Sypris Solutions Inc (SYPR) 2007 Q3 法說會逐字稿

Good day, and welcome to the Sypris Solutions, Inc.

conference call.

Today's call is being recorded.

At this time for opening remarks, I'd like to turn the conference over to the President and Chief Executive Officer, Mr.

Jeffrey Gill.

Please go ahead, sir.

Thank you, Matt, and good morning.

Scott Hatton and I would like to welcome you to this call, the purpose of which is to review the trends reflected in the Company's financial results for the third quarter of 2007.

For those of you who have access to our PowerPoint presentation this morning, please advance to slide 1 now.

We always begin these calls with a note that some of what we might discuss here today may include projections and other forward-looking statements.

No assurance can be given that these projections and statements will be achieved, and actual results could differ materially from those projected as a result of several factors.

These factors are included in the Company's filings with the Securities and Exchange Commission, including our most recently filed Form 10-K and the Form 8-K filed earlier today.

In compliance with Regulation G, you can access our website, Sypris.com, to review the definitions of any non-GAAP financial measures that may be discussed during this call.

With these qualifications in mind, we'd now like to proceed with the business discussion.

Please advance to slide 2.

I will lead you through the first half of our presentation this morning, starting with a brief overview of the third quarter, to be followed by a look at several of our key markets before concluding with a brief wrap-up.

Scott will then provide you the more detailed dive into the Company's financial results and the outlook for the balance of 2007.

Please advance to slide 3.

The results for the third quarter were generally in line with our expectations and prior guidance.

Earnings per share of $0.14 was $0.18 better than the third quarter of 2006, and fell within our guidance range.

During the quarter, we reached a settlement with Dana which was approved by the Bankruptcy Court in early August, and included a $7.5 million pretax income to the quarter.

During the quarter, we continued to experience some margin improvements and reduce settlement costs, which served to offset the impact of the lower revenue that we experienced during the quarter.

Free cash flow usage of $9 million fell within our guidance for the quarter.

On the revenue front, revenue came in at $105 million, which was roughly $5 million to $6 million below the midpoint of our guidance and was split evenly between the Industrial Group, where we were confronted by lower-than-expected volumes from our trailer section of our business, and in our Electronics Group, where revenue was lower than what we had expected, albeit it was still up 12% on a quarter-over-quarter basis.

In other areas, our Electronics Group orders increased 30% in the third quarter, driven by Aerospace & Defense, which posted a 35% increase in orders during the period.

On slide 4, we will continue.

Because of the strong order bookings, Electronics backlog grew 15% to $111 million during the period, and our Test & Measurement business continued to post excellent results, with revenue increasing 13% during the period and gross margin increasing 33% over that of the third quarter of 2006.

As part of our settlement with Dana, we also received a $89.9 million claim which we continue to hold to this day, in addition to a new seven-year contract.

When we look at the full-year outlook, we have reigned in our guidance over that of the past six or seven weeks and that, in fact, deserves some additional discussion.

It breaks down into two pieces; one, in our trailer business.

Some of you may recall, we entered the year expecting the trailer business to be flat to down maybe 5%.

Well, now the revised forecast for the full year has trailers down 20%, and this is driven primarily by a 25% decline in the third quarter and a forecasted 26% decline by ACT in the fourth quarter.

The second piece that is impacting our outlook is that the certification of a couple of key classified programs is taking a little longer than what we had expected, and in one case we are actually doing some retesting that was not expected.

In both cases now, we feel confident that we will get through this in this period and resume shipments in volume no later than the first quarter of next year.

As we look at this, it is I think also evident that the impacts that we are using to flatten the fourth quarter were also of impact to us in the third quarter, and had we not had the reduction in revenue that we experienced, our earnings would've been substantially higher than the $0.14 that we reported.

So as we look to the full year, we have taken $10 million out of the top line to reflect what we just discussed, $0.06 out of the bottom line, and adjusted free cash flow by $8 million to reflect the fact that we will have a higher working capital balance as we wait to shift these programs in the first quarter.

All of our outlook does not include a potential liquidation of the claim with Dana.

Based upon market conditions today, if we were to liquidate the claim, the impact would be roughly $70 million to $75 million to pretax cash flow.

