Valmont Industries Inc (VMI) 2005 Q2 法說會逐字稿

Good morning. My name is Wes and I will be your conference facilitator. At this time, I would like to welcome everyone to the Valmont Industries' second-quarter earnings 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) I would now like to turn the conference over to Mr. Jeff Laudin, Manager of Investor Relations. Please go ahead, sir.

Thank you, Wes. Welcome to the Valmont Industries' second-quarter 2005 earnings conference call. With me today are Mogens Bay, Chairman and Chief Executive Officer; Terry McClain, Senior Vice President and Chief Financial Officer; Bob Meaney, Senior Vice President International 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 presume that you've had an opportunity to read our earnings announcement. Now onto the second-quarter highlights. First, operating income increased 12%. Second, cash flows from operations were 21 million for the quarter and 54 million year-to-date. Third, sales and profitabilty were significantly lower as low crop prices and high input costs reduced global demand. Fourth, sales increases in the Utilitiy Support and Engineered Support Structure Segments were the result of higher prices and improvement in the European structures (ph) operations and the impact of 2004 acquisitions. Finally, net earnings of 10.4 million were a second-quarter record.

Before turning to the performance by segment, I'd like to make a few comments. So far this year we have experienced a steep cyclical decline in the irrigation business. We have taken appropriate actions to reduce costs. Low commodity prices and rising fuel costs are the primary drivers of the current cycle. The new irrigation selling season for our largest market begins in the fall. At that time, the strength of the market will depend upon global crop yields and the outlook for energy prices.

As a company, we are again benefitting from our geographic diversification and market and productline diversification which enabled us to increase profitability despite the irrigation down cycle.

We have been actively reducing safety stock of inventory build up last year. Steel availabilty in common grades has not been problematic this year. But a decline in some productline volumes slowed the speed with which we are reducing inventory in some of our units. Since peaking in the third quarter of 2004, inventories have declined by approximately $25 million.

Now onto the segment review, beginning with the Engineered Support Structure Segment. Sales increased 12% to 120 million and operating income increased 68% to 10.7 million. Global sales of Engineered Support Structures were higher due to a combination of better pricing, improved market conditions in Europe, and the impact of 2004 acquisitions. In North America, lighting and traffic volumes softened due to the delay in the passage of a new highway bill. We believe that some state and local governments were reluctant to commit to long-term projects until a new bill is in place. We continue to believe that a new bill will be forthcoming.

Yesterday, indications were that lawmakers are on the verge of final agreement on a new transportation bill. The administration has reportedly agreed to the preliminary funding levels called for in the compromised version of the bill.

In our Specialty Structures business, sign structure sales continue to increase as we continue our market penetration and also as a result of the acquisition of Sigma. We are pleased with the continued growth of this business. Sales of wireless communication products were low in North America as we backed away from participating at some of the pricing levels we saw in the marketplace.

Our China Structures business remains at good levels. Utility sales were higher reflecting the increase demand for energy to sustain economic growth while wireless communication sales were below last year's exceptionally strong case. We believe that a considerable amount of work remains to be done on China's network buildout. Our Shanghai plant is near capacity and we have started construction on a second pole plant in southern China. Production is expected to commence at the new plant in the first quarter of 2006.

In the Utility Support Structure Segment sales increased 12% to 43 million. The increased resulted from better pricing for steel poles and the acquisition of Newmark. Operating income of 3.6 million mainly reflected improved margins in the steel utility business. Utilities continue to operate both through liability and capacity on the transmission grid. Going forward, we expect to see stronger spending on electrical distribution and transmission structures.

In the Coatings Segment, second-quarter sales of 21.2 million were 10% lower than last year. Operating income was 19% lower at $2.1 million. The sales decline was primarily in our anodizing business. Galvanizing sales were flat. Operating income was hurt by higher natural gas an zinc costs.

In the Irrigation Segment, sales were 25% lower at 65.4 million due to reduced global demand. Operating income of $7.5 million for the segment was 37% lower reflecting deleverage as volumes declined. An increase in crop supplies has lowered crop prices worldwide. Increased energy costs impact farmers who use large amounts of energy to operate. Additionally, fertilizer costs with a byproduct of energy production have also risen.

Despite the current downturn, we remain very positive on the irrigation business. We believe that growing more food to feed an expanding world population requires ever more efficient use of limited water resources. We have been in the irrigation business since we pioneered this (indiscernible) industry more than 50 years ago. This business has always been cyclical. Now-a-days it seems that it is a business that is a good business in the down cycle and a great business in the up cycle.

