter as to what accounted for the revenue? Can you identify very -- different project areas? And did any of the revenue stream come from the Holland and Lincoln Tunnel project? And ongoing, also, can you give us some insight as to how the 37 million net portion of that contract -- if I recall, that's pretty close to it -- is going to materialize in revenues going forward, on a quarter-to-quarter basis?

George, you asked a lot of very specific questions. I am not aware of the exact amount, but it would be very nominal, any amount that was actually realized in the third quarter. I would suspect that the majority of that revenue will fall into the fourth quarter. Regarding the breakdown of other --

Not the majority.

-- of the $1 million.

Oh, okay.

What will be recorded in the current year will be in the fourth quarter. Regarding the breakdown of the revenue that flowed through the third quarter, I do not have that, nor do I have a profile of what we expect by quarter next year.

Well, maybe you can answer this question as a follow-on. The revenue stream was higher, obviously, in the quarter than the previous quarter for process control. Do you have a little confidence that you can improve the revenue number in the fourth quarter versus the third quarter?

I would anticipate it to be relatively stable.

Okay. All right. But it appears as though the total is better than maybe you were originally thinking, in terms of revenue stream. Am I correct about that, or were you surprised to see the revenue stream come in where it was?

You have got us scrambling for paperwork, George.

Overall, relative to last year, we will see some improvement in our process control segment year to year. When you are looking at exactly what timing, on which project affects which quarter, you are aware that there's a lot of variations that particularly gets into closing out of projects. And the close-out process of negotiating the change orders at the end of the project can influence any particular quarter. I cannot sit here at this time and tell you how much of that was in the third quarter or what the impact would be in the fourth quarter, at this point.

Okay, now, you had an improvement in margins in that particular segment, on a quarter-to-quarter basis. Are you collecting any fees, revenues against claims, at this point, from some of the washout that has taken place over the last couple or three years on various projects that you have reserved for or costed out? Was there any impact in the quarter from Boston or Toronto or any place like that? Can you just make a comment about your thought process on future collection?

George, we are still in dialogue on almost every one of those particular issues. And I believe we have made some headway on some, but that's a very lengthy, cumbersome and aggravating process, and we're working on it.

There was no material impact on the third quarter from any of these projects you discussed, George.

Okay. So then it's a good increase in margin. Do you have confidence that that margin -- that you can maintain that margin going forward here in the fourth quarter?

George, that business is heavily influenced by competitive pressures, but basically, overall, if you look at the average margins on the projects, they are fairly stable. I do not anticipate any one quarter to be a trend. It has to do with the way the projects are closing out. So know that any abnormal trends that we saw in the third quarter would be not something that I would predict the future on.

John Franzreb.

Tom, I was thinking about what you said about acquisitions, and I was wondering what you thought would be the best type of businesses that could be easily added onto your current product mix. What kind of acquisitions or products are you kind of targeting to bring into the power fold?

John, we have had the most success through the years in the electrical power equipment industry. So we're looking at -- we, again, obviously are working on developing solid-state products and proving that technology, with some success, though that is a slow process. I think we would like to see something additional in the electrical power arena. I can't tell you whether that would be higher voltage classes, lower voltage classes or some of the newer technology that's being developed. We are studying a number of those. We certainly have had opportunities to acquire, I guess, competitors; but that adds nothing to our technological base. So we continue to look for something that would give us a quantum leap in technology.

And you alluded also to the fact that the foreign markets offer opportunity. I wonder if you could take what you think your sales content mix would look like at the end of this fiscal year, domestic versus foreign, and how you think that might change next fiscal year?

Historically, if you go back several years, our international marketplace was sometimes between 30 and 40 percent of our business. Currently, we are down under 20. So I believe, in the coming year, that could be back up to -- under the current environment, that could be 30 percent.

Could you get better margins on foreign sales than domestic?

Project margins have much to do with the nature of the project, as opposed to its origin. So basically, if you are looking at comparable projects domestically versus comparable projects internationally, they have in the same realm of same margin.

Thanks. And due to management's time, we have got time for one more question.

Tim O'Toole.

I am kind of noodling around with some numbers, so maybe you can help me out on a couple of things. Have you taken any headcount or cost out on the SG&A side, given that the volumes are running a little bit lower here?

Tim, that we have reduced our manpower requirements across the board, both in our manufacturing and in our (indiscernible) areas. I don't have the specific numbers in the SG&A in front of me, but overall, we have reduced from our peak headcount of mid-last year to where we are today, approximately 25 percent of our workforce.

Oh, that much? All right. And so that will set the table when things do come back; you will actually get some leverage there. It sounds like you guys want to try to jump off the call, too, but --

I have some customers in here that --

That's even more important.

They want to do a shop tour on some new projects.

Well, get them in there, you know.

Go ahead and --

This is almost -- I don't know if it's quite philosophical or not. But, given the kind of political nature of what kind of has to happen to free up some capital and kind of shake out who even kind of pays for and provides the investment that is going to be required to improve the grid up in our neck of the woods -- I'm up in the Northeast. I am trying to get some sense of timing and what has to shake out and be resolved or something. Clearly, you can't answer for what happens or how Washington even works, but you have probably been through the cycle before. Could you maybe chat about it a for a minute?

I know that some of the utilities -- major utilities in your area -- set up groups a year ago -- eight months to a year ago -- to look at improving technology and anticipating that problems could be forthcoming. So I believe there are going to be some earlier shakeout, even before all the financial issues are resolved, and it's going to be coming out of your general area. So beyond that, the timing is just too difficult to predict.

Fair enough, and thanks for all the feedback.

All right. Folks, we're going to go get with these customers and see if we can do some good. Thank you for joining us today, and we look forward to talking with you again in the next quarter. Thanks again.

Ladies and gentlemen, this conclude the Powell Industries third-quarter 2003 earnings release teleconference. We would like to thank you all for your participation today, and you may now disconnect.