Let's move on to slide 5, where we can take a look at our markets.

As we look at the Industrial Group, I went through a little bit a minute ago about our sensitivity on the trailer side of the business.

In addition, during this month, PACCAR and International have instituted one-and two-week plant closures.

It is unclear to us whether that will have any impact on the outlook going forward.

ACT's October outlook remains largely unchanged, and so for the moment, we're going with that outlook.

What it basically says is that for the heavy-duty vehicle market, 2006 will be down 42% over the prior -- excuse me, 2007 will be down 42% over 2006, while we're expecting a 19% increase in 2008 over that of 2007.

When you look at it on a quarterly basis, the fourth quarter of 2008 is expected to be up 45% over the first quarter of 2008, and 51% over the fourth quarter of this year.

The 2009 forecast for heavy is up an additional 47% over that of 2008, which would bring it to a total of 75% increase over the current year.

In the medium-duty vehicle market, we're seeing much the same cycle, just not as dramatic.

That would be down 22% this year over 2006, with a forecast of an increase of up 15% in 2008.

On a quarterly basis, the fourth quarter of 2008 is expected to be up 20% over the first quarter of 2008, and up 31% over the fourth quarter of this year.

ACT is forecasting an additional increase of 8% in 2009 over 2008, which would bring it to a 24% increase over the current year.

The key leading indicators or variables for this market are quite clear.

On page 6, you can see that the economy, fuel prices, and the Federal Reserve are things that we're watching closely as being leading indicators as to whether ACT's forecasts remain accurate or not.

There is a growing sense out there that additional rate cuts will be necessary in order to keep our economy moving.

Clearly, the housing credit market issues are impacting GDP, and recently both UPS and FedEx freight volumes were announced to be flat to down over the prior year.

So we can see, I think, that there is an impact in freight activity, which means that unless the Fed takes some action, our sense is that the economy will weaken further rather than strengthening.

Our challenge in the short term is to prepare for the substantial market expansion that we just described.

We need to complete the relocation and launch the new programs that are associated with the Dana settlement, and we need to continue with the rebalancing of our North American production that we've discussed at length over the past year.

Longer-term, we're going to be looking to leverage our North American market strength into Asia and Eastern Europe.

We believe that this will not only create additional growth opportunities, but greatly reduce the cyclicality that we experienced from the North American truck market.

We are going to continue to work to expand our customer base to reduce concentration, and we're going to work to expand our global footprint to further enhance margins, primarily through joint ventures and other similar arrangements.

Please advance to slide 7.

Our Electronics Group, Q3 orders grew 47% over the second quarter of this year and were 30% greater than the year ago.

That brings us up to 24% increase on a year-to-date basis over that of 2006.

In our Aerospace & Defense area, the program launches are showing mixed results.

The good news is that orders in our Aerospace & Defense segment remain extremely strong.

They are up 81% sequentially and 31% on a year-to-date basis.

The other side of that silver lining is the fact that we have not delivered these products on time, is that we're running roughly five to six months later in getting these things to market than we had anticipated.

We believe we have our hands around it.

We have made some changes, and we believe that the first quarter we will finally be launching these products smoothly.

In Test & Measurement, we had another strong quarter of growth.

Test & Measurement has experienced a 12% increase in the top line this year and a 28% gross margin expansion on a year-to-date basis.

Orders are up 17% in the third quarter and 12% on a year-to-date basis.

So our order outlook remains positive.

We must meet our timetables and our commitments.

The key drivers for our Electronics Group varied, as you can see on slide 8.

In our Aerospace & Defense segment, the two key variables are clearly the budgetary authority and appropriations.

When we look at the defense budget for 2008, at $481.4 billion in discretionary authority, it's up 11.3% over that of 2007, and fully 62% -- it represents fully a 62% increase over that of 2001.

For many of you who have been with us for some period of time, back in 2001, we used to talk about a $300 billion a year defense budget and the robustness of that, and clearly it has moved well beyond that.

In addition to the $481 billion of spending authority, the Administration has requested an additional $93 billion to support the war on terror for 2007, which would bring the total spending for the war on terror in 2007 to $163 billion.

