Wesco International Inc (WCC) 2004 Q1 法說會逐字稿

Good day and welcome to the WESCO International, Incorporated first quarter 2004 earnings conference call. The call is being recorded. With us today from the company is the treasurer and director of relations, Mr. Daniel Brailer. Please go ahead, sir.

Thank you, Pam. Good morning, ladies and gentlemen. Thank for joining us for WESCO International’s conference call to review the first quarter 2004 financial results. My name is Dan Brailer and I’m the treasurer and director of investor relations at WESCO International. I am joined by Mr. Roy Haley, Chairman and CEO; and Mr. Stephen Van Oss, WESCO’s Vice President and Chief Financial Officer.

This morning, Mr. Van Oss will provide an overview of the earnings press release issued this morning. Means to access this conference call by a Webcast was disclosed in the press release and was posted on our corporate website. Replays of this conference call will be archived and available for seven days through midnight Eastern Time April 28th.

Following the commentary of Mr. Van Oss, we will open the session to your questions. This conference call may include forward-looking statements, and therefore, actual results may differ materially from expectations. For additional information on WESCO International, please refer to the company’s annual report on form 10K for the fiscal year ended December 31, 2003, as well as other reports filed with the SEC. The following presentation may also include a discussion of certain non-GAAP financial measures. Information required by regulation G with respect to such non-GAAP financial measures can be obtained by WESCO’s website at www.wescodist.com.

I would now like to turn the conference call over to Mr. Steve Van Oss, Vice President and Chief Financial Officer.

Thank you, Dan. Well, good morning, everyone, and thank you for participating in our call. I’d like to start the discussion with an overview of our performance for the quarter.

During the economic downturn, WESCO management has taken a series of steps to strengthen its earning power, improve the balance sheet, and position the company to maximize the operational and financial leverage inherent in our business model. Significant progress has been made in all areas, including margin enhancement, cost containment and productivity, marketing and sales promotions, working capital performance, cash generation, debt reduction, and overall capital structure and liquidity. The positive impact of these actions is taking hold and has been reflected in our recent performance.

Let’s review some key metrics. For the full year 2003, despite a sales decline of $39m, the company produced $19m of additional gross margin with a pull through of $9m or 49 percent of incremental operating profit and $7m or 36 percent of incremental net income. Earnings per share improved and we’re up 33 percent over the prior year. Working capital performance improved by 16 days and free cash flow, including the impact of our accounts receivable securitization program of $96m, was used to pay down debt net of cash by $69m and to fund a highly accretive repurchase of 4.3m shares of common stock. Our leverage and interest coverage ratios were also strengthened.

While these accomplishments are solid, we know that we must also grow our top line to significantly and consistently improve our business. The fourth quarter of last year with a sales gain of 4.2 percent marked a return to growth that continued into the first quarter of this year with a sales gain of 7.2 percent.

Growth in sales, coupled with the margin and cost initiatives, produced solid operating results for the first quarter of 2004. Our sales increased $57m or 7.2 percent, and the company produced an additional $15m in gross margin with a pull through of 8m or 50 percent of incremental operating profit. Net income doubled as $5m or 32 percent of the incremental gross profit was pulled through to the bottom line.

Earnings per share increased by 13 cents to 23 cents per share, a 130 percent improvement over last year’s earnings of 10 cents.

Working capital performance improved by 19 days from last year’s first quarter and regenerated free cash flow of $15m. The company’s strong cash flow and liquidity was utilized to fund a highly accretive purchase of the net equity value of stock options representing 2.9m shares of stock. Liquidity improved to $200m and interest expense continues to decline and is at its lowest point since the recapitalization of the company in 1998. Leverage and interest [indiscernible] ratios were also strengthened during the quarter.

LEAN enterprise initiatives continued to be expanded throughout the company with over 100 branches involved to date and an additional 100 plus slated for 2004. The results are encouraging. These initiatives supplement and expand programs touching virtually all aspects of our operations from sales, margins, inventory, and transportation to accounts receivable and order processing.

