Regal Rexnord Corp (RRX) 2004 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Regal-Beloit fourth- quarter earnings conference call. At this time, all participants are in a listen-only mode, and later, we will conduct a question-and-answer session. Please note that this conference is being recorded. I would now like to turn the call over to Mr. Ken Kaplan., Vice President and Treasurer. Mr. Kaplan, you may begin.

Thank you, Hilda. Good morning, everyone, and welcome to the Regal-Beloit fourth-quarter and year 2004 earnings conference call. With me today are Jim Packard, our Chairman and CEO, Henry Knueppel, President and COO, and Dave Barta, our Vice President and CFO.

I would first like to remind everyone that the statements made in this conference call that are not historical in nature are forward-looking statements. For forward-looking statements are not guarantees. There are are inherent difficulties in predicting future results, and actual results could differ materially from those expressed or implied in forward-looking statements. For a list of factors that could cost actual results to differ materially from those projected, please refer to our 2004/2005 SEC filings.

We haven't yet had an opportunity to review this morning's earnings release. It is up on our website at Regal-Beloit.com. Before turning the call over to Jim Packard, Hilda, would you please provide the participants with instructions for asking questions after we complete some opening comments.

Absolutely, Mr. Kaplan. (OPERATOR INSTRUCTIONS).

Thank you very much, Hilda, and I will turn it over to Jim.

Thank you, Ken, and good morning to everyone. We appreciate you joining us. It is a joy to be able to report a quarter like this. We had so many significant events take place. In addition to that, it is a record for us, and it is particularly pleasing that we were able to achieve the earnings that we forecasted -- to have this time of so many uncertainties in our marketplace, in terms of costs and so on. Its good to be able to hit our targets.

It was a great quarter. The significant part about it was being able to finally close -- and I know this is old news, but it still gets me excited to talk about it -- to close on our HVAC deal with GE at the end of year. And we now have that under management and continue to be very enthusiastic about it. So we are really pleased about it, and as we look forward to the next year -- which we are going to speak to a little bit today and certainly discuss this quarter. We are very, very happy and very pleased with it.

I'm going to turn it over to Henry Knueppel, who is going to cover the particulars from an operation standpoint for the first quarter, and then Dave will cover some of the financial particulars. I will close, and then we will get into questions. Henry?

Thank you, Jim. I apologize in advance. I'm in the second day of a cold. So if my voice sounds a little bit strange, it's a little but gravely today. As Jim said, it was a very solid quarter and, I think, a real foundation builder going forward. Sales remained strong throughout the quarter. They were void a little bit the end by a pre-buy to avoid some of the price increases that are going on in the industry. So certainly, there was a little bit of unusual activity at the end, but that notwithstanding, it was a solid quarter in all of our marketplaces. Other than the seasonal businesses, which include marine, HVAC, and our high-performance automotive aftermarket, the rest of the business segments that we participated in were very, very strong -- led primarily by industrial distribution, which stayed strong throughout, fluid machinery, pumps, and mining.

I would say a pretty good sign of how strong the economy is getting is that some of the late-cycle businesses that we have always participated in showed their strength as the quarter progressed. Paper, project work, in general, and petrochemical all showed some definite improvement.

As Jim said, some of the other highlights of the quarter -- first of all, our CAC business, which joined us in late August, performed much better than we had expected, both from a sales level and profitability level. So, we are very, very pleased with the way that business has come on board and. We also are very pleased with the way the price increases are going out in the industry. As you now, these were significant price increases to make up for significant materials cost increases, and it appears that they are going the way they need to go in the business.

And finally, the highlight of the quarter -- probably the highlight of the year or our careers -- actually was the acquisition of HVAC, which we are extremely pleased with.

We certainly had our challenges, as we look at the quarter. We told to going into the quarter that from a materials cost standpoint, it would be the worst quarter of the year, and it was what we expected to be. But we knew that going in, and we performed as we should have, given that situation. The other issue of the quarter really was healthcare, and Dave Barta will talk about that a little bit more. But we had some unusual spikes driven by large case claims that are flukish in nature and should not be repeated.

As we look forward to the first quarter, overall, we are very optimistic about the quarter. The price increases that we put in place at the end of the year, while they didn't have much impact on the fourth quarter, we expect to have full impact as the quarter progresses in the first quarter. I guess the thing I would say to you is that if you take a look at '04 materials versus price increases, our industry in general, the motors businesses -- across the board -- probably lost margin in the whole. And we're somewhat dependent upon seeing materials cost fall backwards a little bit to get back to the kind of margins that we would have seen in '03. Nevertheless, I think we have closed the gap significantly.

