Richardson Electronics Ltd (RELL) 2008 Q3 法說會逐字稿

Good day, ladies and gentlemen. Thank you for your patience, and welcome to the third quarter earnings conference call. My name is Fab, and I will be your coordinator for today. At this time all participants are in listen only mode. We will conduct a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS)

I would now like to turn the presentation over to your host for today's call, Mr. Ed Richardson, Chairman and CEO. Please proceed.

Good morning, and thank you for joining the Richardson Electronics conference call for the third quarter of fiscal 2008. Joining us today is Kathy Dvorak, Chief Financial Officer, and Greg Peloquin, Executive Vice President and General Manager of the RF Wireless and Power Conversion Division. As you know, RFPD is our largest business unit within Richardson, and represents about 67% of our total sales.

During this call, we will provide our view of what the future holds for Richardson Electronics. This means we will be sharing forward-looking information with you. These statements are projections which are affected by the risks and uncertainties in our business. We assume no obligation to update our projections. Our actual results may materially be different. Please refer to the cautionary language in our press release and SEC filings for additional discussion on our forward-looking information.

Our call is being webcast, and will be available as noted in our press release. I would like to briefly review our accomplishments, and then specifically discuss our plans of the Display Systems Group. Kathy will present the highlights of our Company's financial performance, and then Greg will discuss the results for RFPD. Finally, I will provide some comments on our Electron Device Group, as well as provide an update on our long-term outlook, and then we will be happy to answer some questions for you.

For those of you who are not familiar with our Company, we are both a distributor of electronic components, and a provider of engineered solutions. In other words, we can supply a single component, we can design numerous components into a module, or design and provide a completed interrogated solution for our customers. While we have always been and always will be a customer driven organization, we have needed to balance our customer focus with a cost-effective internal process and structure. We must run our business more efficiently and profitably.

We kicked off a number of companywide initiatives in late December, attacking areas such as freight, inventory control, renegotiating all of our supplier and service agreements, we have implemented a hiring freeze, and we have begun general cost cutting initiatives all across the Company. We are also in the process of realigning the Company's support structure, with the effect of reducing our overall fixed cost. The response from our entire organization has been extremely positive.

The team has committed to support our efforts. The extraordinary efforts of the Richardson team are beginning to produce a more disciplined approach to decision making, as well as improvements in both working capital management and operating cash flow. As I mentioned on our last call, Doug Albregts joined the Display Systems Group last November, after having spent more than 12 years at NEC Display Solutions. Recently we have struggled with the financial performance of our Display Systems Group.

During the third quarter we began implementing a revised business plan, which was developed to return DSG to profitability. This includes exiting marginal and unprofitable market segments, exiting the distribution of low margin branded products, and a shift in focus to more profitable digital signage business. We have eliminated more than 30 positions in DSG, resulting in over $3 million in annual cost savings.

Our sales remain strong, and we are supporting these sales with a lower cost structure. I am very pleased with the progress that Doug and his team have made to date. The outlook is encouraging, and I look forward to reporting positive contributions to our bottom line from DSG in the fourth quarter.

Now I would like to turn the call over to Kathy to briefly discuss our financial results.

Thank you, Ed, and good morning, everyone. I am pleased to report that we are making progress in many areas of our business, as well as identifying areas that provide future opportunities. Because we are talking about changing a culture, dealing with long product lead times, and in many cases, not being able to renegotiate service agreements until they expire, we are not seeing significant immediate benefits from our efforts.

Before I get into the details of our financial results, I want to mention that we have two significant items in the third quarter, first we had inventory write-downs of approximately $2.8 million, $1.9 million related to the change in marketing focus of DSG, the other $900,000 related to inventory from a prior acquisition. Second, we incurred about $1.5 million of severance expense, the majority of this relates to the elimination of more than 30 positions within DSG.

So to provide you with a better picture of the true operating results for our business, the numbers I will be discussing from this point forward exclude these two items. Sales for the quarter were up 3.7%, driven by positive sales growth in RFPD, EDG, and DSG. Gross margins improved by 50 basis points compared to the prior year's quarter. We are beginning to see positive margin results from the favorable product mix as well as our key initiatives. Our SG&A expenses were $30.5 million, or 22% of net sales.

Overall cost containment actions are gaining traction, and we are starting to see our SG&A expense measured as a percent of sales decline. Included in SG&A is $1.3 million of depreciation and amortization expenses. We are turning over every stone looking for opportunities to reduce our costs. We expect future SG&A to decline further, as we continue to bring down our headcount and benefit from our other cost cutting initiatives.