In the Tubing Segment, sales of 22.7 million were 6% lower than 2004. Operating income rose to 3.9 million, a 14% increase from last year reflecting an improved product mix and lower SG&A costs. We continue to find niche markets that allow us to leverage our engineering, manufacturing and customer service skills in this business.

Turning to the balance sheet, the increase in other long-term liabilities is tied to deferred liabilities related to the acquisition of Newmark. In terms of cash flow, the depreciation and amortization for the quarter was 10.3 million and our capital expenditures for the quarter were 21.7 million. The capital expenditures for the quarter include the replacement of our existing (ph) corporate aircraft with one better suited for our international demands.

Capital expenditures for the year are expected to total between 35 and 40 million, slightly less than depreciation and amortization. As we look towards the rest of 2005, we expect a favorable sales and earnings comparison also for the second half of the year. We cannot at this time predict the strength in the irrigation market as a new selling season begins in North America but we expect continued strength in our structural businesses. We also continue to expect to generate strong cash flows and we plan to use our cash flow to reduce debt to our targeted debt to capital ratio of 40% or less over the next 6 to 12 months.

This concludes the prepared portion of our remarks and I would now like to take your questions.

+++ q-and-a.

(OPERATOR INSTRUCTIONS). Arnie Ursaner of CJS Securities.

A couple of questions if I can. One is going to the SG&A line, you had a pretty dramatic decline relative to my expectations. Were there any unusual items in there that may not continue for the balance of the year?

No.

No bonus accrual, reversals or anything else?

Just what is in the normal course of business but since -- in total, earnings running ahead of last year. I would say that would be a minor adjustment.

Okay. Again, focusing on that line for just a minute. Given that nearly 15% increase in the price of steel, can you give us a sense or guidance on what you think SG&A as a percent of sales should be going forward?

It really depends -- you're tying it correctly to what's happening with steel and that is one of the reasons we have seen some leverage in the SG&A. In total, our SG&A costs were slightly less in dollars than last year at the same quarter. So if steel stays where it is now, I think that's about the level we will be at. As we continue to grow the businesses, I hope we will see some leverage but I can't put a number around it.

You mentioned the $25 million decline in the value of your inventory since the peak. Can you give us a quantification on the unit volume decline since the peak, number of tons and how that has declined?

Arnie, I don't -- this is Terry. I don't have the tons but the tons have declined and the peak was in the third quarter of last year, the peak inventory levels in general.

What do you hope to bring -- again, how much further can you go down on tonnage?

On tonnage, I'd have to get back to you on that. I was thinking in terms of dollars right now. In terms of dollars, we could probably go down another 15 to $20 million easily. We are in fact with specialty steel, particularly plate steel, large plate steel, that market hasn't really become as favorable as some of the common steel. And we are keeping a higher inventory of that particular material. The number of suppliers have reduced so I don't think we will get it down to the same levels we would have two years ago on a relative basis.

Are you running any losses through the P&L from the price of steel?

No.

MacGregor Hide (ph) of Wachovia Securities.

A quick question for you. You all mentioned cost-cutting measures as you were taking an irrigation segment in Q2 and maybe prospectively. Could you just talk a little bit about the nature of those? What they are and what the magnitudes are and just give us a little color on that area?

Basically, there are some programs in general that would probably be relating to marketing type programs as well as some reduction in the workforce, both administratively and in the hourly workforce.

So on a magnitude basis, would you guys target for the year or maybe the balance of the year, would that save you a couple of million bucks or is that --?

That's about right.

On an annual basis.

On an annual basis.

Also, and this sort of gets back to the prior gentleman's question that had to do with -- I was thinking about the impact of rising steel costs and I think you guys have caught up to some degree over the last year I think as it relates to Engineered Support Structures Segment. You all reflect a sales increase of around 12% for the quarter on a year-over-year basis. I was sort of trying to think that through as it relates to the number of units. How has unit shipments based on a year-over-year basis?

Units in ESS, DSS (ph) unit are down somewhat.

Are they down mid single digits or -- I'm trying to get a sense for how much they might be down?

It's difficult in that business because of the nature of the product mix that goes through the different size of the structures. But in tonnage it is down.

And -- this is Mogens. I think there's no doubt that we have seen softening there as as result of the lack of a highway bill. We are now two years into a period since the last highway bill expired. The best news we've had was actually what came out yesterday that in conference between the Senate and Congress, they seem to be very close to an agreement and more importantly, it looks like the administration has agreed that they would accept the 285 point sum billion total price tag as opposed to the to 284 billion that they had been kind of set on for the last couple of years. So we are hopeful that we may actually get that accomplished or they may actually get that accomplished maybe yet this month.