For 2008, they're requesting roughly $142 billion plus an additional $50 billion allowance for 2009.

The Administration clearly seems to be following a strategy of segmenting its requests so that the bills do not appear to be too large or outlandish, but what we can see is that by the time you combine war on terror spending with normal discretionary authority, is that you are looking at significant levels of defense outlays.

The key to all this, however, resides in appropriations, and to the extent that Congress authorizes the appropriations on a timely basis and it keeps the procurement tube full and unimpeded.

We will have to see how it goes this year, because Congress is withholding approval on the war on terror spending until a later date, so that will be the barometer for all of this as to how well the releases on programs go.

In our Test & Measurement business, the two key areas I would say would be space and aerospace spending, and the economy.

The economy would be a good barometer for purposes of our calibration business, which has been growing nicely over the past couple of years.

And space and aerospace spending would certainly affect our Component Screening business, which has showed a great deal of strength.

All in all, we've got a strong backlog, growing defense spending, and with a focus on electronic platform upgrades, we believe that this business will post double-digit growth for us for several years to come.

Please turn to page 9.

In conclusion, for the quarter our earnings per share increased $0.18 over that of the prior-year period, while revenue fell slightly below guidance, driven by reduced demand for trailers and a delay in our shipments of certain classified programs.

The good news, if you will, is that these programs are now scheduled for the first quarter of next year.

Orders remains strong in our Electronics Group, with 30% comparable period growth and 47% growth sequentially.

And the commercial vehicle outlook remains quite robust for 2008 and 2009, with a substantial increase taking place in the second half of next year.

The potential liquidation of our claim with Dana, currently estimated at $70 million to $75 million, would provide a significant boost to our current cash flow outlook.

Overall, the challenge remains, but much progress continues to be made.

So with that, I would like to turn the balance of our presentation over to Scott Hatton.

Thank you, Jeff.

Good morning, everyone.

If you advance to slide 10, you can see the details of our third-quarter performance compared to guidance.

Revenue was $105 million for third quarter.

This was roughly $6 million lower than the midpoint of our guidance of $108 million to $113 million.

Softness in the trailer market, as Jeff described, and delay in shipments on an electronics program contributed to the lower revenues.

However, electronic order rates for Q3 increased 30% year-over-year and ran higher than the expected 20% increase forecasted previously, due to strong product orders of over $20 million on two new contracts awarded during third quarter.

Our Q3 performance in PBT of $3.2 million and an EPS performance of $0.14 were within our guidance range.

Components of that performance included the $7.5 million profit before tax impact from the Dana settlement worth $0.29 of earnings per share.

This is slightly higher than the originally estimated amount in early September discussions, as our settlement related costs came in lower by $800,000, which helped to offset the impact of lower revenues and the impact of increased support costs stemming from delays on two classified product programs in electronics.

Free cash flow was a usage of $9 million, well within the guidance range of $6 million to $11 million of usage.

This performance was negatively impacted by the lower revenue resulting in higher inventory over the short-term, but offset somewhat by lower capital expenditures.

By turning to slide 11, we can compare this performance to the same period in 2006.

Versus third quarter of 2006, revenue was down 17% from last year's third-quarter revenue of $126 million, driven mainly by the truck and trailer market declines.

Industrial Group revenue was down 27%, while Electronics Group revenue increased 12%, assisted by strong performances from our contract manufacturing service business and Test & Measurement business.

Orders versus third quarter of 2006 were up 30%, as Aerospace & Defense orders were up 35%, and Test & Measurement orders climbed 17% over the prior year.

This order performance increased our backlog 15% over third quarter 2006, to a total backlog of $111 million.

Profit before tax was up $4.6 million from a Q3 2006 pre-tax loss of $1.4 million.

This represents an $0.18 increase in earnings per share over the $0.04 per-share-loss in third quarter of 2006.

This 2007 performance included the $7.5 million pretax impact from the settlement as previously mentioned, which offset the impact of the decline in the truck and trailer market.

The Electronics Group also expanded its profits as a consequence of their top-line growth.

