Standex International Corp (SXI) 2005 Q2 法說會逐字稿

[OPERATOR INSTRUCTIONS] Welcome to the second quarter fiscal 2005 Standex International earnings conference call. [OPERATOR INSTRUCTIONS] I'd now like to turn this presentation to your hosts for today's call, Mr. Roger Fix, President and CEO, and Christian Storch, CFO and Treasurer. Please proceed, sir.

Good morning and thank you for joining us. Christian will begin the conference this morning with a review of our second quarter financial results and I'll follow with an update on our business and operations during the quarter.

As we announced recently, we have realigned our operations into five business segments for financial reporting purposes. One of the objectives we hope to achieve by making this change in reporting structure is to make Standex more user friendly for investors by making the company easier to understand and analyze.

To complement this initiative, we are going to start spending a few minutes on each quarterly call providing a more in-depth look at one of our five business segments. Today we will discuss our food service equipment group.

After that, I'll discuss our outlook for Standex and then we'll be happy to take questions. Christian?

Thank you, Roger, and good morning. I'd like to remind everyone that the matters we are discussing on this conference call include predictions, estimates, expectations and other forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially. You should refer to our recent SEC filings and public announcements for a detailed list of risk factors.

Standex's second quarter fiscal year 2005 financial results, which we released this morning, represent the sixth consecutive quarter in which we have produced double-digit year-over-year increases in our revenue and operating income from continuing operations. Revenue for the second quarter of fiscal 2005 grew 19 percent to $167.9 million. Approximately 60 percent of that growth was organic. Of the balance, approximately 33 percent was accounted for by two acquisitions completed in December 2003, Nor-Lake and Magnetico, and the remaining 7 percent resulted from favorable foreign currency translations.

Operating income for the second quarter of 2005 grew 24 percent to $11.7 million. Income from continuing operations increased 30 percent to $6.7 million or 53 cents per diluted share from $5.1 million or 42 cents per diluted share for the second quarter of fiscal 2004. Operating income as a percentage of net sales remained flat at approximately 7 percent of prior year's fiscal second quarter.

Despite higher sales volume and the positive impact on operating margins from cost reductions and restructuring activities completed last year, price increases we instituted did not fully recovery the higher material costs we encountered during the quarter. To the extent that we were able to offset these increases, the net effect of 1 to 1 price increases versus commodity cost increases still somewhat dilutes our operating margin.

GAAP net income for the second quarter grew 84 percent to $6.6 million or 53 percent-- 53 cents per diluted share, up from $3.6 million or 29 cents per diluted share. Excluding special items and discontinued operations, income for the second quarter of fiscal 2005 grew 27 percent to $6.7 million or 53 cents per diluted share, up from $5.3 million or 43 cents per diluted share in the second quarter of fiscal 2004.

A reconciliation of GAAP net income and earnings per share to non-GAAP amounts is included in this morning's release, which is available in the investor relations section of our website, which can be found at www.standex.com. And we will also include it in our 10-Q filing.

During the second quarter we gained momentum in delivering positive results from aggressive working capital management, reversing the increase in working capital that occurred in the first quarter. We reduced our net working capital, which we define as accounts receivable plus inventories less accounts payable, by 15 percent or $21.9 million to $124.4 million from $146.3 million at the end of the first quarter.

We increased our working capital turns to 5.4 times for the second quarter, up from 4.3 times recorded during the first quarter. The improvement in working capital was achieved by reducing DSO by 6 days during the second quarter, reducing inventories by approximately $1 million and an increase in payables. At the end of the second quarter, DSO was at 49 days, which we feel is an excellent level for the mix of businesses and international receivables that the Standex portfolio includes.

In addition, we ended the first fiscal second quarter with net debt of $90.2 million, a decrease of 21 percent from September 30th, and a net debt-to-total-capital ratio of 34 percent, down from 40 percent at September 30th. We continue to manage our balance sheet with an eye on potential acquisition opportunities by maintaining sufficient liquidity. At December 30th we had $73 million of availability under our borrowing base.

