Shyft Group Inc (SHYF) 2014 Q2 法說會逐字稿

Good morning and welcome to Spartan Motors second-quarter 2014 conference call. All participants will be in listen-only mode until the question-and-answer session of the conference call. This call is being recorded at the request of Spartan Motors. (Operator Instructions) I would now like to introduce Mr. Greg Salchow, Group Treasurer for Spartan Motors. Mr. Salchow, you may proceed, sir.

Thank you. Good morning, everyone. Welcome to Spartan Motors second-quarter 2014 earnings call. I am Greg Salchow and I am joined on the call today by John Sztykiel, President and CEO of Spartan Motors; and Lori Wade, Chief Financial Officer. Before we start today's call please be aware that certain statements made during today's call which may include management's current outlook, viewpoint, predictions, and projections regarding Spartan Motors and its operations may be considered forward-looking statements under the Private Securities Litigation Reform Act of 1995. I must caution you that, as with any prediction or projection, there are a number of factors that could cause Spartan's results to differ materially. All known risks our management believes could materially affect the results are identified in our Forms 10-K and 10-Q filed with the SEC. However, there may be other risks we face that we cannot anticipate.

As always, we request that you ask only one question and one follow-up question during the Q&A portion of the call. That will allow everyone the opportunity to ask a question. After asking your question, you are welcome to rejoin the queue for additional questions as time permits.

Now, I'm pleased to turn the call over to John Sztykiel for his opening remarks.

Thank you, Greg. Good morning, everyone, and again thank you for joining us on Spartan Motors' second-quarter 2014 conference call. Second-quarter 2014 can be summarized simply by two words: good progress. We are pleased that Spartan posted net income of $0.01 per share or $0.2 million in the second quarter despite the challenges we faced. We executed our DRIVE strategy in a disciplined manner, building on the progress we made in the previous quarters. From stronger brands to a higher gross margin versus the first quarter of 2014, we made good progress and expect the pace to accelerate.

The delivery and service segment, Utilimaster, was the largest contributor to profitability for the quarter, reporting operating income of $1.7 million versus an operating loss of $1.6 million in the second quarter of 2013. It is clear the Bristol initiative continues to move in the right direction.

Next, the specialty chassis and vehicle segment was also profitable despite a drop in motorhome chassis production. SCV, as we call it, posted an operating profit of $1.4 million compared to $3.9 million a year ago.

Switching over to emergency response, and while the emergency response segment was not profitable in the second quarter, its improvement from the first quarter of 2014 was substantial, reducing the loss by $2.2 million or just over 60%. When you look at ER, all things considered, the data server issues and their impact on emergency response, the second quarter of 2014 represents considerable progress in the right direction.

Before we move on to a more detailed review of each business unit/operating segment, I want to highlight the addition of two new members of our senior leadership team, Daryl Adams, Chief Operating Officer; and Tom Schultz, our new VP of HR. Both Daryl and Tom possess a core foundation of driving continuous improvement. Spartan has made considerable improvement in the second quarter of this year with more expected. Having Daryl and Tom join our management team ensures we will accelerate the pace of change going forward. In addition, Daryl Adams will be joining us on future conference calls.

All right. Now over to each business segment. Delivery and service, DSV, as we call it -- returning to the DSV segment, a few highlights included shipping 270 of the newly designed Reach commercial van that is easier and less expensive to build. These newer units are significantly more profitable and made a positive contribution to DSV's performance in the second quarter. We also shipped the remaining 201 Reach vehicles that had been in inventory awaiting a component that had been in limited supply. At the end of Q2 we had approximately 400 Reach units remaining in our backlog. In addition to the Reach, sales of walk-in vans were generally strong during the second quarter. Truck body sales were higher in the second quarter than 2013, although production was constrained by ongoing chassis availability issues. This shortage seems to be an issue affecting the industry as a whole, walk-in vans and truck bodies, not just Utilimaster.

Also during the second quarter, within Utilimaster the delivery and service group, the new Saltillo, Mexico up-fit center began generating revenue. The Saltillo facility installs aftermarket parts and solutions such as shelving for Chrysler's Ram ProMaster commercial van and became profitable in June. We expect the Saltillo initiative to make a positive contribution to delivery and service in the months and quarters to come. My complements to the group.

Despite the considerable progress DSV has made at increasing operating efficiency at Bristol versus Q2 of 2013, we still have room for improvement. We are approximately 50% of the way there to our stated target of $4 million in annual savings, which we are focused on attaining, which we will attain.