Operating income for the third quarter would hit then $3.5 million, compared to $1.4 million in the prior year, excluding a gain on the sale of assets in 2007. Taxes in the quarter were approximately $300,000. We believe our tax expense for the fourth quarter of fiscal 2008 will be roughly $400,000. For the third quarter, net income would have been $2 million, compared to a net loss of $1.4 million during the third quarter of last year, again fiscal 2007 figures exclude the one-time gain on the sale of assets.

Sales for the first nine months of fiscal 2008 were $413 million, up slightly compared with $411 million during the first nine months of fiscal 2007. Excluding the significant items, gross margin as a percentage of sales was 24.3% for the nine months of fiscal 2008. SG&A for the first nine months of fiscal 2008 was about $90 million, or 22% of net sales. Operating income was approximately $10 million, and net income, again excluding the significant items, would have been $3.9 million.

Now let me turn to the balance sheet. As I mentioned on the last call, the volatility of foreign currency relative to the dollar significantly impacted our balance sheet position. As an example, the translation of the U.S. dollar versus the Euro declined by approximately 12% during the first nine months of fiscal 2008.

Therefore our Accounts Receivable balance as of March 1 was $105 million, versus $106 million at year end. Excluding the impact of foreign exchange, our Receivables actually declined by about $8 million, versus the $1 million shown on our balance sheet. Our inventory levels were $107 million, down $3 million from year end. However if we exclude the impact of foreign exchange, our inventory declined by $9 million, due primarily to the implementation of tighter purchasing controls.

We have made some progress in the inventory management, but certainly see further opportunities for improvement in the upcoming quarters. So far we have implemented a new demand planning tool, which helped us to reduce our overall inventory balances by approximately $8 million since the end of the second quarter. We have rolled out an enhanced forecasting tool that increases accountability for regional sales managers. We have developed programs targeted at selling aged and reserved inventory, and finally, we have developed daily inventory metrics that provide visibility into inventory levels by product line.

Our Accounts Payable balance increased by approximately $2.5 million since year end. This included a $1.5 million impact due to foreign currency exchange. We are continuing our efforts to negotiate better terms with our suppliers. Cash flow provided by operations for the first nine months was $8 million, as compared to cash flow used in operating activities of $9 million for the nine months last fiscal year, this $17 million swing is the result of better management of our working capital.

Cash flow used in investing activities included capital spending for the first nine months of $4.2 million, versus $4.7 million in the prior year. Our total debt less cash at the end of our third quarter was $35 million, compared to $42 million at the start of our fiscal year. We have identified more than 15 company-wide initiatives. These initiatives are focused on improving varying aspects of our financial performance. We are initially directing our resources to those that represent the highest payback.

For example, we are redoing our global support structure, to align our administrative costs with the needs of our business. We have identified many opportunities that we will pursue over the next couple of quarters. This will lead to a reduction of our overall general administrative costs. We will realize cost savings as a result of our freight initiative. These include renegotiated carrier contracts, as well as minimizing our freight expenditures. These cost savings will gain momentum as we enter fiscal 2009.

We are beginning the process of renegotiating improved terms with our suppliers. To date we have renegotiated with about 30 vendors, representing about $66 million in total sales volume. We are also renegotiating our service agreements in non-inventory contracts. To date we have expected annualized cost savings of over $1 million. Of course, there are many additional opportunities in this category that we are currently pursuing.

In summary, we believe we are now on-track to deliver improved financial performance in the fourth quarter, and solid financial performance in fiscal 2009. Now I would like to turn the call over to Greg to discuss our RFPD business.

Thank you, Kathy. In Q3 RFPD continued it's growth strategy by increasing sales 4.7%, or $4.2 million. This extends RFPD track record of seven consecutive years of record sales growth.

With that, all three RFPD business units exceeded Q3 prior year. RF Pass and the Interconnect Business led the way with 17.9% growth. This growth was led by a major contract with True Positions, and strong growth within key suppliers Anaren and ATC.

China experienced the largest growth within this group, with continued market share growth with associated selling for TD-SCDMA, infrastructure build, and various repeater applications. The largest shipments were made from a custom patch attendant to a contract manufacturer in China, on a design that we did for a customer in North America. This attendant is using Asset Tracking product. We are seeing a large increase for opportunities in this application.

In Q3 the group also won a major component design in the Wi-Fi module that will be used in the MacBook Air. We have completed the design using our key component supplier Anaren. The Power Conversion business unit again continued it's record ways with a sales increase of 12.1%. Alternative energy continued to be our focus, growth in southeast China was led by sales into inverter applications for alternative energy, both wind and solar market.

