Sypris Solutions Inc (SYPR) 2010 Q2 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 would like to turn the call over to the President and Chief Executive Officer, Mr.

Jeffrey Gill.

Please go ahead, sir.

Thank you, Michael and good morning.

Brian Lutes, Tony Allen 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 second quarter of 2010.

For those of you who have access to our PowerPoint presentation this morning, please advance to slide 2 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.

In compliance with Regulation G, you can access our website at 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 would now like to proceed with the business discussion.

Please advance to slide 3.

I will lead you through the first half of our presentation this morning, starting with an overview of the highlights for the quarter, to be followed by a brief discussion of each of our two business segments.

Brian will then provide you with a more detailed review of our financial results for the quarter.

Now let's begin with an overview on slide 4.

We are pleased to report that the Company continued to make important progress during the quarter.

Gross profit increased to $4.9 million, or 7.8% of revenue, up from 6.4% for the prior year on a 9% decrease in revenue driven by the temporary delay in the secure communications program we discussed last conference call.

Our Industrial group gross profit increased by $3.9 million and EBITDA increased by $5.6 million on a $9.6 million year-over-year increase in revenue, reflecting the positive leverage associated with increased sales, greatly reduced fixed costs and the substantial conclusion of restructuring activities.

Our Aerospace & Defense gross margins were 16% despite the significant reduction of revenue that resulted from the delay of secure communication programs shipments during the quarter.

Revenue and margins are expected to increase materially during the second half of 2010 with the resumption of these shipments.

Important improvements continue to be made in working capital management during the period and as a result, the Company generated positive free cash flow while its net debt decreased to just $5.3 million.

In summary, the financial results for the quarter continue to make important progress.

Now let's take a look at our Industrial group.

Please turn to slide 5.

Since our call in May, the ACT outlook for class 8 trucks and for trailers has strengthened somewhat with a forecast for 2010 production having been increased by 6.1% and 10.7% respectively.

FTR, another independent research source, is in agreement with the ACT outlook for class 8 trucks, but differs with ACT on trailers, forecasting Q3 and Q4 of 2010 to be in line with Q2 of this year, thereby reducing total year shipments by 10,000 units if FTR is correct.

In any event, the forecasters continue to expect class 8 truck production to increase 26% over depressed 2009 levels and for the production of trailers to increase from 35% to 47% over last year.

For 2011, ACT is forecasting a 31% increase in class 5 through 7 trucks, a 58% increase in class 8 trucks and a 48% increase in trailers.

The outlook provided by FTR is somewhat more conservative, but is still in the 25% to 35% range depending upon the market.

Our current order boards appear to support a continued sequential recovery in these markets, which are still well below replacement cycle averages.

On slide 6, you will note that inventory was reduced by 5% during the quarter and drove continued improvement in inventory turns on a year-over-year basis despite a 26% increase in revenue compared to the second quarter of last year.

Critical metrics for quality and delivery continue to achieve world-class levels with PPMs of 96 and on-time delivery in the mid-90s reported for the quarter.

We kicked off a new program launch for Eaton transmission shafts during the period and entered into a new contract to provide Sisamex with fully-machined truck axle shafts in Mexico.

The team continued to position the business well for the eventual recovery of the commercial vehicle and trailer markets.

During the quarter, readiness plans were developed and are now underway to ensure capacity availability, spare parts inventory, and tooling.

Specific human resource plans were initiated on a plant-by-plant basis to ensure the proper recruitment, appropriate training and cultural education of new employees.

Looking forward, we expect revenue and margins to record meaningful comparable period improvements during the rest of this year.

In summary, we continue to make significant progress and work to position the Company so that we can truly capitalize on the pending upturn in the Industrial group's markets.

On slide 7, we will take a moment to discuss the Aerospace & Defense segment.

Last call, we discussed the delay of certain government program shipments during the quarter and the resulting impact on revenue.

The issue was related to the product's performance with other instruments and systems under certain conditions and resulted in a $6.9 billion revenue impact on the first quarter.

Our team worked in close partnership with the government to successfully resolve the issue expeditiously during the period.

We mentioned that shipments were expected to resume in Q3 subject to final resolution.

Well, as we sit here this morning, I'm pleased to let you know that we have received approval to resume shipments and this approval was received at quarter-end.

As a result, we expect revenue to return to pre-delay levels and gross margins to increase to the 20% to 22% range for the balance of the year.

In other areas, the consolidation of our Colorado facility into our main Florida operation continued during the quarter.

The final move and closure of the facility will occur during the third quarter of 2010, which should then greatly reduce our nonrecurring expenses for this group and contribute to margin expansion going forward.