So far, despite the pre-buy that we saw in December, we came out of the shift very strong in January. So that's a very positive sign, and, again, it is broad-based. So we are very pleased with that. And, of course, in the first quarter, we now have HVAC, which will be a part of what we are all about from year forward. And I think, as all of you know, it is a very seasonal business, with the second and third quarters being the key seasons for that business. So first quarter will be somewhat slow but in line with what we've projected all along. The only wild card, as we look forward to the first quarter, will continue to be materials. We firmly believe that we've seen the worst of it, but certainly, we thought that once or twice before last year. And so we have to put that out as somewhat of a caveat.

In general, we are very optimistic about the way the first quarter will go and the way the year is shaping up. So with that, I'm going to turn it over to Dave.

Thanks, Henry. Let's go through the results for the quarter and year to date. Sales for the quarter were 221.9 million, which was a 45.9-percent increase over Q4 in 2003. Included in those results was $40 million of sales from the CAC business -- which, again, we closed that during the third quarter. Excluding the sales from the CAC business, sales have increased 19.6 percent. Versus third quarter, our sales were up just slightly less than 1 percent, which was just slightly better than what we expected -- and then given providing the guidance, which I think, as Henry mentioned, was probably driven more than anything by a little bit of pre-buying.

Looking at the sales results by segment -- Mechanical Group sales increased 15 percent to 51.4 million, while Electrical Group sales increased 58.8 percent, including the impact of CAC. Excluding the sales from CAC, Electrical Group increased sales by 21.5 percent -- so a very, very strong quarter in both the segments.

Gross margins were 20.3 for the quarter, versus 24.1 in the prior year. And, again, Henry has mentioned several of the challenges we had in the quarter. Versus last year, healthcare cost increases reduced the gross margin for the Company by over 100 basis points, and the material inflation pricing gap reduced the gross margins by probably another 150 basis points. And finally, to reconcile as of last year, the CAC business also reduced our overall gross margins by another 155 basis points due to costs related to the acquisition and the current operating structure.

Operating expenses in total were 14.5 percent of sales, versus 16.6 percent last year and reflected the nice leverage we got. Excluding the pension adjustment operating expenses would have been even lower and would have been at 13.5 percent of sales. So, again, very, very strong leveraging results there in our operating expense line.

Income from operations was 13 million, which is an increase of 13.8 percent from prior year. Excluding the impact of the pension adjustment there, income from operations would have been 15.1 million or a 32-percent increase.

In the Mechanical Group, income from operations increased 28.7 percent. So, again, a very strong performance on the bottomline by the Mechanical Group to 4 million, as compared to 3.2 in the prior year. Electrical Group income from operations was 8.9 million, an increase of 8.1. Again, they took the ball for the pension adjustment, and excluding that, their income from operations would have been 10.5 million or an increase of 28 percent.

The income tax expense for the quarter, as we disclosed in the release, reflected a favorable adjustment of 1.4 million, driven by the resolution of several tax matters which were closed during the quarter and pushed the rate to 25.3 percent. On a go-forward basis, we would suggest, for the first quarter, a rate of approximately 37 percent.

Net income for the quarter was 7 million, and that's a 14.2-percent increase over prior year. Earnings per share on a fully-diluted basis were $0.28, which was an increase of 16.7 percent, and that was on a share account of 24,937,000 shares. The pension adjustment, which I have talked about and was mentioned by Henry, was basically offset on after-tax basis by the favorable results on the tax line.

The material price gap on an EPS basis, which we have talked about, impacted our results by approximately 7 cents per share, versus the prior year. This, again, is consistent with guidance that we provided in the third quarter, as Henry mentioned. Healthcare costs impacted EPS by 1.5 cents per share versus our guidance and approximately 5 cents versus the prior year.

Turning to the full year -- on a full-year basis, sales were 756.6 million, which was an increase of 22.3-percent over 2003. Excluding the sales from the CAC business -- which again we in our results for 4 months -- sales would have been 702.9 million or an increase of 13.5 percent over the prior year. Electrical Group sales for the year were 557 million, a 27-percent increase over 2003, and excluding the CAC business, sales in the Electrical Group would have been up 14.8 percent. Sales in Mechanical Group for the year were up 10.4 percent to basically 200 million.

