Valmont Industries Inc (VMI) 2004 Q2 法說會逐字稿

At this time I would like to welcome everyone to the Valmont Industries second-quarter conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer period. (OPERATOR INSTRUCTIONS) Mr. Laudin, you may begin your conference.

Welcome to the Valmont Industries second-quarter conference call. With me today are Mogens Bay, Chairman and Chief Executive Officer; and Terry McClain, Senior Vice President, Chief Financial Officer; Bob Meaney, Senior Vice President; and Mark Jaksich, Vice President and Corporate Controller.

Before we begin please note: this discussion is subject to our disclosure on forward-looking statements which applies to today's call and will be read in full at the end of this call. The instructions for accessing a replay of the call can be found in our press release. I would now like to turn the call over to our Chairman, Mogens Bay.

Good morning, everyone, and thank you for joining us. I trust that you have had an opportunity to read our earnings announcement. Before I get to the highlights let me begin by saying that we are pleased with the progress in our operating performance during this quarter. Market conditions appear to be improving for many of our businesses and we are making progress on our cost reduction efforts. A major issue we faced in the second-quarter again was rising steel prices. Price increases continued to be substantial and came at a rapid pace. In some cases steel suppliers repriced existing orders or imposed surcharges that changed almost weekly.

Most of our businesses were able to adjust pricing to cover the majority of their higher steel costs and I'm impressed at how well they reacted. In many cases, though, steel costs increased faster than we could raise selling prices, particularly in our structures business where there are long leadtime items in backlog which we could not reprice to keep up with the rapid increases in steel cost. This did put some pressure on our margins.

Now on to the highlights. First, net sales rose 33 percent due to higher volumes, increased product pricing to recover higher steel costs, and the acquisition of Newmark. Second, operating income was up 38 percent due to improved profitability in each of our segments and the inclusion of Newmark. Third, China sales were up 77 percent with strong profitability. Fourth, those businesses that have suffered from poor market conditions in recent quarters and years, namely our coatings, utility and wireless businesses, all showed signs of improvement. Fifth, during the quarter we successfully issued $150 million in senior subordinated notes and repaid our promissory notes. This repayment resulted in an after-tax charge to earnings of $6.1 million or 25 cents per share. Lastly, our businesses did a solid job of managing steel price increases although, as I mentioned, margins are still under pressure.

Now let me review our performance by segment starting with the irrigation segment. Sales rose 23 percent and operating income was up 24 percent. North American sales rose largely due to a better farm economy leading to a strong spring selling season. Over the past year both farm commodity prices and farm income improved. Because of the steel situation some farmers may have made commitments earlier in the season to avoid price increases. Our retail operations also had good results reflecting the improved farm economy. These factors led to record sales in North America.

In the international market sales were flat with last year; they were higher in Spain; they were higher in the Middle East; and they were higher in Austral-Asia. In Brazil sales were good although below last year's record levels. Funding from Brazilian government financing programs were released at a slower rate and price competition increased pressuring margins. Sales declined in South Africa mostly due to lower (indiscernible) crop prices. Overall profitability was somewhat weak on our international irrigation business due to pricing pressures and the regional sales mix. For the irrigation segment as a whole profitability improved mainly due to higher North American sales and better factory productivity.

Next month Valmont will celebrate the 50th anniversary of our founding of the center pivot industry. The Company takes great pride in being responsible for pioneering an industry that has literally changed the face of the earth. Our equipment has helped farmers all around the world grow more food and fiber while conserving water. Going forward a growing world population will require more food and better diets. Agriculture will increasingly be under pressure to use less water. To achieve those goals farmers will need to become more efficient. There's no better way to conserve water for large-scale agriculture than our type of mechanized irrigation. We believe that we have a bright outlook also for the next 50 years in this industry.

In the tubing segment sales of 24.1 million were 72 percent higher than 2003. The strong sales increase was due to pass-through of higher steel costs and volume growth. Valmont had product available in a tight market while industrial and agricultural demand was strong. Operating income rose 113 percent to 3.4 million as the higher volumes resulted in good factory utilization. Profitability was further helped by recent improvements made at our Waverly, Nebraska facility to increase efficiency and reduce scrap. Our tubing group did an excellent job responding to steel price increases.

