Sypris Solutions Inc (SYPR) 2010 Q4 法說會逐字稿

Good day, and welcome to the Sypris Solutions conference call.

As a reminder, today's call is being recorded.

At this time for opening marks and introductions, I would like to turn the call over to the President and Chief Executive Officer, Mr.

Jeffrey Gill.

Please go ahead, sir.

Thank you, Katie, and good morning everyone.

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 fourth-quarter and full-year of 2010.

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

And in compliance with Regulation G, you can access our website at www.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 three.

I will lead you through the first half of our presentation this morning, starting with an overview of the highlights for the quarter and year, 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 and full year.

Now, let's begin with an overview on slide four.

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

Revenue increased $67.2 million during the period, up from $66.1 million in the fourth quarter of last year, driven by increased industrial sales in the commercial vehicle and trailer markets.

Our gross profit increased in excess of 30% to $7.6 million, up from a $5.8 million in the fourth quarter of last year, reflecting the impact of our Lean and continuous improvement efforts in both our Industrial and Aerospace and Defense segments.

Our gross margin increased 11.2% of revenue, up from 10.4% sequentially and up on a 8.8% in the fourth quarter of last year.

Of particular note during the period, we increased our R&D spending fairly dramatically.

The purpose of doing so was to accelerate some new product introductions that we are working on, and it culminated in eight new patent applications that were filed by the end of the year.

Also, a key item, I think it's important to note, our rate of profit conversion on incremental revenue growth for our Industrial Group reached 18.6% during the quarter, while our net debt declined sequentially to $3.7 million.

Advancing to slide five, and also looking at the quarter on a non-financial standpoint, we announced the opening of a new office for Sypris Electronics in Copenhagen, and we will go into this a little bit later in the presentation.

We also announced that the US Air Force had selected RASKL to serve as its electronic key field device and be the sole replacement for the KYK-13 product line formerly used by the Air Force to protect access to its critical secure communications networks.

And, finally, shortly after year end, we announced a new long-term supply agreement with Meritor for its Brazilian operation as well as entering into extensions of our two existing supply agreements with Meritor that affect our plants in Kentucky and North Carolina.

Now, taking a look at the full year on slide six, 2010 was clearly a period in which the Company began to demonstrate substantial benefits from the restructuring program that we initiated at the end of 2008.

I think it's worth taking a moment to go through a couple of examples of what these benefits appear to be.

I'd like to give you an illustration just so that they become more tangible for you.

For example, during the fourth quarter of 2010, our Industrial Group generated $47.7 million of revenue, compared to $47.3 million in the fourth quarter of 2008, but it did so with 800,000 fewer square feet of manufacturing space and 227 fewer people.

This resulted in a 29% increase in revenue per employee, and our gross margin expanded by 7.5 percentage points, or the equivalent of $14 million on an annualized basis.

If we look at our Electronics Group, we saw similar benefits .

Comparing 2010 with 2008, our Electronics Group employed 135 fewer people at year end, and operated out of one facility instead of three.

In this instance, our gross margin expanded by 14.4 percentage points, or the equivalent of $11 million on a $75 million base of business.

When we look at the operational effectiveness metrics, you will see on page seven a number of important metrics have improved dramatically when compared to 2008.

For example, in our Electronics Group, we have registered a 93% improvement in quality in terms of parts per million, an 83% reduction in cycle time and a 72% reduction in scrap.

In our Industrial Group, we registered a 75% increase in quality, a 65% reduction in the number of a customer incidents, and a 13% reduction in scrap rates, while also improving our on-time delivery into the mid-90s percentile.

The Company also reported tremendous progress in terms of improving quality and safety of its work environment.

Workers compensation claims declined by over 90% in 2010 when compared to the claims of 2008.

So, our conclusion, the substantial reduction of fixed overhead, combined with the rebalancing of production to lower-cost regions and the dramatic improvement in operating efficiency, has lowered the Company's cost profile by more than $25 million per year, based upon the current market volumes.