Now, we will switch over to emergency response. The ER segment reported an operating loss of $1.5 million in the second quarter of 2014, a 60% reduction from the loss of $3.7 million in the first quarter of this year, indicating we are making very good progress in fixing the fire truck body portion of the business. Revenue did decline slightly year-over-year due to some production delays resulting from the brand in server malfunction and a smaller number of chassis being shipped to external customers plus we had a few chassis remaining in inventory as part of the Peru order.

As you will recall from our first quarter conference call, our branded facility suffered a failure of data/server in the backup systems in late April. The failure of the server and its backups resulted in a loss of certain sales and engineering data that simply had to be re-created. This resulted in some production delays, labor deficiencies. And as we work through the issues, some trucks will be pushed back into the third quarter and fourth-quarter, and it is questionable whether we will be able to make up the lost production by year-end. It is approximately seven to 10 trucks.

Emergency response is our greatest operational issue. We know that -- and also the source on the positive side it was our greatest improvement in the second quarter versus the first quarter of this year. In the first quarter I stated we were focused on five areas relative to fixing ERV. And part of that plan was to leverage the flexible manufacturing strength of Spartan, build the 70 Peru fire trucks here in Charlotte. One could also look at this, look at the Peru build as a test pilot relative to new methods of design and build, as we have never built complete fire trucks in Charlotte, Michigan before.

The result has been very, very successful. With the Peru build on track -- again, this is 70 trucks, approximately $22 million to $25 million, depending on the parts revenue that will come through, and we are on track with that build to exceed our three-year corporate target of 6% operating income margin. That's great, as it demonstrates we clearly know how to build complete fire trucks in an exciting manner from a financial perspective.

Then the question is: so now how do we apply these processes throughout Spartan ER to accelerate the pace of improvement even more? It comes down to focus first, which we have. Then you move over to the people side. Daryl Adams, our new Chief Operating Officer, has great operational experience. Tom Schultz, the new VP of HR -- while HR is his core role, he has tremendous business acumen to ensure we have the right people aligned with the right strategy. Doesn't stop there. Next we have taken Ken Turner, VP of SMI Operations, and now his sole focus is emergency response operations. Last, we have a dedicated team where we have re-prioritized some projects and moved people over to this team to accelerate even more the fix and transformation of Spartan ER.

What's exciting is this is not being done out of desperation. It is being done because we have great momentum in many areas of opportunity. It is always easier to accelerate when one has momentum. We have that, and we are focused on solving our last major operational issue fast. While we have made very good progress, it is simply not enough. It is time to put this challenge behind us.

Now, we will shift gears over to specialty chassis and vehicles. SCV is the acronym. The specialty chassis and vehicle segment, SCV, as we call it, performed well in the second quarter and reported an operating profit of $1.4 million despite a sharp decline in revenue compared to the second quarter of 2013. Our operating income remained positive due to a favorable mix, manufacturing efficiency, and expense control -- simply good business disciplines.

Included in the results for the most recent quarter was an additional reserve of approximately $200,000 or $0.2 million for the steering gear bracket recall announced in 2013. Again, we run a very conservative company in a number of areas. Revenues were lower in the motorhome chassis business as some RV manufacturers rebalanced their inventory levels.

During the second quarter we also added a new motorhome manufacturer, something which we spoke about in Q1 of this year, Foretravel. Foretravel is an ultra-high-end RV manufacturer and is doing some rather innovative things in the marketplace, obviously within the coach. We recently learned last week that the first unit was sold to a well-known NASCAR driver. Honestly, this says a lot about the performance not just of the motorhome of the Chassis, because we have no doubt we have the most dynamic ride and handling chassis in the marketplace.

We also have several other initiatives in place in the RV marketplace that will increase our RV retail market presence in 2015. Simply, we should be under three to five more RV platforms riding on a Spartan Chassis this time next year. That's exciting.

Also within SCV is defense, and lower defense spending continued to negatively impact aftermarket parts and assemblies revenue, which declined nearly 47%. Sales of defense-related parts declined $3.7 million simply due to defense budget cuts. It's not just us, it's a variety of people within the defense wheeled-vehicle business.

When we look at other segments of the specialty vehicle business, one of those that also showed a decline was the complete vehicle. SCV did not produce any defense vehicles in the second quarter of 2014 compared to 3.1 million in the second quarter of 2013. As we look to the future, this market will be very, very tough when it comes to complete wheeled vehicles for the defense industry.