Year-over-year cash flow is down $20 million as a result of onetime cash collections from 2006 not repeatable in 2007, combined with the impact of normalizing terms with Dana as part of the settlement agreement that was effective in third quarter of this year.

However, days sales outstanding or DSO was 46 days this year, and that is down 6 days from same period last year.

So we continue to make improvement in that area.

Please advance to slide 12 to review our upcoming guidance for the balance of the year.

On slide 12, guidance for fourth-quarter 2007 revenue ranges from $103 million to $108 million, compared to a $107 million to $112 million range in prior guidance.

This represents a $4 million decline in forecasted revenues as we expect continued impact from the softer trailer market and delays in key classified programs in the Electronics Group.

However, orders for electronics are still forecasted to remain strong at a roughly 15% growth over 2006 same period.

Profit before tax for fourth quarter has been revised downward by $1.7 million to reflect the impact of lower volumes and higher support costs for the electronic product programs completions.

Slightly higher interest costs associated with lower cash flow is also contributing, and as a result we have revised our earnings per share guidance for fourth quarter to a range of $0.00 EPS to a $0.05 loss per share.

That is down roughly $0.06 on the low end of the range from the previous guidance.

Cash flow has also been revised downward to reflect the lower second-half revenues converting to the lower collection.

Free cash flow is now estimated to be down $8 million from a range of zero to positive -- really from 5 to positive to prior guidance, to zero to -5 from a usage perspective.

By turning to slide 13, we can see what this means to the total year.

Based on third-quarter performance and our fourth-quarter outlook, total year guidance is as follows.

Revenue is forecasted to be between $435 million and $440 million for the total year 2007.

This is down $10 million at the midpoint of the range versus prior guidance, due to the weaker trailer volumes and electronic program delays.

Electronic orders are forecasted to have grown by over 20% year-over-year, given the order intake that is expected in the fourth quarter and the fact that we have a 24% year-to-date performance, reflecting strong demand in our contract manufacturing services business, our electronic products, and in our Test & Measurement businesses.

Earnings per share is forecasted at $0.00 earnings per share to a $0.05 loss for the year, down from the previous total year guidance of a positive $0.01 to $0.03 EPS performance.

Again, this guidance reflects the softer sales and increased costs to support the key electronics programs.

Free cash flow for the year is forecasted at $8 million to $13 million of usage, compared to the previous guidance of a zero to $5 million usage, reflecting the lower sales in the second half, as well as some increased capital expenditure delay from earlier in the year.

To summarize, please advance to slide 14.

So how are we doing in the major areas of commitment that we talked about earlier in the year?

Delivering on our total year financial commitments, we exceeded our first-half expectation.

Third quarter increase to $0.18 earnings per share over the prior year was within guidance, and despite revising the outlook down $0.06 for the total year, we are still exceeding our original plan that we set out at the beginning of the year, excluding the Dana settlement.

The Dana settlement certainly has contributed also positively with an additional $7.5 million of profit before tax in third quarter, and an estimated $11.1 million impact for the full year.

Net debt stands at 15% of capital today.

On the restructuring side, we continue to manage effectively through the down cycle, and we actively are working the transition plans that we committed as part of our settlement agreement as priority.

On the Electronics side, we continue to drive our double-digit growth initiative with orders year-to-date at a 24% pace and forecasted to be greater than 20% by year-end.

We had a $49 million third-quarter order intake on the Electronics side, which was supported by the $20 million in electronic product orders discussed earlier.

Developing certification plans for a new product program that is slated for early '09, we just received customer blessing to move forward with that certification, which will provide important growth for the future on the Electronics side of the business.

Test & Measurement also has continued to be strong throughout the year, and at this point has a 12% year-over-year growth with expanding margins.

So, in conclusion, despite a challenging year, we are meeting our financial goals we have set for the year, and we are continuing to progress our initiatives that will deliver profitable growth moving forward.

To that end, we will be conducting an analyst call scheduled for December 25th at 9:00 Eastern time, and at that time we will be sharing our outlook for 2008 in more detail, as well as progress on various initiatives at that time.

That wraps up our formal comments.

I will turn the meeting back over to Matt for questions and answers.

(OPERATOR INSTRUCTIONS) Peter Lisnic, Robert Baird.