Now, for some more specific first quarter results. Sales were at $847.8m for the first quarter and were up 57m or 7.2 percent from the first quarter of last quarter and included the impact of one more work day versus last year’s first quarter. Sales were essentially flat versus the fourth quarter of 2003. First quarter activity levels are historically the lowest of the year. Typical seasonality would have normally resulted in sales in the range of 800 to 825m or 4 to 6 percent below the fourth quarter.

The daily sales rate was up 5.5 percent over last year’s first quarter and was approximately 3 percent over the 2003 full year average. We are continuing to see signs of improved activity in a variety of the major industrial groups that are heavy users of electrical equipment and MRO product, although not near the historic high levels of 1999 and 2000.

While overall capital spending on commercial and production facilities continues to be weak, improvements in day-to-day MRO activity in certain OEM segments has resulted in our sales to customers in these large market segments being up in the aggregate approximately 8 percent. Activity levels for our customers in our manufactured housing market continue to be depressed in the HUD code area, but we saw signs of improvement in the recreational vehicle and modular segment in our overall market penetration. As a result, sales into this market were up over 20 percent for the quarter, an improvement from earlier trends.

International operations were up over 9 percent on the strength of the Canadian dollar. Our utility operations were essentially flat, continuing a positive trend that began in the third quarter of 2003.

From the strength of new programs and improving MRO activity, sales to customers through our national accounts programs were up over 8 percent compared to the first quarter of last year. Sales to customers and our integrated supply programs were up 1 percent over the first quarter of 2003, which was very strong. The daily sales rate improved throughout the quarter with a strong finish in March.

For the quarter, pricing had an estimated favorable $13m or 1.6 percent impact on sales. Overall, the total electrical price index through February of 2004 was up 3.6 percent from last year.

The first quarter gross margin at 19 percent compares to 18.4 percent for the first quarter of 2003 and is a historical best for WESCO. Sales and business mix played a partial role in the gross margin improvement.

Billing margins increased by approximately 50 basis points over the first quarter of 2003 and 40 basis points over the full year of 2003.

SG&A as percent of sales dropped 10 basis points, reflecting the positive leverage of the increase in sales. Since March 2001 when our staff rebalancing program was initiated, full-time head count has been reduced by 980 people or 15.8 percent with staff reductions continuing in the first quarter of 2004.

All severance-related costs have been absorbed in the related periods. Despite these actions, SG&A expense for the quarter at $129.6m is up 7.8m or 6.4 percent over the first quarter of 2003 on a sales increase of 7.2 percent, in part due to the variable nature of certain components of our compensation program. Total payroll expense was up approximately 6.7m over last year’s first quarter primarily due to increased health care costs, prior commissions, and incentive accruals associated with higher margin performance and the expensing of stock options associated with the adoption of FAS 123 in the third quarter of 2003.

First quarter operating income of 26.3m or 3.1 percent of sales versus 18.6m or 2.3 percent of sales last year. Gross margin dollars were significantly ahead of last year and more than offset the increased SG&A spending. Operating income increased 41 percent over the first quarter of 2003 on a 7.2 percent increase in sales.

Interest expense and other costs totaled $11.1m for the first quarter of 2004 compared to 11.8m in the first quarter of 2003 and 11.3m in the fourth quarter of 2003. The decrease in interest expense from last year resulted from lower debt outstanding during the quarter offset somewhat by a slightly higher effective interest rate resulting from a higher proportion of fixed rate debt.

Income before taxes of $15.2m for the first quarter of 2004 compares to 6.8m in last year’s first quarter and 13.4m for the fourth quarter of 2003.

For the first quarter, our effective tax rate was 36.1 percent compared to 28.4 percent for the first quarter of 2003 and 29.5 percent for the fourth quarter of 2003. We expect to see the effective tax rate continue in the 36 percent range for the rest of the year.

First quarter net income of $9.7m increased by 4.9m over the first quarter of 2003 due primarily to the gross margin improvement. Compared to the fourth quarter of 2003, net income increased by $300,000 or 2.9 percent despite somewhat lower sales and a higher effective tax rate.