The point being, we began to see the tangible benefits of these and other activities during 2010 with the hope that we will see more in 2011 and beyond.

Now, advancing to slide eight, we have some additional highlights we would like to talk about for 2010.

Certainly the demand for commercial vehicles began to recover with Class 8 production increasing to 154,000 units during the year, up from the low of a 118,000 units in 2009, albeit still far below the 372,000 units that were produced in 2006.

We received an important contract from the Department of Energy to pursue the development of a centralized cryptographic key management system to protect our nation's electric power grids from cyber attack.

We worked internally to invigorate employee awareness on healthcare education and wellness, and we realized a 30% reduction in healthcare costs on a year-over-year basis as a result.

We continued our intensive Lean/Continuous Improvement training with the objective of reducing cycle times, supplies and scrap, while improving responsiveness to our customers' needs.

And, finally, our people continued to do an excellent job in preparing the business for consistent, profitable growth in the future.

Now, let's turn to slide nine to take a look at the outlook for the markets that impact our Industrial Group.

Today, we have prepared several tables and graphs for you in an effort to frame the outlook for truck and trailer production, which might best be characterized as bullish with a strong dose of paranoia.

Let me explain.

Looking at the table on page nine, we can see the forecasted sequential change in production for medium duty, heavy duty, and trailers.

So, as an example, looking at this sequentially, ACT is forecasting a 1.8 % decline in Class 5-7, or medium duty in the first quarter, to be followed by a 10% increase in Q2 , a 9.4% increase in Q3, and a 6.5% increase in Q4, culminating in a 24.4% year-over-year increase.

Below that, we see Class 8, where the increase is forecast at 19.4% and 14.7% in Q2, to be followed by lower rates of increase in Q3 and Q4, but totaling 58.1% on a year-over-year basis.

Similarly, for trailers, very strong increases primarily in the first half of the year but resulting in a 63% year-over-year increase.

When we look at the lower table, what this basically shows is the forecasted increases for '12 and '13.

So, 18% increase for 5-7 in '12, a 26% increase for Class 8 in '12, and a 21% increase for trailers in '12, to be followed by smaller increases in '13.

But if we look at slide 10, we will get a little bit different picture of what is going on here.

On slide 10, rather than showing the sequential increases, we are showing the year-over-year increases.

So, for example, in the first quarter for Class 5-7, where on a sequential basis, ACT is forecasting a slight decrease of 1.8% sequentially.

On a year-over-year basis, we're forecasting an 18.1% increase.

If we look at Class 8, in the second quarter of 2011, ACT is forecasting a 14.7% sequential increase, but on a year-over-year basis, it's 70.5%.

And similarly for trailers.

If we look at third quarter for trailers, a 7.2% sequential increase is forecast, but that still represents a 50.7% year-over-year increase.

So, when we look at the year-over-year comparisons, the forecast rate of improvement is really fairly dramatic by almost any standard.

Now, let's take a quick graphical look at these markets on slide 11, 12, and 13.

On slide 11, we show a ten-year window for medium-duty vehicles, and what we can see here is that 2009 clearly represented the low; that ACT is forecasting improvement and '10, '11, '12, and '13.

But even with this improvement and the type of percentages that I just related to you, 2013 still is far below the 2004 to 2006 range that we experienced historically.

On slide 12, you will see a similar story for heavy-duty trucks, with 2013 forecast to be about 20% below the peak of 2006.

On slide 13 , you will see that the demand for trailers is forecast to recover from the almost 50-year low of 2009, but still remain below the 2004 to 2006 range.

So, a couple of questions are raised.

The first one, what have you done, or what are you doing to prepare for these forecasted increases in demand?

And the second question is, why are you paranoid?

So, in answer to the first question, we have been going through extensive readiness planning.

We have been hiring and training, we have been going through extensive preventive maintenance and repair of our equipment, we've added spare parts and supplies.

During the last part of 2010, we spent well over $1 million in doing some of these activities.

We continued to spend on these activities in the first quarter of this year.

