Twin Disc Inc (TWIN) 2013 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Twin Disc, Inc. first-quarter fiscal 2013 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 23, 2012. I would now like to turn the conference over to our host, Stan Berger with SM Berger. Please go ahead.

Thanks, Ian. 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 2013 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 Mianecki at 262-638-4000 and she will send a copy to you.

Hosting the call today are Michael Batten, Twin Disc's 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 Mike Batten. Mike?

Thank you, Stan and good day, everyone. Welcome to our fiscal 2013 first-quarter conference call. As usual, I will begin with a brief summary statement and then John, Chris and I will be ready to take your questions.

Our first-quarter results were significantly impacted by a challenging North American pressure pumping market as rig operators continued to adjust to North American natural gas supply overhang and lower prices. We remain cautious about this sector through the balance of fiscal 2013.

Sales for the first quarter of fiscal 2013, easily the weakest quarter of the fiscal year, declined to $68 million from a record performance of $81 million last year. The decrease in sales was primarily the result of lower demand from customers in the pressure pumping sector of the North American oil and gas market. The shortfall was partially offset by higher demand from customers in the North American and Asian commercial marine market while demand remained steady for equipment used in the industrial, airport, rescue and firefighting and military markets. Sales to the global megayacht market remained at historic lows in the quarter.

Gross margin for the quarter was 28.2% of sales compared to a record of 37.8% for the same three months a year ago. The anticipated year-over-year decline in margin reflected lower sales volumes and a less profitable mix of business.

ME&A expenses, our marketing engineering and administrative expenses, were 24.2% of sales compared to 19.6% last year. ME&A expenses increased $711,000 versus the same three months last year, primarily the result of increased product development activities, wage inflation and additional headcount.

The effective tax rate for the first quarter of fiscal 2013 was 45.6%, significantly higher than the previous year rate of 35.3%. The current year rate was unfavorably impacted by an existing valuation allowance in certain foreign jurisdictions during the quarter. The remaining increase relates to the expiration of a credit for research and development, a reduced domestic production activities credit and a change in the mixture of domestic and foreign earnings.

Net earnings attributable to Twin Disc for the first quarter of fiscal 2013 were $1.3 million, or $0.11 per diluted share, compared to record earnings of $9.6 million, or $0.83 per diluted share for the same period last year.

EBITDA for the first quarter was $5.3 million compared to $17.8 million for the same quarter a year ago. Total debt net of cash was $18 million at the end of the quarter compared with $16 million last year. With a debt to capitalization ratio of 21.9%, our balance sheet provides us with the flexibility to withstand any near-term volatility and to continue to invest in forward business opportunities.

Looking at our outlook, our six-month backlog at the end of the first quarter was $82 million compared to $98 million at June 30, 2012 and $165 million at this time a year ago. The backlog reflects continued weakness in demand from the North America oil and gas market that we anticipate will continue for the majority of fiscal 2013. While the decline in demand from this sector will have an obvious near-term impact on our business, we are well-positioned to grow when the market rebounds.

Further, interest in our oil and gas transmissions is improving at other areas, mainly Asia, as producers are beginning to develop shale formations in their own country. And finally, while demand from oil and gas has an influence on the Company, our business today is far more diversified in terms of products and markets and geography than at any other time in our history. As the year progresses, we anticipate a slow recovery in oil and gas with more robust demand coming from our traditional sectors such as commercial marine, legacy military and our ARFF market. That concludes my prepared remarks and now John, Chris and I will be happy to take your questions. Ian, please open the line for questions, if you will.

Peter Resnick, RW Baird.

Good morning. I guess first question, if we could talk a little bit about the oil and gas market and your market assumptions there. It sounds like 1Q very difficult obviously, but maybe some visibility that things get better in the, call it, the back half of the year, maybe fourth quarter. Can you give us a sense of a couple things? One, just how you are thinking about the North American piece. Does that effectively get better here in the later part of the year? And then international as well? And then just kind of if you can maybe give us an order of magnitude of what we might be seeing near term and intermediate term, that would be very helpful as well.

Okay, Pete, it's John. North America has slowed down dramatically. Most of what we have seen year-to-date is driven by Asia and will probably be the same in Q2. I would say that we are hopeful and expect North American demand to pick up in the second half, but it is going to be probably a lot closer to the Q4 and maybe even the later stages of Q4.

There is quite a bit of inventory of rigs, finished rigs and then also of inventory at some of the OEMs to build the rigs, transmissions and engines. So I know your next follow-up question is how many months of inventory. I would say it is probably four to six months, but that is at current rates. But if you go back to the peak, there is a month and a half of inventory sitting out there. So if it ramps up quickly, the inventory will get used up pretty quickly, but I mean we could see a very slow second half of the year in North American oil and gas.

