ARC Document Solutions, Inc.
Q1 2008 Earnings Call Transcript

Published: 28 May 2008

[Operator:]

Welcome to the first quarter American Reprographics Company earnings call. (Operator Instructions) It is now my pleasure to introduce your host, David Stickney, VP of Corporate Communications.

[David Stickney:]

Joining me are Suri Suriyakumar, our President and CEO; and Jonathan Mather, our CFO. Our call will of course provide you with some more insight into our first quarter. The financial results of which were publicized earlier today in a press release. You can access the press release and the companies other releases from the Investor Relations section of the American Reprographic Company’s website at www.e-arc.com. A taped replay of this call will be made available beginning about an hour after its conclusion. It will be accessible for seven days after the call. You can find the dial-in number for this replay in today’s press release. Please be advised that we are webcasting our call today. A replay of the webcast will be available on our website for ninety days from today on the company’s website. This call will contain forward-looking statement that fall within the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding future events and the future financial performance of the company, including the company’s financial outlook. Bear in mind that such statements are only predictions, and actual results may differ materially as a result of risks and uncertainties that pertain to our business. These risks are highlighted in our quarterly and annual SEC filings. The forward-looking statements contained in this call are based on information as of today, May 8, 2008, and except as required by law the company undertakes no obligation to update or revise any of these forward-looking statements. Finally, this call will contain references to certain non-GAAP measures. The reconciliation of these non-GAAP measures is set forth in today’s press release and in our Form 8-K filing. At this point I will turn the call over to our President and CEO, Suri Suriyakumar.

[Suri Suriyakumar:]

I am very pleased to share our first quarter results with you today. Delivering these results, which exceed market expectations I suppose is always a pleasant experience for any CEO; however, it is even more rewarding when you are able to produce such results in a market which is in turmoil and riddled with uncertainty. While the indications of a slowing market are unmistakable, our continuing focus on sales and improving operational efficiencies, while implementing cost-cutting measures, should continue to serve us well throughout the year. The operational controls and sales initiatives we put in place in late 2007 helped us get off to an excellent start in 2008 with a 17% increase in revenues over the same period last year. Our sales force is especially tuned in to the need for aggressive new sales activity and strict accountability. From a sales management standpoint our incentive programs have been revamped and they revolve almost entirely around capturing new businesses. As the market tightens this type of sharp sales focus will keep us deeply engaged in all of our markets, regardless of business conditions. While we were pleased with the way we performed relative to the slowing non-[inaudible] construction market, we expect the overall economy to remain soft, and the construction market to continue to slow down. As we have stated before, we will aggressively seek to predict our market share and grow it where possible using our superior position in the industry. Our first quarter results are as follows

[Jonathan Mather:]

Allow me to provide you with more depth to the numbers we disclosed in the first quarter earnings release today beginning with revenue by product categories. In quarter one 2008 reprographics services grew 19% compared to quarter one in 2007. Digital services, which are included in our overall reprographic services, grew 50.5% year-over-year and contributed 7.2% of total revenue in this quarter compared to 5.6% for the same period last year. Facilities management grew 12.1% compared to the same period in quarter one of 2007, while revenue from equipment and supplies grew 9.3 over the same period last year. Revenue and revenue trend by geography [inaudible] segment in this quarter was as follows

[Suri Suriyakumar:]

Operator, at this time we are available to take our callers questions.

[Operator:]

(Operator Instructions) Your first question comes from Edward Yruma - J.P. Morgan.

[Edward Yruma:]

Your organic growth trends are running a little bit stronger than your guidance had suggested in 4Q. Is this sustainable, or do you expect for organic revenue to be down year-over-year?

[Jonathan Mather:]

It is hard to state that it is definitely running much stronger than we thought. Our guidance had built into that the organic growth we had in mind was anywhere between -3.5-4%. That is what we had in mind; that is what we had built into our guidance, so to be able to produce 2.2% is good, but I am not sure how long we will be able to sustain that. It totally depends on market conditions.