In contrast, if you look at our contract assembly work for Isuzu, that is dynamic. It increased more than 35% from Q2 of 2013 to today. What's interesting is one comes to that facility within Spartan, we are now building over 30 units per day within 40,000 square feet with approximately 60 people from an assembly perspective.

Overall we are pleased that the results for the second quarter exceeded expectations with a profit of $0.01 per share. Simply, we made very good progress. As we look to the second half, we will continue to face challenges. However, we have demonstrated our ability to meet and resolve the challenges. Thus, we look forward to the future. Now I will turn the call over to Lori, where she will go into depth in a number of financial areas relative to the second quarter. Lori?

Thank you, John. And good morning, everyone. Spartan Motors reported a net income of $0.2 million or $0.01 per share in the second quarter, better than the modest operating loss we had projected. In the second quarter of 2013 we reported net income of $0.7 million or $0.02 per share. From a management perspective, even more important than the fact that we reported profit in the second quarter is the fact that performance was sequentially better compared to the first quarter of 2014, when we reported a loss of $2.1 million or $0.06 per share. This is especially true in the ER segment, which demonstrated substantially better performance in the second quarter than the first quarter of 2014.

Revenue decline slightly in the second quarter of 2014 to $115.8 million from the $120.9 million a year ago. The drop in revenue is primarily due to the specialty chassis and vehicle segment, which reported a decline nearly $9 million from the second quarter of 2013. Our product mix and manufactured efficiency was generally favorable in the second quarter, resulting in a gross margin that approached that of last year second quarter despite lower revenue. Spartan reported a second-quarter 2014 gross margin of 12.7% compared to 12.9% in the second quarter of 2013. When you look at Spartan's gross margin in the second quarter in light of the extra cost resulting from the brand in server malfunction and significantly lower revenue in SCV, it highlights the impact of our efforts to improve operating performance and manufacturing efficiencies throughout the Company.

As John mentioned, we have many opportunities to improve performance further, but this shows we are definitely making progress and moving in the right direction. We held operating expenses essentially unchanged year over year at $14.6 million. We kept a close watch on expenses during the quarter, although we continued to invest in the business to fund future growth.

Net income for the second quarter of 2014 was higher than operating income due to an adjustment in our tax provision to record the impact of the change in our full-year financial projections. Also, our 2014 projected full-year tax rate is negatively impacted by roughly 5% to 6%, due to the expiration of the research and development tax credit on December 31, 2013.

Our balance sheet and cash position remain solid. In second-quarter Spartan paid a dividend of $0.05 per share of common stock, totaling approximately $1.7 million. We also repurchased $1 million of common stock and made capital investments of $1.9 million.

Inventory at the end of the second quarter was $84.4 million, up from the $75.4 million at the end of March 31, 2014, mainly due to the addition of $8 million of inventory for the Peru fire truck program. Despite these expenditures and inventory growth, Spartan's cash balance at June 30, 2014, was $29.7 million compared to $15.6 million a year ago and $30.7 million at the end of 2013. While our cash position remains strong and the increase of inventory can be explained by the Peru units, we believe that inventory is still too high. And actions are being taken to improve our performance, thereby continuing to enhance our cash position.

Now looking ahead for a moment, we are reducing our 2014 revenue forecast slightly to the range of $500 million to $520 million, down only $5 million from the higher end of the range we shared with you last quarter. The change in our forecast is predominantly due to the production delays by the data lost in the ER segment and lower motorhome chassis shipments. As I stated in last quarter's call, we expect both DSV and SCV to be profitable during 2014, with ER expected to continue to have sequential profitability improvements each quarter.

We expect Spartan to report an operating profit in both the third and fourth quarters of 2014 and be profitable for the year as a whole. We have added resources to accelerate the pace of improvement in the ER business, which will increase expenses during the second half of the year. To some extent we expect lower production volumes in the SCV segment to have a negative impact on operating margins as well. In light of this we are lowering our projected operating margin for 2014 to the range of 0.5% to 1%. Again, we expect to be profitable in the second half of 2014 and for the year as a whole, but we are somewhat more conservative in our assumptions for revenue and operating margins for the year.

I would now like to turn the call back over to John Sztykiel for his closing remarks.

All right, Lori, thank you very much. To summarize, it was a quarter of good progress -- profitable, very encouraged by our disciplined execution of DRIVE. The focus on operational performance is simply paying off. Operational discipline is a major reason we are seeing positive results.