In the quarter Europe, specifically Italy, continued our alternative energy focus, by producing growth in power semiconductors for alternative energy, again mainly solar applications. Power Conversion also continued to enhance the line card to replicate the proven strategy we have developed on the RF and Wireless side, as we recently signed an agreement with Kemet, who had acquired Arcotronics, Evox, and BHC Capacitors, thus expediting our strategy of being the world leader in Power Conversion, alternative energy, component engineering solutions distribution.

This group will exceed $55 million this year, up from 25 million just two years ago. Our book-to-bill in the quarter was over 1, which was a very positive sign for the second straight quarter. Our backlog remains very strong at over 122 million. On the operations side, improved inventory management such as upgrading the Company's sales and operations planning policy and procedures, have shown great success with stabilizing our inventory in Q2, followed by a strong reduction in inventory in Q3. RFPD inventory was down 7 million from the second quarter.

One last positive note, we received a second $4 million order from Global Star for the design and test of the bi-directional amplifier and antenna for the mobile satellite phone kit. This product was designed exclusively for Global Star by our engineering solutions group in North America. This along with the Wi-Fi module for the MacBook Air, which I mentioned earlier, continues to show our global engineering capabilities. Once again, not too bad for a distributor.

Back to you, Ed.

Thanks, Greg. Let me briefly provide the highlights of the quarter for the Electron Device Group, and then close with some comments on our outlook for the fourth quarter, and fiscal year 2009. Sales for EDG were up 1.8% to $24.8 million. The increase was driven by an 8% increase in the sales of tubes, offset by a decline in the sales of the semiconductor wafer fabrication products.

The semiconductor fabrication industry continues to experience an overall slowdown. Gross margin declined slightly to 32.1% from 32.5% in the quarter, reflecting the mix of product sales. EDG continues to deliver consistent financial performance. As Kathy and Greg have indicated, we are building momentum for both sales and profit improvement. We believe we will begin to see benefits of our efforts in the fourth quarter.

Early indications are that the fourth quarter will show significantly improved operating performance. Fourth quarter net sales should be in the range of 145 million to $150 million, and our FY08 full year sales should be about $560 million. I am expecting our Company to generate operating income of 5 to $6 million during the fourth quarter. This excludes severance costs of approximately $1 million related to our support structure realignment. If we achieve our goal, I anticipate that we will come close to breaking even on net income for the full year of fiscal 2008.

Looking ahead, we expect sales growth for fiscal 2009 to be in the low to mid-single digits. Additionally, we expect improved gross margin in 2009 as results of our key initiatives. Our 2009 goal is to keep our operating expenses as a percentage of net sales below 20%. Overall, we are committed to delivering a year of solid financial performance in 2009.

Now I would like to open the call for questions.

(OPERATOR INSTRUCTIONS) We will pause a brief moment to compile a list. Your first question comes from the line of Christian Schwab from Craig-Hallum Capital Group. Please proceed.

Hi guys. Kathy, just as we are kind of playing with the numbers here, do you have an absolute dollar amount in mind for SG&A?

By quarter, we are looking somewhere close to 29.5 to $30 million.

Okay.

For '09.

Okay. What do you think your absolute tax rate is going to be in 2009?

It is very difficult to quote a tax rate. Because of how we are structuring the business, right now as we look at it, we anticipate our taxes in 2009 to be between, somewhere around $2.5 million for the total year.

Okay. So that would be a very material increase in earnings for next year, correct? That is what we are looking for?

That is our goal.

Like well north of $0.50? Am I doing that math right?

Where are you getting your $0.50 from? I mean, we can --

Looking at mid-single-digit revenues, 24% gross margins, SG&A held flat, interest expense going down.

Yes.

Low tax rate, seems to get there quite easily, actually.

Yes.

Should we be thinking about that that way?

That is a realistic modelling.

Realistic modeling that is. Okay. Perfect. And then the reduction of the freight costs, is that just kind of gradually we are going to see that in 2009 on kind of a gradual basis?

Yes. It comes from a combination of initiatives as I mentioned, some of it is renegotiating with carriers, and some of it is just minimizing our overall freight expenditures, renegotiating with suppliers relative to inbound freight, and capturing lost freight dollars.

Great. And then what would be a target? You have done a fabulous job of reducing the inventories to generate cash. How much more efficient can we be in that area?

Well, probably there is a lot of room for improvement, yes.

Okay.