CapEx continued to approximate our depreciation expense in the second quarter, which we believe will continue throughout the rest of the year. As we noted previously, we are focusing most of our capital expenditures on investing in next generation manufacturing technology and other process improvements. Our tax rate for the quarter was 33.3 percent and we believe that a tax rate in the range of 34.5 and 35.5 percent is sustainable for the balance of fiscal 2005.

With that, I will turn the call back to Roger.

Thanks, Christian. We were very pleased with Standex's strong performance in the second quarter and continuation of double-digit year-over-year top and bottom-line increases. Our top-line growth included a very solid organic growth rate of 11.3 percent, and an increase of 6.3 percent from acquisitions, representing our ability to grow both organically, as well as from acquisitions.

Several of our businesses posted organic growth rates during the quarter well in excess of the overall growth rates of the markets they serve, meaning that they are taking market share away from the competition. Among our top-performing businesses in terms of top-line growth for the second quarter were Spincraft, Custom Hoists, Standex Engraving, Standex Electronics, Nor-Lake and Procon.

The five reporting segments, in order of second quarter revenue, are Food Service Equipment, Air Distribution Products, Engineered Products, Consumer Products and the Engraving Group. All five segments posted year-over-year second quarter gains in revenue and operating income.

Our Food Service Equipment group, which we will profile in a moment, reported a year-over-year 34 percent increase in second quarter revenues to approximately $58 million, an 11 percent increase in operating income to $4.1 million. The revenue increase included an organic growth rate of more than 13 percent, with most of the balance attributable to the Nor-Lake acquisition, which we completed last year.

We're very pleased with the sales momentum the Food Service Equipment group has been building through market share gains in new and existing market niches achieved by expanding their distribution channels, leveraging the introduction of new products and building on existing customer relations by offering a broad array of products and services.

Growth in operating income lagged the group's top-line growth in this quarter for several reasons. The primary issue was that we're unable to pass through all of our higher material costs, including the higher costs of stainless and carbon steel sheet material, copper-based refrigeration components and petroleum-based foam insulation. In addition, we chose the second quarter to retrofit our foam-curing process at one of our larger factories with new technology to comply with more stringent industry regulations. The retrofitting caused a temporary disruption in our manufacturing operations. Lastly, the sales mix for the quarter included a larger component of less-profitable chain-store sales than in previous quarters.

The good new is that we have successfully completed the transition to the new insulating foam material, which will provide us a reliable source of supply in the future. Also, effective January 1st, we instituted price increases to offset higher material costs.

Our Air Distribution Products posted year-over-year revenue growth of over 18 percent to $33.4 million. This increase was entirely attributable to price increases being passed through to customers. As in the first fiscal quarter, the group experienced a slight decline in year-over-year real unit volume. The unit volume decline in the second quarter was caused by some weakness in housing starts experienced in the last 12 months.

Despite this decline, ADP was able to post a 6 percent year-over-year gain in operating income. ADP continues to gain market share across the U.S. and in the fourth quarter of last fiscal year launched a national program with one of the country's largest do-it-yourself retailers, reinforcing its position as the number one ranked manufacturer of galvanized steel ductwork and fittings for the residential HVAC market in North America.

Our Engineered Products group also posted an 18 percent year-over-year gain in second quarter revenue to $30.1 million, of which more than 75 percent was organic, and an increase of 16 percent in operating income. This group benefited from a lower cost structure produced by expense reductions and consolidation programs implemented in fiscal 2004. It also benefited from an adjustment in a long-term contract with a major aerospace customer.

Our Consumer Product group continues its turnaround. Its seemingly modest year-over-year revenue increase of 3 percent to approximately $26.9 million, coupled with its increase in operating income of 3 percent, do not tell the whole story for this group.

First, its religious bookstore chain posted same-store sales increases of approximately 3 percent for the second and 4 percent for December, outperforming the religious bookstore industry, which recorded a decline in sales of approximately 1 percent during the holiday season.