As that bill has sort of made its way through the legislative process and sort of there's a lot of headlines about that kind of stuff. Have you seen -- in anticipation of that, have you seen RFPs for new products, new sales sort of step up here in the last, call it, 90 days.

No, I wouldn't say that. There has been a lot of frustration and uncertainty surrounding the highway bill and getting one in place doesn't mean that we will see an immediate effect. What it does mean is over the next five or six years, there is a good platform under this kind of spending which would create the environment to get a number of projects that have probably been on the sidelines for awhile now active again.

Just a last couple of refresher items for me and that is if you're going to split your -- let me just put it this way. As a percentage the Engineered Support Segment, how much of that is sales are related to China?

Well, in China, our total sales right now are running about 45, 50 million. That is about the capacity of our Shanghai plant and we're building a plant in the south of China between Macau and Guangzhou, that will probably have about the same capacity.

Is the vast majority of that with Engineered Support?

It is all 100% is -- the 100% is lighting, traffic and utility. Our Utility Segment only covers North American utility sales. Internationally, utility is part of the overall structure of the business.

One last refresher item. The split between US and non US irrigation sales, could you just help me with that?

I think it is roughly one-third/two-thirds.

Finally, you all have provided in the past sort of free cash flow guidance and sort of debt levels, if you will, for year-end for '05. Any change in that?

Our projection is still that we would be at/or slightly below our targeted debt to capital which is 40%.

Jon Braatz of Kansas City Capital Association.

A couple of questions. In the Irrigation Sector, obviously it goes up and down over the years. When you talk to your dealers, as I start looking out towards next year, it doesn't look like -- and I don't want to be an energy forecaster, but it doesn't look like energy costs are necessarily coming down. It is dry out there, it's hot, crop prices have risen a little bit. I'm trying to wonder if you have a sense as to if the crop or the income situation of the farmers improve a little bit and it is dry and so on but energy prices sort of remain at high levels, what type of impact do your dealers might think going into next year that type of scenario is going to have on their unit sales?

Well, Jon, as you know, all I can give you is a flavor. First of all, dry condition is generally positive for the irrigation business. At this time of the year, as you're well aware, there is very little activity in the North American marketplace since we are waiting for harvest and getting into the next season. Having said that, I spent a day last week with the President of our irrigation business on a trip and what he hears is more optimism for the fall season than what we heard a couple of months ago. And it may be a result of the dry growing environment and it may also be that you know, over time, people get used to higher energy prices and higher prices for the equipment and investing in irrigation is still a very good investment for most farmers. But this is the time of the year where you're kind of feeling -- anxiously awaiting for what is going to happen. If you listen to the jungle drums, it is more positive than it was a couple of months ago.

Terry, I got a question. Next year, you're going to have to begin expensing stock options, stock option expenses. I think in your annual report it looked like there was about a $0.07 per share type of dilutive impact as a result of that from the -- as I look at the footnote. Will there be any changes -- do you anticipate any changes in the program that would mitigate that expense at all or should we be assuming about $0.07 for next year?

I think, Jon, that $0.07 is probably a little high under how we are structuring our program and under the valuation techniques that we're looking at now. It is probably more in the $0.05 to $0.06 range.

Lastly, obviously there has been a lot of talk about alternative energy and I know you have done some work in the poles for wind turbines and so on. Any commentary there? Any developments in that area?

Yes. First of all, wind power is here to stay. Whether we are for or against wind power, it is an industry that continues to grow globally. We have, over the last few years, spent quite a bit of money on R&D to develop a structure that can be efficiently made in our facilities to support that industry and structures that can be easily transported as these turbines are getting larger and larger. We have, in the last few months, received certification from the certifying company in Europe and Germany, Kimani Saloid (ph), who is tied into the wind power industry for our current structure and we are in the process now of moving that productline from the R&D stage to developing a business. We don't have any commercial sales yet but there is a market there and it looks like we have a productline that has some good opportunities. So as we move down that pat now, we will keep you informed quarter-by-quarter.

I don't know if you want to tell me this but what might a pole sell for?

250, $300,000.

James Gentile of Sidoti and Company.

I was wondering if you could comment on the seasonality of the utility business given the newish Newmark acquisition, notice the sequential decline. It just kind of seems counterintuitive to have a June quarter decline as such as I was kind of expecting a much higher number there given the Newmark role. Could you just kind of comment on what we should be expecting the seasonal patterns there?

