Twin Disc Inc (TWIN) 2011 Q1 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Twin Disc, Inc. 2011 first-quarter financial results conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions). This conference is being recorded today, October 19, 2010.

I would now like to turn the conference over to Stan Berger. Please go ahead, sir.

Thank you, Christina. On behalf of the management of Twin Disc, we are extremely pleased that you have taken the time to participate in our call and thank you for joining us to discuss the Company's fiscal 2011 first-quarter financial results and business outlook.

Before I introduce management, I would like to remind everyone that certain statements made during the course of this conference call, especially those that state management's intentions, hopes, beliefs, expectations, or predictions for the future are forward-looking statements. It is important to remember that the Company's actual results could differ materially from those projected in such forward-looking statements.

Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in the Company's annual report on Form 10-K, copies of which may be obtained by contacting either the Company or the SEC.

By now you should have received a copy of the news release which was issued this morning before the market opened. If you have not received a copy, please call Annette [Mianake] at 262-638-4000 and she will send a copy to you. Hosting the call today are Michael Batten, Twin Disc Chairman and Chief Executive Officer; John Batten, President and Chief Operating Officer; and Chris Eperjesy, the Company's Vice President of Finance, Chief Financial Officer, and Treasurer.

At this time, I will turn the call over to Michael Batten. Mike?

Thank you, Stan, and good morning, everyone. Welcome to our first-quarter 2011 conference call. As Stan has already indicated, I will start with a brief statement and then John, Chris, and I will be available to take your questions.

As you no doubt have already seen, Twin Disc posted strong results for the first fiscal quarter. Our oil and gas markets drove significant growth in sales, profitability, and backlog, and we are encouraged with the business outlook for the balance of the fiscal year and our new product introductions remain on track for implementation during the fiscal year.

Net sales for the first quarter of fiscal 2011 rose to $61 million from $47 million reported last year. As mentioned, the improvement came primarily from the oil and gas sector where substantial demand for our pressure pumping transmission accounted for most of the increase in shipments and the new order intake. However, demand for products used in the ARFF, military, and commercial marine market remained stable during the three months. Our mega yacht marine business continues to experience challenging times.

Our gross margin for the current fiscal quarter was 32.6% compared to 20.7% in the same three months last year. The significant improvement reflects the depressed margins of a year ago, improved efficiencies as a result of our $25 million cost reduction and avoidance program instituted during the last year, and a more profitable mix of business.

Marketing, engineering, and administrative expenses as a percentage of sales was 24.1% for the current quarter compared to 27.2% for the same three months last year. ME&A expenses increased by $2 million quarter-over-quarter and reflected primarily stock-based compensation and bonuses accruals.

Net earnings for the first fiscal quarter improved to $2.6 million or $0.24 per diluted share compared to a net loss of $2.4 million or $0.22 per diluted share for the same period a year ago.

We continued to have a very strong financial balance sheet. We generated $4 million in operating cash flow in the quarter despite a $12 million increase in working capital to support rising sales. Total net debt of net of cash was $10 million compared to $12 million at the end of last fiscal year. Shareholder equity approached $100 million compared to $88 million at the end of fiscal 2010.

Our six-month backlog at the end of first fiscal quarter was $100 million compared to $84 million at the end of last June and $62 million at the end of the first quarter last year. Demand for our oil and gas transmission systems continues to have a profound impact on our sales, profitability and backlog.

Elsewhere, demand for our industrial, defense, ARFF, and commercial marine market remains stable, while the pleasure craft market continues to remain depressed.

Our new product development programs remain on schedule for introduction in the third fiscal quarter. Overall, our outlook is for continued improvement during the fiscal year and we remain encouraged about our long-term prospects in all of the markets we serve.

That concludes my prepared remarks and now John, Chris, and I will be happy to take your questions. Christina, you can open it up.

(Operator Instructions) Peter Lisnic, Robert W. Baird.