We continue to make important progress in the area of Global Key Management and cyber security.

As you will see on slide 8 that, during the quarter, we teamed with Honeywell on a major Information Assurance support services proposal.

We were selected as part of a winning team to provide Information Assurance services for the rapid response third-generation contract award.

It is important I think to pause here for just a second.

During our last call in May, we talked about being selected by Booz Allen and CACI to partner on a number of these types of proposals and in this case, the group, the team was successful.

And as you will recall, in this instance, our role will be to assess the vulnerability of specific secure network systems and provide third-party certification of those systems prior to their being placed in service.

So this was an important win for us.

We hope that it will serve as one of many.

In a similar vein, we submitted a white paper to DARPA during the period and for those of you who are not familiar with the acronym, DARPA is the Defense Advanced Research Project Agency, which commissions research for the DoD.

During the quarter, we partnered with Purdue and Georgia Tech on a proposal that was to develop nanokernel security architecture for multicore microprocessors.

If we are successful with this proposal, and we won't know until sometime in October at the earliest, but if we are successful, we will receive funding for what would be a four-year R&D project to embed and manage security features in hardware rather than through software as it is currently performed today.

In a similar vein, we submitted a white paper to the Department of Energy's National Energy Technology Laboratory.

In this instance, we have partnered with Purdue again, along with Oak Ridge National Laboratories and the Electric Power Research Institute.

The proposal is to develop centralized key management to be used in securing utility power grids and if successful, this would also result in funding for a four-year R&D project to develop a secure way to protect some of our country's key infrastructure through key management.

In this case, we hope to hear as to whether or not the proposal has been accepted sometime in December at the earliest.

All in all, these moves were made to increase our Cyber Security Solutions with key partners and it is an exciting area for us.

Turning to page 9 to wrap up.

Clearly, the market outlook for this group remains positive.

Our quoting activity continued to increase in the area of spacecraft, satellite and other similar high cost of failure applications.

Our quality and delivery remain at world-class levels.

We were qualified by ITT, Goodrich and Tyco during the quarter.

That should position us for future work with each of these companies.

And we continue to receive increasing recognitions in our key areas of Global Key Management, Secure Communications, Identity Authentication and Cyber Warfare.

So needless to say, our expectations for continued progress in 2010 remain optimistic as we replace aging programs with new programs and technology.

So with that, it is now my pleasure to turn the balance of our presentation over to Brian Lutes.

Great, thanks, Jeff.

Good morning, everyone.

I would like to briefly discuss our second-quarter financial results and highlight for you some of the key areas of our progress through the quarter.

At this time, please advance to slide 10.

Our consolidated revenues for Q2 were $63.1 million, down 9%, or $6.3 million compared to the prior-year period, primarily as a result of the government program shipments that were delayed you heard Jeff talk about earlier.

Despite lower revenues, gross profit for the quarter was $4.9 million, up 11% from the prior year, driven largely by the restructurings we executed during 2009 and our lean and continuous improvement initiatives.

Gross margin was 7.8%, reflecting a 1.4% expansion over the prior-year quarter despite the lower revenue profile, and we would expect margin expansion during the second half over comparable periods.

Over the past several quarters, we have discussed the importance of measuring earnings before interest, taxes, depreciation, amortization and restructuring charges, or EBITDAR, as a result of the restructuring costs we would incur.

For this discussion, we have also provided EBITDA, which is also a non-GAAP measure and reconciled on the Company's website.

We have done this because the majority of our restructuring expenses have been incurred and as a result, you should expect us to place more focus on EBITDA in future updates.

For the quarter, EBITDAR was $1.9 million, or up $1 million from the prior-year quarter, again reflecting the benefits of the various restructuring initiatives we have discussed and their realized efficiencies and I will go into more detail in the segments.

With respect to our Industrial group, please advance to slide 11.

The Industrial group revenues increased $9.6 million, or 26%, to $46.6 million compared to the prior-year quarter as volumes for heavy-duty commercial trucks and light trucks and trailers continued improvement.

Gross profit for the quarter was $2.3 million compared to a loss of $1.6 million for the prior-year quarter, driven by the increased volumes, as well as the impact of the Industrial group's restructurings, their targeted cost-reduction programs, as well as lean and continuous improvement.

As a result, we are benefiting by improved manufacturing conversion on these incremental sales and remain focused on continued improvement going forward.

Finally, a very important accomplishment was the Industrial group's $5.6 million comparable period increase in EBITDA on only a $9.6 million increase in revenue growth.

