Standex International Corp (SXI) 2007 Q3 法說會逐字稿

Good day ladies and gentlemen and welcome to the Third Quarter 2007 Standex International Earnings Conference Call.

[Operator Instructions]

I would now like to introduce our host, Christian Storch, Chief Financial Officer, and Roger Fix, President and Chief Executive Officer. Mr. Fix, you may proceed.

Good morning and thank you for joining us. Please note that our third quarter financial results news release, which we issued earlier this morning, is available on Standexes website at standex.com.

On this morning's call, Christian will begin with a review of our third quarter financial results. Then I'll follow with an update on our operating groups. And as we do from time to time we'll provide some additional information on one of our operating segments. This quarter we'll focus on our Spincraft business, which operates within the Engineered Products Group.

Let's start now with our financial review. Christian.

Thanks Roger and good morning everyone. 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.

The highlights for the third quarter are as follows.

Revenue grew by 8.2% to $160.7 million.

Acquisitions added 16.8% to revenues, while our base business revenues declined by 8.6%. The decline was the result of very difficult conditions in the residential housing market and continued weakness in the heavy construction vehicle market affecting sales volume at our ADP and hydraulics groups.

Meanwhile, temporary project delays and shipment timing issues led to lower year-over-year sales at our Engineered Products and Engraving Groups.

Operating income declined to $4.8 million compared with $9.3 million last year. Operating income, as a parentage of sales, was 3% compared with 6% in the third fiscal quarter a year ago.

Operating income for the Food Service Group increased 48.6% driven by the acquisitions and an improving performance of our base businesses.

All other operating segments had lower operating results.

Though we faced some difficult market issues and short-term project delays in the third quarter, we expect our operating performance to improve significantly in the fourth quarter. Roger will discuss the reasons for our optimism in just a moment.

Interest expense for the quarter increased $812,000 to $2.8 million when compared to the same period in the prior year. The increase is due to higher borrowing levels as a result of acquiring AFS and AAI.

Third quarter income from continuing operations reflects a tax rate of 11.5%. The low rate is the result of a decrease in our tax accruals due to the expiration income tax statutes. For the full year we now expect a tax rate of 30% to 30.5%.

Diluted net income from continuing operations per share was $0.15, compared to last year's $0.38.

Net income for the quarter was $1.3 million or $0.10 per diluted share. This compares with a net income of $5.5 million or $0.44 per share in the third quarter of the prior year.

Net working capital was $129 million at the end of the quarter, down from $133.6 million at March 31, 2006. We define working capital as accounts receivables plus inventories less accounts payable.

Working capital turns were 5.0 compared with 5.1 turns in the prior year quarter.

Net debt, which we define as short term debt plus long term debt less cash, increased to $147.5 million from $58.3 million at the end of the second quarter. The increase was driven by the funding for the two acquisitions that we made in early January.

The Company balance sheet leverage ratio of net debt to total capital was 41% at the end of the quarter, while the third quarter depreciation and amortization expense was $4.9 million, up from the prior year of $3.2 million. The increase is also primarily driven by the amortization of intangible assets related to the acquisitions.

Capital expenditures in the third quarter totaled $2.6 million.

So, with that, I'll turn the call back to Roger.

Thanks Christian. Clearly, we are not satisfied with our financial results for the third quarter, which were affected by a combination of end market conditions and customer order and project timing issues.

However, we have good reason to be optimistic about our short and long-term prospects. Specifically, we anticipate that we will see continued growth in our Food Service Equipment Group and that the performance of our Engineered Products and Engraving Groups will improve in the near term. This should lead to improved performance in our fourth quarter and good growth in fiscal 2008.

In addition, we are confident that our success in capturing market share at ADP and an international expansion initiative at the Hydraulics Group will provide additional future growth opportunities.

Let me provide you with some more detail on our third quarter performance and future growth opportunities by taking you through each of our operating groups.

Food Service Equipment revenues increased by 43% year-over-year driven primarily by the recent acquisitions of APW Wyott and American Food Service.

