Twin Disc Inc (TWIN) 2021 Q3 法說會逐字稿

Good day and welcome to the Twin Disc, Inc. Fiscal Third Quarter 2021 Earnings Conference Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Stan Berger. Please go ahead.

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. Thank you for joining us to discuss the company's fiscal 2021 third quarter and 9 months financial results and business outlook.

Before introducing management, I would like to remind everyone that certain statements made during 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. Information concerning factors that could cause actual results to differ materially from those in the forward-looking statements are 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 John Batten, Twin Disc's Chief Executive Officer; and Jeff Knutson, the company's Vice President of Finance, Chief Financial Officer, Treasurer and Secretary. At this time, I will turn the call over to John Batten. John?

Thank you, Stan, and good morning, everyone. Welcome to our Fiscal 2021 Third Quarter Conference Call. As usual, we will begin with a short summary statement, and then Jeff and I will be happy to take your questions.

Before Jeff goes over the quarter results, I'll touch on some of the operational highlights from the quarter. Our global team continued to do a great job keeping our employees and their families safe while continuing to operate the business. More so than in North America, we saw significant challenges both in Asia and Europe as COVID cases rose and in-office work became more restrictive. Our teams in those 2 regions did a fantastic job keeping the facilities running, employees safe and product moving to the customer.

As you can imagine, Twin Disc, along with everyone else, faced several COVID-related supply chain issues in the quarter, especially with respect to container ships inbound from India and container ships outbound to China. Unfortunately, we expect that this will continue to linger through mid-summer until things get back into full swing and ships are moving more freely.

As I mentioned at the last quarter conference call, our facility in Lufkin came online in late November and early December. It is now in full production of our mechanical clutches and PTOs and we continue to staff the location for the future. Sourcing and planning, employees, engineering and sales are all being added as we speak. In the fourth quarter, we'll be moving our remote actuated PTOs and then followed by our hydraulically actuated PTOs in our fiscal '22.

Orders in the third quarter started off strong and seemed to take a spring break vacation with the rest of the country in late March, but I'm happy to report that April orders are back in line with what we were seeing in January and February, continuing the quarter-over-quarter improvements that we have seen since last summer.

As I've been mentioning in previous calls, our R&D and project activity in hybrid and electrification continues to increase, and we've rolled out the Go Electric portion of our website that lays out our product development plan for our future products in our global and off highway markets.

We continue to work through the inventory at our distribution partners and new unit orders on the factories continues to improve. We saw this improvement first in Europe before we saw it in North America, but we're starting to see that trend in North America as well.

Happy to also report that we're starting to see rebuild activities for our North American frac rigs at our distribution, both in Canada and the U.S. Our new oil and gas unit shipments to Asia remained steady and should increase later in this fiscal year and into fiscal '22. And our projects in the global marine markets remain strong and we should start to see improving orders -- continued improving orders and shipments throughout the remainder of the year.

With that, I'll turn it over to Jeff for some comments before I come back on the outlook.

Thanks, John, and good morning, everyone. I'll again briefly run through the fiscal '21 third quarter numbers. Sales of $57.6 million for the quarter were down $11 million or 16% from the prior year third quarter. The quarter decline from the prior year was the result of the generally weak global economy due to the ongoing effects of the COVID-19 pandemic. Compared to the prior year third quarter, transmission sales were down 13.4%, industrial sales down 14.8%, marine and propulsion down 23.2%.

Looking by region, sales into North America were down 29% while sales into Europe were down 10% and sales in Asia Pacific were down 6%. Foreign currency exchange was a net positive $3.9 million impact to sales in the third quarter. And through the first 3 quarters, sales are now down $24.2 million or 20.4% compared to the prior year. Foreign currency translation contributing a positive impact of $7.5 million compared to the prior year first 3 quarters.

The third quarter margin percent was 24.2% compared to 24.1% in the prior year third quarter. The third quarter benefited from the employee retention credit, which contributed $1.2 million to the gross profit for the quarter. Adjusting for this benefit, gross profit would have been 22.1%, a sequential improvement and reflecting an overall continuation of a less profitable mix of revenues with declines in aftermarket volume and shipments into the North American oil and gas markets.

Gross profit for the first 9 months finished at 21.4% compared to 22.3% for the fiscal '20, 9 months. Spending on marketing, engineering and administrative costs for the fiscal '21 third quarter decreased $2.2 million or 14% compared to fiscal '20. The decrease is primarily the result of reduced payroll costs, amortization expense and marketing activities as well as a $600,000 favorable impact from the employee retention credit I just noted.

We continue to aggressively pursue cost reduction opportunities to compensate for the decline in revenues. As a percent of revenue for the third quarter, ME&A expenses were 22.9% compared to 22.4% in the prior year third quarter. And for the first 9 months, ME&A spending is down $9.1 million or nearly 19%, finishing at 25.6% of revenue compared to 25.7% for the same period last year.