Well, in general, there's really not the kind of seasonality for the utility business as you see in the irrigation business. Utility orders tend to be larger orders and sometimes they switch from one quarter to the other. The second quarter in the utility business -- certain pretty good-sized projects were pushed into the third quarter and therefore did not show up in the second quarter sales. So you do see, from time to time, projects of a certain size that could be affected by utilities being ready to take the product or not. In general, the seasonality is not very distinct.

So could you kind of quantify? I mean should we expect a $60 million base for quarter in the utility business and the fact that we were 20 million light means that we will see 80 in the third quarter?

No, I wouldn't expect 80 in the third quarter. What I would expect the utility business to run on an annualized basis in the $200 plus million range.

And then on the tubings profitability, for the first time. Usually that shares some seasonality with the irrigation segment. You see usually a common deleveraging of the profit line there as well but we didn't see that in the quarter. Are you focusing on some higher margin products there? If you look at the second half of last year, you were operating at a 19ish percent operating margin in tubing being versus 13ish percent in the first half of 2004. Is there a difference in the mix there? Are you focusing on some different end markets? Just talk to us about tubing a bit.

Well, not really. The tubing business has done exceptionally well over the last year in actually a very fluid environment when it comes to steel prices. Last year, we benefited to a great extent about having availability of steel when some of our competitors may not have had it. We are somewhat tied to the agriculture markets but we are, to a great extent, not. So I don't think there's any pattern that ties the tubing business to the irrigation business cyclicality anymore.

So you could I guess comment then on this new business that you have accumulated then in terms of the different end markets that you're pushing your tubing products through.

Well you know we do tubing for a whole lot of different industries because it's a very fragmented business of ours. It's a niche business. You know we do tubing for the mufflers, for Harley-Davidson, we do pneumatic systems for banks and hospitals. We do a lot of specialized tubing products and these accounts from time to time move in and out and they change in size also. I do want to remind you that last year the tubing business operated at profitability levels that are probably beyond what we would see in general. It is a very good business and a very good return on invested capital business. But 19% operating income is probably not what that business normally will produce.

One final question, coatings has had kind of a rough go-around for the last couple of years. It is clearly a very high fixed cost business. Are you kind of considering solutions to take some of those fixed costs out. Anodizing has been particularly weak in the Coating Segment. I guess kind of talk about when and how we should be expecting a profit recovery in the coatings business.

If we look at the two different parts of the coatings business, the galvanizing business is pretty good business and what galvanizing needs is some more volume. It will leverage very well when it gets volume and we don't have any plans at the current time to shut down or take any of our galvanizing facilities out of production.

On the anodizing side, it's a tougher business. We have been downsizing the largest anodizing operation we have in California quite a bit and that operation is now showing improved profitability. When we go forward, we will continue to look at acquisitions in the galvanizing business because it fits very well in with our structural businesses. But we will probably not consider any further acquisitions in the anodizing side.

Arnie Ursaner of CJS securities.

As a follow-up, you had a pretty big change in the intercompany sales. Can you comment on what caused that and if it is sustainable?

Yes, Arnie, this is Mark Jaksich. A lot of that is through the utility business and the amount of that business that's actually produced by structures' location, specifically in Valley, and in Texas, it's just a function of which plant. There are certain capabilities each of those plants have and depending on what is needed for the given orders it depends on where the product is going to be built.

Arnie, this is Mogens. To add to that the way we organize the utility division or the utility segment in North America they have full responsibility for a number of plants. Our steel facilities in Tulsa, Oklahoma; in Tennessee; in Texas; and then the various concrete plants. We also have capabilities to make utility structures in our large plant in Brenham, Texas, that is a traffic and lighting plant and in the main plant in Valley. So sometimes the utility business will buy structures from those two plants.

Okay. Again, I'm not quite sure if that means it should be sustainable, that those -- the levels we saw in the quarter should be levels we should expect for the balance of the year. Is that a fair assumption?

We're looking for the number here. I can't see why it wouldn't be but it just depends on what kind of orders do they have in the utility business, what are the sizes of the structures and where are they most efficiently made. And that could one quarter be in Valley and therefore they will show up in the intercompany sales or it could be in the next quarter in Tulsa and it will show up in the utility segment.

Two more follow-ups if I can. In China you mentioned that you're not quite at capacity now and we have been seeing declines in the volume but yet you're building your second plant. Are you getting a little ahead of yourself perhaps or do you have orders that you're anticipating for that new facility?

It's a good question and there's nothing precise, there's not a precise answer to it. If I had your answer exactly, if I thought we were ahead we wouldn't do it. And I may be wrong but the way we look at it is if you look at the shipments out of our Shanghai facility over the last couple of years, about 40% of those shipments have gone to the south of China. And the south of China, the Pearl River Delta, which is kind of Hong Kong, Guangzhou and Macau, is a very large economic power within China today. And a good portion of our business, as I said, was going down there.