The integration of these companies is proceeding according to plan, and they are performing inline with our very high expectations. Our integration teams have been aggressively implementing the sales and cost synergies we anticipate as part of the business case for these acquisitions.

We remain confident about our ability to meet our initial projections of achieving $5 million in operating income synergies in the third full year of combined operations.

In addition to the acquisitions, our core Food Service Equipment Group businesses collectively reported double-digit improvement in profitability.

Food Service operating income in the quarter increased by 49% year-over-year. This includes a negative effect of a one-time purchase accounting treatment related to the fair value of inventory, which reduced operating income by $482,000.

We remain confident that the acquisitions will be accretive within the first 12 months of combined operations.

Air Distribution Product group sales, which were down 16% year-over-year, continue to be affected by the downturn in the new residential construction market. As a result of lower volumes, and an unfavorable sales price to metal cost relationship, ADP reported an operating income loss of $310,000 for the quarter.

Analysts estimate that in the recently completed quarter housing starts were down roughly 25% to 30% nationwide over the prior year, which is amongst the largest declines in the U.S. new home construction market recorded in the past 15 years.

The 16% decline in sales recorded by ADP includes an 8% price increase achieved over the past 12 months.

Our sales performance in the quarter compares favorably to the 25% to 30% decline in housing starts recorded nationwide, indicating that we did capture some market share. We attribute this to the successful execution of our ADP growth strategy.

The first part of our growth strategy for ADP is to capitalize on opportunities stemming from our new location in Nogalas, Mexico. The ADP operation in Nogalas started up approximately one year ago and has helped us to expand ADP sales coverage into the southwest region of the U.S. where historically we have been under-penetrated.

The Nogalas location has positioned us geographically to be much closer to the high growth areas of the U.S. housing market located in Arizona, Nevada, and Southern California.

The second part of the strategy is to leverage our unique nationwide manufacturing infrastructure to achieve market share gains at major HVAC wholesalers and big box retailer accounts.

The third quarter represented a major breakthrough in this strategy. A series of major accounts have committed $15 to $20 million of additional volume to ADP. We've already begun to receive orders from these customers and expect this new volume to ramp up over the next two to three quarters.

About 40% of this business will be sold through our Nogalas operation and the rest will be spread throughout the other ADP manufacturing locations.

In addition, during third quarter ADP announced a price increase and has taken actions to lower material costs in order to improve margins. We expect to begin to see the results of these actions beginning in the first quarter of fiscal 2008.

We believe that the success of our strategy to take market share will yield very positive results for us, especially when the residential housing market rebounds.

Turning to our Engraving Group, sales declined by 15% year-over-year due mainly to short term delays of several major new platform projects by our global OEM automotive customers.

As we reported on our last conference call, we began to see these delays in the mold texturizing part of the business in the latter part of the second quarter. We did begin to see some pickup in March and early April so we're optimistic that we'll report solid results in Q4 and into fiscal 2008.

It's important to note that the Q4 year-over-year comparison will be difficult because we had a really phenomenal fourth quarter a year ago.

The Engraving Group's third quarter operating income was down 59% due to lower sales volume, as well as a higher percentage of lower margin business.

Although we saw a decline in performance of this group in Q3, we are confident that we have not lost market share. In fact, based on our project pipeline and on personal interactions with buyers at the major global automotive manufacturers, it's very clear that we have gained share in the past 12 to 18 months.

There are two primary reasons why we are successfully penetrating this market. First, our global presence is a key competitive advantage. For example, last year we completed a project for a large U.S. automotive manufacturer where we utilized 13 of our 19 plants around the world to do a single project. The buyer for this OEM was absolutely thrilled that we were able to do this project simultaneously in so many locations. No other competitors could accomplish this.

The second key differentiators are response time. Our new digital technology has substantially improved our lead times and responsiveness compared with our competition.

At our Hydraulics Product Group, revenues fell by 22% and operating income was down 30% year-over-year as a result of lower sales volume. As we discussed last quarter, we continue to be on the down side of the off-road heavy construction vehicle market cycle. In addition, new Environmental Protection Agency rules that went into effect for all engines on Class A trucks manufactured after January 1, 2007, is contributing to the weak demand environment.