Gross margins for the year were 22.1 percent, versus 23.7 in the prior year, with the material-versus-price gap reducing gross margins again by almost 100 basis points for the year.

Operating expenses for the year were 14.8 percent of sales, versus 16.1 in 2003, again reflecting the strong leverage of operating expenses that we achieved over the year. Net income for the year was 30.4 million, which was a 20.6-percent increase over prior year, with earnings-per-share finishing at $1.22, which is a 22-percent increase over prior year.

Before I turn it over to Ken, just a few other housekeeping items. Depreciation and amortization for the quarter were 6.2 million, and capital spending for the quarter was 6 million. Now, I will turn it over to Ken for a few comments on the treasury side.

Thanks, Dave. As you know, because we have not yet put out a balance sheet, I'm not going to go into detail on some of the debtish things -- other than we did say that our debt was about $548 million at the end of year. When we acquired the HVAC business, you now that we issued about 4.56 million shares of stock that was valued at $130 million on December 31st. With this, this enabled us to keep our leverage ratio at a very reasonable level following this significant acquisition. Now with strong cash flow expected in 2005, that ratio should reduce nicely during the year to levels which we believe are going to enable us to continue to evaluate and hopefully make -- if the conditions are right and the opportunities are strong -- further acquisitions.

Two days before we closed on the acquisition, on December 29, we amended our bank agreement to raise the limit from $275 million to $475 million, which enabled us to borrow the $270 million in cash at your end to pay that portion of the price of the acquisition. I wanted to mention that -- to show you that the leverage situation is and will continue to be in good condition. The banks lent us that -- continue to lend us on an unsecured basis. And I think those of you who are particularly familiar with the banking industry know that as the leverage ratio would get too high, they would be looking toward security. So I just wanted to mention that. That pretty much was the only comment I had today, Dave.

Thank you, Henry and Dave. Before we get to questions, I'll just make a few comments. As you know, it is not our policy to issue yearly earnings forecasts, and we're -- not in the near future -- planning to do that. However, having said that, I will point to the factor that because of the acquisition, we did have to make projections of what we felt the earnings were going to be with relation to the acquisition. We are still very comfortable with that as we have had the opportunity to have this business for only a month now. I guess it is a month and a week ago, but we have every reason to be very, very confident in what our numbers are and what the projections are that we made on that business.

We are pretty optimistic about the year, and I see no reason to believe that there is anything on the horizon that's going to cause us a significant problem. Interest rates, in fact, seem to be -- have some possibility of maybe not going as high as we projected. And that would be good. Henry mentioned the material thing, but on the other hand, I don't think it's a wild card. We're sensitive to it because we have been burned by it so bad in the last year, but I think most of that is behind us. We certainly hope so and are projecting that. And it's conceivable we might even see some easing in some areas, and that would be terrific because we still are not back to the margin level that we'd like to get back to. And one of the ways that would help us do that is to get some relief in that regard and get back to our stronger margins, in addition to the things that we had planned from a productivity standpoint and a rationalization standpoint.

So, all in all, as we look forward to the year, we are very optimistic and actually feel very good about this last quarter, getting through all the activities that we have had and ending up where we have ended up. With that, I'm going to just stop and open it up to questions.

Hilda, if you would just mention the instructions again for everyone.

(OPERATOR INSTRUCTIONS). Andrea Worth, Robert W. Baird.

Nice Quarter. You had mentioned early on that there was a pre-buy in the quarter. Could you quantify how much that contributed in revenue?

There is probably about 4 to $5 million worth of pre-buy across the business.

4 to 5 million? Is it mostly concentrated on the motor side then?

Yes.

Okay. Does your guidance then reflect somewhat for the first quarter kind of the effects of that pre-buy?

Yes. Although we didn't -- we also felt like the markets were strengthening. So it's not a one-for-one offset.

Okay. And then just -- Dave, on the pension adjustment -- what exactly does that relate to? Why did you need to do that adjustment?

I'll answer that. We have what is called a surp (ph) In addition to our pensions in the Company, and we made adjustments to make our benefits competitive with the marketplace. And in doing so, we incurred the expenses that it would take to -- and you have to do that all at once -- to bring them up to speed.