Good morning, this is Josh Chan filling in for Pete. It looks like sequentially -- seasonally in a normal year you guys record about 55% of your sales in the second half. But given your backlog momentum and shipments of the 7500, do you still expect that 45%/55% seasonal pattern to hold this year?

Well, Josh, this is Mike and the answer is yes, traditionally we have more working days in the second half and that's accounted for by typical shutdowns or vacation schedules in the first quarter. So we do see our historical pattern more or less following history.

Okay, how are you looking at mix for the balance of the year relative to this quarter? Is oil and gas growing at a pace where it would continue to be a bigger piece of the pie or is there some sort of recovery in your other markets that will somewhat offset that?

Well, the mix is going to continue, as we've seen in the first quarter. But the caveat would be that we may see some improvement occurring in our other markets. But there is a strong mix in favor of oil and gas that will continue throughout the balance of the year.

Okay, great. And then with respect to the 7500, what percent of the backlog is it currently?

John, do you want to take that?

Yes, currently of the six-month backlog that you see, officially it is zero but it would be about, if we were to have the demand that is in in the next six months, it would be between 10% and 20%.

Okay, so no orders received yet in the six-month backlog but --?

No. They are not in the six-month backlog. They are outside of the six months.

Okay, great. How have the 7500 orders been relative to your expectations?

The demand is still very good. We are waiting to finish up the field test, which should happen this quarter, before we put official orders in. But we visited with the major customers and anticipation is still very high for the unit.

Okay, great. Thank you for your time.

Paul Mammola, Sidoti & Company.

Good morning, everyone. Could you give us a general sense of what marine -- the marine half of the business did during the quarter up or down just to get a sense of I guess how much oil and gas is up?

John, do you want to handle that?

Yes. I would say, Paul, that the marine business actually has been fairly stable for the last five quarters. In calendar 2009, it came down pretty dramatically and then it started to rebound. You had a pretty stable few quarters for the marine business as a whole.

Okay, that's helpful. We can work from it from there. To go back to the 7500 series in backlog, if I heard you correctly, there's an incremental 10% to 20% --?

Thank you for asking that, Paul. I need to qualify that. It's 10% to 20% of the 8500 backlog, not total backlog.

I see. Okay. How much would you say is 8500 of the total backlog at this point?

It's a lot more than it was a year ago.

I had to try, okay.

Also, just Paul, just you asked about the marine business. Our industrial business has improved significantly over a year ago and there's a lot of aftermarket business in traditional industrial markets as well as oil and gas. So there's been a lot of demand on spare parts for the oil field but also just the traditional industrial business, whether it's wood chippers, rock crushers, etc.

That's good to hear. Do you have a calendar '11 CapEx budget from [BJS]? Are we too early on that?

We have not seen it yet. It would be coming out sometime this month. I have personally not seen it yet.

Okay, and do you have a sense of what the appetite a company like BJS might have for product like the 7500? Is there any indication from them?

Well, being a major rig producer, from what I've seen from the other ones, it looks like it's going to be at this level for at least another 12 to 18 months that we can see.

Okay, then finally on the marine side if I could take you back there, is there an update at the builder level on mega yachts? Is anything starting down there from an inventory perspective?

Yes, it's dependent on the geography. I think a lot of the inventory has been moved through. New inventory that's been sitting at some of the major OEM builders particularly in Europe, the American builders I think did a better job of not having inventory in the pipeline this time.

But it's still a mixed bag and if there's any movement, it's on the small end and on the very high end. And kind of that range in the middle is still I would say fairly weak. Not a lot of movement there. It might be midrange, something like in the neighborhood of 40 to 80 feet.

Okay, that's helpful. Thanks for your time, guys.

John Braatz, Kansas City Capital.

Good morning, gentlemen. From a big picture standpoint, how would you characterize or how would you view this run-up in the oil and gas business compared to 2007, 2008? Obviously you don't have the 7500, but -- can you talk a little bit about what you are seeing in terms of duration, demand and maybe the pricing environment relative to a couple years ago?