Currently we have a leadership position in our traditional dump truck and dump trailer markets in the U.S. Our growth strategy for this business includes expanding our product offering to include pumps, which are integral to the truck mounted hydraulic systems used to operate our telescopic hoist, to expand into new applications, particularly in the refuse market, and to focus on international growth opportunities.

We are continuing to expand in China and Europe. In the past quarter, we've committed to creating a manufacturing capability at our Tianjin, China facility. We expect to begin to ship telescopic hoists from Tianjin in the second quarter of fiscal 2008. Ultimately, that facility will serve not only the Chinese market but the European market as well.

This is an important milestone as it will enable the Hydraulics Group to become a truly global player providing us with new organic growth opportunities.

Let's move to our final operating segment, the Engineered Products Group. Revenues and operating income for this Group declined by 6% year-over-year due to the timing of large projects. Based on the robust demand we're seeing at Spincraft across all end markets, and the customer commitments we've received, we expect to see double-digit sales growth in the fourth quarter from this business.

In the Electronics business we've been successful in improving our bottom-line performance and our new business pipeline is quite robust.

We've also made progress in manufacturing electronic products at our Tianjin facility. We've been pleased with the aggressive ramp-up of the operation and the high quality of the products and the margin improvement it's generated.

By the end of our fiscal year in June, we expect to be on a run rate of 15% of total electronics volume being produced in China after less than one year of operation. Our goal is to produce 30% of total electronics volume from China by the end of fiscal '08.

Earlier this month we completed ISO and UL certifications at the facility, which are critical for automotive and large industrial accounts. We've also undergone customer quality audits from a half a dozen different blue chip customers in the global-- in the past few months and we're very pleased with the results.

We've already-- beginning to see major global automotive and industrial OEMs bring us new business opportunities because we have a facility in China.

As promised, today we're going to spend a few minutes focusing on our Spincraft business. Since 1918, Spincraft has delivered integrated single-source manufacturing solutions for complex fabrications and assemblies. Spincraft offers world-class capabilities for metal spinning, heat-treating, machining, and press forming for virtually all workable exotic metal alloys.

Its components and assemblies can be found in today's most advanced space launch vehicles, commercial and military aircraft, surface ships, nuclear submarines, and in gas turbines.

Spincraft operates out of two locations -- one in North Billerica, Massachusetts and one in New Berlin, Wisconsin. We serve four distinct market places. Roughly 40% of our sales are from the energy market, where we produce components and subassemblies for turbines using electrical power and liquid and gas pipeline applications.

About 35% of our revenues come from the aerospace market where we supply components used in space launch vehicles. About 15% of sales are from defense related applications where we supply marine, defense aviation, and missile related hardware. And approximately 10% of our sales are from the aviation market to which we provide hardware for commercial and private aircraft builders.

All Spincraft's end markets are either at the beginning of or in a growth mode.

Our customers in these markets include the top blue chip companies in their respective fields. These customers seek long-term agreements with suppliers with a long history of being able to reliably provide a highly engineered product. They want to know that their suppliers are in business for the long term.

One competitive advantage that we have is the size and scale of our organization, and the fact that we have the Standex reputation behind us.

We have a multi-faceted go-to-market strategy, which includes a combination of in-house technical sales personnel and manufacturers' representatives geographically located across U.S. and Europe.

Our independent sales reps bring knowledge of a specific market and valuable contacts at each of the major OEMs.

In the aerospace market we also contract with key globally known experts in the aerospace community. They are responsible for finding the high level opportunities, opening doors, and enabling us to communicate our engineering and manufacturing capabilities to decision makers.

Our competition in the majority of these markets primarily includes a series of small, typically privately held machine shops, many of which do not have the engineering skill sets or breadth of manufacturing capabilities that Spincraft has at its disposal.

One of our strategic initiatives for this business is a transition away from the traditional job shop environment to becoming a full service major subcontract manufacturer.