Having said that, going back to Asia, Asia was still and still is very good for us, but I see the Chinese market maybe developing a little bit slower than we had anticipated. They have trouble doing the horizontal drilling. Their soil has a lot more clay in it than in North America, so while that is going to be the main market for us in the next few quarters, it is not going to be the rocket that we had anticipated.

Okay. And then if maybe Chris will -- he won't answer this one. If we look at the backlog and 50% decline I guess year-over-year and down 16% or 17% sequentially, can you give us a flavor for how much of that deterioration was oil and gas and maybe color commentary on what the other markets were doing in terms of that backlog?

Yes, Pete, it is Chris. The majority of this, so more than half of it is going to be driven by -- the decline year-over-year is going to be driven by oil and gas in terms of a reduction in the backlog, more than half. The other piece of it is going to relate to -- we had talked about a past-due backlog last year at this time at our European operations, particularly for marine transmissions. That has worked its way through, so that is going to be another portion of the decline year-over-year.

And then as you know, versus sequentially, it is not untypical for the first quarter for the backlog to come down. But clearly, the biggest piece of it is going to be the oil and gas.

Okay, all right. And then as we see this volume decline, Chris, how should we think about the ME&A rate? The first quarter looked like it was a little bit higher at least than what we had modeled, but I am just wondering how that piece of the cost structure should delever as we see the volume come down?

Right. Pete, one part of it, if you remember last year in the first quarter, there was a significant adjustment to stock-based compensation because of the stock price movement in Q1 of '12. So actually essentially there was stock-based call it income, but there was a negative number in the first quarter of last year. This year, it was more normalized. So you did have a negative effect there that would have played out in the first quarter. Somewhat offsetting that, obviously given that this will be a down year, the incentive compensation was lower in the first quarter, significantly lower.

I guess the answer to your question is obviously there is a base level of ME&A that will be there as we continue to invest in research and development and growing some of our activities around the world, geographically in particular. So there will be a base level that, as volume goes down, obviously that percentage will go up, but it is something that we monitor closely and certainly, as the results would indicate that we would look at cost-cutting opportunities everywhere that we can.

Okay. Is the first quarter sort of a fair base run rate for that ME&A level on an absolute dollar basis?

It is not far off of what I would expect to be typical, but then with the caveat of movement in stock-based compensation, it's difficult to predict.

Okay. I understand that. All right. And then last question, John, balance sheet in good shape. Sounds like you are relatively comfortable that things maybe get a little bit better here in the later part of the year and into fiscal '14 I guess. What is the thought process behind potential buyback activity with the stock obviously coming off a bit here? And how do you think about capital allocation given that backdrop I should say?

Pete, it's Mike. I will jump in here, if I may. And with respect to buyback, you see that we increased our ability to buy back shares at the July board meeting up to 500,000. So we have that dry powder and quite frankly, we see the stock price where it is today as a buying opportunity. So we are bullish on the Company long term and we will be prepared without being specific to buy into the market at these levels.

Okay. And then I guess the natural follow-up, is there anything in the acquisition pipeline that would maybe preempt that from -- the buyback activity from happening?

Nothing that is immediate such as the buyback opportunity. Our acquisition work or conclusion of any acquisition would be a little bit further down the line.

Okay. All right, that is very helpful. Thank you all for your help.

Andrea Sharkey, Gabelli & Co.

Hi, good morning. I guess maybe talking about the margin a little bit, can you give me a sense of how much of the degradation, either sequentially or year-over-year, was due to the mix shift away from the oil and gas transmission because they have the higher margins?

The majority of it is going to be mix and volume related to oil and gas, Andrea. So the majority of it will be driven by that.

Andrea, it's John. Usually, in the first quarter, we have shut down all of our manufacturing facilities in which case the first quarter is typically the lowest gross margin quarter of the year. Last year was a complete anomaly because we had a record shipment of 8500 in that quarter that we could not get out in the fourth quarter and customers were still clamoring. So we did everything we could to pull them in from the second quarter. But typically having the operations on shutdown both here in North America and Europe drives the gross margin down for the quarter.

And actually I guess last quarter I know you guys actually talked about that, that the Q1 shutdowns would have an impact, but that overall you thought a good target for the year maybe kind of ex-Q1 was the 30% gross margin. Do you think that that is still feasible or has that changed a bit given the maybe greater decline in oil and gas transmission demand?

If the oil and gas does not improve, we are probably looking at high 20%s. But if the oil and gas comes back, obviously we would change our target.

Okay, sounds good. And then maybe just to give us some sense of you mentioned the other end market is going to be bigger drivers now this year. Can you refresh our memory on the military end market, what you're selling into there and is there anything that we should be concerned about with potential sequestration that may happen January 1?

Sure, kind of two areas. In the US, our primary military business is the legacy military, the transmissions that we sell to BAE and TACOM for the M88 and the Hercules [M98]. That is very steady business. We have not heard anything affecting that from sequestration, but I am going to have to look into how that would be. But we have orders out to 2016. I'm not saying that couldn't change in January given what happens in Congress.

