Stoneridge Inc (SRI) 2010 Q3 法說會逐字稿

Good day ladies and gentlemen. Welcome to the third-quarter 2010 Stoneridge conference call. My name is Stephanie, and I will be your operator for today.

At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions).

I would now like turn the conference over to your host for today, Mr. Ken Kure, Corporate Treasurer and Director of Finance. You may proceed.

Good morning everyone, and thank you for joining us on today's call. By now, you should have received our third-quarter earnings release. The Release has been filed with the SEC and has been posted to our website at www.Stoneridge.com. Joining me today on today's call are John Corey, our President and Chief Executive Officer, and George Strickler, our Chief Financial Officer.

Before I begin, I need to inform you that certain statements today may be forward-looking statements. Forward-looking statements include statements that are not historical in nature and include information concerning our future results or plans. Although we believe such statements are based upon fact or reasonable assumptions, you should understand these statements are subject to risk and uncertainties and actual results may differ materially. Additional information about such factors and uncertainties that could cause actual results to differ may be found in our Form 10-K filed with the Securities and Exchange Commission under the heading "forward-looking statements".

During today's call, we will also be referring to certain non-GAAP financial measures. Please see the Investor Relations section of our website for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures.

Now, I'll begin the call with an update on our growth strategies and business development and his thoughts on market conditions. George will discuss the financial and operational details of the quarter and future outlook. After John and George have finished their formal remarks, we will then open up the call to questions.

With that, I'd like to turn the call over to John.

Good morning. Although our net sales and net income increased in the third quarter versus the prior-year period, our results were negatively impacted by the additional costs associated with the launch of a major customer program and supply shortages of electronic chips and electrical connectors. I'll cover these in more detail later. However, these issues are being resolved and the actions we are taking to support our customer commitments will benefit our future.

Our other metrics are performing in the ranges as expected. Sales for the quarter were $160.4 million or $42.4 million or 36% higher than the prior-year quarter. Increases in North American automotive production and higher North American and European commercial vehicle production provided the revenue improvement over the prior-year period. Based on the continuing strengthening of the market, we are raising our 2010 sales guidance range to between $630 million to $640 million from our previous guidance of $605 million to $625 million. We expect future increases in sales as a primary served continue to improve in 2011.

Our third-quarter gross margin of 22.5% is slightly below our range of 23% to 25%, but it is the fifth quarter in a row where we were above the 22% gross margin. Third-quarter gross profit includes $1.3 million of premium freight costs and $1.7 million from a poor product launch in one facility.

Operating income for the quarter was $5 million.

Finally, we recorded net income of $648,000, or an EPS of $0.03 a share, which included a $1.3 million book provision of deferred tax of $0.05 a share due to improved financial results for PST in Brazil. This book provision does not impact our cash taxes.

Our quarter-end cash position was $84.9 million and in early October, we used $9 million of our cash position to retire a portion of the principal balance of our debt as part of the refinancing initiative which we completed on October 4. Cash on hand after the refinancing will support our future growth plans.

Now, let me go into the details behind the operational shortfall in the third quarter, which was primarily for our North American Electronics Group. As we reported in prior quarters, the industry has experienced shortages of electronic components and various electrical connectors. Vendor allocations and erratic deliveries, a condition we have dealt with for most of the year, resulted in inefficiencies in our production. For managed material supply and customer deliveries, we utilized expedited freight to obtain parts and to ship product to avoid line shut-down situations at our customers' facilities. This cost us about $1.3 million for the quarter compared to last year.

Our team has done a good job of managing the parts shortage and matching the most immediate needs of the customers to the product availability. However, in managing customer demands and material availability, we did not fill all customer orders on time and built a backorder on some products.

Where we did not do a good job was in the managing and execution of a major program launch. There are several reasons this launch did not go well, including the parts shortage discussed above. However, the majority of the poor launch issues are our responsibility. The end result was we fell behind this customer's requirements and created a backorder buildup.

As we progressed through the quarter, we saw progress in our launch, but it was clear that we would not significantly reduce the buildup in backorders from both the launch and the parts shortages unless we scheduled the plants to work additional overtime and added people to support our production rates. It was an expensive way to meet customer requirements, but I felt it was the right action to take to significantly reduce our backorders by the end of September.

We're now running with significantly less overtime. We still need to continue with our planned improvements and to manage the shortage of materials. The situation is improving, and we do not believe, given the current suppliers' commitments, that there will be a significant problem in the fourth quarter. The additional labor and overtime costs cost us approximately $1.7 million in the third quarter, which represents nearly $0.07 a share for the quarter.

The third quarter was also impacted by material cost increases for copper as the average price in the third quarter increased by 22% compared to the third quarter of 2009. Though we hedged a portion of our remaining 2010 purchases, our third-quarter results were negatively affected by approximately $600,000, excluding $118,000 in hedge benefit. We expect, based on current copper pricing, to have a similar impact in the fourth quarter. Going forward, much of the copper increases will be recovered in 2011, as over 50% of our sales to customers that have significant copper content have copper recovery provisions in our agreements or contracts.