What differentiates us from our competition is what we call Integrated Design Development or IDD. We don't just help our customer design products that meet their requirements, we also design products that are more robust and give them the best value for their dollar.

Let me give you an example of our IDD approach. One of our turbine customers came to us a few years ago and asked us to bid on components that go across the turbine they were manufacturing. There were 17 parts that they wanted us to quote on. Instead of merely manufacturing the parts, our engineering staff figured out how to bring the design from 17 parts to six. This design was much more efficient and less expensive for our customer. As a result, the customer awarded us the prime lead on the contract program.

Now let me provide you with some detail on each of our four distinct marketplaces for the Spincraft business. In Energy we're working on land-based turbine applications. We've been successful in this market because of our exceptionally high customer service levels and our ability to economically fabricate exotic high alloy materials that challenge the capabilities of our competition.

We're experiencing rapid growth in the energy market due to the trend toward outsourcing. We're also seeing this trend to some extent in aviation and aerospace.

Today you'll find that many of our large OEM customers want to focus on the engineering of the overall system that they provide to their end customers and on the integration, assembly, and testing of the system. They are seeking firms like Spincraft to actually manufacture the component parts and subassemblies.

Why is this occurring? The investments in engineering and the capital equipment needed to manufacture large machine parts at the OEMs are quite significant. In an environment where these OEMs are racing competition to offer the best price, they're reducing costs across the board. The best way for them to provide the highest quality products at the best price is to offload major fabricated components to the experts. Additionally, this type of manufacturing is not their core competence.

They may ask what happens when we hit an economic downturn, will customers take the work back? The answer is we believe no. Because in most cases the customer is either completely shutting down a plant, or selling off the manufacturing equipment to clear floor space for their operations.

I'll offer you an example. On last quarter's call, we discussed a recent large multiyear contract with a customer that had decided to outsource their fabrication and machine work, and as a result they are shutting down one of their facilities. We expect this contract to drive top line growth in this business beginning in the fourth quarter of this year and carrying into the next several fiscal years.

Turning to aerospace, there's a tremendous amount of activity going on in this market that has not yet hit the mainstream press. Historically we've been a supplier on the space shuttle program. Currently, we're also deeply involved with NASA on the Orion Capsule and Aries 1 launch vehicle, which are the next generation programs that will replace the shuttle.

On these programs we are involved with the domes for the launcher and for rocket engine components as well.

Examples of components we are currently working on include dome caps, liners, ring assemblies, heat shields, and other components.

We're also the predominant supplier for tank hardware for the Delta IV launch vehicle and we've recently been selected to produce domes for the Atlas V program.

Those are the two latest launchers under the Evolved Expendable Launch Program or EELV.

Also based on our reputation in the aerospace industry, the private sector start-ups such as the SpaceX Falcon program, [inaudible] new shepherd air launch quick reach, and [Kissler] K1 programs look to us for our manufacturing expertise for their fuel tank manufacturing needs.

In the aviation market we're working on the latest Unmanned Aerial Vehicles or UAVs. We are under contract with one company that has a vehicle with a 1680-foot wingspan and is flown with a joystick around the world.

In the defense market we're a major player in the fabrication of hardware for missile components, as well as military aircraft nose cones and center bodies. This is a specialty product. We're among a handful of companies with the capability to provide the engineering and manufacturing expertise required to produce this type of componentry.

As you may know, once you become a supplier for a defense program, the life of the program is typically very long. In every market we sell into we attempt to get designs and programs that are in the beginning stages that we know are going to have a long life. We don't want to sell a piece of hardware that's a one-time event. We're looking for major programs that will provide cash flow for more than five years.

We're constantly evaluating all four of our markets by staying in touch with respective industry experts, see where the markets are going, and what the next major program will be.

To wrap up our discussion of Spincraft, I'd like to reiterate that we're very bullish on this business. Spincraft is a perfect example of our strategy to offer value add engineering solutions to our customers and not just commodity products.