We have performed extensive failure analysis of key equipment by both our employees and through the use of outside vendors, and we have established buffer inventory in and around certain key equipment just to make sure that we are prepared for these types of volume's.

We continue to hire and look to bolster our organization, especially in the areas of engineering, maintenance, continuous improvement, and program management.

So, as we sit here today, we believe that we are in pretty good shape with the intent of getting in even better shape as we go forward, and I believe as a result we are already seeing the results in terms of profit conversion.

So, in response to the second question, why are we paranoid?

Well, I think that it's clear that the industry is recovering from what for most of us is an all-time low, a depression, if you will.

And so, while the market comes back and the forecasts remain very bullish and in conversations with the OEMs, they too remain bullish.

I think there's a sense that there could be economic shocks or other things that occur that might derail this.

And so, we are hopeful that's not true, but it's just an interesting time in the market.

All right.

So, let's take a quick look on slide 14, and talk a little bit about our Aerospace and Defense segment.

As I mentioned a moment ago, we launched a new subsidiary in Copenhagen.

Sypris Europe will have the primary responsibility for developing, sustaining emerging market needs in Europe, Asia, and the Middle East as they relate specifically to information assurance and cyber security.

The office will also support and broaden our growing global network of international distributors and partners, the most recent of which was Cassidian, the division of EADS, and we will also offer a broad range of services and assurance solutions for the European and aerospace defense industry.

We have recently announced the development of the International Cyber Range .

Our objective is to accelerate the advances in cyber security and cyber warfare, particularly for nation-states who are allies of ours.

As we sit here today, the first phase of this project is nearing completion, and we will look forward to reporting more on this to you as we go through 2011.

On slide 15, we entered into this new technology information exchange agreement with Cassidian, formerly known as EADS Defence and Security .

We are very optimistic about the prospects for this effort looking to share technology and access to markets between the two of us, and we are hopeful that we will see some benefits from this, particularly as we move into '12 and '13 .

We also announced, as I mentioned earlier, that our RASKL product was selected by the US Air Force to replace the legacy key fill device to protect access to its critical secured communications networks.

RASKL will be the only KYK-13 replacement procured and supported by the US Air Force for its users.

So, we were pleased that the Air Force decided to go sole source.

I also mentioned before that we increased R&D spending dramatically during the quarter, and it culminated in eight new patent applications by year end.

The reason for doing this one-time acceleration was we felt that it was important to get some working prototypes into the hands of potential users because time-to-market in this type of thing is very important.

We also felt that it was important for us to make our patent applications as early as possible to see if we could protect what we hope will be some very interesting technology that our team is developing.

Finally, we received notification of our award from the Department of Energy.

I mentioned this earlier as well.

This is a $3 million (sic - see Company presentation, slide 15) of funding that we are receiving from that DOE to develop a centralized cryptographic key management system to protect our nation's electric power grid from cyber attacks.

This is a three-year program which, if successful, may lead to some very, very interesting opportunities for us.

So, with that, I'd like to turn the

Great.

Thanks, Jeff .

Good morning, everyone.

I'd like to discuss with you our fourth-quarter and full-year 2010 financial results and highlight for you some of the areas of our progress during 2010.

At this time, we will start with the consolidated view on slide 16.

For the fourth quarter, our consolidated revenues from continuing operations were $67.2 million, up $1.1 million from the prior-year period as market conditions for commercial vehicles and trailers improved and helped offset the reduction in sales in our A&D segment, resulting from the exit of certain legacy programs.

Gross profit for the quarter was $7.6 million, up $1.8 million from the prior year and driven by a few key areas.

Our reduced cost structure achieved through the restructuring plan that we presented to you in December of 2008, Lean/Continuous Improvement and Six Sigma that drove continued efficiencies, and the reduction of scrap and rework across the segments' respective supply chains, and finally the changing mix and the transformation of our A&D segment business.

For the quarter, EBITDA was $2.4 million, up $2 million from the prior-year period and, again, was driven by the impact of the increased efficiencies and continued cost management.