And I guess, moving onto the HVAC business -- could you talk a little bit about some of the early challenges you have had so far -- kind of going through the integration? I know there aren't a whole lot of physical moving pieces. But maybe talk a little bit about the IT integration and also some of the moves going on in Indiana -- maybe kind of the timeline that you guys are looking at right now?

I will start and let the other guys finish. Andrea, there aren't a whole lot of moves that have to take place here. We don't have lots of plans to move and so on. We've got a great team of management as a part of it. I think we mentioned also before that Mark Levy(ph) has joined as. He was the head of that whole motors group. So we are off and running at a very fast pace. So there isn't a whole lot of shuffling going on. We're working the issues in terms of where we are going to get with the IT integration, but if you recall in my original call we have a three-year transition services window. We certainly don't expect to use the whole window because we think we can do it sooner, but the key issue there is to do it without creating any issues for our customers or our business. So, we have a great window there to do that.

So there's not a whole lot of shuffling. It's business and working the opportunities that are out there, which are very significant, with the Tier-13 legislation taking place next year and some of the new products and capabilities that we're bringing online. It's all a good new story.

The only significant move is really just getting into a new office facility and -- testing lab facilities in Fort Wayne, which we intend to do, and we are presently searching for the right location in Fort Wayne. We will stay right there in the city, and we will have about 120 people or so employed there. We'd like to get them into their own operation, but that shouldn't have any impact on anything that we're doing. If anything, it will be a positive move for them. Is there any other thing in particular that we could respond to in that regard?

No. That answers it. I guess my other question on the other side -- on raw materials -- as far as pricing goes -- could you kind of just give us an idea? It sounds like you're pretty pleased with the way pricing has gone. Do you think -- feel right now your pricing has completely offset the raw material increases? And then also, maybe just kind of an update -- exactly when was the last price increase? What exactly was the average price increase, and do you have plans to put anymore into place in the next month or so?

Were you a reporter at one time?

Andrea, I won't go into what the exact price increase was. For competitive reasons, it's not appropriate. But overall, there is a very significant increase, and it all rolled in during the course of the month of December. By mid-December, some of it was in, and by the end of the year, most of it was in. So we will really see the impact of that during the first quarter. And there are pieces of that, as you can appreciate with them certain OEMs, that will actually lag back just to hair more. But in total, no. The price increases' effectiveness this last year will not offset totally what happened with materials.

And as I've said and Jim said, again, we're expecting materials to come backwards a little bit as this year progresses and will need to for us to have completely offset that different. It was just too much of change in the materials end of the business to be able to offset it. There is definitely some compression.

Richard Rossi, Morgan Joseph.

If I recall correctly, in the last quarterly conference call, you had mentioned that your business in China had been doing very -- demand was strong but that you were a little cautious about the fourth quarter, thinking that it might come in a bit just on a catch-up basis. How did that shape up?

Pretty much exactly what we said -- the power generation business in China slowed significantly during the fourth quarter. And the channel is starting to clear, but I think we are going to continue to see it be slow for the first quarter. I think by the second quarter, we will see it back to previous levels. On the motor side of life, we actually picked up additional business during the quarter, and it grew nicely.

And looking for on that front?

We have lots of runway to grow our business there. It's growing economy for what we do locally, and there's additional opportunity to bring product in here. So we expect that to continue to ramp up. It is -- really, what the CMG acquisition that we just announced is all about is to gain additional capacity for the future.

Getting back to just one more angle on the material costs in '04, could you remind me when they began to hit very significantly in '04?

It actually started in December of '03. And the way it goes is your first reaction -- and I think the reaction of our entire industry was one of denial (multiple speakers).

And it stayed and then it went up again by the end of the first quarter. We thought that it was stabilizing by the end of the second quarter, and then, it took off again in the third quarter very significantly. And so it really was an all-year process. Most of our industry reacted with 3 price increases -- one in the first quarter, one in the second quarter and one at the end of the year -- with the third-quarter surprise in materials hitting all of us. So it was a constant catch-up.

And your comment that you're hoping for some pullback in prices to equalize the situation. Is that any material specifically? Are you thinking steel or copper?

Copper and steel are the two key.

And you think that might happen in both those? Or you're hoping they will?