The trend toward outsourcing and our expertise in providing value added engineering solutions in this business is converging to provide us with exciting prospects.

Now we'll turn to your questions.

Thank you sir. [Operator Instructions]. John Walthausen of Paradigm Capital.

Yes, good morning. I had a couple of questions. In the Engraved business you talk about the delay of projects and some other impact. Can you talk about what the size of individual projects tends to be in that and what the-- when you get a delay like this what it sort of means and what could provoke it, I guess.

Unfortunately it varies all over the map. We-- on the large side several years ago we were awarded a project on a complete redesign of one of the U.S. OEM truck and van lines and that was a four or a five year project that had total volume of say some $10 million. On the small side, a project for say just a modification of a single platform could be on the order of $200,000, $250,000. Probably the average is less than $1 million, more than $500,000.

Delays are of multiple nature. Typically we are at the very end of the process of developing tooling for a new model, and as a result there can be many upstream delays of an engineering nature where there's some changes within the OEM; there could be delays in the manufacture of tooling that occurs right before it comes to us.

I can say this that over the last few years the dynamics of the industry are such that the lead-time, the complete lead-time from the point that an OEM will commit to a new platform to a point in which they want the platform to be in production has shortened greatly. And so there can be a lot of things that occur in that pipeline.

Again, the tooling is manufactured, we provide the texturing, and then it immediately goes into production. So you can see that we're at the very end and there's a lot of things upstream that can occur to affect the timing.

And in these large projects that go several quarters or several years, is the bulk of the value for you in the early part of it or is it spread across?

It depends strictly on how the OEM is planning to introduce the models. Again, in the case of that large project, there was multiple trucks and multiple vans that were included. And, again, depending on how they chose to introduce those, our revenue stream would vary accordingly.

And then shifting to the Air Distribution business, it's a little disheartening to see sequentially sales down $2 million and profits off $2 million. Could you talk a little bit about what's behind that?

Well two things. Again, volume clearly was off dramatically, real unit volume was off on the order of 24% year-over-year. And then the major cost component of the product that we sell is hot rolled galvanized sheet metal. The cost of zinc is one of the commodities that's been affected by the recent run-up in commodity prices across the world. Zinc is the metal that is used in the galvanizing process. There's been a pretty dramatic increase in zinc cost, which drove the hot rolled galvanize up and we were unable to achieve a price increase rapidly enough to offset that metal cost increase so we-- in addition to the volume deleverage we also had a situation where metal costs have gone up pretty significantly without being able to achieve a price increase.

Well, how does pricing typically work in that business? Because yes, as you point out, it's heavily dependent-- the costs are heavily raw material dependent so you would think in an industry like that it would be more habitual to basically do quick adjustments of pricing. Is it a competitive situation or is that just the way that industry has been?

I think two factors. Certainly it's the competitive industry. There are smaller regional players that we compete against that are out there and they're faced with similar dynamics relative to metal costs as we are.

I think the other thing is that there is a lag time on price increases. We're selling typically to large wholesalers. We're obliged to give anywhere from a 30 to 60 day notice to them as far as their price increases, which allow them time to reflect the price increases in their computer systems. Typically wholesalers will have 100, 200, 300, 400 locations in a region or across the nation, highly computerized, and so they need opportunity to update their systems accordingly. So price increases don't happen instantaneously in the industry.

Are there any hedging mechanisms or anything like that that you can do to offset this?

We've explored that and there really isn't, in our mind, an effective hedge mechanism that we can use.

But then my understanding is that we should see some pricing relief in the fourth quarter or is it not until the first quarter?

We had added the price increase in the late third quarter timeframe. Again, depending on the size of the account, there's either a 30 or a 60-day notice period, so that price increase will begin to take hold during our fourth quarter and should be fully implemented in our first quarter starting July 1 of this calendar year.

Okay, thanks.

[Operator Instructions]. There appears to be no further questions at this time.

If no other questions, thanks very much. We look forward to talking to you again next quarter. Thank you.

Ladies and gentlemen, this concludes today's presentation. You may now disconnect and have a wonderful day.