In the engineered support structures segment sales increased 29 percent and operating income of 6 million was up 27 percent. As previously discussed, profitability for the segment was impacted by a rapidly rising steel cost, so we did not gain leverage.

In our North American lighting and traffic business sales were higher as customers took product ahead of anticipated price increases. Commercial demand was steady as the economy showed signs of improvement. One concern was the sector of the market funded by the Federal Highway Bill which began to show signs of uncertainty even though the highway bill was extended and funding continued. Until this issue is resolved, state and government -- and local governments may hesitate to make long-term commitments.

Late in the quarter we acquired a small composite of fiberglass pole manufacturer to further broaden our product offering. We believe there's a good demand for composite poles in certain environment and decorative applications. The current status of the highway legislation is that a 1998 bill was extended until the end of July this year and it's expected to be extended again until the end of September. New legislation is being discussed in the congressional conference committee in order to work out the differences between the House and Senate version of the bill.

In the meantime the House Appropriations Committee has approved a bill providing funding of a little more than 34 billion for highways in fiscal year '05. This is $1 billion greater than the level of funding in '04. We are encouraged by the appropriation bill because it shows that Congress is committed to maintaining funding for highway programs.

In Europe sales of light poles were higher due to an improved economy. Cost reduction programs in Europe resulted in some severance charges and, as a result of that, lower profitability for the quarter. In China lighting sales rose an the strong Chinese economy and infrastructure development programs are supportive of our lighting business there.

Sales also improved in our specialty structures and wireless communication businesses. In North American the wireless carriers increased their capital budget for the first half of the year and we have a strong competitive position in this marketplace. A new product in our specialty structures business is overhead sign structures made out of both aluminum and steel. This product launch has been very successful and this year they're being marketed in more states. The increased activity is leading to growth in orders and higher backlogs.

In China our wireless communication business continued very strong. The two major carriers there continue to expand their networks at a very brisk pace. Our Shanghai facility has responded to the increased levels of demand and is performing very well.

The market in the U.S. for our steel utility structures did improve over last year's very poor situation. Demand was stronger and the competitive pricing environment has improved. In China our utility business was significantly higher. The rapid industrialization of China's economy demands more energy. Our facility in Shanghai is well-positioned to help satisfy this growing need for support structures and substation. Profitability in our steel utility business improved due to the better market conditions in North America and the strong results in China.

In China we had a very good performance so far this year. The economy has been red hot and a lot of spending is taking place on infrastructure. Recently the Chinese government has signaled a desire to prevent overheating of their economy and we do not expect similar growth rates in China in the second half of the year.

The results of Newmark, acquired on April 16, I reported as the concrete structures segment. Newmark had a good second quarter. Sales were higher than last year as demand remains strong for concrete utility structures in the Southeast and Southwest. The integration of Newmark is progressing well. We are combining our steel and concrete utility organizations which should lead to better customer service and better market coverage.

The Newmark acquisition is a great fit for Valmont. We believe there are opportunities also to combine steel and concrete into hybrid structures that address many needs of our utility and lighting customers. The Newmark culture, philosophy and organization dovetail well with Valmont.

Included in the second-quarter concrete support structures results is approximately $800,000 of expenses related to purchase accounting. In the coating segment second-quarter sales were even with last year while operating income increased 75 percent to 2.6 million. Galvanizing sales were higher due to increased internal demand and an improvement in the industrial economy. Anodizing sales declined due to lower demand from one large customer. We have said that when the industrial economy started to improve our volume should pick up and we should see good upside leverage. That is exactly what happened in the second quarter as the leverage in our galvanizing facilities more than offset a decline in anodizing volumes.

One item that impacted results this quarter was higher corporate expenses due to increases in incentive accruals, expenses in connection with Sarbanes-Oxley compliance and additional resources in the area of procurement.