EPS for the quarter was 23 cents. It compares to 10 cents for the first quarter of 2003 and 21 cents for the fourth quarter of 2003.

Per discussions on debt, working capital and cash flow, our accounts receivable securitization program will be described as if it were on book.

Operating earnings and reductions of working capital have been used to reduce debt and improve the liquidity position of the company. Total debt net of cash decreased $43m from last year’s first quarter. Free cash flow for the first quarter was $15m and $88m for the trailing 12 months. Debt net of cash for the quarter increased slightly over the fourth quarter of 2003 due to the funding during the quarter of the previously announced purchase of the net equity value of certain stock options. Working capital, which improved 19 days over the first quarter of 2003 and 1 day over the fourth quarter of 2003 contributed to the favorable cash flow during the quarter and the trailing 12 months.

The components of net debt, including the accounts receivable securitization program at March 31st were [indiscernible] notes and other 375m, finance receivables of 215m, real estate financing at 50m, and cash at $14m.

Liquidity, defined as readily available bond capacity and invested cash, was $200m and compares to 188m in the first quarter of 2003 and $197m at year end.

Capital expenditures for the first quarter of 2004 were approximately 2.7m versus 1.8m for the comparable period in 2003.

In summary, we had a very good quarter. Prior sales, coupled with improved gross profit margins, resulted in improved operating profit both quarter-over-quarter and sequentially and was the best operating profit, both in terms of dollars and percent of sales since the second quarter of 2001. Net income doubled. Working capital initiatives, coupled with operating earnings, tax and debt initiatives provided strong cash flow allowing the company to pay down debt net of cash by $43m over the past 12 months. This progress, coupled with improvements in our capital structure, has positioned WESCO with liquidity in excess of $200m, no significant near-term debt maturities, and no restrictive debt covenant. With our LEAN enterprise initiatives providing additional emphasis in all areas of the company, we are well positioned to take advantage of any uptick in economy activity.

As far as our outlook, the company will not providing specific sales and earnings guidance for the full year of 2004. However, we do offer the following comments.

Based on end market activity experienced last quarter, our expectations for top line growth for the second quarter are in the 3 to 5 percent range over the second quarter of 2003 and 1 to 2 percent over the first quarter of this year. Based on current momentum and continuing operational improvement projects, we expect to achieve further expansion on billing margins as company-wide initiatives are continued in this important area. Working capital productivity is anticipated to be maintained and cash flow will be directed at acquisition earn-out payments and debt reduction.

Capital expenditures for 2004 are anticipated to be in the 14 to $16m range. We continue to see improvements in the general trend of the economic data, but manufacturing construction industries are still under pressure. Even with further improvement, we anticipate that there will be a time lag before we see a significant broad-based increase in capital spending. Accordingly, we continue to identify and implement further cost reductions and profit improvement actions while being cognizant not to adversely impact the company’s ability to generate new sales or respond to an uptick in activity levels in our end market.

Our company-wide initiatives to drive operating profit improvement and emphasize sales programs and sales management activities to increase market share at the local level and leverage momentum developed in our national accounts and integrated supply programs is working. As we saw in the last two quarters, these programs are favorably impacting our operating results and will continue to receive top priority as we strive to continually improve our performance.

At this point, Roy and I will open the call for a question and answer session.

Thank you. The question-and-answer session will be conducted electronically. (Caller Instructions.)

We’ll go first to Dan Whang, Lehman Brothers.

Yes. Good morning, everyone.

Good morning.

My first question’s regarding your current business outlook. I mean, compared to what you said in the previous quarter’s earning’s announcement; would you say your outlook has improved, stayed about the same, maybe a little bit more detail on that would be great.

The outlook is, in our view, improved. If things continue as they did in the first quarter, we feel very good about the year. But, there are a variety of risks that we’ve got to be sensitive to. The recovery is still in our view not solidly established. There are a variety of both economic and political concerns.