Yes, just on versus a couple years ago, I would say the big difference was the spigot on the reconstruction was completely turned off kind of in the financial crisis. And I would say that in the last 18 months to 24 months, there have not been a whole lot of rigs produced. But there has been a demand for pressure pumping. So there has kind of been a gap where very few rigs have been built.

What we are seeing now is making up for that there's a demand -- a need for more rigs and what has changed from last time to this time is we are seeing more rigs are being used in shale, unconventional gas, which tends to be a higher horsepower type of application, a more rigorous application. I think the expected life of every rig is a little bit less because they're operating more hours.

So there's -- the difference in the run-up this time is that we think that more of the production in the frac rig is tending toward the higher horsepower than the last time. So I think it's a little bit of a double whammy for us this time versus last time. There's been very little construction over the last 24 months and what is coming back is demand for high horsepower.

What about pricing in this environment for you?

It's still very competitive. There are two competitors out there who are trying to get business as well, but we are being very mindful of surcharges and what we see in any material inflation. But if we see an increase in surcharges, we are absolutely going to have to take action.

Okay, do you --? How about just your base demand -- base price for the product? Can you get pricing in this environment?

I think if conditions -- if materials were to change, I think the answer is yes. If nothing were to change, it would be difficult (multiple speakers) competitors.

Okay, turning back to the 7500, you mentioned that there was nothing in the backlog six months backlog but the 7500. Would we see any -- does that preclude any revenue in the third quarter?

Yes, there will be -- for the third quarter, we have customers who have 8500s on order that would if the field tests are complete, would switch part of that or add to the 7500 for the third quarter. So there is -- I am trying to be true as what is an official order in the system. There is absolute demand in the third quarter if we finish the field test.

Okay, now in the press release, you talked a little bit about the size of the 7500 market versus the 8500 market and what type of magnitude are we talking about in relative size, 7500 market opportunity versus 8500?

I would -- if you go back to two years ago, we would have estimated the size of that market to be 10 times that of the 8500. I would say now maybe that percentage -- what we are seeing right now in the demand, it may be closer to 50/50 or 60/40. There's been a lot of people building the higher horsepower rig at least in the last 12 -- the last nine to 12 months.

Okay, so we are talking about a similar market size then?

It would be closer to that than 10 times bigger.

Okay, all right, and I think last time, in the last cycle, 2006, I think, Chris, you had mentioned to me and you didn't give me a definitive number but sort of a range that oil and gas sales were maybe 15% to 20% of total revenue back in 2008. Was that an accurate number?

I don't think it was too far off the number.

Okay, and I think that's it for now. Thank you.

(Operator Instructions) Bo McKenzie, Global Hunters.

Guys, congratulations. Just to put some kind of calibrations on some of this, if I was going to go out and build a 30,000 horsepower spread, which seems to be the kind of common spread that's being used in places like the Bakken and the Haynesville and the Eagle Ford stuff, how many 8500 transmissions would I need to put in those? That could be a lot of [shocks], 30,000 horsepower.

30,000 horsepower would be 10 -- if you wanted it, 10 online at any given time. 10, 11.

10, 11. At what kind of cost each?

For the entire rig?

Just 8500, just right now for 8500. I figure you know, you've got a 30,000 horsepower spread. I am just trying to figure because we think there's somewhere between 3.5 and 4 million horsepower of frac equipment that is on order right now.

Right, it's somewhere 185,000 to 195,000.

Per transmission?

Per system. Yes.

Yes, okay. And I don't know how well you guys are able to tell this, but can you get a feel for how big the aftermarket is right now versus history? Because I know from listening to the guys out in the frac business, you are tearing this equipment up and about the only thing that is not being torn up as far as the [Coppell] is Caterpillar Engines and stuff. But pretty much everything beyond that is getting a lot of wear and tear, the pumps, I would guess transmission or (inaudible). So do you have a feel for what the aftermarket is doing in this kind of environment right now for you?