A couple other examples -- earlier in the year we closed our internal metal fabrication operations, which lost or cost us approximately $770,000 in 2013. Second, the startup costs of our new Saltillo, Mexico up-fit center was approximately $600,000 incurred in the third and fourth quarter of 2013 and early Q1 and Q2 of 2014. Saltillo is now up and running, making a profit. When you look at these two items alone, that's a $1.3 million operational swing in the positive direction now going forward.

A quick recap -- in delivery and service we have a good backlog, some new products coming. And we are 50% of the way towards realizing the $4 million in annual cost savings relative to the Bristol initiative. We will get there.

In emergency response we have a solid backlog, up 43% versus one year ago. The Peru build is an indication we have the capability to build fire trucks at an attractive operating margin. While we have made very good operational progress, we have enhanced the team to accelerate the pace of improvement.

Specialty chassis and vehicles remains profitable, has a higher backlog compared to the second quarter of 2013 despite some softening in the market indicating we are gaining market strength, plus we have a new motorhome chassis customer in Foretravel and expect to have new platforms in the marketplace next year, anywhere from three to five, which is reeling all very exciting when you try to extrapolate where we could be mid-2015.

Last, everything revolves around the right people. Daryl and Tom Schultz both have demonstrated operational excellence and it is their mandate to accelerate the rate of improvement. And a little bit of clarity relative to the chief operating officer -- as an organization from 2010 to 2013, we moved to become a highly matrixed organization. To be quite blunt, we probably moved too far, as demonstrated by some of our operational results going in the wrong direction.

Henceforth, in 2014 we have moved away from a highly matrixed organization. We now have, I believe, the right blend of matrix or leverage within Spartan Motors. And we are very focused on our number-one issue of operational excellence. Daryl Adams, the Chief Operating Officer -- he is the driver. However, we are also a hot products company, one of redefining innovation because when you have an attractive product in the marketplace, as demonstrated by our airbag safety system, or you look at keyless a few years ago, where it's in demand and people will pay a nice premium for it, that obviously drives margins in the right direction. That is a core focus of me, John Sztykiel.

What's interesting is in years past this was the structure we had. So, we are now getting back to a structure which we had, to a certain extent, with the right blend of both matrix and what I would call autonomy within the business units, which is one reason why you have seen very nice progress over the last two to three quarters.

We also had a negative in Q2, and that is our balance sheet. While it is strong, it will become stronger as we work down inventory. As Lori talked about, our inventories are simply too high and that is not an effective utilization of cash, and we understand that. That will be addressed in the second half of us year. We will get it resolved.

In closing, we are one team centered around one planned DRIVE. And while we are pleased with the progress in the second quarter, understand this: we are not satisfied from a shareholder perspective, absolutely not satisfied. Thus, we are focused on accelerating the rate of progress, making some changes in the people, slight adjustments in the plan. We look forward to a profitable second half of 2014 and profitable growth beyond that.

Thank you for your time today. We look forward to the future. John Sztykiel. Greg?

All right, thank you, John. And at this time we are ready to take questions. So, we will open up the queue for the Q&A portion.

(Operator Instructions) Walter Liptak of Global Hunter.

Congratulations; it sounds like you're making some good progress.

Thank you, Walt. We are.

Wanted to ask about the emergency response vehicles. With the backlog high, what's the timing of the shipments? Are your production rates going to be higher in the third quarter and then higher in the fourth quarter? Or are they spaced out a little bit more into 2015?

The production rates will be higher in Q3 and Q4. And the backlog being up is both good and bad. The good news is the backlog is up, we've got opportunity to grow our revenues and our income and accelerate the progress. The bad news is it's too long for the marketplace, which is why we're accelerating production. We recognize our delivery times are probably anywhere from one to three months, depending upon product model, too long out there. So that is something where focused on rectifying very fast.

Okay. I guess, when I think of fourth-quarter, you've got the holidays in there. Do you try and get more of the production done in the third compared to the fourth?

Hello, Walt. This is Lori. If we look, Q3 is going to be a bit artificially high because, remember, we have the majority of the Peru units going to be shipped in Q3. We have the first 10 units shipped in Q2, and the remainder will be shipped in Q3. So, we do expect to see progressive, steady improvements in our manufacturing schedule every month here on out at all the other locations. As we have talked about in the past, we are in the process of ramping up our Ocala, Florida location as well. And we are going to continue to drive enhanced -- using the leveraging of Spartan's manufacturing locations, we will continue to drive more easy products ex the Peru build here in the Charlotte. We will continue to utilize this campus to help relieve the pressure at brands. And so you will definitely see in Q4 a rate increase from what you had been seeing in Q2.