Finally, our net income was unfavorably impacted by the volatile movements in foreign currency rates in September. Though many of the foreign-denominated assets and liabilities are hedged with either derivative instruments or naturally, some exposures do exist.

During the quarter, our net income was unfavorably impacted by $558,000, most of which occurred in the month of September. During the fourth quarter, our financial team has taken steps to mitigate a significant portion of these exposures so they do not have the same impact on our earnings going forward.

For the year, our foreign exchange exposures have generated a benefit of $1.1 million but a negative impact occurred in the third quarter.

Now, turning to look at the positive events accomplished in the third quarter, we booked $253 million in business wins, which includes the previously announced five-year contract renewal in July with Navistar, our largest customer. Our year-to-date total bookings are approximately $316 million with approximately $96 million in new awards and the balance in renewals of existing business.

Our cross-selling and global execution efforts are showing results, as evidenced by a third-quarter award from Telematic [and] tracking system with a leading European global truck manufacturer. We are particularly proud of this award, as it represents the collaboration of our European instrumentation group and our Brazilian joint venture on a global competitive quote. We will be producing and selling the track and trace units both in Europe and South America. This award is valued at approximately $21 million, of which approximately $11 million will be reported by our European business and the balance sold and produced by our PST -- by PST, our joint venture Brazilian operation.

We continue to expand and grow in emerging markets. In China, in the fourth quarter of last year, we added business development resources to begin to develop the Electronics and Control Device businesses. We opened our new tech center in March of this year to develop Electronics and wiring business by adding additional engineering and test capabilities. As a result of those efforts, during the third quarter of 2010, we have won new business awards totaling $13 million. These wins in a relatively short period of time reflect the positive growth momentum we are generating in China. Some of the larger awards include one to a Chinese engine manufacturer for an instrument cluster and electronic body controller, another to a power equipment manufacturer for wiring harnesses on a construction and agricultural application. We believe we can develop our China operation to reach $50 million to $75 million in sales over the next three to five years.

Our joint venture operations and financial results continue to return to the more normal levels of 2008 -- 2007 and 2008 for both sales and probability, as the market fundamentals have improved in both India and Brazil. In India, our JV sales are now forecasted to be approximately $32.6 million in 2010, an increase of approximately $12.2 million, or 59%, over 2009. The market has continued its robust growth and Indian economy is improving as GNP growth was at 8.3% in the most recent quarter. We believe our sales in India can reach $50 million to $75 million through the next three to five years also.

Our PST joint venture performance improved in the third quarter of 2010, recovering from the weaker first and second quarters of 2010. Sales improved to BRL86.4 million in the third quarter from BRL60.1 million in the first quarter and BRL74.1 million in the second quarter. Operating margins increased to 19.3% to sales from 8.5% in the second quarter and 4.4% in the first quarter. PST is returning to their previous performance levels.

PST continued to land new customers. During the third quarter, PST has signed an agreement with Wal-Mart. They will sell car audio and video systems under their market-leading Positron brand, similar to what they do for GM and Fiat in the OES channel. PST currently sells to Carrefour and Savaria, the largest mass merchandisers in Brazil, and now will sell through Wal-Mart, who is the third largest mass merchandisers in Brazil. Sales to this channel are forecasted to reach BRL48 million in 2011.

In summary, our third quarter, while an improvement over last year, could have been better and is not reflective of the future performance of the Company. We did not manage one launch out of several launches in the quarter as well as we should have. We believe the actions taken, while costly to the quarter, supported our customer commitments and the future revenue streams we expect to get from the new business awards.

We continue to see our major markets for automotive, commercial vehicle, and agricultural improving in 2011. Primary -- preliminary industry forecasts show increases for North American automotive production next year. Likewise, the commercial vehicle markets in North America and Europe are projected to continue their recovery. We still believe the commercial vehicle market is positioned for a significant rebound in 2011 as the age of the fleet and general economic conditions bode well for future production levels. In addition, the agricultural market continues to have a positive outlook and now represents about 16% of our sales.

We have a good blend of business in each of these sectors and we will benefit with the market's continuing recovery. We have growth with our customers for new programs this year and next. We have taken costs out and can leverage the volume increases. We are addressing our inefficiencies which lowered our performance in the third quarter. We believe that our fourth-quarter results will show improvement over our third-quarter results.

The plans we have developed and executed over the past three years are not negated by this quarter's performance. The strategy we have been executing, namely topline organic growth, expanding our customer base, geographic diversification, operating with a lower cost structure resulting from our restructuring and lean implementation to drive continuous improvement, positions Stoneridge to improve financial performance.

With that, I'd like to turn the call over to George to provide additional details on our performance and outlook.

Thank you John. We established as our number one priority this year to refinance our 11.5% high yield bonds that would've matured May 1, 2012 as the high-yield market opened at favorable rates. On October 4 of this year, we successfully completed the refinancing of our $183 million 11.5% bonds with $175 million 9.5% bonds which extended our maturity to October 15, 2017. This will save the Company approximately $4.4 million in interest expense annually. Even though our entire $183 million has been refinanced, only $109.7 million were redeemed early, and the remaining bonds will be called at par on November 4. This will cost us an additional $700,000 of interest expense in the fourth quarter until all of the bonds are redeemed on November 4.