I am not optimistic about steel near-term. There have been some signs that certain kinds of steel have relaxed a little bit, but I can tell you they are anecdotal and certainly not any electrical-grade steels. We've not seen any sign of that. And there's a more limited number of people who produce those. But copper -- and if you follow the markets -- is in a backward nation. And generally speaking, we would expect to see inventory starting to grow now a little bit in the channel. We would hope, by the end of the first quarter, we will start to see some relief.

(OPERATOR INSTRUCTIONS). Holden Lewis, BB&T.

A little bit about the comment about the seasonality. It sounds like you're kind of expecting the Q1. It tends to be seasonally weak, and that's going to drag on the numbers for the HVAC business. If you look at one of your significant peers that's out there and kind of look at the seasonality of their motor business, historically, it doesn't look like there's a revenue side of things -- doesn't look like Q1 and Q3 are too much different historically. And I guess, intuitively, I was thinking you'd probably be some purchasing now ahead on the strengthening cycle in Q2. Could you just sort of comment about how deep you expect the seasonality to be in Q1 versus other quarters? Any comment about that?

Yes, Holden. I think if you look at our business traditionally, we weren't divide by 4, but we were pretty darn close to that. I mean the first quarter was a little lower, but the other three quarters were pretty consistent, depending on what was going on. The HVAC business, because it is such a large business -- and when you look at our total business and the impact it has on it, again, we're not talking about wild swings from quarter-to-quarter. But even if you go off and divide by 4 or 25 percent and move those numbers by maybe 200 basis points up or down, that's fairly significant on the total sales and particularly when it's in a segment of our business that is at or above the operating margins of the others. So again, it's not wild swings that we're talking about, but, again, it's versus our traditional spread of sales. And moving things by 150 to 200 basis points up and down will definitely impact the results considerably.

Okay. And can you talk a little about the seasonality -- and maybe if your full-year number is 100 percent -- can you just give us a sense of both on the revenues and on the operating margins side -- what you expect sort of the relative showing into Q1 to be on that basis?

We probably could if we wanted to become analysts, but I don't think we're going to do that, Holden. Actually, I'm not sure can sit here and do it right now anyway, but it's probably not the kind of thing we want to get into.

Can you comment, also -- in the guidance, how much for integration cost and expense do you have in there for CAC and the HVAC business?

With the guidance that we have provided previously, at this point, we basically have moved some pieces around that were fairly consistent with that. We had about $10 million that we said would be related to either integration-related costs or basically the accounting for the acquisition. And I think, at this point, we're still in that neighborhood. The bulk of the integration-related costs were IT related, which we have certainly begun but are just kind of in the initial stages of that. And that was around the $3 million estimate that we put in place. That's basically where we are at this point.

Chris Beman (ph)? Morgan Joseph.

I'm just phoning in real quick for Rich Rossi. I was curious to know if, perhaps, you could provide a little color on what your CapEx and depreciation might be for the coming year and what the working capital trends might be?

I will try to answer that for you. Basically, we had been asked that -- this is the first time, I guess, we're asked that question. We see our CapEx going up substantially in 2005, compared to 2004. You heard Dave mention that the total -- well, he gave the quarter, but the total year came to about 16 million if you add up the prior comments that we had made during the year. Now, this year, with some significant things that we feel we need to do in the acquired businesses, we expect that number to approach the $40 million range. Now, I think we've also indicated previously that we have some vacant facilities that we're looking to sell, and so there'll probably be some net reduction in that because we think that there is the possibility of selling anywhere, depending on how well those sales go -- up to $10 million or even a little bit more during the year. So on the CapEx basis, that's what you would see. Now, is there another part to your question there?

Just curious to know if you could maybe provide a little color on working capital trends for the coming year -- or the current year?

Well, with the growth of sales that we anticipate, I think you'll, for the most part, see working capital needed to support receivables. I think that our objective as a Company would be to continue to improve in the area of inventory turns, and it certainly is our objective during the year to not have to put forth more working capital into inventory. But obviously, there is a margin of error there that could go either way above the zero point.

(OPERATOR INSTRUCTIONS).

We do not have further questions. Thank you.

Okay. Then I will make some concluding remarks. Again, thank you all for joining us. Again, we're very optimistic about the year and comfortable with our next quarter's projection, and we look forward to reporting back to all of you in 2 or 3 months. You have anything you want to add, Henry? Dave? Okay. Thank you all. We're signing off. Have a good day and a good weekend.

Ladies and gentlemen, this concludes your teleconference.