This is John Sztykiel into the group. The other reason -- it's clear when I discussed just quickly that Peru build and where it looks like from a financial perspective we are doing extremely well there. So obviously we are going to try to leverage the discipline, the strength in what we are doing here in Charlotte relative to more fire trucks, building more fire trucks here in Charlotte as time goes on.

Okay. Okay, that sounds good. What kind of capacity do you have in Charlotte at this point? Is it possible to look at those operations and relocate and consolidate, get costs out that way?

First, from here in Charlotte we are maybe at, I'd say, 60% capacity on a single shift, 50% to 60%. As a company we are moving more and more to try to have less facilities and to go more and more to a double shift type of operation. We did that with the Reach product line. So as we look not just at emergency response, but when you look at delivery and service in all of our business units, one of the things we are very, very focused on is how can we reduce our manufacturing footprint, which accelerates our ability to deliver high-quality product in a very efficient way at a very low-cost.

A metric we measure internally, to Walt and the group, and it's a clear part of our year-end compensation, is value add per square foot. And that is sales minus bill of material cost divided by total square feet. We'll grow the sales at the right margins, focused on reducing our bill of material costs with less square feet, more double shifts. And our value add per square foot will go up. Ironically, that's very, very much like the retail space kind of term and it's a key metric for us. So I know I spoke a little bit, but the answer is, to your question are we analyzing and looking and do we have opportunities to reduce and improve our manufacturing efficiency by having a smaller footprint? The answer is yes.

Okay. All right, sounds good, thanks. I'll get back in queue.

Robert Kosowsky of Sidoti.

I was wondering, on the service or specialty vehicles side of the business, can you maybe explain why this sequential margin expansion occurred?

If you want to look -- are you talking just from Q1 to Q2?

Yes. Specialty vehicles, it looks like less than 2.5% to 6% operating margin on lower revenue and I'm wondering what the source of the margin expansion was.

If we look -- hang on. We did have -- I'm just looking here just to answer some of those questions. So the one thing -- Q1 was extremely, extremely low in our aftermarket parts and assembly sales of this year. But we definitely -- we went up -- our [DAP] segment of the business went up about 30% from Q1 to Q2, the aftermarket parts, which is extremely profitable segment of our business. And Isuzu, our contract manufacturing -- that business also we are on a steady ramp to take us up to -- John mentioned we are going to 30 units a day. In the Q1 we were in the midteens or high teens, probably.

So a lot of it is just product mix. And we also, in that segment, our fabrication business falls into there. And again, as John mentioned, we closed that in the early part of Q2. So we didn't have that drain on the margins. And so between the Isuzu going up, fabrication going away internally, and then the APA volume going up, those are really the three key drivers of that going up.

And, Robert, that's a really good question. Lori, I appreciate, gave a very good answer. But simply, as we look at our organization and we are focused on driving in the right path towards our gross margin target of 17% we are looking at every area within the organization. What can we do to improve or raise the price or to accelerate the revenue as well? An area where we have absolute control over is our cost space relative to facilities, bill of material cost, et cetera. So I think this is something -- we are really now starting to exhibit some very good operating discipline is in the cost space side of our model and how do we affect that or drive that in the right direction.

And as Lori talked about, eliminating the staff operation will save us, to the positive side, proximally $770,000 as we look at the second half of 2014 on into 2015.

Okay, that's helpful. So would you expect this mid-single digit operating margin to be sustainable because I know that you are ramping up some growth spending within this business as well.

I believe that that is definitely the trend we are heading to. What you saw in Q2 is probably more of the norm. But again, we will have moments of expenses for the new products, as John talked about, those three to five new platforms we are going to be on -- there will be some investment to get onto those platforms.

Okay. And then how close are we to getting better motorhome volumes with the one customer that's working on inventory? Is it going to be fourth quarter this year we might get return to revenue growth within the motorhome chassis business? Or do we have to wait till 2015 to rectify the inventory issue?

No. This is John Sztykiel. I think you will start to see some of that in Q4. As Lori talked about, the backlog is up a little bit on the RV side of life. I will say this. You are probably going to start to see, I think, what I would call a nice double-digit increase in the RV side probably in Q2 of 2015. And the reason I say that -- what's interesting is when we produce a new product or innovation which we consider to be redefining, we are no different than a software or a tech company in that we start small, which minimizes our investment to a certain extent; we tried to disrupt the market place and work to grow from that.