This was meaningful and again reaffirms the impact of the restructuring programs we have talked about, as well as the adoption of lean continuous improvement in their methodologies are having on improving manufacturing conversion across our facilities.

Let me go deeper into our Industrial group's sequential results and ask you to advance to slide 12.

As discussed over many of our past calls, it is important to focus on their sequential results to see how the actions we carried out in 2009 are impacting their results.

As you will note, revenues continued to strengthen improving nearly $2.5 million, or 5.6% to $46.6 million from the first quarter, or $6.2 million, or 15%, from the fourth quarter of 2009.

Gross margin did decline 0.7% from the prior quarter, but this was attributable to the significant change in mix experienced in trailers, up 41.3% from Q1 from which Jeff covered in the earlier slide 5.

We do expect revenue and margins to record meaningful comparable period improvements as we go forward in the year.

Finally, EBITDA, when viewed sequentially, highlights the continued improvement despite the modest increases of revenues since Q4 of last year, highlighting again the improvements that we have made, as well as our ability to adapt to the customers' ever immediate needs, as well as their evolving longer-term expectations.

With respect to our Aerospace & Defense segment, please advance to slide 13.

The revenue in our A&D segment declined 49% or $15.9 million to $16.5 million from the prior-year quarter, again primarily due to the delay you heard Jeff talk about earlier.

Gross profit for the quarter decreased to $2.6 million compared to $6.1 million for the same period, reflecting the substantial impact of the delayed programs.

However, A&D achieved gross margins of 16% despite the unplanned revenue shortfall and this provides important insight into its future earning potential.

And finally, while EBITDAR was negatively impacted by the delay of the government program shipments, we do expect our revenue to return to pre-delay levels and gross margins to increase to the 20% to 22% range for the balance of the year.

Let me conclude with a brief summary of Q2 and ask you to advance to slide 14.

Gross margins increased to 7.8% of revenue, up from 6.4% in the second quarter of last year despite a 9% decrease in revenue.

We believe this does underscore the impact of the restructuring and the cost actions undertaken last year to make meaningful lasting changes to our cost structure.

Furthermore, it positions both business segments to capitalize on the improving economy.

Especially meaningful for both our segments was their respective financial performance during the quarter and highlighted by, first, the $5.6 million comparable period increase in EBITDA on $9.6 million of revenue growth highlights a dramatically leaner cost structure within our Industrial group and should drive improved results as the market volumes return.

Second, achievement of 16% gross margins within our A&D segment during this 90-day period of program shipment suspension also provides very valuable insight into its future earning potential, especially as revenues return to the pre-delay level.

Earlier, you heard Jeff discuss our world-class PPM metrics, or parts per million, performance at our Industrial group, as well as the world-class levels being attained in both quality and delivery in our A&D segment.

Both of these are true testimonials to the cultural transformations that are well underway and highlight the benefits we are realizing through the adoption of lean, continuous improvement and Six Sigma tools in their methodologies.

We do believe these will all continue to help us reduce costs, improve quality and deepen our customer relationships.

In summary, we continued to make progress during the quarter and though much work remains, both teams are committed to even stronger performance during the second half and ensuring a continuance into the future.

This concludes our highlights for the second-quarter 2010 results and at this time, I would like to turn it back over to Michael for questions.

(Operator Instructions).

Jim Ricchiuti, Needham & Co.

Thank you.

Good morning.

When you refer to the pre-delay levels for shipments in the A&D business, are we talking pretty much in the mid-$20 millions?

I think the best way, Jim, this is Brian, to look at it is I think we were around $18 million in Q1 and we discussed that there was a miss around $6 million attributable to that.

So that is a fair number.

Okay.

And I wonder if you could talk a little bit, maybe provide an update on RASKL just in terms of whether you saw any meaningful revenues in this quarter and what you anticipate perhaps in the second half?

We did not have meaningful revenues in Q2 and we are underway responding to the stop-work order that was lifted and reengaging manufacturing for Q3.

But you had referred I think to some potential business overseas.

And I am not sure if you are referring to that in the second half or you thought that was more a 2011 possibility.

That is a longer-term possibility.

Okay, okay.

And can you talk a little bit also about the opportunity, Jeff, in the cyber warfare area?

I don't know if you have ever really quantified the revenues thus far and I don't know if you're willing to maybe give us a sense as to what the opportunities could be in 2011.

It sounds like you're working with some folks, but I don't know if you see any meaningful revenues that you'd perhaps be willing to share with us.

The things that we have been talking about recently, the partnering with Booz Allen and CACI, the activities with DARPA and DOE and some of the other types of programs we're working on are primarily R&D programs where we -- or service programs where we receive funding to perform certain services or research.