Our restructuring charge of $251,000 was recorded in the third fiscal quarter primarily related to actions to adjust the cost structure at our domestic operation and ongoing cost reduction and productivity actions at our European operations. The prior year third quarter operating income was impacted by a $27.6 million impairment charge. Excluding this charge, operating income was essentially level with the prior year on reduced volume of nearly $11 million.

For the first 9 months, the operating loss of $7.2 million reflects a $3.9 million improvement over the fiscal '20 first 9 months, exclusive of the prior impairment charge. The effective tax rate for fiscal '21, 9 months was 28.9% compared to just 8.9% from the same period last fiscal year. The impairment loss recorded in fiscal '20 resulted in a decrease to the prior year rate of 13.8%. And during the current fiscal year, the company was able to take advantage of the newly enacted high tax exception regulations, resulting in an increase to the rate.

The net profit for the third quarter of fiscal '21 was $100,000 or $0.01 per diluted share compared to a net loss of $25.2 million or $1.92 per diluted share in the prior year third quarter. Through the first 9 months, we reported a net loss of $8.2 million or $0.62 per diluted share compared to $38.1 million or $2.89 per diluted share in the prior year comparable period.

EBITDA of $3.8 million for the quarter was improved from negative $24.9 million in the prior year third quarter. For the year so far, EBITDA of $1.3 million is over $30 million improved over the prior year.

Turning to the balance sheet. Inventory was down $5.5 million in the quarter and $3.9 million year-to-date, despite a $3.2 million currency translation driven increase. With a focus on liquidity and cash flow, we were able to generate $2.2 million of operating cash flow in the quarter and bringing free cash flow to positive $1.2 million for the first 9 months.

Capital spending at $1.1 million for the quarter and $3.9 million year-to-date has been focused on the new Lufkin facility and modern machine tools and testing equipment. And as we remain in a very challenging market environment, we continue to defer all nonessential capital spending and continue to expect to invest roughly $5 million to $7 million during the fiscal year.

And with that, I'll turn it back to John for some final comments.

Thanks, Jeff. Now I'll just spend a couple of moments on the outlook. As mentioned earlier in the call, April orders have rebounded from a little bit of a March low, which continues. Our thought that our markets are going to be improving throughout the calendar year. We've seen upticks in order in spare parts and new units, and we've seen some activity in North American oil and gas rebuilds. So optimistic that our markets continue to improve from their lows late last calendar year.

During the last 12 months, as everyone has, we've been analyzing how we do business. And as travel continues to open up, we'll begin to implement some of the changes that we have been planning with respect to facilities, further cost reduction activities and new sourcing initiatives. As you can imagine, much of this has been difficult to do via e-mail or video conference. One of the first things that you'll see is, as I've mentioned in calls, our corporate headquarters and the original plant here in Racine, about 186,000 square feet, represents about 30% of our square footage in the Racine area. Given work from home, modernizing the plant at 21st Street, taking old machine tools out, we have room to fit almost everyone from this facility into our larger plant across town. And in our aftermarket facility, we may need to lease some office space, but you'll see us winding out of this facility throughout the calendar year and expect to see some other changes in facilities in the coming future.

Finally, we continue to invest heavily in our electrification efforts, both in sys products -- systems and the data security, and we are very optimistic in our ability to bring competitive solutions into our global off highway markets. And as we come into further conference calls, hopefully we'll have some customer information and detail that we can share with you, but nothing that we can share at this point.

So with that, Christina, that completes our prepared remarks. We'll be happy to take questions at this time.

(Operator Instructions) We'll take our first question from Josh Chan with Baird.

Just on the oil and gas side, you mentioned some kind of improved rebuild activity. When do you think that you'd see kind of a more pronounced type of uptick, including new equipment? Is that still several quarters away or do you see that becoming a little bit more clear at this point?

I think we'll see the rebuild activity probably continue for the next quarter. I would anticipate units maybe late summer, early fall would be my guess at this point.

Okay. And then on the -- staying on oil and gas, if end customers, they have the desire eventually for sort of a hybrid or electric type tracking equipment, do you or will you have products that kind of is able to serve that particular desire?

Yes. And I would hope that maybe the next call or the one after that, I'll actually be talking about one.

I look forward to that. Last question that I have is -- what kind of incremental gross margins can we expect in '22, assuming that the market recovers? I guess I'm just wondering off of these more trough levels, how do you see gross margin improving over the next year or so as the end markets improve?

Shun, this is Jeff. So we're a heavily mix-impacted company based upon what's happening in North American oil and gas and aftermarket. I think we would look for incrementals to be in the mid-30s as the markets recover. It can be a little bit higher than that, if it's heavily weighted towards North American oil and gas, a little bit lower if it's some of our lower-margin products. But we've been very successful over the last 12 months in driving cost reductions into some of our key products. We're seeing that margin improvement start to hit the P&L now. So I think mid-30s on the incremental as we work through into fiscal '22.

(Operator Instructions) We'll go to our next question from Noah Kaye with Oppenheimer.