If you advance to slide 17, let me discuss the A&D segment's Q4 results.

The revenue for our A&D segment came in at $19.5 million for the quarter, compared to $25.7 million in the prior-year period, primarily as a result of their exit of legacy programs.

In addition, as we discussed with you during our third-quarter call in November, we received government approval at the end of Q2 to resume shipments of certain secured communication programs, and while these programs contributed to an increase in revenue of 25% from Q2 to Q3, we weren't able to achieve similar progress during Q4.

The gross profit for the quarter increased $392,000 to $5.6 million, compared to $5.2 million for the same period in 2009, while gross margins expanded to 28.8% from 20.4% for the prior-year period; again, attributable to the lower operating cost structure that the team has in place and the strategy to evolve the mix, our changes in mix .

Finally, the A&D segment EBITDA increased $373,000 to $1.4 million, compared to $1.1 million for the same period in 2009.

And as you heard Jeff mention, the Q4 EBITDA number does include an increase in R&D spending of $1.8 million over the prior-year period.

So, it's safe to assume that if Q4 R&D spending had not been accelerated, EBITDA would have shown even greater improvements, reaffirming the operating leverage in our A&D supply-chain.

At this time, I will hit on the Industrial fourth-quarter results, and ask you to advance to slide 18.

The revenue for our Industrial Group was $47.7 million in the fourth quarter, compared to $40.4 million or an increase of 18% from the prior year period as volumes in the commercial vehicle and trailer markets showed year-over-year improvement.

Gross profit for the quarter was $1.9 million compared to $567,000 for the same period in 2009, and also driven by the productivity improvements and ensuing recovery of volumes.

Equally impressive for our Industrial segment was their improvement in EBITDA for the fourth quarter.

On revenues that were $7.3 million or up 18% over the prior-year period, EBITDA improved $1.7 million to $3 million compared to $1.3 million for the prior-year period.

It's clear our plant managers and their teams remain focused on driving efficiencies of productivity, and these results and the continued emphasis provides us with momentum and positions us nicely for the recovery in both the Class 5-8 truck and trailer markets you heard Jeff speak to earlier.

At this time, we will advance to slide 19 and look at the Sypris Solutions on a consolidated basis.

For the full-year ended December 31, our consolidated revenues were $266.7 million, or about $754,000 over the prior year period, again driven by the increases in our Industrial Group and partially offset by the A&D decline in revenue.

Our gross profit increased $9.9 million, or 62% over the prior year to $25.9 million on revenue growth that was essentially flat.

This highlights yet again the impact of the restructuring actions undertaken and their impact on operating efficiencies and the realized cost reduction benefits driven by Lean and Six Sigma.

Finally, in view of consolidated EBITDA for the full year, this came in at $8.4 million, reflecting an increase of $15.6 million, and once again highlights the leverage of both our Industrial Group and A&D segment after all the effort in the dramatic shift and reduction in their cost structures as well as the associated operating efficiencies.

And finally, advancing to slide 20, we look at our A&D segment on a consolidated basis.

Their net revenue was $75.5 million, down $38 million from the prior year, again, as a result of the completion of legacy products and programs combined with the impact of delay in the production of certain secured communication programs that I discussed earlier.

On the gross profit, that declined $2.8 million principally on significantly lower revenues while gross margins expanded from 17.3% to 22.3%, or right at 5%.

This performance again validates the transition underway to win higher margin product in aerospace- related sales in that segment.

And finally, EBITDA decreased $966,000, and the operational efficiencies we've discussed throughout certainly helped offset the year-over-year revenue decline that I spoke to earlier.

And lastly, our Industrial segment, as we look at it on a consolidated basis, certainly attributable to a lot of hard work and market recovery, and we are pleased to report that the net revenue increased $39.1 million, or 25.7, reflecting the market upturn in both the medium Class 5-7 and the large Class 8 truck markets as well as increases in trailer demand.

What's very impressive is the gross margin.