And so I would say, Jim, the important thing here is that, not so much from a top line, but from a technology development, becoming a player in some of these areas that are more leading edge, we expect to lead to some benefits further down the road, but not something that would add in a material way to revenue over the next 12 or 24 months.

Okay.

If you are successful with some of these development contracts, would that tend to pressure your margins over the near term?

No, I don't think so because these are being funded.

Okay.

And what could be interesting is that, as we exit some of this or as we get deeper into this, we could end up with more intellectual property, and so there could be some residual benefits from that.

And I don't know if you could just put aside some of the newer areas that you are working on in A&D.

I'm just kind of curious what you are seeing in the base business?

There has been a lot of talk about business, at least some programs shifting to the right.

What are you seeing from your customers?

What we are seeing in the base business that we have today is continued strength.

It may be driven somewhat by the fact that we are in some unique areas, but at this point, we haven't seen any change in outlook for demand.

So your bookings, backlog still pretty healthy in the base business as well.

That's correct.

And just with respect to the Industrial business, you referred to a couple of market research firms and their forecasts and I wonder if you could just tie this into what you are hearing from some of your larger customers.

I would be happy to.

Let me preface this.

We provided another source today at least for discussion purposes because what we hear tends to be all over the board.

And in the last 24 months especially, because of the severity of the drop that took place in 2009, a lot of firms are reticent to predict what is going to happen in the future.

But I can tell you this.

When we went into the second quarter, we were expecting the trailer market to increase roughly 16%.

That is what we put in our last presentation for Q2 and it ended up going up 41%.

And so when we look at the outlooks, it was interesting to us that ACT and FTR were right on top of each other for class 8s for 2010 because typically those two sources differ with one another.

Now for 2011, they do differ somewhat where FTR is somewhere around 185,000, 190,000 class trucks and ACT is coming in at, what did we say, 235,000, 237,000.

So there is some difference there.

But the independent research guys are both forecasting meaningful increases going forward.

The customer base ranges from a high-end class 8 for 2011 of 250,000 next year to a low of 200,000 next year.

So it tends to be all over the board.

But I think what we are seeing and what we hear from companies like PACCAR is that the order cycle is much shorter than it used to be and so there tends to be more of a book and turn.

And what they are expecting is that once things start to go and once build slots start to fill up is they expect to see -- let's call it a more aggressive response to securing those built slots.

So summary, we are still seeing growth.

The independent research is still forecasting a recovery, recognizing that, in class 8, the normal replacement cycle just for retiring trucks is somewhere in the 220,000 to 240,000 a year range.

So we are still well below, 60% below the normal annual replacement cycle and so for this market to recover at least into those areas, it doesn't require per se economic growth; it requires the decision for fleets to replace trucks that are now more costly to maintain than they were before.

Okay, that's helpful, Jeff.

Just with respect to what you are seeing in the trailer business, that tends to be a leading indicator for you?

Our experience is it typically leads by about six months.

Great.

That's it for me for now.

Thank you.

(Operator Instructions).

Jim Ricchiuti, Needham & Co.

Brian, you mentioned that restructuring is going to drop off.

What do you anticipate in terms of restructuring charges in Q3?

Well, we have covered approximately $1.4 million through year to date and we'd anticipate in Q2 probably another $400,000 to $500,000 in Q3.

Got it, okay.

And just with respect to the savings from the consolidation of the Colorado facility into Florida, what do you expect that to yield on an annual basis?

I don't have that here with me.

We can get that for you, Jim.

Okay.

And last question, I haven't heard you guys talk about customer concentration.

I was just kind of curious, has that changed much in the last few quarters?

No.

On the Industrial side, Jim, really no change other than on the volumes that you know, but the concentration is about the same and in our electronics business almost ditto in terms of just the mix across the customers served.

Okay.

And a couple of final questions.

Just on R&D expense, would you anticipate that moving up, Brian, in the second half from Q2?

I think what we are seeing is certainly, as the electronics team stayed focused in Q2 with the delay and managed all of their expenses, you would see some increase in Q3 to get us back in line with what their budget was for the full year, both in Q3 and Q4.

And so for the full year, is -- in the ballpark and around $1.8 million, could it be as high as that or could it be potentially higher?

I think it is going to be higher, Jim.

Okay, okay, that's helpful.

Terrific.

Thank you.

And with no further questions remaining in the queue, I will now turn the conference back to Jeffrey Gill for any additional and closing comments.

Thank you, Michael.

Brian, Tony and I would like to thank you for joining us this morning.

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

Thank you and have a great day.

That does conclude today's conference.

We thank you for your participation.