Here's the -- in a past experience, it seems like there's been a run-up, a lot of demand, and then it shuts down and rigs are idle for a while or they are scavenging off of a rig that they have idle to do repairs. This time we are seeing an increase in aftermarket spare parts both the prime, the pump, so to speak, to have parts available, but then also to rebuild units in the field.

So I can't quantify it, but it's a better mix of aftermarket this time versus the last couple of times.

And the last -- maybe just as hard of a question but if you go back and you look at the kind of the history of the frac business, the US market has been [aggressive] where it has used frac markets whereas a lot of the rest of the world was predominantly submit, which is not the same kind of horsepower requirements.

But there's a lot of [CL] that looked like they are getting attention in the rest of the world. Have you guys seen an ability to track these orders as to whether they are coming from the US side of the pressure pumpers or from the international side?

Yes, right now we have some orders for China and we know that some rigs that we are selling units to for construction in North America are going to Russia. But by and large right now I would say the majority is for North America consumption. But we're actually looking at the Eastern Europe and India potential market for the future.

Just to clarify things, you keep seeing rigs, and I think I am talking predominantly on the frac side. I know you guys have made collections and port converters and stuff for the rig business as well. Have you started to see any of that start to come back? Because --?

Yes, we are seeing orders for those types of products from -- and Bo, that is around the world. The demand for those aftermarket parts and rebuilds.

All right, good. We're just hanging on for the ride. It looks like it's going to be fun again.

[Simon Peres], private investor.

Good morning. I see that your other expense line seems larger than it is normally. Can you give a little color?

Yes to the other expense line primarily relates to some foreign exchange losses at some of our foreign operations. That represents the vast majority of that.

Okay, thank you.

Jon Braatz, Kansas City Capital.

Good morning, just a follow up. You talked quite a bit about the oil and gas business, but you talked both in the annual and the press release about the Express Joystick. Can you tell me a little bit about that market opportunity, size of the market, and is it an OEM product versus a retrofit or both?

It is -- the Joystick as of right now what will be released in January will be for any twin engine diesel boat. There could be anywhere from again 40 feet up to 150. So that could be pleasure craft initially but soon after pilot, so it's really -- it is a very -- the potential market of vessels is huge. It is primarily an OEM initial build type activity. You can do a retrofit. It would be expensive if you didn't have all of our components, primarily the transmission and the controls already installed because you would be doing a lot of modifications to the boats to get our transitions and controls into the vessels.

So we're focusing primarily on new construction but there are some customers that have built a series of boats with our controls and transmissions where this could be added. But primarily we are looking at new construction. It really is the entire pleasure craft market and that is kind of 40 feet and above.

And I don't know anything about boats, but why wouldn't I put one on? Is it a big cost?

It is -- as a percentage of the cost of the vessel, no, but it's one of those things that until you are really sold once you get on and try it. And it's really trying to get you to a small percentage of pleasure craft owners actually go to the major boat shows and see it in person. So we are actively probably in the next calendar year going to be more active in getting this boat into different locations so people can get on it and experience it.

Are you taking orders at this time?

Yes, we are. We have some customers that are actually installing -- what's left to be released is the production software, but we have builders who are installing all of the other equipment and when the production software is ready, we just have to download it to the system.

John and Jon, one of the things -- given your background, you may want to just go to our website and watch a video that we have and it will become very clear why you and everyone else would want to have this is that it's incredibly intuitive control capabilities that would allow even a spouse -- not even, but we have (inaudible) that a lot of people are buying it because -- want to buy it because of the ease of control. So a family is running a boat, bringing it into the docking system, and it's a very easy and very forgiving control system.