Good morning, gentlemen.

It is actually John Haushalter on for Pete.

Just a couple questions for you.

If you have -- if you look at -- I guess first a record-keeping one.

If you at the aerospace and defense orders you guys are getting, our orders there for products that are in production right now?

When you kind of talk about those two programs that really drove growth, are those in production or are those still awaiting certification?

Most of the orders that we are receiving are in various forms of production.

Okay.

So it's something where those -- if you were looking at your backlog, the odds of those shipping within the next year, most of it is going to go out, right?

Yes, that is correct.

Okay, then turning to the Industrial Group, if you guys -- you're kind of a year into the -- or approaching a year into the restructuring that you announced you were going to do.

If you look at your kind of future cash needs to accomplish that, and particularly in light of kind of a $70 million to $75 million potential cash flow from liquidating the Dana stake, how much incremental cash do you need from, say, today to kind of accomplish what you want to do in that segment?

Well, I think we kind of walked through this, John, in the last call, but I think it is fair to say that the proceeds from any liquidation would be more than adequate to cover the needs of the program that we would be doing on that side.

Okay, and then the use of surplus cash, would that just be kind of reinvested in the overall business, or would that be through acquisition or --?

There's a couple avenues.

Of course, we continue to focus on optimizing our debt structure.

We will also look at, on the electronics side, making certain that we -- if there are opportunities for acquisition that make sense, albeit they may be on the smaller side, we may look at that as well.

We will keep that option open.

Okay.

Then just on the Industrial Group, has the -- ACT seems to be reducing its forecasts over time, and kind of with the PACCAR News recently and just the general kind of concern over freight, has that changed how you are approaching your restructuring, if all of a sudden the rebound does not happen as quickly as expected?

John, this is Jeff.

The restructuring that we're doing we believe is good for the business longer-term, and so there may be some short-term pushout or flattening depending upon what happens with the economy, but we believe that the longer-term value will be in having a cost profile that reflects the outcome of the restructuring.

So the answer to your question is no, we would not change that because of some short-term issues.

Okay, thank you.

I will get back in queue.

(OPERATOR INSTRUCTIONS) Tom Carpenter, Hilliard Lyons.

Thank you, guys, for the extremely thorough slide show this morning.

That makes our job quite a bit easier.

A big picture question real quick.

In the slide, and you might have mentioned this once or twice before the past five or six years; you mentioned longer-term you would like to leverage your North American strength into Asia and Eastern Europe.

Can you give us a little more color on that and the time frame, maybe some partners you might work with, whether it is existing ones in the U.S.

or some new ones that you talk to?

I would be happy to.

Very specifically, we are currently talking with various companies in India on establishing a joint venture, in which we would have the opportunity to both serve the Indian market, which is growing rapidly, as well as to have the opportunity to rebalance production for delivery in the U.S.

depending upon the cost profile of the component.

Then subsequently, we are also looking at opportunities to form joint ventures in China, again for the same purpose of primarily gaining access to the growth of the Chinese market, but also to have the opportunity to import if it makes sense.

So as we look at it today, Tom, the growth in Europe, the growth in India, the growth in China, it's all running quite strong today while we're going through a down cycle here in North America.

Right, and it could be a good balance.

Absolutely.

With the Dana settlement, and I don't want to have Scott remind me that he gave the numbers of the last call, but with the leftover proceeds would you guys -- I know JVs cost money on the investment side.

I am not familiar with the exact country by country specifics for JV on the ownerships.

I think is just under 50 or an even 50.

Would you guys have the current funding after you liquidate that to invest in the JVs, or would you guys maybe need to draw a little bit on some of your revolvers?

No, we feel that we will be in a highly liquid position and we will have the liquidity necessary to support these activities.

Okay, that is good news.

Just on a time frame, I guess we're at the tail end of '07 here.

These things, if you do proceed, these would be consummated in the next year or two?

Yes.

Okay, fantastic.

As we -- you guys mentioned that there were some -- two new program awards in third quarter '07, and I guess I just wanted to be clear.

Were those additional orders for the existing programs that are experiencing some delay, or are those brand-new orders that you talked about producing in the tail end of '08, early '09?