You are only seeing, we have a lot of long lead times and so a lot of purchase orders were cut before we tried to do things. All of the business units have been working very diligently on negotiating with suppliers, and so hopefully we will be able to do more stock rotations, and other things that allow us to increase the inventory turns. Again, all these things take time, and we will see gradual improvements as we progress through 2009.

Right. Right. And when would you use the cash as a means of buying back the stock, or to convert?

That is a really good question. Right now the cash is overseas, and is permanently invested for U.S. tax purposes. We are evaluating our alternatives to determine the best use of cash, and hopefully our new distribution model should change our cash dynamics, and once we are comfortable with the cash dynamics of the business, it is a decision that will be presented to the Board.

Okay.

For recommendations.

Great. Thank you. No further questions.

Thank you.

Your next question comes from the line of Rob Damron from 21st Century. Please proceed.

Good morning, everyone. I wanted to add, maybe give us a little more color on the Display Systems restructuring. You talked a bit about walking away from some of the lower margin commodity business, and then focusing more on digital signage. I guess in the near term, how does that impact the sales of that group? Should we expect a slight decline in that group before we start seeing growth again? And just a bit on how you plan to capture additional share in the digital signage market.

Well, the sales in the third quarter, as you could see, were just up slightly so they were just about flat. What we are looking for is about $80 million in sales in FY08, and single digit growth in '09. We have walked away from some of the low margin commodity distribution business, and focused on some very key markets, including digital signage, and some of the low margin business we have actually turned away, and that is the reason for the flat sales.

Okay. That is helpful. And then let's see. The initial restructuring that was announced, I guess over a year ago where there was consolidation of distribution centers, and more of a hub and spoke model, I guess is that now completed, and have we begun to see the benefits from all of that?

It is just about completed. We still are working on the China initiative. We are going to maintain a warehouse in Shanghai and possibly Shenzhen, but the Singapore operation, the final piece of the three hubs was opened in the December timeframe, something like that, and the European hub has been open now over a year. So the structure is fully in place excluding a couple of satellite warehouses, and we have pretty much moved to the LRD structure, which should give us a tax advantage going forward.

Okay. That is helpful. Just a couple of other questions. You mentioned the $3 million of savings from the restructuring from the Display Systems Group. What is the anticipated annual savings for the support staff restructuring as we go into fiscal '09, and then should we anticipate any other one-time expenses, beyond the ones that we have talked about today?

I will let Kathy address that for you, Rob.

Rob, the only expense that we anticipate at this time is the fourth quarter severance number that Ed mentioned, which is somewhere around $1 million.

In terms of your question of we didn't really split out the cost savings by different functions. All of these things collectively get us to our goal of being under the 20% operating expense ratio for '09.

Okay. And then we shouldn't really anticipate any other one-time expenses in fiscal '09?

Not that I am aware of at this time.

Okay. All right. Thank you very much.

Thanks, Rob.

Your next question comes from the line of Sam Bergman from Bayberry Capital.

Good morning, Ed, Kathy, how are you?

Good morning Sam.

A couple of questions. Could we get a book-to-bill. I know you gave it to us on the RF, but the EDG and also the Display Group. Can you give us a book-to-bill for the upcoming quarter?

They are both over 1, Sam.

Do you have much more of an outlook in terms of further quarters, three months, six months out in those divisions?

EDG is pretty much an aftermarket business, and the majority of those orders are shipped the same day they are received, or within three to five days for sure. So that is more difficult.

The one thing that we do see is last year about a $25 million piece of the EDG business had to do with the semiconductor wafer fabrication industry, and that business is down. However, in the last quarter we did see that the manufacturing side of that, which is done here in Lafox, start to increase so we think that has bottomed out.

And the other side of it, both our industrial 2 business, and our broadcast 2 business was up, which more than compensated for the decline in the wafer fab industry. The Display Business tends to be more project-based, and right now the order backlog is quite good, so we are hopeful that we will see improved performance in the fourth quarter.

Now, Display Business works on design wins, is that correct, or mostly design wins?

Yes.

And you have certain commitments for the next several quarters in that particular business?

We do. The question is always how quickly they will roll out.

Can you give us an update on business with Wireless Ronin?

Well, they certainly have a number of large projects. Again, it is timing. We are waiting for that business to roll out, and we are confident we'll be the hardware supplier in a number of those opportunities.

Okay. The other question is in regard to inventory. How much better can inventory management happen in '09 versus '08, in terms of the sequential drop in all divisions in the next 12 months?