In conjunction with the refinancing, we've entered into a fixed rate for variable rate swap of $45 million of our $175 million total bond debt, representing 25% of our total debt position. If interest rates remain at current levels, we expect to save an additional $700,000 to $800,000 in interest expense per year. We believe interest rates will stay low until at least the third quarter of 2012.

Another area of importance that we are actively managing is our current cash tax position. Over the last five years, we have not paid US cash taxes due to our NOL position. The operating loss has primarily been created by tax deductible goodwill related to our Hi-Stat acquisition in 1998, which has and will continue to generate a tax deduction of approximately $20 million per year through 2013. As a result, we do not expect to pay any cash taxes in the US until approximately 2012 or 2013.

Over the last five years, PST has been remitting dividends to us normally in December of each year. The dividends from PST have not caused us to pay cash taxes in the US due to our tax loss carry forward position. However, as a result of certain tax accounting principles, we are required to provide deferred tax expense at the US statutory rate of 35% on the equity earnings from our PST joint venture.

With the significant improving equity earnings for PST in the third quarter, we provide deferred tax in the reported earnings period. For the third quarter, this represented tax expense of $1.3 million or $0.05 per share, and for the total year-to-date represents $1.9 million or $0.08 per share.

In the last two quarters, we launched 13 programs which will add to our sales growth in 2011. Twelve of these launches ran successfully and only one launch is having difficulty. As the market continues to transition from the significant downturn toward a recovery and our sales have increased from a low of $475 million in 2009 to an annualized rate of $630 million to $640 million for 2010, we will continue to manage the challenges of the significant growth with the production ramps in such a short timeframe.

Though we continue to be diligent in managing our costs, certain events in the third quarter have occurred which have prohibited us from recognizing our full potential to generate operating profits in the third quarter. As John discussed earlier, honoring customer commitments through a difficult launch, even when it means increased costs, have combined to adversely affect our profitability this quarter by $1.7 million for operating inefficiency, headcount increases, and overtime.

In addition, component shortages have caused increased premium freight this quarter of $1.3 million through premium freight that has been running at elevated levels all through the quarters this year compared to last year. Our team has addressed these issues during the quarter and they should not have as much of an impact in the fourth quarter.

Now, I'd like to cover you some of the details regarding the financial performance from the quarter. Revenue of $160.4 million in the third quarter of 2010 represents an increase of $42.4 million or 36% over the third quarter of 2009. Our sales increase is the result of increasing production volumes in our server markets, new business program, sales and improving economic conditions.

For the third quarter, light vehicle revenue increased from $41.3 million to $52 million, an increase of $10.7 million or 25.9%. The increase was primarily attributable to the 26.1% increase in traditional domestic production in our Control Device segment.

Sales in the medium and heavy-duty truck market totaled $78.8 million in the quarter, an increase of $17 million or 27.5% over the prior-year third quarter. The revenue increase was primarily driven by the increase of 25.1% in the North American commercial vehicle production.

European commercial vehicle production is showing an increase of 76%. Sales to agriculture and other markets totaled $29.6 million, an increase of $14.4 million, or 95%. North American revenue accounted for 78% share of the third-quarter revenue and 78% for the same period last year.

In the third quarter, Electronics revenues were $99.9 million compared to $70.2 million from the same period last year, an increase of $29.7 million or 42.4%. Factors -- favorable factors affecting the third-quarter performance was a 25.1% increase in North American commercial vehicle production and a 76% increase in European commercial vehicle production.

Revenues for Control Devices of $60.5 million increased from $47.8 million compared to the third quarter of 2009, which is an increase of $12.7 million or 26.5%. The 26.3% increase in production in North America light vehicles with [traditional] domestic manufacturers was the primary reason for the increase.

Our third-quarter gross margin was 22.5%. This marks the fifth quarter in a row that our gross margin was greater than 22%. The continued increase is primarily due to our cost structure initiatives and positively benefited by higher sales volume.

Sales from low-cost manufacturing locations accounted for 47.1% of total sales for the third quarter, compared to 45.8% in the prior year. The increase is due to volume increases at our Mexican facilities. Production line moves from our Mitcheldean UK operation to China and Estonia have contributed to the increase at our low-cost manufacturing locations as well.

Selling, general and administrative expenses totaled $31 million, which is consistent with the $31.4 million in the second quarter and $29.6 million in the first quarter this year. Our design and development expense was $9.2 million, which is consistent with our second-quarter expense of $10.2 million and $9.2 in the first quarter. Our SG&A expense in the third quarter of this year, excluding restructuring, is down compared to 2007 and 2008 by $1.6 million and $2 million respectively.

Income tax expense for the third quarter was $2 million on a pretax income of $2.6 million. As reported for December 31 of last year, the Company's in a cumulative loss position and continues to provide a valuation allowance, offsetting its federal, state and certain foreign deferred tax assets. As a result, no tax expense was provided on US income in the third quarter. The Company is required to provide deferred tax expense related to the earnings of our PST joint venture, which is unaffected by our valuation allowance position.