That summarizes the quarter in terms of sales and earnings. Turning to the balance sheet, I'd like to comment on a few of the numbers. The increase in accounts receivables is primarily a result of higher volumes and the Newmark acquisition. Inventories are up with higher steel costs, increased amounts of steel on hand and Newmark's inventory. In terms of cash flow, the depreciation and amortization for the quarter was 10.2 million and our capital expenditures for the quarter were 2.8 million.

Looking to the rest of the year we expect favorable comparisons in both sales and earnings. We expect steel prices to stay high for the rest of the year. Scrap prices are on the increase. Some of the mills will be down for maintenance in the fall. And we expect China to be active in the market with high demand for steel. We do not see anything on the horizon that would indicate a near-term change in those factors.

While the tight steel market continues to be an issue for us, we are adjusting our prices to pass through higher steel costs as much as possible. In the current steel price environment we do not have in place some of the long-term pricing we used to have. As a consequence we have increased our inventory levels to secure availability and better protect our backlog. We have good relationships with our global steel suppliers and we are getting the supply we need which is not the case for some competitors and customers.

In the irrigation business the third quarter is the slowest season; a new selling season will begin in the fall and we'll have to see how the farm economy looks then. On balance with the current farm economy we would expect to see some similar to late in '03. In our engineered support structure businesses we look for better results in all productline. While we face uncertainties with the highway bill, we are confident that funding will be in place for the near-term.

Our steel utility business is performing better than last year and we anticipate good performance in our concrete support structure segment. We have good backlogs and order rates are strong in both steel and concrete utility businesses. Our tubing business should also continue to perform well supported by continued strength in the agricultural equipment and industrial markets. That concludes the prepared portions of our remarks and I would now like to take questions.

(OPERATOR INSTRUCTIONS) Joe Giamichael, CJS Securities.

Congratulations on some strong operating numbers. I have a couple quick questions for you. Regarding the engineered support structure segment, can you break out either in terms of dollar value or as a percent of sales what your sales to China have been?

We expect that our China sales for the year will be somewhere in the $45 million range covering the productlines we participate in in China. And in China the largest product group will be wireless communication followed by utility and somewhat smaller than the lighting business would be the third category. But in total I think we're going to be at about $45 million.

Thank you. Also I see you've taken some severance charges again in the quarter from the reductions in the European operations. Do you foresee these charges continuing throughout the course of the year?

I think the majority of the charges in Europe are now behind us.

Okay, great. Just one last question for you. On the last call you discussed your desire to find some additional acquisitions along the same lines as the Newmark acquisition. Are you seeing any potential targets out there now?

None that I can say that we are close on. I did mention that we acquired just towards the end of the quarter a small pole company in the composite of fiberglass pole business. And that's a company that's based in the Denver area with revenues of about -- annual revenues of about a little more than $10 million. But we continue to look for what we call click acquisitions, but there's nothing that I can talk about right now.

Thank you very much. I'll jump back in the queue.

Tom Klamka, Credit Suisse First Boston.

When you take Newmark out it looks like your sales are up I guess around 24 percent. How much of that -- can you talk about steel versus volumes, how much of that do you think is due to steel, ballpark, and how much of that is just due to better volumes across the board?

It's tough to -- well, it's probably not impossible. I don't have the exact number. My guess would be about 50-50 between steel cost increase and volume increase.

Okay. And that would be about the same across the different sectors, so when you take out steel you still had pretty good volume increases?

Yes, we did. And it's different depending on which business. Tubing has the highest steel content as a percentage of cost and the irrigation probably has the lowest. So you won't have the exact same percentages by business unit. But we saw volume increase in all business units.

And when you look at the Company all in, about how much of say cost of sales is represented by steel currently?

Again it depends on the business unit, but --.

And basically it's about 40 percent -- oh, of sales, I'm sorry. It's about 30 percent of sales. I was thinking of cost of sales.

So about 30 percent of sales.

Would be steel across --.

On average across the productline.

On average, okay. And can you talk about on Newmark how they did on a year-over-year basis?

They had improved performance; they had a good second quarter, improved over last year; and their outlook for the second half is he strong.

Okay. And the last question, working capital changes in the quarter, if you strip out the Newmark impacts or what was your -- did you have a use in the quarter then of working capital?