I think in the prepared remarks, you talked a bit about some of the supply chain issues and honestly, I mean, any industrial company is going through that this quarter. So I don't think it's a huge surprise and it will continue, as you said, in future quarters. Can you first just sort of dimension for us, if you can, the margin headwind impact of some of those supply chain issues? And did they actually manifest more in things like premium freights, materials, cost inflation? What was the margin drag in the quarter?

No, that is a good question. I'm trying to quantify it quickly in my head. I think our team did a very good job mitigating. I know we had some airfreight coming on parts from India. I would say, to be honest, Noah, the impact probably wasn't that great in the quarter. I think it's things that are of -- that bills that we'll be paying this month and next month. So I would try to get an answer. I don't want to throw something out there that's going to be wrong. But it hasn't been -- I wouldn't say you'd see it in the P&L yet.

It's something that we're mitigating, and we've announced price increases, effective July 1, in that 4% to 5% range based on what we've seen in steel surcharges, steel pricing and increased freight. So we've kind of anticipated that it's going to be -- that the impact going forward is in that 3% range and that's so 3% to 4%. And so depending upon the product, we're in that 4-plus percent pricing range. I hope that helps.

Yes. So it sounds like you do expect to break down (inaudible) around price cost in this quarter and beyond that's there? Or do you think that you can see a little bit of [compression] this quarter and think about some of the price increases have take effect and (inaudible)?

Yes, sorry, Noah, you're going a bit digital there. But just with -- was I hearing that you think it's going to be impacted in this quarter, but we're mitigating it in quarters going forward?

Right. So you'll be positive price cost for the September quarter, but you may have a drag in this next quarter. Is that a fair characterization?

That is exactly -- yes. Yes. Exactly. Yes.

All right. Sorry for the digital entertainment. And then just to make sure, in terms of any supply chain bodies, were you able to produce to end market demand this quarter? And do you anticipate any issues with that on any kind of your key skews? Or do you see it pretty good in terms of [actual volume] (inaudible)?

So the products that were affected most were the industrial products that we produce in Lufkin because a lot of their parts come from India. The team in Texas in here in Racine has scrambled and worked very hard with the shipping companies to get stuff. We were caught behind the -- was it Evergreen or the Suez ship but that -- they've got that in. They airfreighted some parts in. So we look good right now through most of the fourth quarter. We have container ships that are due in -- that are scheduled to be due in late May. If anything, we may lose a little bit of industrial, so that the revenue dollars won't be big. But whatever we miss in the fourth quarter, we certainly made up in the first quarter.

The other parts that we have coming in from India, as Jeff was alluding to, some of our cost reduction initiatives. So there, we're actually just bringing a lot of those parts in the trials. We already have parts here in North America. So I think the impact -- there may be an impact in the fourth quarter. At this point, I don't think it will be significant at all.

Yes. That's helpful. So well done on generating the positive free cash flow. For the fourth quarter here, any working capital headwinds to be aware of? Or do you feel pretty comfortable that you'll be positive for the year at this point?

Yes. I'm not aware of any headwinds, Noah. I think we'll continue the sort of the discipline that we've had through the year. I hope to, again, be marginally positive free cash flow in the fourth quarter operationally. And yes, hope to continue that trend and then come out as volume comes back to maintain that discipline in the working capital area and continue to focus on that as we grow.

Great. And if I could just sneak one last one in. You talk about kind of kicking an industry when it's down. But I mean the California fracking ban that's being proposed to start in 2024, something that some investors have noticed. I guess just maybe helpful for investors to better understand how your regional exposure with your North American oil and gas business, whether that announcement was something that concerns you? And if not, why?

Noah, it's John. Not really. There wasn't a whole lot of activity going on there. So our exposure, it's -- as the industry exposure really, we're in the Marcellus, we're in and around Texas and all the southern and Canada and the Dakotas. So New York and California don't really play into the dollars or the number of units at all. So I guess the short answer is no, it doesn't really concern us.

Yes, (inaudible) making any difference. So it's -- yes.

Yes.

I'm sorry, I didn't mean to cut you off. You were finishing with that.

No, I'd just say that as I may -- we are a strong believer in natural gas for the future. As our markets continue the hybridization and electrification, we need -- this country needs to generate electricity. And we need to upgrade the grid, generate electricity. And it's great to see solar and wind and more of a percentage. But we definitely feel that natural gas is that replacement energy source as compared to coal. So again that speaks -- that plays right into our 7,600 and 8,500 for the foreseeable future.

(Operator Instructions) As it appears there are no questions at this time, I'll turn the call back to Mr. Berger for any additional or closing remarks.

Thank you, Christina, and thank you for joining our conference call today. We appreciate your continuing interest in Twin Disc and hope that we've answered all of your questions. If not, please feel free to contact Jeff or myself, and we look forward to speaking with you again at the close of our fiscal 2021 quarter in August.

Christina, I'll turn the call back to you.

This concludes today's call.