The increase in tax expense for the three months ended September 30 of this year compared to three months ended September 30 last year was primarily attributable to the improving performance of the US and foreign operations, as well as the tax we are required to provide related to our PST joint venture. Due to the valuation allowance, deferred tax related our investment in PST and the pattern of projected earnings, the (inaudible) effective tax rates may fluctuate significantly. We expect the 2010 annual effective tax rate to be between 28% and 32% and cash taxes of only approximately $1.5 million to $1.8 million.

Stoneridge reported a third-quarter net income of $648,000, or $0.03 per share. This compared with prior-year net loss of $844,000, or $0.04 a share.

Depreciation expense for the quarter was $4.7 million and amortization expense was negligible, as most of the intangibles had been written off in December of 2008. Our primary working capital totaled $94.1 million at quarter end, which increased by $14.4 million from the third quarter of last year.

As a percentage of sales, our working capital decreased from 16% to sales in the prior year to 15.5% to sales in the third quarter of this year. Our working capital measures were significantly influenced by the drop in sales revenue we experienced in 2009. Current working capital levels are a function of increasing sales and operational activities are now experiencing. As markets return, our long-term goal still remains that primary working capital is 12% of sales, and we are projecting we can reach 13.4% by the end of this year.

Operating cash flow is a source of cash at $10.7 million in the third quarter compared to a source of cash at $26.6 million in the previous year. Our cash flow results in the third quarter were affected by the increase in Accounts Receivable and inventory, offset partially by increased Accounts Payable, which are a function of sales and customer mix.

Capital investment for the quarter totaled $3.4 million, mainly reflecting investment in new products in sensors and wiring, as well as IT spending for our ERP implementation in North America Electronics. We're forecasted to finish the year with a total capital spending in the range of $18 million to $20 million.

We are forecasting that we will have a free positive cash flow for the year. As of September 30, 2010, we have $72.4 million of availability under our $100 million asset based lending facility, a significant improvement from the $54.1 million level at December 31 of last year.

Our borrowing base has increased by $18.3 million since the fourth quarter of last year, as increased Accounts Receivables balances are the direct result of higher sales.

We had no borrowing strong against our asset-based lending facility. As part of the bond refinancing, we extended the maturity of our ABL to November 1, 2012. Our quarter-end cash balance totaled $84.9 million compared with $91.9 million at the end of last year. Our cash burn was mostly driven by increased Accounts Receivable driven by increased sales. We will continue to manage our capital expenditures and working capital to sustain and/or improve our cash flow.

Going forward, we expect we will continue to fund our operational growth initiatives through our free cash flow generation and available cash balances. As the market recovers, our working capital will begin to grow in dollar terms but we will continue to improve our days to achieve our primary working capital target of 12% of sales.

We initiated changes to our business starting nearly four years ago to position the Company for better operating and financial performance. Our plans were curtailed in the second half of 2008 and most of 2009, with a significant market downturn that forced us to implement more aggressive changes to our business in order to contend with the market decline.

Our quarterly financial results for 2010 are reflecting the improvements we've made to the business. Even though our net sales level is nearly $100 million lower than the average sales of 2007 and 2008 of close to $740 million, our profitability is improving due to our cost restructuring.

We are projecting that our sales for 2010 will be in the range of $630 million to $640 million, which is a significant improvement for our low of $475 million in sales in 2009 as the market returns and the results of organic growth.

Our current business split is represented by 51% commercial, 33% [pass] car and light vehicle, and 16% ag. Of the commercial market, about two-thirds as in the US and a third is in Europe. For our North America commercial market, we are approximately 67% medium and 33% heavy and in Europe we're about 52% medium and 48% heavy.

We have experienced a significant improvement in the US pass car and light vehicle as the market has improved from under 10 million annual production units to a more robust level of 11.4 million to 11.6 million units that we have been running since the second quarter of this year. Our future plans are based on leveraging our cost reductions and growing from a combination of market growth and from new business awards.

We've reduced our fixed cost structure by taking out four operating facilities and eliminating redundant overhead centers as we consolidate our mullable business units to two key businesses, Control Devices and Electronics. We consolidated our management teams in North America by combining our Wiring and Electronics business units in 2008, combining our Canton, Massachusetts and Lexington, Ohio business units in August of 2009. Part of the benefit was cost, but we also benefited from more focus on development of technology and new products, cornerstone customers, geographic growth by cross-selling our technologies to multiple customers, and a more concentrated effort on our developing markets -- Brazil, India and China.

Our plan at the beginning of 2010 includes net new business awards of $227 million over the next five-year period, and we have landed $96 million of gross new business awards for the first nine months of this year. These new awards will contribute to our significant growth over the next five years.

We have been benefiting from the return of our Company's financial and operating performance in the emerging markets, Brazil India and China. Brazil and India reported equity earnings in the third quarter of this year of $3.9 million, which is the highest level they've reported in nearly seven quarters.

We are not expecting a significant increase in commercial vehicle production in the fourth quarter, which is why we've only raised our sales forecast for this year to $630 million to $640 million. We do expect the commercial business to begin to improve by the first quarter of 2011, accelerating in the second quarter and especially in the second half of next year. The market is now projecting a significant increase in the commercial market for next year.