So as I mentioned earlier on the call, when I look at next year the prototypes which we have flowing to the OEMs, et cetera -- we will be on three to five new platforms from a retail or shelf perspective next year at this time versus where we are at today. So I think you are going to see the bump in that from a revenue perspective till probably Q2 of 2015.

Okay, that's helpful.

It will grow. It will be small. But I don't think you will see double-digit growth till probably Q2 of 2015.

Okay. Now, are these higher-volume platforms you are looking to get on or are they more premium like you did with the other one that you just gained back this year?

Yes, the most recent one was very premium, very high-end. But the other ones are definitely higher-in-volume platforms.

Okay. And then finally, given that Peru is going to largely ship in this quarter and it seems like it's a pretty profitable slice of business relative to what the rest of ERV does, do you expect Q3 earnings to be higher than Q4 because of this mix?

I would say yes. We are expecting that -- are you talking about for the ER segment or --

No. For the Company as a whole, would you expect earnings to be higher in 3Q just because of the Peru order?

We are really not projecting it to be significantly higher, that we really think there will be some sequential improvement. We don't think that Q3 will be the high point for the year.

Okay, thank you very much. Good luck.

Rhem Wood, BB&T Capital Markets.

Can you give a little color on just the server malfunction? What was the impact in the quarter? Does guidance include any impact going forward? Will you guys receive any insurance money to maybe offset this? What will be the impact in the back half of the year?

We found that it was really difficult to quantify this. As John mentioned, there are about seven to 10 units that have been pushed out from second quarter and in the second half of the year. With the lead times involved and the requirements to engineer each one of these units it's questionable whether we can make up those units. As part of the server malfunction we did have some extra costs, sending people up there, and we slowed down the production line, so that there was some impact in the second quarter. But as we make progress throughout that segment as a whole, I think that will be alleviated.

We have been looking at the possibility of an insurance claim. And at this stage I don't know that we have really been able to quantify it. It's something that we are still looking at because -- as I understand the situation.

As far as the impact on the guidance, yes, those impacts were all included in our assumptions for the second half of the year.

Okay, all right. And then still -- do you guys to still expect a $4 million cost savings by the fourth quarter? And then on DSV, you mentioned -- I think you said some new products were coming out in the back half of the year. Could you talk a little bit about those and then give some more color?

So, Rhem, I'll take the first part of that question. So we are definitely on good pace for our efficiencies for the $4 million. But we do not believe at the moment we are on the right trajectory to get to the annualized $4 million. So what we are doing is we are actually going to bring in -- we'll call it we have sort of plateaued. We have come to the point that we need that little boost to get into that next level. So we're going to be looking at some resources to come in and help us get -- take us to that next level. So I think that we are probably two to three quarters out before we will really start to see the pace of the generation of the annualized efficiency of getting up to that $4 million pace.

And this is John Sztykiel. And then I'll talk a little bit about the products. But really what Lori is saying -- while we've got the targets identified in the areas where we know, it's simply we just don't have enough of the right people. So this is what Lori is talking about is we are bringing in -- and it's not like it's 10 or 20; it's really just two or three, to work to get the industrial engineering, the right operating disciplines to build the walk-in vans the greater efficiency right, et cetera.

Relative to new products, there will be very little impact in 2014. And again, the reality is in the delivery and service market it's no different than emergency response, in some respects no different than RVs. While we will be bringing some new products to marketplace in Q4 of this year, I would not expect to see much of an impact until probably second half of 2015 because, again, you've got to start small. And then the people in the delivery and service business want to validate the operating efficiencies, et cetera, of the product. And then as they go through that six- to nine-month process, then they in turn say okay, we either like it, dislike it, et cetera. And then they make their decisions to move forward at accelerated rates from a growth perspective.

I think if there's one thing for all to note, and that is if you look over the last two or three years, while we've done a lot of things and focused on operations and we are now starting to get some progress going forward, we've really only had two what I would call really redefining or hot products in the marketplace. One was Reach, and that is now a positive product for us. And we are working on trying to grow the volume on that. The other one was the Spartan airbag safety system for fire trucks. The good news is we got a number of projects in all three markets. The first one, which you saw a recently on Foretravel, okay, where it those projects will start to come out into the market place in Q4 of this year, first half of 2015, second half of 2016 we will be announcing a couple of ER innovations in a couple weeks at the international fire truck show in Dallas.