I think last quarter, we talked about one order that had moved out into third quarter.

We realized that order.

That is a new contract, but it is another renewal of a contract that we had.

Right, right, right.

So that was one of the two contracts.

It is a separate contract, but it is part of a program we were already producing on.

The second contract that we got is a longer-term contract.

It is a completely new contract.

However, it is a product that we have made in the past and delivered under a previous contract, so we have been producing on that program under the old contract.

We just got renewal for up to another three years on that contract.

And we got orders associated with that for the first time in third quarter.

Okay, so it was things you've worked on at sometime in the past.

It's not for a completely new --.

Yes, it is not completely new products, but programs that we're familiar with.

I think you might have mentioned briefly in response to a question last call that there are some brand-new programs that you are doing RFPs on.

Is that correct?

Yes, and the one program we keep talking about that we have already launched and has been ramping up is a completely new product for us.

That is part of the award that we got, which was kind of a follow-on contract that we had some earlier volumes on and we will continue to be working growth on that product; whereas the other award that we got, which was probably the heavier volume of the two, was really that second-generation contract on a product that we'd been producing for a number of years.

Okay.

Looking at this quarter, you guys had a pretty nice sequential increase in Industrial Group gross margin.

I know there's a lot of moving parts.

But that was impressive, considering what the trailer market did this quarter.

As we look into '08, in light of you guys still have a lot of, I guess, restructuring and reshuffling that you're going to do next year, can margins sequentially improve from here and '08, or is there going to be a lot of moving around?

You know, I still think we're in for sequential improvement in margin.

Keep in mind the third-quarter gross margin performance does have some Dana impact into it.

It is not all in the non-recurring line.

So if you were to back that out, it is going to be a little bit more of what you may have expected in the downturn.

So if you come off of that base and go into the next year, I still think you'll see sequential improvement as volumes return in the factories.

We will get into more of that, of course, in our guidance on the 20th, explicitly of how we see that margin progressing.

But that is certainly our expectation, that once you remove the Dana settlement and look at the margin impact from '07, that we will be building on that moving forward.

Okay.

Have you completed all of the pricing discussions this year that you wanted to accomplish on the Industrial Group?

Yes, from what we set out to do at the beginning of the year, we completed those discussions.

However, we are constantly revisiting that equation and there's ongoing discussions on certain parts as we look at our portfolio and we think about where we want to grow business and maybe where we do not.

So I will tell you there's active conversations going on with more than one customer at this point (technical difficulty) pricing.

That is good to hear.

And I think -- did I read that correctly -- light truck or light vehicle volumes went up quite a bit in the third quarter?

Yes, keep in mind they fell through the floor last year, but yes?

I mean, obviously, year-over-year all else being equal, you would have expected probably a reasonably good light-duty performance year-over-year in the second half because of '06, but yes, they are up quite a bit.

Did you secure any additional volumes from your major customer in that space?

Because my understanding is that their market share is going the other direction.

No, Tom, we did not.

Okay, can you help me understand the increase for the new --?

The increase in -- I'm sorry, I don't understand your question.

You're just talking about the year-over-year increase on the light-duty side?

Yes, was that you guys or industry?

I'm sorry, I don't have that in front of me.

I just got off another conference call.

Yes, from a light-duty perspective, I think what we talked about explicitly was a 35% increase in the third quarter over third-quarter '06.

And what I would say is really behind that is, of course, what had happened in third quarter of last year being a very low year, a lot of inventory corrections going on.

We just saw quite an increase.

There is nothing there where we have taken on more business or we obviously necessarily think that our customer has increased their share.

It is really just it was an anemic third-quarter '06, and things have kind of normalized a bit in '07 for us there.

Okay, got it.

Thank you very much.

(OPERATOR INSTRUCTIONS) We have no other questions.

I'd like to turn the call back to Mr.

Gill and Mr.

Hatton for any additional or closing comments.

Thank you, Matt.

Scott and I would like to thank you for joining us on this call.

We welcome your continued interest and, of course, your questions about our business.

Thank you and have a good day.

That does conclude today's conference call.

Again, thank you for your participation.

Have a good day.