Second, along with the publishing business, the division came in on the high end of the secular book market for the quarter, based on the best statistics we have been able to obtain.

The balance of the revenue increase for the quarter came from a surcharge we applied to our specialty foods mail order business, reflecting the higher product costs triggered by the series of hurricanes in Florida that destroyed much of the state's citrus crop.

Also, this group incurred a charge for legal fees relating to the closing of our publishing facility of approximately $170,000. If the group had not recorded that charge, it would have posted a 13 percent increase in operating income.

The last segment, Standex Engraving Group, had an excellent second quarter. The Engraving group posted a quarter-over-quarter sales gain of 8 percent to $19.5 million for the quarter and succeeded in achieving the highest percentage gain of any segment in operating income, a 75 percent increase. This group reaped the benefits of higher sales volume, coupled with the lower cost structure emanating from the consolidation of two major U.S. facilities, which was completed during the second quarter.

Let me now turn to our Food Service Equipment business. Food Service Equipment is estimated to be a $20 billion global market, growing at an estimated rate of 4 to 5 percent annually. Primary end users of our equipment typically have product-specific requirements for food merchandising, preparation or presentation. As such, this business plays to our strengths by allowing us to add value by using our engineering, service and quality capabilities.

Our Food Service Equipment group serves three primary market segments, namely the restaurant industry, food retailers and institutional food service accounts. We break the restaurant market down into three sub groups, including the QSR or quick-serve fast-food restaurant chains such as Subway, McDonald's and Quiznos, casual dining and full-service restaurants such as Bob Evans, Perkins and the Cracker Barrel chains, and the ice cream and specialty chains such as Ben & Jerry's, Cold Stone Creamery and Starbucks.

The key driver for the restaurant equipment market in the U.S. is the growth of national restaurant chains. In 2003 the top 10 chains accounted for 20 percent of total restaurant sales of $80.5 billion in the U.S. Moreover, it is a market that continues to grow at a rate of 4 to 5 percent annually as American lifestyles continue to limit the time available for in-home preparation of food and increases in disposable income continue to favor eating out.

The food retailer market segment also includes three sub groups, namely grocery stores, drugstore chains and convenience stores. Grocery chains that are Standex customers include Kroger's, Albertson's and Winn-Dixie in the U.S. and Tesco, Asda and Morrison's in the UK. Major drugstore customers for Standex include Walgreens and CVS. Convenience store accounts include national chains such as BP Amoco, Speedway SuperAmerica and smaller, regional chains.

The growth in food retailing is also driven by the growth of national chains, with the top 10 supermarket chains accounting for roughly 63 percent of the approximately $260 billion in total U.S. sales in 2003.

The institutional food service and hospitality market includes hospitals, prisons, stadiums, convention centers and other public meal and food preparation centers. In this market we service both in-house feeding system providers, as well as the outsourcing chains such as Sodexho, which is a leading provider of food and facilities management in the U.S. and Canada and one of our largest customers in this segment.

A related market segment where the Food Service Equipment group has begun to apply its technology and product expertise is in the health sciences and environmental chamber markets. Our customers in this segment include government and research laboratories, healthcare institutions and blood banks, as examples.

I want to outline the key elements of our growth strategy for the segment. First, we will continue to be a significant player in this market. Standex has and will maintain the portfolio of products and services to serve the entire breadth of the food service equipment industry and be a leader in the key niche markets we serve. This is and will continue to be a core business of Standex and, as such, we plan to invest in organic growth initiatives and bolt-on acquisitions.

With the recent addition of Nor-Lake, Standex manufactures one of the broadest lines of commercial-grade food service equipment including refrigerated cabinets and systems, commercial ovens and rotisseries, refrigerated and heated bakery and deli display cases, rethermalization systems and pumps for the beverage, espresso and industrial markets. As a result, we have the product depth and technical expertise to stay abreast of the latest trends in the industry.