North America commercial vehicle market is forecasting growth of 18.2% in medium-duty vehicles and 56.8% in heavy-duty vehicles. Europe is projecting an increase in medium truck of 40.3% and heavy-duty truck at 27.8%. These vehicle projections, plus our net new business awards, will drive significant growth for us next year.

We have addressed the critical issues that we laid out in our original plans for years ago. We have reduced our fixed-cost structures, we had refocused our D&D expenditures to move up the value chain to drive new technologies and provide us the opportunity to cross-sell our products and technologies to multiple customers. We've made investments in China, India and Brazil to grow in the emerging markets. We've refinanced our $183 million 11.5% coupon bonds with new $175 million 9.5% coupons that extends our maturity to October 15, 2017. We've extended our ABL by one year to November 2012 to provide us the opportunity to refinance the best possible rates. We are well-positioned for profitable growth that will commit us to achieve our ROIC target of reaching 15% by 2011/2012, and generating positive free cash flow to continue to reinvest in the business.

Now, John would like to make one more comment before we turn the call over for questions.

Thanks George.

As many of you are aware, on October 7, 2010, Stoneridge filed an S-3 registration statement with the SEC indicating the [Drane's] family's intention to sell their shares. SEC regulations prohibit us from commenting on the subject. As such, we will not be providing any additional information beyond what is included in the S-3 filing.

Operator, with that, I'd like to open up the call for questions.

(Operator Instructions). Bob Nicholson, Pine Cobble Capital.

High guys. Just a couple of things I wanted to clarify. If I just walk through -- it sounds like there's a lot of moving parts in this quarter. If I just walk through a couple of the big items, and I start with the pretax number of $5 million and then add to that the one-time expenses associated with the expedited freight of $1.3 million for the quarter, so operating income plus $1.3 million for expedited freight, plus it sounds like there's $1.7 million of what are going to be unusual costs related to the program launch, that gets me to $8 million pretax. Then it sounds like there are some costs associated with the fluctuation in copper that ultimately gets recovered, which gets me to sort of $8.5 of operating income which would have been I think a much more consistent number for operating income margin to what -- where you've talked about before in terms of the incremental margin. If I run all of that through and back out interest expense, the Brazilian equity income, and then apply a normalized tax rate, not the catch-up provision for Brazil of, say, 30%, that gets me to a much different number in terms of the net income from the quarter.

So my question is how should we think about the recurring nature of the one-time issues? How comfortable are you in your ability to keep fixed costs from creeping back as production begins to really ramp up next year?

What we're looking at right now is we looked at Electrical -- part of it is the supply disruption. So if we look at this on electrical connectors, we are seeing that is not as severe as it used to be, so we see some improvements. On electrical components, chipsets and stuff, we are generally looking at industry forecasts that call for recovery in the second quarter of 2011. So we believe we will be managing component issues through the fourth and first and second quarters of the year. But I think we've done a pretty good job in managing that because that's been a condition that's been in place for the first half of this year as well. When we see it's improving, the situation is getting better, we are having less instances of premium freight shipments. So I think that benefit will start to -- that will come into play. As I said, in the fourth quarter, we don't see as severe a shortage of these parts as we saw before, so I think that will come back.

In addition, on our operations, the one factory that was clogging up the problems with the product launch, as George said, we launched about 12 programs in the last two quarters. We've had one that has been a poor launch. We've worked aggressively at that factory. We will continue to have some work to do in the fourth quarter there, but that is already reducing its overtime, will reduce its headcount, and we'll see improved performance out of that business in the fourth quarter and going forward.

And then to sort of relate those dollars that you have rightfully highlighted, the $5 million is operating income and the pretax income is $2.6 million. The launch costs of $1.7 million, those are pretty well behind us at this point. We've caught up with most of the backorder we had with our customers.

Premium freight is something we have been experiencing all year. Our normal run rate is somewhere around $300,000 to $400,000, so that incremental $1.3 million -- we do see an improvement onto that in the fourth quarter of roughly half of that. Copper I think, as we mentioned, it's accelerated. Copper is now up to about $3.80 a pound. We will incur roughly about the same amount in the fourth quarter, depending on some volume. But with our surcharge mechanisms -- and we mentioned in here that we have 50% of our contracts covered, we've actually hired in that with the Navistar contract, but that takes us about 15 months to get in full implementation. So as copper -- if it levels off at this period, our surcharge mechanisms have a six-month lag period to it. So if it stabilizes at this level, we will not incur any additional costs beyond what we have.

Then I think the other item -- (inaudible) we talk about the launch costs, the premium freight, the copper. Then the exchange was really a unique thing, because we have intercompany obligations, both in Europe and Mexico. We have been hedging those positions and year-to-date we have a positive position benefit of about $1.1 million. It was negatively impacted because of the swing in the currencies in September. In fact the [Sikh] where we have our manufacturing location in Europe is actually revalued against the euro. Then our Mexico obligations were impacted in the month of September. So I think we're in pretty good shape with the currency impact that we mentioned.

Then I did want to highlight, because it is important, is that, on a cash tax basis, we are only projecting that we will pay cash taxes of about $1.5 million to $1.8 million this year. We, under accounting tax guidelines, we are accruing a corporate tax rate of 35% on PST's earnings, even though, when we remit the dividend in December, there are no cash taxes paid on that. It will ultimately wash itself through when we absorb the full amount of tax loss carry forward.