I think you really have to look at it by business unit, but we certainly have goals for every business. Our goal is to get to 5 turns. It is probably a more achievable goal for RFPD and DSG, since the EDG business is significantly different from that, and it does require the stocking of inventory.

I would tell you from what I see right now there is still significant room for improvement so, again, we are going to creep up over time improving turns, working through some of the slower moving inventory, and as we get that out and get the inventory right-sized, it should increase the velocity of our overall inventory turns.

Do you have a number at all in terms of percentages?

I can tell you our goal is to get to a 5, but right now we are on a probably consolidated 4 inventory turns.

Okay. And the last question in terms of employee count, employee count at the end of the third quarter, can you give me a total amount of employees?

937.

Where do you expect that to be at the end of '09?

Probably should be down another 20 or 25, something like that. Not the end of '09. By the end of '08.

By the end of '08?

'09, I think it will be about flat, somewhere in that area.

Just one other question about the update on consolidating the hubs. Can you tell us where that stands right now?

Well, the hubs are completed. The last piece of that was Singapore, as I mentioned earlier. We consolidated the inventory from Korea and Japan, and the other Asian warehouses into the Singapore hub. We are still maintaining a warehouse in Shanghai, and also in Shenzhen. As you know the Chinese market is about $60 million a year to us, and we need in-country inventory there.

We also have a satellite warehouse still in Brazil. But for the most part the hub structure is complete. We haven't yet moved the inventory around. That happens pretty much as purchases are made in the various areas of the world.

Our strategy there was to maintain inventory that is purchased in the Euro and Amsterdam, anything in the dollar in the U.S., and in the Asian currencies in Singapore, but that really builds up and equalizes, as we purchase more inventory going forward, and the current inventory is turned over.

So most of it is done --?

Structure is done, yes.

When do you figure the inventory is going to be moved from those areas, and placed properly?

Well, it happens as sales and replacement purchasing occurs. We are just letting it happen by inertia, basically as the business evolves.

Thank you very much.

Thanks, Sam.

(OPERATOR INSTRUCTIONS)

Your next question comes from the line of Russ Silvestri from SKIRITAI Capital. Please proceed.

Good morning, and congratulations on the progress being made.

Good morning.

I had a question in terms of the debt outlook for over the course of the next year, in terms of how much do you expect to reduce the debt in '09?

Kathy.

Well as I said, right now we have cash sitting on the balance sheet, we have $55 million in bonds, and $10 million outstanding under the revolver. We will make a determination, as I said, with the Board, making a recommendation to the Board in the next few months relative to what we do with cash, whether it is paying down debt, buying back bonds, repurchasing stock, or evaluating any other alternatives for the use of cash.

Okay. And then the other thing. Was there any large customer in the RF side of the equation that drove the business?

No. I don't have any customers that make up more than 3% of the total business. That is another positive sign. There was no one-hit wonders that made up the growth the last two quarters. The very broad base of our, whether wireless or power customers that are a smaller niche Tier-2 type customers that love our model, so we don't have any exposure in that sense.

Thank you very much.

Thanks, Russ.

Your next question is a follow-up from the line of Christian Schwab.

Hi, Kathy. It is Christian Schwab again. The revenue guidance that you gave for '09, can you just give that to me again, the growth?

I think Ed was on revenue guidance.

What we were talking about is low to mid-single digits.

Right. So if I give you like 5% revenue growth, and we do $591 million in revenue, give or take next quarter, next year 24% gross margins, hold SG&A at 20% debt expense, and foreign exchange expense at around 6 million for next year, which seems likely, a little conservative actually, and we only pay $2.5 million in taxes, I come up with an earnings number next year of north of $0.70. Is that what in essence your internal model is?

I will allow you to do your own modeling there. Again, we have kind of tried to give you some type of guidance, in terms of looking at each of the line items, and where we think you will come out. So I think you --

So there is nothing wrong with my math?

Without my calculator in front of me, no.

If you can second guess FX, foreign exchange, than you are better than we are.

Okay. All right. I appreciate that. Thanks, guys.

Thanks. All right.

There are no further questions in the queue. I would now like to turn the call back over to Mr. Richardson for closing remarks.

Thanks Fab. We are moving the Company forward on many fronts, we are managing our margins, reducing costs, improving cash flow, and increasing profitability. I would like to thank the entire Richardson team for their contributions to date, and I am confident that we will deliver significantly improved performance in the upcoming year.

Kathy, Greg, and I want to thank you for participating in our call, and your continued interest in Richardson Electronics. Thanks very much.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.