The biggest issue that we are concerned about in terms of what would really make the outlook a lot stronger would be the improvement in capital spending for the types of facilities, automation projects, industrial activity, commercial construction, and infrastructure projects; these are activities that have been scaled back over the last several years and reflected in such numbers as construction put in place which are down on the order of magnitude of 25 percent compared to the peak levels of activity some two or three years ago. So if we saw some strong activity in those markets, we would be clearly bullish on the balance of the year.

You may recall from our last quarter’s conference call, we commented about the fact that we sort of expected an uptick in construction-related project activity to come early in the year as previously approved, but deferred projects were released. We then sort of anticipated that we might run into a flat spot before new projects got approved and launched. And that’s still a concern to us as we look out for the balance of year. We expect that it’s going to be another couple of quarters before we see a solid uptick in capital spending.

Okay, great. And also, I noticed that capital expenditures was higher than last year. What was that primarily due to?

Well, first of all, we have a relatively low level of capital spending to begin with, and we are very conservative when it comes to that type of expenditure. So with that as a backdrop, Steve, can you comment on the particulars?

When we look at that, it’s up around a million dollars or so, Dan, and relates primarily to timing on IT projects. As Roy mentioned, we have a very low capital expenditure appetite. And, I don’t anticipate the CAPEX for the year being any different than what we’ve been telling you. It’s going to be in the 14 to $16m range for the total. And that’s still somewhat below our depreciation rate.

Okay, great. And finally, I was wondering if I could learn a little bit more about the rebate activity in the quarter with your suppliers.

The activity in the quarter was slightly better than what we saw in the first quarter of last year. We would expect to see that continue to improve if the sales trends that we saw and experienced in the first quarter continue through the year. And, we’d expect to see the rate of improvement on our rebate program to be a little bit higher than the rate of improvement on the sales due to the growth nature in some of our programs.

Great. Thank you very much. I’ll let someone else have a chance.

We’ll go next to Rob Damron, 21st Century Research.

Hi, guys. Just a question about the LEAN initiative. I know you expanded this program through 100 branches last year and are looking at another 100 branches this year. What kind of savings do you anticipate in ’04 and ’05 from the additional rollout of the LEAN initiative? And are you finding more opportunities as you get further into this program to expand the efficiencies and the savings even further than maybe where you originally thought they could be?

Rob, thanks for the question. First, as a little backdrop, we’re still by our views, still very much in the learning phase of applying LEAN. We’ve had some great success and we’ve had broad-based participation and acceptance in our organization. But, we’ve been at this just barely a year in terms of actual hands-on working activities, and we’ve had some great success.

As I think I mentioned in a previous meeting, the focus last year was on our branch-based operations. That will continue to be the focal point for the near term because that’s where the majority of our -- virtually, all of our cost structures in operating groups and most of our -- virtually, all of our revenue comes from those groups. So that’s the right place for us to be putting that activity.

However, we’ve already begun finding great opportunities to apply the techniques and methodologies in improving our administrative and support functions in the headquarters operation and in other parts of the business.

What our plans are for 2004 and going on into 2005 is to continue a rollout of initiatives started last year, plus supplement those programs with new initiatives. As an example, this year, 2004, we will be starting the launch of a major initiative to find ways to streamline and improve our cost of in-bound and out-bound delivery and transportation. This is a large expense category for the company as a whole. It presents a great opportunity for us to make some significant improvements. So that will be a new activity. We’ll probably get to between 50 and 75 of our largest branches with that initiative in 2004. And, we’ll also continue our other initiatives in other locations.

Do you care to put a dollar figure on the additional savings we could anticipate either in ’04 or in ’05?

As we indicated I think at our last call, we expected an annualized benefit on the order of magnitude of $10m from the programs we got started with last year. We’re still working to identify benefits with new initiatives. But, we expect to be in a position to identify another 5 to $10m of opportunities.

Okay. And then, just one last question. Most of your business is still in the MRO -- you know, supplying MRO products. But, I believe you’ve mentioned in the past opportunities to move into direct materials. And could you just talk about that program and that market segment and the opportunities for growth there?