So if I again -- just going -- trying to go through some of the one-time items, it sounds like after you get through these unusual items, the core earnings part of the business this quarter, if I just run through the simple math, it gets me to $0.18 or $0.20. So the core engine and the core cost structure you guys have put in place, it sounds like that is intact, you feel good about that, and you're setting yourself up. It's going to take a couple of quarters until we get to the peak of the truck cycle ramping for that to shine through. Is that still a fair assessment of how you guys think about the margin potential?

That's exactly right. All we have to do now is execute. We've got all the heavy works behind us in terms of the restructuring and the permanent cost take-out. Those things will stay out. So we are going to -- as the market improves and with our new awards, we are going to benefit from that.

Terrific.

I agree with that. I think the one thing we tried to highlight to is that we have not seen the commercial ramp that there has been a lot of reports about. But it is out there, and it appears that it's coming more in the first quarter, get stronger in the second quarter, and then the second half of next year. So we are positioned for that, and that's what our forward plan is really based on.

Matthew Mishan, KeyBanc.

Good morning George, John, Ken. I just wanted to go back to the program launch costs. I believe, in the second quarter, you also had some one-time impacts of some [slight] disruptions, the euro and the program launch cost. Is this the same program that you were having some issues with in the second quarter as well?

Yes. The supply disruptions have been something we've confronted all this year. I think each quarter we've talked about the disruptions in electrical components and connectors, primarily on chipsets and some other things. That affects both of our businesses on both the control device business to the extent we have some electrical content on our products there, and also our electronics business.

On the launch, the relatively complex launch that we started in the second quarter but we really didn't see the full impact of that until the third quarter when we really were ramping up.

Okay. You're confident, at this point, that the back orders have been filled. Is it -- was there a bottleneck on your sales a little bit in the third quarter, and are you going to catch up a little bit on that in the fourth quarter?

I think we got it all out in the third -- well, we've got about $2.5 million we would say that carried over from the third quarter but, by and large, because we pushed all this -- the business out, we made the commitments to our customers. That's really kind of a normal I would say more normal carryover when you look at a month end. So with our customers, you can't keep them -- can't keep a line shutdown situation. So we made sure we met those commitments.

And then I also noticed the pace of the equity income definitely increased in 3Q. Is that a sustainable event going forward, or do you expect -- or was that just seasonally high?

No, I think we see it -- they're bringing on new products. We talked about the car and audio and PST and General Motors where they are selling. It was probably a little higher than we expected in the third quarter, but it should run in that range. Historically, we've always said around that $3 million. As you know, it is better this quarter at $3.9 million. But we see them now having a sustainable level of both their margins have improved, we saw that in June, and it ran through the whole third quarter. So we feel good about where they are at.

Our Indian joint venture, as that continues to ramp at the rates that it's doing, it should be able to improve. It has demonstrated that it can improve its profitability as it gets more volume there. So we think both of those things are positive trajectories.

Moving on to contribution margin, as you think about contribution margins going forward, given -- I believe in the past, you've said between 25% and 30% would be your expected contribution margin on the increase in sales. Given some of the one-time issues you've seen in 2010, are you more confident that in 2011 you can hit that 25% to 30%, or can you actually exceed it, given some of the one-time issues you've seen in 2010?

I think we've always said that we'll run in that 25% to 30% range, and I think we will continue in that range. We have the opportunity because of some of the new products that are coming on. But I would continue to use the 30% as a marginal contribution on sales growth.

And just lastly on interest expense, I think you mentioned that interest expense was going to pick up a little bit because we were redeeming it at par. Do you have a number you're thinking for the 4Q on interest expense at this point?

I'll just answer that one Matt. I think, if you just do some quick arithmetic, we had the $175 million, of the new issue, we had $183 million. There is going to be a portion of the time which is going to be about, oh, $700,000 worth of interest because we are not finished fully extinguishing the bonds until November 4. The incremental interest is coming from about 70 -- we did $109 million in principle balance on October 4, so there will be a month's worth of interest on the $70 million-odd extra, on $11.5 million before they retire it on November 1.

So it is coming down then in 4Q?

Yes, it will, but it's not going to be -- it's not like on October 1 we all of a sudden had $175 million in interest only. There was a small period of double-carry.

Then if I do the math correctly, I'm assuming, if you were to annualize it around -- at around $22 million, maybe $22.5 million in interest expense, you come down next year by about $4.5 million?

Yes, $4.5 million-plus. As we mentioned, we've done an interest rate swap, and so depending on what LIBOR is doing, that can move it. But we estimate it will be in the benefit of $600,000 to $700,000.

Great. Thank you very much guys.

Robert Kosowsky, Sidoti.

Good morning guys. I was just wondering if you could give us a little bit more color as to what went wrong with the product launch. Was it a new product you guys were coming up with, [there was] a hard time scaling up? Was it issues with quality, or supply-chain or -- more color on that would be great.