We realized an increase of $12.7 million to $9 million for the full year 2010, reflecting the benefits of the evolving market recovery, and the substantially lower cost structure and the productivity enhancements.

Year-over-year gross profit improvement of $12.7 million on the $39 million of incremental volume resulted, in essence, of 32% profit conversion and again highlights the future potential as the volumes in the truck and trailer market continue their recovery.

And finally, as you would expect, the profit conversion drove improved EBITDA performance, coming in at $12.3 million or $16.5 million higher than the prior-year period, and provides yet again a basis for continued earnings leverage in the future.

So, as we've spent the last half an hour with you, let me conclude today's discussion with a brief summary and ask you to advance to slide 22.

On an overall basis for 2010, the gross profit increased 61.5% to $25.9 million, up from $16 million in 2009.

As you heard Jeff earlier, these results are attributable to the restructuring program we carried out, as well as the relentless focus by both our segments to drive continuous improvement in operating efficiencies that drive profitability.

To this end, the Company's cost profile has been reduced by an estimated $25 million per year subject to variations in market volume.

We do expect the Industrial Group's improved cost profile and strong operational performance to make a material contribution to the growth and profitability of the Company's results in 2011, especially as the commercial vehicle and trailer markets continue their recovery.

Finally, our Electronics Group continued to show great strength in its gross margin performance during the period as a result of their continued use of Lean and the Continuous Improvement methodologies that have been under way for the better part now of three years.

And finally, R&D, certainly a lifeline for our A&D segment, are expected to approximate about 6% of A&D revenue on a go-forward basis and will continue to drive the expansion of the Company's product and intellectual property portfolios that could contribute to the Company's financial results as early as 2012.

In summary, our team remains focused on increasing the rate of profit conversion from each dollar, revenue dollar, and we are working collectively to return the Company to profitability in 2011.

This concludes our highlights of the fourth-quarter and full-year 2010 results, and at this time we will turn it back over to Katie to open the dialogue up for any

(Operator Instructions) Jim Ricchiuti, Needham & Company.

Brian, maybe I'll just go to your most recent comments just about R&D.

Based on the comments you made about R&D approximating about 6% of A&D revenue, does that suggest that you're R&D expense after this big run up Q3 to Q4, will be declining sequentially?

It's stabilized for 2011 at that 6% rate.

So, yes.

So, the answer is yes.

Yes.

Okay.

I'm trying to get a sense, do we have another quarter or so of unusually high R&D expense, and then it trails off?

I don't know what you're doing in terms of new products, and to what extent you have gone through this investment.

I think we are going to continue at a run rate that's going to reflect about a 5% to 6% basis on revenue on a quarterly basis, Jim.

Okay.

Jeff, the ACT data, how does that line up with what your customers are telling you?

Well, it lines up fairly closely, Jim.

We just returned from a trip out visiting some of the OEMs, and what we learned in meeting with the OEMs is that between March and the end of the year is they have plans in place to double production.

And so, I would again say that, when I described it earlier, bullish with a good dose of paranoia, is everyone is seeing the demand pick up.

Everyone is doing what they can to lineup the supply chains to be able to support the demand, but no one is willing to say, and I don't see anything that can disrupt us.

Right.

Now, based on just some of the quarterly data that the market research is suggesting, is that being reflected yet in your bookings in the Industrial business?

I would have to say yes.

Okay.

Yes.

Okay.

So, you feel like as though you have pretty good visibility at this point into what's already a recovery in the industrial business?

I would say certainly through the second quarter.

Okay.

Yes.

Okay, and is there -- I was wondering if you could give us a sense, based on the operational improvements you guys have made, what type of gross margin profile we might see in the Industrial business as we get further into a recovery?

Yes, Jim, I think certainly our objective is double-digit gross margins.

Okay.

And, Brian, on the Electronics gross margins, is this something that you see as being able to sustain at these levels?

I think Q4 was a terrific quarter for us, Jim.