So what I like about us going forward -- while we are making improvement in the operational side we got some nice innovations in the pipeline which we believe will not just accelerate the top-line revenue as we move through 2014 but also make it easier to improve our gross margin as well, as we will command a higher selling price.

Okay, thanks. And then just one quick one -- Lori, what tax rates will you use in third and fourth quarter?

Right now, assuming that the government is going to review the R&D tax credit, right now we are using about a 45% internal tax rate for the year.

Okay, thanks. And then one last -- just so I understand, the backlog, if I look overall is down slightly from the first quarter level. Is that really a result of -- you guys talked about focusing on profitability over market share, if I look back a quarter or so. Was that some of it, or was it more just an impact from the server issue and a timing thing? Just a little bit more color on what happened and where the backlog is going.

So if we look at backlog in total we know that the ER has gone down slightly. Part of that is due to shipping some of the Peru units. We are not really seeing -- we are seeing a little bit of pent-up demand on the chassis side of the business. There are orders there. They are ready to come to us but they just haven't quite made it through that final, final gate to come to us. So we do believe that we're going to see a bit of a surge in the next quarter for chassis orders from the outside world.

The delivering service -- the reason why that has continued to go down, we are seeing this much shorter cycle of when we get the order till fulfillment. What you are seeing in the reduction there is the fulfillment of the Reach order that has been sitting in our backlog now for several quarters. And our specialty vehicles is holding very strong and actually going up slightly quarter over quarter.

And I think -- Rhem, this is John Sztykiel -- while we will see some small number of Reach orders coming through the Isuzu distribution group, the reality is from a large fleet perspective those orders probably won't be allocated or decided upon from a large fleet perspective till probably early Q1 of next year. So it's just certain cycles of the marketplace, capital appropriations, et cetera. So, as Lori said, part of it in delivery service, some of the backlog softening is just shipping a lot of Reaches. And we are about four to six months away from the cycle of the larger fleets buying that product.

Emergency response -- some of the data and server issues -- the nice thing is the specialty chassis and vehicle backlog, in particular the RVs is up. And I think, while that will grow a little bit, I wouldn't expect much growth in that from a double-digit perspective till probably 2015 of next year.

So the backlog -- we are always focused on it. It's still up year-over-year. Would we like it higher? Yes. Would we like it at a higher price within the backlog? Yes. And those two things we are focused on.

Okay, great. Thanks for the time. Keep up the good work.

(Operator Instructions) Walter Liptak, Global Hunter.

I think you alluded to some of the fleet ordering in the delivery and service. So my question is medium duties are not as strong as heavy-duty trucks year to date. But what are you hearing from your fleet customers in terms of spending for this year? And how is order trending?

For the most part, Walt, everything which we are hearing is that people look at 2014 and that's almost behind us. But as they look at 2015 they feel positive about the economy. We don't see cutbacks or major concerns. When we look at our customers, those are public, for the most part. Some are exceeding earnings estimates and expectations in the marketplace. That's good. So overall, I think the US economy has weathered extremely well some of the global [misfortunes] out there. And we are benefiting from that. So we see growth in delivery and service, and right now the fleets are -- their comments to us is, okay, you know what, they see 2015 in a positive way. And that's good.

Okay. So do we see orders and backlog trending at the same level until we get into 2015?

Well, I think that would be a safe statement. Typically, you are not going to see a whole lot from an order backlog growth perspective in delivery of service in late Q3 or Q4 because it typically cycles down some and then it starts to pick up in Q1 of next year. So you will probably see a lightening of the backlog in delivery and service. You will probably see a growth in backlog in some of the emergency response as people -- honestly, they work to spend their money before the year-end budgets, those that are on and end of December cycle. And then I think you will probably see some growth on the RV side alike from a backlog perspective because typically late Q3 and Q4 are pretty good months as people try to buy the product and make sure that they get the right product on the lot for their spring selling season in the RV business.

Okay, got it. And then you mentioned the Reach vehicle, that there were some orders that are out four to six months. Is that because of truck testing? Or is it -- do you already know that there's timing of orders that are out there?

It's really timing of orders. Again, while it's not guaranteed, when we look at past large fleet orders of Reach, they are typically placed in the Q1 timeframe. So place them in Q1, deliver the product in Q2 and Q3, early Q4, and then move on. So that's where that comes from. Again, it's not guaranteed. And while we will sell small numbers through the Isuzu distribution group, the larger fleets -- it's really very similar to lock-in vans. Their larger orders are typically a Q1-early Q2 scenario.