For example, the ice cream business continues to be a good growth area. Not only are we able to deliver equipment for new concepts such as gelato, we also have the depth of product offering to bundle all the refrigeration equipment to completely outfit a Ben & Jerry's or a Cold Stone Creamery store, from walk-in coolers and freezers, dipping cases, merchandisers to back-room refrigerators. We have become a one-stop shopping resource for these chains.

Another important trend is the increasing penetration of food retailing by the grab-and-go segment. Increasingly, the convenience store chains, drugstores and delicatessens and bakeries -- even the dollar store formats -- are adding food items to improve their margins. All these chains have ongoing expansion plans to increase their revenues and also go through period remodel, relocation of stores which require new merchandising equipment. We have developed a strong leadership position in providing the refrigeration requirements for Walgreens and CVS, as well as several other large convenience store chains.

The second element of our growth strategy is to go with the winners, to target the fastest-growing companies in each market class as our customers. Standex currently has blue-chip customer representation in every key niche of the industry. In addition to the names we have already mentioned, our blue-chip customers include Pepsi, Coke, Dunkin' Brands, Wendy's, Family Dollar and many others.

The third element is to maintain the best family of brands in the industry. Our brands, which include Master-Bilt, Nor-Lake, Federal, BKI, USECO and Procon, are well recognized and well positioned in the industry. Our distributors and customers continue to tell us that Standex has a very good reputation in the food service market because over the years we have acquired good brand companies, supported them with investments and grew them. Customers know that Standex stands behind its products.

The fourth component of our growth strategy includes leveraging our existing resources and expanding interrelationships between our divisions. This starts with taking advantage of our purchasing clout. Over the past two to three years we have been consolidating the purchase of some of our key commodities, such as stainless steel and carbon steel sheet and rolled materials, refrigeration components, insulating foam and other large dollar purchases.

We have combined the purchases of all of our food service divisions in these key commodity groups and developed group-wide purchasing agreements with our suppliers. These group-wide purchasing agreements have delivered significant cost savings and developed stronger relationships with our vendors, which assures us of ongoing supply of these products and access to new technology and product innovations as they become available.

More recently, we have begun to look at more aggressively exploiting offshore resources for key commodities, as well.

We are also sharing manufacturing technology between our food service divisions to ensure high quality and to reduce our total costs of production. Standex's goal is to be a low-cost producer by applying Lean Enterprise principles, leveraging investments in next generation technology and innovative processes and utilizing low-cost manufacturing sources. Our businesses are learning from each other when it comes to sharing technologies, applying Lean Enterprise disciplines and achieving manufacturing efficiencies.

An example would be the implementation of our highly automated stack press used in making insulated panels for walk-in coolers and freezers. This process was first introduced at Nor-Lake and more recently is being applied at Master-Bilt. This cross-fertilization of innovation and process enhancements allows us to use best practice amongst our divisions.

For our customers, this also allows us to adapt our manufacturing operations in order to ship product out of another facility if the need were ever to arise. This is an important selling point with national accounts, which are always looking for manufacturing backup and redundancy to assure they have access to products necessary to meet their needs.

We're also leveraging our resources by taking on the responsibility for installation and servicing of our equipment. Not only does this provide Standex additional exposure to customers, it reinforces our reputation for quality. Staying close to our customers allows us to anticipate their equipment needs and add value by proposing customized solutions.

The final element of our strategy is a focus on investing in new product development and product innovations. The objectives of our new product development efforts in the Food Service Group are twofold. First, we're working closely with our customers to develop designs which assist them in maximizing same-store sales with new and innovative merchandising schemes. Second, we are emphasizing improvements in energy savings, lower maintenance costs and lower operational costs.

The sales and growth of profit demonstrated by the Food Service Group over the past 18 months clearly demonstrates that the businesses in this group have achieved significant market share gains and they have improved their financial performance via cost reductions achieved with our restructuring and realignment program and other productivity initiatives. We believe the long-term demographics of these markets are favorable as consumers continue to seek convenience and variety in their dining requirements, driving underlying long-term growth in the markets we serve.