If you look at it in a macro sense, the investments going into China's infrastructure going forward is going to continue to grow in order to support a nearly double-digit annual economic growth in China. We only today do about $50 million in our structural businesses in China. So as we move into the future we simply say there is a huge opportunity in China. The next place to put a plant is in a booming economy like the Pearl River Delta. Whether we have picked it exactly right to the quarter I don't know but I am convinced that our business in China will continue to grow.

In order -- we also had the added benefit of China still being very competitive so we can use the additional capacity in the south of China for some of our export opportunities for large structures both in Southeast Asia and elsewhere. So if there was ever a place to put the next pole plant globally, it would be where we are putting it. Whether we have the timing exactly right I can't tell you that with certainty.

Just going back to irrigation for a second, I know your prices have gone up quite dramatically. What was the unit volume decline in Q2 and as you look towards the balance of the year, in thinking about that segment, what sort of unit volume, you know, what are you thinking on unit volumes for the second half of the year?

In the second quarter, I think volume was down close to 40% in the irrigation business and sales down 25 and the difference is the price increases. When we now go into the second half, remember that we already saw the decline in the second half of last year so we are not expecting any volume declines anywhere close to what we saw in the second quarter of this year. But I again want to say that this is a brand-new irrigation season in North America which is our biggest market. Time will show but what we hear, the initial indications are that there is at least some optimism out in the marketplace.

Final question for me, on wireless structures you mentioned that you had walked away from some business. Can you comment a little bit more about what is happening competitively, where this new competition is coming from and generally what are overall order trends for wireless communications in North America?

In total, I'm not so sure the competitive situation has changed that much. You will recall that the wireless communication business a few years back really collapsed in connection with the overall collapse of the tech bubble and all the communication company stocks. And there were quite a number of competitors in that business so a lot of capacity was chasing not very much business, which puts tremendous pressure on the margins. We have shifted some production capacity into the sign structure business, which is a business we are growing rapidly. So we have simply made a decision that we are going to be more disciplined in the margins we want on the other side of the business. And that doesn't mean we are not constantly trying to drive down costs and therefore get more of whatever market is there at acceptable margins. But there was really no difference in the competitive environment; there was a difference maybe in our attitude and appetite for orders.

MacGregor Hide with Wachovia Securities.

Just one follow-up, two follow-ups, I guess. With respect to China, what is the relative profitability there as compared to what you're doing elsewhere? Is the profitability as strong?

It's a strong profitability in China and my -- actually, over the last couple of years it has been very strong profitability in China. My expectation is that as we continue to grow the business in China we'll probably see a softening in the profitability but it will still be good profitability, but I am expecting that we will see more competitive pressures in China over time. But it is a market that is going to be very big and one that I think we have no option but to continue to participate in in a strong way and so far experience has been very good.

Just for one other point of clarification. When we talked earlier, I sort of got the sense that your existing Shanghai plant in China was going at full capacity or awfully close to it. From the question I heard just a moment ago, I sort of got the sense that maybe it wasn't quite at capacity. Could just verify where it is?

Our Shanghai capacity -- our Shanghai plant is operating very close to capacity. We have added some temporary capacity close to the Shanghai plant in order to make sure that we have the capacity available for the market position right now. But when the new plant should be up and running first quarter of next year, it will give us substantial more flexibility in the serving the China market.

Thanks for that clarification. The last thing is, I don't think I wrote this down right. What was CapEx for the second quarter?

10.3 million I think --

21.7, including the replacement aircraft. And that's sort of a onetime thing. If you were to back out the one-time. I'm trying to get more of a run rate.

About 5 to 6 million.

At this time, I'm showing no further questions.

Thank you, Wes. This concludes our call. We thank 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. At this time, Wes will now read our forward-looking disclosure statement.

Ladies and gentlemen, included in this discussion were 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, trend conditionsm 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, uncertainties; some of which are beyond Valmont's control and assumption. Although management believes that these are forward-looking statements are based on reasonable assumptions, you should be aware that many factors could affect Valmont's actual financial results and could cause them to differ materially from those anticipated in the forward-looking statements. These factors include, among other things, risk factors described 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 material, availability and market acceptance of new products, product pricing, domestic and international competitive environment and actions and policy changes of domestic and foreign governments. The company cautions that any forward-looking statement included in this discussion is made as of the date of this discussion and the Company does not undertake any obligation to update any forward-looking statement. I thank you for your time. You may now disconnect.