Okay. Thank you.

Robert Kosowsky of Sidoti.

Just two other questions. One is on the Reach. Do you have any indications of interest from, I guess, new fleet buyers as opposed to just ones you have been servicing over the past two years?

You know, Robert, this is John Sztykiel. We have interest. On the positive side, the Reach has a very durable, very dynamic body with a lot of cargo capacity. Okay? On the negative side of the Reach, okay, is it diesel power? And if there's one huge change that has really affected the transportation marketplace, it's the price of gas going down and the growth of compressed natural gas. So as we look at the Reach, the market opportunity is not where it was three years ago, just because changes going on from the fuel source perspective. So, while we are having products and shipping products to other fleets, being smaller fleets, et cetera, and we believe the Reach is still a viable product and we are pleased it's profitable now, we also have to develop a different chassis with the different fuel platform on that product.

But honestly, that's a 12- to 18-month initiative. It's something we are looking at and analyzing, et cetera. But as we look at the Reach versus where we were three years ago, I think the opportunity is there. But it's ability to be a dramatic success in the marketplace is limited today versus three years ago just because of the price of gasoline and compressed natural gas.

Okay. And a 12 to 18-month time horizon -- how far along are you in that? Are you just trying to look at CNG, or where are you in that?

No, we have done a fair amount of work. We are now down to looking at what would be the right chassis platform, how do you configure it into the body to create the least amount of engineering work, et cetera? So I would probably say -- in a fair amount I would say we are between 15% and 20% of the way there. But that's something which we will be working to decide upon, on or before the end of October, when we can conclude our three-year strategic planning process.

Okay. And I noticed you started to buy back some stock. Could you maybe shed some lights on your thoughts about how regular or how, I guess, methodical you are going to be in terms of buying back stock? Should we be expecting $1 million a quarter? May it ramp up if you get a bigger cash inflow from inventory? Just any thoughts on that.

It will depend on a few factors. One is how much cash we have available. We want to keep about $20 million in cash for working capital purposes. Once we get above that level our first priority is for acquisitions. And if we are not particularly active on that front, then our second priority is share buyback. Going forward, we think we will have sufficient cash to continue this program. We have about 800,000 shares remaining in our existing authority to repurchase shares. So, we will definitely be taking a look at that the rest of this year and going forward. I don't know that it's something that we would say yes, we are committed to doing it each quarter. But it's certainly on our agenda.

Okay, thanks very much.

Rhem Wood with BB&T Capital Markets.

Just one follow-up. I just wanted to clarify one thing. From an earnings perspective Q3 is typically the best for you guys, but what you are saying this year is that you expect margins to improve sequentially and you think fourth-quarter earnings will be better than third quarter. Is that correct?

Based upon our current -- I won't say better. It could be slightly better. This is that tough one. Based on our current projections and what we are seeing in the marketplace, we are seeing that they could be slightly better than Q3. But again, Q3 and Q4 probably will be pretty similar to each other but not having Q3 be that big inflection like normal.

John, you wanted to add something.

You know what I think, Rhem? You ask a very good question. It's dependent upon the mix. While we expect to see some operational improvement, that's positive. But we also do have a few less working days. I will say this. Hopefully we will not be cursed with the kind of winter we had last year, which started early, went way too long. But to be blunt, it's a little bit too close to call. It could be slightly ahead, slightly down bit. But the good news is we are moving in the right direction.

Okay, great, thank you.

At this time we are showing no further questions. We will go ahead and conclude the question-and-answer session. I would now like to turn the conference back over to management for any closing remarks. Ms. Wade, gentlemen?

All right. To the group I just want to say thank you very, very much to all the Spartan associates for delivering improved results. I'll be blunt. It's nice to see a beat in front of where the analysts' estimates are and our own internal estimates. And that's always a good day.

So it was a quarter of good progress -- back to two words. But the reality is we know we have a long ways to go. And both internally and externally we are very, very focused on accelerating the rate of improvement. Again, while we are pleased with the results, we are not satisfied from a shareholder perspective. And we are very focused on accelerating the rate of improvement. Thank you very much.

And we thank you, sir, to the rest of the management team, for your time. The conference call is now concluded. We thank you all for attending today's presentation. At this time you may disconnect your lines. Thank you and have a great day.