The Food Service Equipment market is still fairly fragmented, creating opportunities for bolt-on acquisitions. In addition, we're dealing from a position of market leadership.

Now I want to wrap up with some comments about our overall outlook for Standex. Going forward we expect to continue to invest in a wide variety of organic growth initiatives and attractive, strategic bolt-on acquisitions that will strengthen Standex's technology, products or market presence. Given the strength of our balance sheet and borrowing capacity, our intentions are to focus on completing larger acquisitions that will accelerate our top-line growth and significantly increase our critical mass in certain selected markets.

Working capital management will remain an important part of our ongoing management efforts. Without compromising quality or service, we intend to maintain our position as a low-cost producer. This means continuing to work Lean Enterprise disciplines throughout our company. It also means pursuing low-cost manufacturing capabilities in Mexico and sourcing components and raw materials for several of our manufacturing companies in China. Ultimately, we expect to have manufacturing operations in China to further our commitment to ongoing cost reductions.

Now we'd like to open the conference for questions. Operator, can you assist us, please?

[OPERATOR INSTRUCTIONS] Michael Gardner, WEDGE Capital Management.

Just a few questions. First, a little on the detail side, just on the tax rate. I note, Christian, that in the last quarter's call you kind of had the same expectation for the rest of the year that you indicated this quarter, but the second quarter actually surprised a little on the low side. Was there one thing in particular behind that?

Yes, we actually took the forecast for the full year down about 50 basis points. What happened in the second quarter was that we had a catch-up in recognizing an R&D tax credit. The credit got extended in our second quarter, therefore we were unable to take that benefit in the first quarter, so we doubled up in the second quarter. That was about a 75 basis point effect on the second quarter.

OK.

So if you add your 75 basis points to our second quarter tax rate of 33 percent, you get closer to where we expect the year to end.

OK. Fair enough. Second subject, obviously revenues were very strong across the board. I note in a couple of areas -- this is no surprise -- but you referenced the inability to pass through material costs and, Roger, you specifically talked about food service and how you have put in a price increase January 1st.

My question, I guess, is a little bigger and that is, to what extent are these-- this inability simply a timing issue that input costs just keep surprising almost everybody and so you're always a little bit behind, versus how much is an indication of the competitive nature of some of your businesses where this is just going to always be difficult because there's just too much fierce competition? So could you just address that generally?

In general, more of the former and less of the latter. More of it was timing than pure market resistance, albeit there's obviously some market resistance, as well. We've had-- obviously, with the variety of commodities that we use in our businesses -- carbon steel, stainless steel, the refrigeration components all out of copper, more recently foam with the petroleum base -- all of those had had a little different cycle in terms of when price increases have occurred, when they've actually come from our suppliers to ourselves, that type of thing, with petroleum being one of the latter of the commodities to go up.

And we've had, actually, a number of increases in Food Service, as an example. We've had a couple of increases in our Air Distribution products. The good new is is that in the earlier quarters we actually were running equal to or maybe slightly ahead because we had a pipeline of materials at lower cost, that type of thing.

More of it's timing. What happened, particularly in our second quarter, the chain accounts -- many of the chain accounts, I should say, in the Food Service Group are on annual price contracts. Our customers use that annual contract as a vehicle to push back on us. But when the-- and most of those contracts come up on January 1st. So as of January 1st we were able to address those and that's going to take care of a lot of our issues.

I have to tell you, though, there's going to be ongoing market pushback.

And is that tougher, let's say, in the ADP area than in the Food Service area or can you distinguish?

It's probably a bit more difficult in ADP than, say, in some of the Food Service businesses. That's probably a good observation.