I would probably expect the gross margins in this year to be probably somewhere in the range of 22% to 24%, certainly subject to volumes and no surprises.

Okay.

And, just with respect to the investments in Europe, Sypris Electronics in Europe, do you anticipate any revenue impact from that this year, and conversely, do you see -- are we going to see increased costs associated with that before we see the revenue?

I think that, Jim, we are not going to see any material revenue this year.

I think that we will begin to feel a conversion of this in the following year, and I don't think you're going to see a big change in our cost profile from what you've seen so far.

So, I don't know how to characterize that for you better than to simply say I think what you've seen in the fourth quarter is probably pretty representative of what you will seeing going forward.

Normally in Q4, Jeff, you would see a little bit of a sequential improvement in the Electronics business, just in general, looking out in previous years.

Was it just a case where Q3 was unusually strong.

No, I think more or less, we are seeing a lot of issues going on in the defense community that is tied to what is happening in our overall government budgetary process.

And so, I think as you look around the system, there are some constraining elements in terms of program releases and those types of things that begin to show up a little bit in Q4.

Last question, and I'll jump back, but just in terms of booking and backlog for the Electronics business, how would you characterize that?

Backlog remains strong, slightly consistent with where we entered 2010 last year.

So, Brian, does that suggest that we could see 8% to 10% type growth in the Electronics business in 2011?

I think it's too early to call on that, Jim.

As Jeff mentioned, with this continuing resolution and getting more clarity around the outcome of the meetings this week in Congress on Friday, we are expecting that to at least give us better visibility, but too early to call right now.

Okay, thanks.

Thank you, Jim.

Jim Ricchiuti.

You have indicated that you expect to show a profit in 2011.

Would you be willing to either give us a sense as to when that might occur?

Is that something that you see occurring in the first half of the year?

Or maybe another way to answer the question is maybe give us a sense at what quarterly revenue level you would anticipate showing a profit?

I know that depends on the mix of revenues, but maybe just in broad strokes.

Look Jim, I think from where we sit today, let's think about the revenue.

As we think technologies, I think you can look at a blended average of the rates between 5 and 7 and 8 along with trailers, that gives you one view of the market incline.

I think in our Electronics business, we look at continued stable growth as that business transforms itself.

It continues its intent focus on expanding the product portfolio.

So, clearly, the year-over-year revenue will largely be driven by advances in technology, our technology or Industrial group subject to the market recovery.

And I think on the profitability side, my answer would be we want to get there as quickly as we can.

Okay.

Headcount.

You mentioned that your headcount is up.

I'm just trying to get a sense where that is now, and maybe it would be useful to focus on the Industrial business since that appears to be where you are staffing up quite a bit in anticipation of this resurgence.

So, where are your headcount in the Industrial business at year-end, and how does that compare with, say, either midyear or a year ago?

Well, just order of magnitude, Jim, at year-end we were plus or minus a little over 800 people in the Industrial Group.

And by midyear, by the end of Q3 let's say, we are looking somewhere around 1000 people.

Okay.

Jeff, just for comparison purposes, where was that a year ago, at the end of 2009?

You are really testing us here, Jim, aren't you?

Well, waiting for somebody else to ask a question.

Which week?

I'm just trying to get a sense, have you staffed up already?

Give us a second, and we can get that information for you.

Okay, what we are showing is it at the end of 2009, we had 827 people .

Okay.

And then lastly, with respect to Meritor and supplying their Brazilian operation, is that something that you anticipate will be meaningful, and is there anything within the supply chain that you have to adjust in order to go forward with that?

It's a nice contract.

We will be doing a number of different component parts for them, and the PPAP process will start in the fall of this year.

So, the real revenue contribution will be in 2012, but it's going to take us roughly 6 months to begin the PPAP process for these parts.

Okay, thanks very much.

Yes, sure.

Thanks.

(Operator Instructions) It appears that we have no further questions at this time.

Great, Katie.

Thank you, Katie.

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

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

Thank you, and have a great day.

This does conclude today's conference.

We thank you for your participation.