The other part on a more global basis is the patrol boat and military, mostly marine-type activities and that business is going very well. The only caveat there is the timing from quarter-to-quarter because building boats can sometimes be unpredictable on when they finish and when they need our product. But both of those markets as of right now are going very well for us.

Okay, great. And then last question from me, on CapEx, do you think your budget -- I think last quarter you said $15 million to $20 million for this year. Q1 seemed very light. So I was just curious if that was a timing issue or if maybe you are retrenching a bit on your CapEx plans?

Actually the answer is both; I mean it was a timing issue. It is not atypical that the first quarter tends to be low from a CapEx standpoint for some of the reasons John talked about with plant shutdowns, but other logistics of getting it approved and getting it ordered and received. But also given the earlier comments, we are probably looking more in the $10 million to $15 million range as opposed to the $15 million to $20 million.

Okay, great. Thanks a lot. That was really helpful.

(Operator Instructions). Brian Uhlmer, Global Hunter.

Hey, good morning. How are you?

Hi, Brian.

I have a question for you. On the product development that you spoke about, you spent some money last year on that. I was curious if you had anything in the pipeline that was somewhat new, smaller, maybe working with gas turbines for pressure pumping or anything such as that that will help us out on the order front as we move through what is going to be a relatively tough year for North America on the oil and gas side.

Brian, it's John. We have looked at the gas turbines as far as how it relates to the frac market. I don't have any updates there other than it is an option that we have considered because we have heard from several different sources that this is a consideration. As far as other product development, we are investing all the time and looking at a lot of different products and technologies, but it is too soon to announce anything at this point.

Okay, now staying in that market, calendar Q2 basically dropped dead at the end of that calendar quarter. So our fiscal Q1 we just finished, would you see that as the trough in orders or do you think that there is still some excess inventory that was being bought or can we go down from here or was that pretty much the bottom in your view this quarter?

It's John again. If I had to guess, it would be -- potentially it is going to be the first quarter -- looking at our fiscal year, Q1, Q2 and Q3 is going to be the bottom. Hard to say. It will happen sometime in those months, but I expect that it will start to come up in the next quarter or two. The backlog -- here is the problem. The backlog, the components of the backlog are changing. With a lot of oil and gas transmissions out, which are 12-month leadtime type items, they obviously are very good for the backlog.

But once you get into our aftermarket and clutch business PTO, those are three-week leadtime items and so they are in and out of the backlog before they can be reported. So that is why there is a caveat. Certainly our aftermarket business, industrial business and marine business look very good going forward. It is just hard to predict when the backlog is going to bottom out and start to come back up.

Okay, that makes perfect sense. And one final question, were there any -- did you experience at any point in time any cancellations in the quarter?

Very small. But most of it was push-outs. Customers do not want to lose lines for the transmissions that they had on order when the market comes back. Everyone is very sensitive that when the rampup occurs again, they want to be able to deliver.

This is Chris. Those wouldn't be in the six-month backlog.

Yes, they would be beyond that.

Okay, perfect. Thanks for the help. I appreciate it.

Kevin Leary, Spitfire Capital.

Hi, good morning, guys. First question, on ME&A, just thinking about maybe scenarios for the rest of the year, under what scenario might you dial back your dollar spend on ME&A? Let's say that demand sort of stays down in the 15% range. Would you look at dialing back or would things have to get incrementally worse from here?

We are already looking at our ME&A spending, kind of operational spending, both cost of goods sold and ME&A. And obviously given what has happened in the first quarter and the outlook of North American oil and gas, we are being very prudent in how we spend.

I neglected to chime in -- some of the ME&A adds that we have had, obviously we are investing in people in Asia as our business is expanding there and we have a larger company-owned distribution territory now. We have some additional people in the Mid-Atlantic region, so that is kind of the year-over-year increase in people. Certainly if things were to change, we would be very aggressive as we have shown in the past, but at controlling and reducing costs. If it comes to that, that's certainly not out of the realm of possibility.

Thanks, that's helpful. And then just one cleanup, on the statement of cash flows, there is a $1.7 million of other cash outflow. What is that?

That is a good question and I believe it was the stock buyback.

Okay. Do you guys have a number in front of you in terms of buybacks in the quarter?

You know, Kevin, and I apologize; I don't.

Okay, we can follow up. Great, that is all I had.

We have no further questions at this time.

Okay, thank you, Ian. Thank you all again for joining the conference call today. We appreciate your continuing interest in Twin Disc and hope that we have answered all of your questions. If not, please feel free to call Chris, John or me. We look forward to speaking with you again in January following the close of our third quarter. Ian, I will turn it back to you now for the close.

Ladies and gentlemen, this does conclude the Twin Disc, Inc. first-quarter fiscal 2013 financial results conference call. Thank you for your participation. You may now disconnect.