OK. And then my last question is a bit of a tricky one and it's this. I've owned the stock a long time so I've got a lot of information and as I look back through pretty much the 1990s and even, really, as late as fiscal '02 the second quarter was almost always the biggest quarter of the year, earnings-wise. And not so the last couple of years and I'm not trying to quiz you on trivia here, but can you think of why, perhaps given the shifting mix of business, whether it's the growth of ADP or the Food Service acquisitions or whatever, such that really that's not going to be the case any more? These last couple of years and this year are not unusual, that's just the way the business shapes up going forward. Any thoughts about that?

I don't know that I can give you a scientific, precise answer, but historically, obviously, second quarter was boosted by the Consumer Group, which with the holiday season, all three of the businesses, the bookstore business, to some extent the publishing business, because it's feeding the bookstores and certainly the mail order business had bigger, bigger quarters.

I would say this, that as some of the other businesses have gotten proportionally larger in the portfolio and consumer proportionally smaller and particularly with the growth in Food Service, because it's much larger today than it was, say, two years ago.

Yes.

I think what you're probably seeing -- and I haven't done this scientifically, Michael -- is that, again, it's more of a mix issue and it's perhaps dampening the effect that the Consumer Group had on our seasonality.

And given where the current emphasis is in terms of Food Service being large, there's been substantial Engineered Product, do you have a sense as to what a typical pattern would be, going forward? Would there be-- is there any reason why, because of-- whether it's sales quotas or whatever or just seasonality of demand from your customer that the June quarter might be the biggest in the future? Any thoughts about that?

Again, I-- it'd be hard to predict. I frankly haven't sat down and looked at it in that sense. The fourth quarter has been stronger, again, because of the construction period. Food Service, in particular, even ADP, to some extent you see that, obviously, construction is better in the spring and summer or early fall than it is in the winter and, as a result of that, product sales in those areas in particularly can be a bit stronger. And, again, it may be a mix issue as those get bigger and consumer gets smaller that we may see some change in our seasonality.

But I haven't really sat down and analyzed that, Michael.

[OPERATOR INSTRUCTIONS] Sir, at this time, there are no additional questions.

OK.

Alex Limion, Sprucegrove Investments.

I'm just looking at the results, quickly, and I'm wondering have we seen the full benefit of cost savings that were suggested in the last annual report? There was something like $8 million in cost savings, in annual cost savings, that were supposed to come--

I would say, generally speaking, we have. The last significant action out of the restructuring and realignment or the restructuring side was the consolidation, Alex, that we talked about in the Engraving Group where we moved the Rochester facility into Richmond. Rochester was closed during our first quarter and we had a bit of disruption expense or disruption to production, I should say, in the first, early second, quarter but certainly November and December we had that behind us and we saw, I think, the full benefit of the restructuring for that piece, which, again, was the last piece coming through.

So I'd say that 98 percent of it is now in place, correct.

OK. And then so-- one thing I'm thinking about is as Food is growing as a larger portion of the total, do we expect sort of a-- this to be a lower-margin business? Is that fair to say?

I'm sorry, repeat the question.

As Food grows as a larger portion of the total, do we expect Standex to now be a lower-margin company?

Those businesses have been lower margin than, say, our consumer business from a gross margin standpoint. So I guess as a mix issue you could see some effect of mix in our overall gross margin and we have, actually, mentioned that, I think, in prior quarters. So that's probably an accurate observation in terms of mix of sales versus gross margin.

OK. And do you have sort of a-- say an operating margin target? Is that something you think about?

We've-- we've stated in the past that our long-term goal is to try to achieve a 10 percent EBIT number for the overall corporation.

Right.

We're obviously a long ways away from that. Frankly, this metal cost, price dilution effect, that we're seeing has set us back some. But yes, we've said publicly that the 10 percent EBIT number is where we'd like to get to, but we've got a long ways to go.

Right. It still looks attainable, is that fair to say?

That's correct, over the long run.

[OPERATOR INSTRUCTIONS] Sir, at this time there are no more additional questions.

OK. Thank you very much for your attendance and your interest. We'll talk to you again next quarter. Thank you.

[OPERATOR INSTRUCTIONS]