Yes, we had -- I think this video should be up. There is -- from the Sydney boat show in it was either July or August, there's a video of a 13-year-old girl maneuvering her father's not even -- I don't think he's written a check yet, but his 60-foot boat in and out of a harbor slip with the joystick. And it took her about 10 minutes to get it down. That is pretty impressive.

I wouldn't worry about the girl. I would worry more about me running it.

Yes, we are not the videogame generation, so she's got a leg up on us.

Okay, thank you guys very much.

Shawn Boyd, Westcliff Capital Management.

Good morning. Congrats on the quarter, gentlemen. Just first question, can you speak to market share for a minute, how much of the market do we represent versus Allison and any other?

I'm sorry, Sean, I didn't hear the question. Could you speak a little bit louder?

Sure, looking for market share, can we ask about what market share is versus Allison and the other competitors?

Well, we won't talk in terms of specifics there, but --

And I apologize, but I am focused on oil and gas.

I understand. I think probably in the 3000 horsepower segment. John, we've got a very significant market share of that segment. Allison tends to have a higher representation as you get from 1500 to 2250. So we are coming down with our 7500 into that 1500 to 2250 segment. So that's where our move is.

Okay, and for the most part, the market is split between you two? Would you say 80% to 90% of the market is using transmissions from Twin Disc or Allison?

Well, Caterpillar had some representation in there, but we are the major player in the higher horsepower segment, as I've indicated. Allison is the major player in the lower horsepower segment, and Caterpillar is represented.

Okay, second question is on your manufacturing. Can you just walk us through your manufacturing capacity and specifically maybe we can kind of think of revenue capacity and how you are able to move -- if you are able to move business around? In other words, can the facility -- if we are still weak in mega yacht, can we move that facility over toward some of the strength that we are seeing in oil and gas?

The overall answer is that we are very flexible in our manufacturing operations by and large especially here in Racine to be able to move between various market segments such as marine to transmission and so on. Because the manufacturing assets that we have, the machine tools that we have don't understand whether a part is a land-based transmission or a marine transmission. So you can use that capacity to serve either areas of the business.

This is also true of our business to a certain extent in Belgium, but -- and in one of our plants in Italy. Another plant in Italy is more dedicated to specific thrusters and control boat management systems, so there isn't that flexibility. And in Switzerland, we do only propellers.

So we have flexibility in the US and Belgium and one of our plants in Italy, and not as much flexibility in another plant in Italy and our plant in Switzerland. Now, the plant in Switzerland, for example, makes propellers and they have very nicely moved their capacity from pleasure craft to patrol craft. So the propellers that we were selling into the mega yacht market, we have picked up the slack with a very nice push and run up in patrol boat business.

So we do have -- we do have manufacturing capacity flexibility to serve different market areas.

Okay. Very, very helpful. And so when we think about -- maybe if we just think about the total business on an overall basis, we peaked out at $85 million to $90 million a quarter in revenues fiscal 2008. And of course we have had to cut back with demand turning down and now here we are in the upswing again. Has anything structurally changed or do you think that we still have the capacity to do $85 million to $90 million a quarter at some point here?

We still have the capacity to do that. The question would be is some of that capacity referenced two years ago included a lot of marine business that was perking along very well. So that business is not, as we reported, not doing as well as it was a couple years ago.

When you think about our capacity to serve oil and gas and other industrial markets and so on, our business, military defense business, we have capacity available to get back to those same levels and beyond, because some of what we are doing is not internal capacity, but supplier. So outsourcing is a strategy that we've pursued over many years and we are able to ramp up our ability to ship certain models of product in that way.

Very good. Just to make sure I understand the -- or I'm taking the right interpretation here, there was a question earlier about I believe it was [BJS] CapEx and if I understood that correctly, you guys are assuming that you are -- not assuming, you are seeing no change in the high CapEx budgets from the pressure pumpers right now?

We are seeing a great deal of demand coming from people involved in building frac or pressure pumping rigs.