Yes. The OEM market still looks very attractive to us and we’ve made some progress in 2000 -- late 2003. That will continue in 2004. In fact, one of our major customers in the electronics industry has been a positive contributor sales growth during the first quarter. And the biggest part of that business is OEM-related parts and assembly.

So we see that opportunity. What we have found is that we got -- our priorities shifted a little bit toward internal improvements with our LEAN initiative because we see LEAN also working favorably with this OEM business. And, the better we get at it from an internal standpoint, the better we will be able to apply those techniques and methodologies to our OEM customers. But, we’ve started on a selective basis of bringing in personnel to work in this area and we expect to be systematically building it up over the next couple of years.

Okay. That’s helpful. Thank you.

We’ll take our next question from Michael Greenwald, [DBNT] [ph].

Hi, guys. Thanks. I was curious in the international market, you mentioned that it was up 9 percent. What extent was it just currency or is it also volume related?

Mike, the bulk of that related in the first quarter was related to currency. We’re pretty much flat without the currency impact.

Okay. And overall top line, is there any extent to price increases that led to the revenue expansion?

As we mentioned [indiscernible], there was about $13m that we would have identified increased sales in the first quarters relates to price increase primarily in commodities of copper and steel.

Okay. Thank you. And last one, can you go in a little further with me about the share repurchase and how -- is it going to continue? Are we going to see any big repurchases going forward or is it going to be -- can we expect the share count now to be pretty stable?

The expectation would be for the share count to be relatively stable. It will be impacted on an upward basis somewhat by the average stock price, bringing the options component a little bit higher. We’re 42.5m shares, roughly 42.8 in the first quarter. At this type of a stock level, we would expect to see approximately another million shares come into the EPS calculation.

But other than that, we don’t have an active share repurchase program in place. What we did in the fourth quarter of last year was somewhat opportunistic as we worked the large shareholder to [indiscernible] a highly accretive transaction for us and take care of some strategic directives that they need to do.

Okay, great. Thanks a lot.

Just a reminder, if you would like to ask a question, please press star 1 on your telephone key pad.

We’ll got next to Kathy Nolan, Solomon Asset Management.

Yes. What is the cash requirement for the earn out this year?

The earn out in question would be associated with an integrated supply business we bought in 1998, and the cash requirement would be $30m.

And with your remarks with respect to your construction and capital spending business, it sounded as if you expected to start to see some traction in that area, but now you view that as a few quarters out. In the first quarter year-over-year, was that business flat or is it still declining?

Let me give you a few stats maybe in that area. In the first quarter, what we are able to identify as project-related sales activity increased 1 to 2 percent compared to last year. Now, our project backlog -- that is the business that has already been contracted for and booked and it’s in place, is up 3 percent from last March, and it’s up 7 to 10 percent from year end. And that bodes well for our market. But again, it could have even more of an upside opportunity because the market levels themselves are down so much from prior peak levels.

So the business is very sound. I think we’re in good position. We’re doing a lot of work on developing better tracking identification and tracking of opportunities and follow-up mechanisms, and we’ve got a lot of emphasis on sales management in this area. This would be a big plus for the organization if we find that the market does not, in fact, have this potential for a flat spot, but that we do see systematic gains that are occurring, it would be a real plus for us in the next couple of quarters.

Okay. And it sounded as if maybe a quarter or so ago, you expected this to be a bit more robust than up 1 to 2 percent.

We couldn’t tell. As we said, we were speculating that there were projects and activities that had been deferred during the last year or so. And our expectation was that some of those projects might come out and be worked on and released for activity. And, I’m sure that’s part of this recent modest uptick.

What we were really kind of concerned about was what sort of a false signal of an initial surge followed then by a weak period and then followed by a more continuous or reliable and longer term effect of investment in this recovery. And, we still don’t have a good sense for that. But, I’ll tell you that the business that we have right now on the books is very solid and it looks like we’re at the beginning stages of clearly some stronger sales. We’re just concerned about not having that kind of visibility because the bid activity is still ahead of us.

Okay. But, it does sound as if the trend for the first quarter at least continued into April?