We had increases in inventory obviously -- most of the working capital increases were in line with sales increases, inventory a little higher than sales increases on an apples-and-apples basis primarily because of the condition of the steel industry.

Do you have a dollar amount for working capital use in the quarter excluding Newmark? Can we get that at some point?

(multiple speakers) We don't have it. We can get it for you.

Okay, great. Thank you.

John Braatz, Kansas City Capital.

Going back to the working capital issue, Terry, would you expect to be some -- as go forward into this year -- improvements in that and we recoup some of that investment or reduce that investment in working capital?

It depends on the sales volumes, John, for the most part. But as a percentage probably yes.

I think it was up about 50 million, wasn't it, in the quarter?

Yes.

Okay.

But in general I would say as working capital to sales ratio probably it improved somewhat.

John, over time we probably shouldn't see much different from what we have seen in the past. What we have done in the current steel environment is to make sure that we try and cover the backlogs better with inventory as opposed to in the past when we would cover it with firm prices from steel suppliers. But our recent experience, particularly late last year, has not been very encouraging so we are taking a different route short-term.

Okay, okay. Secondly, with China growing as rapidly as it has been, albeit it may slow down in the second half, do you need additional capacity -- will you require additional expenditures there to enhance the production capacity to China?

Well, the answer is, yes. Our Shanghai plant is basically operating at capacity. We have a second facility that was made available to us by our galvanizer in Shanghai so therefore did not require much capital investment; that did give us some relief from capacity. But there's no doubt that we are in the process of looking at where should our next plant be. Most likely it will be in the southern part of China in the Guangzhou (ph) area, and that will require some capital, but it will not require capital beyond the $5 to $10 million range.

Will that be something that you would -- that you'd start a greenfield or will you acquire something?

It would probably be a greenfield. We already have a quite substantial business in the southern part of China. So we would probably be taking that business and instead of shipping it from Shanghai, that would be the foundation for volume in the new plant and it would open up capacity in Shanghai to increase our participation in the northern part of China.

One last question. The terms of the refinancing of the debt; I guess I've forgotten. What were the terms?

Well, basically it's a 10 year deal on the senior subordinated bonds, 6 7/8 percent. And then the refinancing of the revolver and the term note we had basically a 5 year revolver and a 5 year term note. The revolver is a 150 million and the term loan is 75 million.

Okay. Thank you.

James Gentile, Sidoti & Co.

I have a question. A couple of times you mentioned in the press release that there were on a lot of customers taking product ahead of anticipated price increases. Given obviously the volatility of the steel price it's kind of hard to earmark, but what it comes down to is that -- how much of the incremental organic sales gains do you allocate to prebuy and that likely may not persist for the balance of this year and maybe could provide a difficult comparison for the 2005 first half?

Clearly, it is probably impossible to give you a correct answer to that. My estimate would be that prepayments is a very small part of what we saw in volume increases and I think it's also reflected in the fact that we expect increased revenues and earnings in the second half of the year. When you talk about a comparison for the first half of next year, I think since we had a very weak first quarter that any prepurchase this year's first half will probably, when you look at a comparison for next year, be more than offset, I hope, with better performance particularly in the utility business in the first quarter of next year. Plus we will have Newmark for the first quarter of next year and we didn't have Newmark this year.

Great. And then as you guys have successfully restructured your operating expenses in order for us to get this fantastic second quarter operating numbers, do you have any sort of long-term segment operating margin targets that you can share with us? Are you expecting incremental improvement of 50 basis points a year say in engineered support structures for example? And could you give us any sort of trend there in terms of what you expect moving forward?

Let me answer it this way -- it's difficult to throw out a number per business unit although clearly we do look at those internally. Since we are in cyclical businesses, often the cycles will overcome some of our ambitions and sometimes the up cycles will make it easier. But as a company, we're not happy with operating incomes at the level where they are now. Over time our target and our drive is to get corporate operating income up to double-digit.

So a 10 percent figure over a 3 to 5 year period?

And again, it depends on the cycles. But clearly we feel that the businesses we are in, although we are pleased with the improvement we are seeing in operating income percent of performance, we think there's more there.