We -- sometimes when we you engineering specifications or drawings that they are not accurate and that starts the problem off, so when you -- we had some issues with some incorrect engineering parameters on the product. That started the problem. This was really in our wiring business, so it was complex wiring harnesses that have a lot of subassemblies that go along with them. So we had to start, we had to learn from that. We had to build new boards from that. When we started, we had a lot of training and development time that went into that. So I think it started from some poor engineering drawings and instructions to some poor development work on our side, to some issues we had with efficiencies on our factory floor and getting parts to the floor out in time, a variety of just operational issues that are now largely addressed and continue to work through, finalize so we can run very efficiently.

That's helpful. How do we have more confidence that more issues like this won't sprout up, once like cyclical demand comes up. Kind of you changed some of the engineering processes that you have. How do you address that given the market might have a good year next year?

That's really the question. As we said, we did 12 launches in the Electronics group out of this in this business over the last two quarters. Of those, this one launch did not run well. We go back and we do a lessons learned on these things. Unfortunately, sometimes we don't learn our lessons, and we need to relearn them. So we reengage with people. But we are putting in different metrics into the system. The head of that business is personally engaged in putting in those metrics to make sure we've got accountability and measurement criteria that come up and down the line. I would never say never. There are always possibilities that you have problems with launch programs because of timing of events. In the industry, you get a program, and what you would say would be maybe you would have 12 months to develop and design that program and put it on the floor. By the time the customer finalizes their specifications, that might drop down to eight to nine to six months. So you've really got to scramble. So there's always that possibility. We just have to try to manage it more effectively.

To what extent does your customer feel the impact on this bad product launch? Then also more broadly on the component supply issue, what extent did you guys bear the brunt for your customers so that kind of not passed on the chain?

The customer felt the problem because they were not -- they had trucks in the yard, so to speak, that they couldn't ship out until we got the parts to them. Now, we weren't the only supplier that was causing them problems, so I'm not going to say it was all of ours. As we said, towards the end of the quarter, we worked with them very closely to develop a plan of how we were going to get out of this situation. Part of that plan was also (inaudible) with them the component availability and making sure we were setting the right priorities for what products to produce to ship to them to get their most urgent needs out.

So I think we did a good job, I'll say fair to good job on doing that. Anytime you disrupt a customer, you can't really say you did a great job. So, I think we did a fair job of getting out of that and executing on that. We still have some work to do there.

Regarding the component shortages, that's also I think where our team actually has done a very good job in managing that possibility over the course of this year. So everybody from our purchasing to our operations people to our customer sales organization works with the customer, tries to identify what the issues are, tries to identify what their needs and requirement are and then tries to satisfy them. I think, for the most part, we did a good job, have done a good job in managing that component shortage.

How did you guys troubleshoot this? Did you guys get alternate suppliers, were components more expensive from the same (inaudible) that you used or what?

We buy components direct, and then we went out to the distribution channels and bought components from the distribution channel, where distribution has had components on hand. So we purchased off of them. We are looking at all sources of components. It becomes difficult to change a component. You can't really change one in a product unless you get a (multiple speakers) from a customer, and so we've gone out and scavenged, so to speak, in the marketplace for -- from distributors and others.

Then also can you talk about some of the new business wins and where they kind of fall in the mix between heavy-duty, medium-duty and I guess US versus international on the Electronic side?

Yes, well, if you look at the $96 million -- I mean I think we said about $23 million was on the Control Device side, I remember correctly, and the rest would be on the Electronic side. Electronics is almost all -- as George gave you the split-out of heavy-duty and medium-duty and ag -- we will get the specific number for you on that.

In that, I think the biggest news is that we were able to renew, with our largest customer, a five-year long-term agreement with them, which as George said gives us -- puts in place a copper escalation clause, so we have been able to, in the future, protect us to some of the vagaries of the copper commodity market.

Okay. Then finally, how much cash do you want to keep on the balance sheet to remain comfortable?

We've always said that we'd probably look at about $25 million to $30 million, and the rest would be used for growth opportunities. That's always been one of the themes that we've had for the business. We have looked at, since 2008, have looked at some acquisitions that we -- but we never felt that they were valued correctly or they were the right fit for us. So we will continue that as we go forward, how to fill in both our geographic footprint and our product footprint. We might have some smaller-sized acquisitions in the future.

Okay, thank you very much. Good luck with this next quarter.

(Operator Instructions). Tony Venturino, Federated Investments.

Good morning gentlemen. Thanks for taking my call. Actually, most of my questions have been answered, but I just want to get some more color around the launch and some of the component shortages. I think you said that the customer was okay at the end with the product launch. Is that a fair assessment, or how would you --?

I wouldn't say they were okay with it. They are never okay with it when you have problems with it. I think what we did is we got to a working agreement where we started to meet commitments and started to demonstrate to them that we were meeting our commitments and got on a sound footing. I am not saying we are out of the woods yet, but we are on a sound footing now where we are not having the same kind of problems we had before. As a result, we were able to -- the factories are running back down to normal operations. So we still have some problems with component shortages, and we still have some other issues that we have to sort out but not at the magnitude that we faced in the third quarter.

So was there any sort of long-term damage to this relationship or just kind of near-term?