A little hard to tell at this stage until we close the books for April. But, I would say that what we saw during the quarter is that the -- what we call our monitor as our daily rate of sales was systematically improved throughout the quarter and with the strongest at the end of the quarter. So we clearly see a trend developing that’s quite positive.

Thank you.

Once again, for questions, press star 1.

Over to John [Lube] [ph], Aries Management.

Hi, guys. Just a couple of questions. I was trying to reconcile the free cash flow numbers with the increase in net debt for the quarter. Of course, you mentioned the repurchase of the net equity value of the options. Can you tell us what the dollar value of that was for the first quarter?

Yeah, the gross amount of that, John, was $20m. The net of tax would in the 12, 13m range.

But, that net of tax on a cash basis, we’re not going to see that until basically the end of the year. But, it’s a $20m cash payment.

Well, if you look at the free cash flow generation of 15m, you offset it with that payment, you’re pretty much right with the change in the debt net of cash.

Okay. And then also, kind of going forward, under your most restrictive covenants, how much flexibility do you have to repurchase stock at this poi?

We don’t have issues as it relates to covenants as far as --

So there were no restrictions?

There were restrictions in buckets, but there’s no practical limitation at this point.

Okay. And then, you mentioned also earlier in the presentation that for the remainder of the year, you wanted to use your free cash flow to make the earn-out payments and also to reduce your debt balances. Given the size of the earn-out payment that you expect of 30m bucks, do you believe that there will be money left over to reduce your debt balances between now and the end of the year?

I would -- the answer to that in a kind of a stable, flat environment would be yes. It really depends on the growth that we see and any demand that puts on working capital. But, our working capital performance has been good. It’s been excellent the last couple of quarters. We do see some continued opportunity for improvement in that area and would like to be able to use that to offset some of the growth and working capital associated with sales.

But, our model would generally produce in the range of 40 to 60m of free cash flow. And so, we would expect to see some improvement on the debt pay down, although not a lot this year.

Okay. And then also, I saw that the fair value of your long-term debt went up about 3m bucks related to fair value of [indiscernible] derivatives. You know, in terms of kind of looking out between now and the rest of the year, what kind of movement in interest rates would cause that balance to increase further between now and the end of the year?

I don’t expect to see that move up to a significant degree. If anything, it could drop a little bit as interest rates -- if interest rates were to start to rise.

Okay. So what you’re saying is that in the future, a rising rate environment would not cause those balances to rise?

No, I don’t believe it would.

Okay. Super. Thank you.

And at this time, we’re standing by with no further questions. Gentlemen, I’ll turn the conference back over to you for any additional or closing comments.

Okay. Well, one question that maybe didn’t come up, but I think it might be worth commenting on, and that is the cost increases in a number of commodity categories and how that is being handled in the organization.

As you probably are aware, there have been significant cost increases announced in a couple of primary commodities that affect our business copper and steel. And, we’re doing our very best to incorporate these raw material cost increases into our pricing. And actually, we’re making some good progress. We do face some pressure in terms of being able to get price increases through to our end markets because we have a significant amount of business under multi-year contracts with some very large customers and price increases in that environment take some time to get passed through on into the system. But, we’re making some good progress. And with that, we are protecting the margins in the business. We don’t expect to see erosion in margins as a result of cost increases in our basic product cost. And, we’ll continue to work at not only maintaining, but improving our margins as that continues to be a very high priority.

Let me close by saying thank you for your interest in and support of WESCO. We’ve had a strong first quarter and our performance reflects both the improved top line demand and a variety of ongoing company-wide productivity initiatives. As we’ve said, the economy is exhibiting signs of strengthening, although capital spending levels remain depressed compared to prior levels.

WESCO is very well diversified and our customers in various market segments continue to respond favorably to our value proposition, which is based on local market availability, product selection, operating information systems capabilities, our industry low cost position and reliability, and continued service. We’ve been fortunate to continue to build our base of blue chip customers and we expect to see continued progress in building that customer base. As we’ve said several times, we continue to work on achieving further productivity gains and we expect to see improving financial performance as the year progresses.

Once again, thank you and have a nice day.