Maybe you can potentially make this public. Is there any way that you can look at a peak cycle operating profit? So say engineered support structures experiences an up cycle or on the irrigation segment, where could they expand to?

We've looked at that. But we basically -- it just depends on where the cycles are hitting. If they were all hitting we'd be well into the double-digits. But that is why we try to look at the mix of business, and improve each separate business -- they all have issues that they can deal with today in terms of operating income percentage improvements and they're working on it.

And maybe to expand on that, what we're saying is that each of our segments in a good economic environment can easily be solidly double digit. So it all depends on where are they in their cycles. But we also feel that unless we have an unusual set of down cycles at the same time, that the Corporation and should be double digit.

Fantastic, thank you.

John Braatz, Kansas City Capital.

Just a follow-up on those margins. Mogens, if you would look at this year in its entirety so far, what do you think the higher steel costs have cost you this year in terms of margins? In a perfect world what do you think you could have been at?

Well, in the first quarter we probably had more effective steel price than we had this quarter. This quarter in total you saw our gross profit margins weaken about 1 point, and I would say all of that and maybe a little more is steel. And some leverage in coatings and some uptick in some of the other businesses offset some of the penalty of steel. So I don't think we're out of the woods. I think that when steel prices eventually settle down we will be -- but having said that, I think by and large our businesses have done a very good job.

Some businesses that have longer leadtime items, particularly in the Department of Transportation side of the business, have not been able to renegotiate contracts and we'll be needing some of that. But the tubing business did a great job. In the irrigation business, they really got on it very early and it took a lot of discipline and it took a lot -- accepting a lot of pressure from the dealer organization early on when we may have been the only ones really pushing it. And I thought I got a lot of calls from dealers that were concerned about what was happening to pricing. But we had no option but to do that if we wanted to hang on to profitability.

Would your intent be that once steel prices level off that you might -- or even decline -- that you may be you slow in just ratcheting your prices down so you can recoup some of those losses so to speak?

That would be nice, but our customer base is pretty knowledgeable as to what happens to steel prices and the more steel goes into a product the more knowledgeable they are. So I wouldn't predict that we'd be able to do that, but it's certainly something we'd attempt to.

All right.

At this time there are no further questions.

While we wait for maybe another question I could address one that we have gotten by phone. We had an issue with some (indiscernible) poles around Denver Airport and maybe I should talk a little bit about that. We had some poles that were taken down for inspection around the Denver International Airport. These poles were manufactured in the mid to late '90s and they conform to both customers' and Federal specifications that were in place at that time. But some of those poles have shown signs of unusual wear due to abnormal wind conditions. And we are working with the customer, Denver Airport, on the project and have designed a solution for them that conforms to a newer and more rigorous design standard that attempt to address these wind conditions.

And the first order for replacement sections have already been received and we understand and one or possibly more additional orders will be required. And the reason I bring it up is that it did it the Denver newspapers or somebody from that area had read about it. I just want them to make sure that they understand what the conditions are. Are there any more questions?

No, sir, at this time there are not.

Thank you.

This concludes our call and we think you for joining us today. This call will be available for playback on the Internet or by phone for the next week. We look forward to speaking to you again next quarter.

Included in this discussion are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on assumptions that management has made in light of experience in the industries in which Valmont operates as well as management's perceptions of historical trends, current conditions, expected future developments and other factors believed to be appropriate under the circumstances.

As you listen to and consider these comments you should understand that these statements are not guarantees of performance or results. They involve risks and uncertainties, some of which are beyond Valmont's control and assumptions. Although management believes that these forward-looking statements are based on reasonable assumptions, you should be aware that many factors could affect Valmont's actual financial results and cause them to differ materially from those anticipated in the forward-looking statements.

These factors include among other things risk factors described from time to time in Valmont's reports to the Securities and Exchange Commission as well as future economic and market circumstances, industry conditions, company performance and financial results, operating efficiencies, availability and price of raw materials, availability and market acceptance of new products, product pricing, domestic and international competitive environments and the actions and policy statements of domestic and foreign governments. The Company cautions that any forward-looking statements included in this discussion are made as of the date of this discussion. The Company does not undertake to update any forward-looking statements.