Well, we are going to go and sit down and discuss with the customer the issues that we had and what we've done to put it in place. I think, overall, our relationship with the customer had been good. We service them fairly well across the board but in this particular case, we did not do that. So we want to get the problem fixed and demonstrate to them how we are doing that. We have done that for the last several -- last month and going into this month. Once we do that, then we will sit down with them and talk about what the opportunities are for the future.

As we had this launch problem, we won two major awards with that customer in this past quarter. So they were significant global awards. We've had one hiccup and we continue to have been very favorably -- we received some other contracts that were very significant with this customer.

That's fair. Then yesterday, Freescale had commented on their issues, their supply issues and that they had kind of worked through all lot of the constraints that they had had. But when they had shipped out to their customers like you, you were seeing issues, not you specifically but customers like you were seeing issues with other components in the chain. Do you think we're getting close to the end here? It sounds like you're saying this is going to be another couple of quarters of issues. Where are specifically are kind of the main constraints?

Some chipsets, and we still see another couple of quarters of those things. There are some problems. Some of it actually -- when we start to dig into it, some of it is because capacity was taken off-line and they are not bringing back on capacity as rapidly as they would have in the past.

The other thing is that we are at a record -- we are at a record demand for chips worldwide, so even though the industry went down with all the advent of electronics and content of electronics chips, chip demand has gone up. So there needs to be more capacity brought on. In some cases, it's as simple as somebody as a supplier changing their ERP system and having problems with matching up orders to demand properly. So we're managing that too.

But I think what we are hearing from all our customers and what our group is telling us, our Electronic group and purchasing people are telling us, it will continue to get better, but it's going to probably be in a more normal state by the second quarter or towards the end of the second quarter.

And then just a couple of last quick questions, just a clarification. D&A, you had said depreciation I think was $4.7 million. I didn't hear the amortization part. Could you give me a total number for the [event]?

There is no amortization because it's all -- $4.7 million is the depreciation.

$4.7 million (inaudible). And then, on the balance sheet, the debt level is $183 million and change. Is that pre or post-refi?

That's pre-refi.

Could you give me what the debt levels are now? You kind of talked around that, but --

There will be $175 million, and then we have about $1 million of our subsidiary in North America. and it's been running around that level. So I think you will see it at about $176 million.

$176 million. Then you had I believe it was $183 million minus $109 million that's left, that goes out in November though?

Yes.

Yes, that will be -- we'll end up paying about a month of interest, additional 11.5% on those bonds that were not redeemed.

Okay. That's it for me. Thanks.

Robert Kosowsky, Sidoti.

Just another couple of questions. Could you talk a little more in detail about the new PST products that are coming out, especially the one where you cross-sell I think with the Electronics division? Also, could you maybe talk about the margin profile of the new products relative to the 19% margin I guess we saw in the third quarter?

We don't really disclose margins, but a lot of the track and trade system can use common components. Basically, what it is is a telematics system that a large customer wanted. They can track and trace trucks, tractors. So we combined the ability. PST, as we reported in the past, has been a leader -- not a leader -- has been one of the leaders in the Brazilian market of developing tracking systems down there for vehicles, because the insurance industry wanted that. So they had that capability in there. In addition to our European capabilities, we were able to design a system using the experience we had in Brazil and also using our experience we had with our tachograph system in Europe to come up and meet the customers' expectations. Beyond that, not only the expectations for the design and development, but then the expectations for manufacturing, because we can manufacture the product in Brazil and we're manufacturing the product in Europe.

You guys said that was like a $23 trillion project on an annualized basis?

Yes, $22 million when it's fully ramped up, and about half of that goes into Europe and half of that will go into Brazil. In addition, this system, while there are no laws mandating it for North America market, over time, fleets in North America will probably migrate towards more of this type of system, even if it's not legislated. We have a good opportunity because we designed this system for both Europe and Latin America, South America, to bring that system with that customer into North America, should it be needed.

Thank you very much. I guess when does the Wal-Mart distribution system start to land up? Is that a fourth-quarter event?

They just signed it, so it will start out slow here in the fourth quarter then will really start to come in 2011.

Okay, thank you very much and good luck.

With no further questions in queue, I would like to turn the call over to Mr. John Corey for any closing remarks. You may proceed.

Thank you. As we've said all along, we put a plan together, we've been executing on that plan. Our execution in this quarter was not flawless, as we had demonstrated in the past. But the overall fundamentals of the business still remain strong and still remain we are well poised for the recovery that's happening. Every indication of the trend of the recovery will show that both the automotive and commercial vehicle markets will recover in 2011, continue to recover. So we're going to get positive uplift from that.

In addition, we are very encouraged -- is the relatively quick wins we've had in China because, if you think about it, we put resources on the ground, really a lot of resources last year. In six to eight months, we have won that $13 million worth of business. So we continue to see good growth opportunities there.

So while the quarter didn't come in as we expected because of some of the reasons we had, most of those reasons are completely issues that will be resolved and mitigated as we go forward. We see no reason to come, as I said, to modify our -- the direction of the Company or where we're going or what we are doing. We're very optimistic about the future.

Thank you very much for joining us on the call.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect, and have a great day.