Right, so maybe to --.

And it is a global demand.

Right, so everything is still looking pretty good on that end?

Yes, it is.

Last question for you is on the margin. We ran a great margin here in this quarter in almost a 33% level, getting us back to the old peak. Given that increasing demand that we are seeing on the oil and gas side which does have those higher margins, it seems like that's a level that we can probably keep running for awhile. Any comments that you can give us in terms of sustainability on this gross margin would be helpful.

We would see our ability to sustain the first quarter gross margins as being obtainable through certainly the balance of this year. So that's about as far as I would like to go on it. It's just that we should be able to maintain this rate.

Okay, very good. I lied. I just thought of one other thing I wanted to hit. If I were ordering an 8500 series transmission right now, what would be the lead time? How long would it take to get that?

John?

We are -- realistically now we are booking into the first months of our next fiscal year, so we would be looking at July, July of 2011. We are actively trying to increase capacity, try to pull that in and not let it slip out any farther. But that's where we would be looking right now.

Okay, great. And on the 7500 where you are finishing up the field tests, did they -- if I am finishing a field test, would I already have a delivery slot coming to me if I decided to --?

Yes, the first production deliveries are going to be on the applications that we are doing the field tests, so we'll go from the field test into production. Take a bit of a pause, see how all the tests correlate to a production type environment and then we would expand sales after that.

Got it, very helpful. Thanks.

To the point, as John mentioned, we are definitely working 24-7 to improve the lead times through additional outsourcing and internal capacity development.

Right. And that's kind of where I started in terms of thinking about the manufacturing footprint and the ability to move production around at all. Very good. Thanks for the color and good luck.

A follow-up question from Bo McKenzie, Global Hunter.

Hey guys. I don't know if I heard this or not. I am kind of a little deaf, but if I were to put in an order right now, how long would I have to wait on an 8500? Are we pushing the kind of nine months or so that you guys peaked out at back in like 2007?

Yes, we would be putting that order in July. But as I said, we are trying to develop more suppliers for some of the key components to bring that in and try to mitigate it from going out any further. But really the constraint right now is getting the raw material to our suppliers and vendors to get the parts machine, so it's a daily, weekly battle.

So let's assume for a minute that the whole world decides these [seals] are worth pursuing and that there is an equally as big a build in the international market coming someday. At what point do you guys look at adding some brick-and-mortar?

Well, we have brick-and-mortar. We have our plant in Belgium has more or less the same machine tools that we do here. So some of the parts now, they are dual sourced. We have on the 8500 at least two sources for all the key components. The toughest one to do is find someone who wants to do the housings because you need a pretty big, expensive machine to do that. But we have that capacity in Belgium.

We also have the capacity to move a lot of marine line that is produced here in Racine to Belgium for added capacity here in Racine. But we do have options if the demand were to increase by an order of magnitude, not just percent.

Okay, all right, thanks again.

A follow-up question from John Braatz, Kansas City Capital.

Just curious, what might be the lead times that you are aware of for Caterpillar and Allison? Are you losing any orders because of the nine-month lead time?

No, I don't think so. I think we are all battling kind of the same issue of getting the steel to the mill and then to basically to the forging houses and bearing houses. So that is the key issue. It's not necessarily the capacity on our machine floor or our suppliers' machine floor. It's the material.

Okay, thank you.

I know a lot of the construction builders and some of the ags, they are already on manage distribution. So I think we are all facing a level playing field there.

Okay, thank you much.

(Operator Instructions) Management, I'm showing no further questions at this time. Please continue with any closing remarks you may have.

Thank you, Christina. Again, everyone, thank you all for joining the conference call today. We appreciate your continued interest in Twin Disc and hope that we have answered all your questions. If you have any following questions, please feel free to call Chris, John, or myself. We look forward to speaking with you again in January following the close of the second quarter.

That's its, Christina. Thank you.

Thank you. Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation. You may now disconnect.