[Edward Yruma:]

And you addressed pricing a little bit; can you talk about the pricing environment and if you have seen some irrational pricing from some of your competitors given the soft environment?

[Suri Suriyakumar:]

We have not seen any of that come up just yet. What we are seeing in the marketplace is obviously given the high fuel prices; we are starting to actually push the prices up for particularly transportation costs and so on and so forth. Where we have an opportunity to increase pricing, because our suppliers are starting to push their prices up and this is an overall effect of what is happening to the gas prices. We are starting to pass that on to our customers so that it doesn’t impact our business. So in general we have been very quiet, selectively pushing the prices up, in order to accommodate increased prices from our suppliers, and we have been able to do that. We have not seen a price erosion just yet.

[Edward Yruma:]

I know you touched a little upon your customer’s credit. Have you had to tighten terms and have you done that company-wide?

[Suri Suriyakumar:]

Not really tighten terms as such. What we have done is we have been a little more proactive than usual given the market conditions; obviously we know the market is in turmoil and there are credit issues floating around in the market place. So therefore we are taking a close look at all of the receivables, and the payment habits of customers and we are required, Jonathan is making the appropriate allocations.

[Operator:]

Your next question comes from Michael Schneider - Robert W. Baird.

[Michael Schneider:]

Maybe first we can start with the digital business. Suri it looks like it was up substantially year-over-year but also sequentially. Was there some new initiative launched during the quarter or is this the effect of the sales force revamp?

[Suri Suriyakumar:]

It is a combination of a multitude of things. Number one obviously our customers are looking at process improvement and efficiencies during this period of time, and usually during downturn this is what happens. That certainly has an impact. Secondly, in order to encourage our customers to use digital services traditionally we have encouraged them to use our digital products without necessarily charging them for all of it. Now we are starting to say that we need to charge for all these services which are very critical for our digital transition. That is part of it. And the other aspect is that there have been a fair number of companies which have joined us during last year because of the acquisitions, and many of them did not necessarily push digital as much as we do. Selling digital services there also increases that segment of the revenue. It is a combined effect of doing all of these things.

[Michael Schneider:]

And the sales force changes that have gone on to the inventive structure; I guess I am surprised to hear you say they are more focused than ever because this sales force has been out gaining market share for some time. What has changed, why now, and truly on the margin what has changed for the typical salesperson?

[Suri Suriyakumar:]

Fundamentally since I took over as CEO one of my biggest drives has been to convert this company to a sales-driven company. We have been talking about it; we have been putting several measures in place little by little. It certainly became much more aggressive during the last quarter of last year when we realized that the market was turning back. And since then we have kept that focus on. So there are a variety of initiatives that we have done; number one, we have put together what we call an “aspire program” and that program is a competition between sales staff. We have a single data base for all of the sales reps in the company to see how they are performing. We celebrate the sales reps that are very, very successful. We also identify the sales people who have not met our expectations. In the past we would lead them to individual precedents; now we are identifying those sales reps and then raising the questions at the Board of Operations meetings as to what we should do differently to help these sales people to actually announce themselves. We have started several sales related programs. We call them seminars; they are seminars on the web. And then in addition to that we have taken a look at the commission programs and commission structure and actually have increased commissions for new sales. Again, in order to drive additional organic sales away from the existing customers and new customers instead of staying focused on customer maintenance they are focusing on growing sales. The commission of all of these is what we are doing right now.

[Operator:]

Your next question comes from Scott Schneeberger of Oppenheimer. Please proceed with your question.

[Scott Schneeberger:]

First Suri I know that in January you are 65% [inaudible] and 15% [inaudible]. Can you break out of the res/non-res exposure by each region?

[Suri Suriyakumar:]

We don’t have that information by region, but what has happened is that obviously that personnel has started changing with that residential business going down significantly, so we do a test every quarter to find out where our percentages are. Currently, they are about 70% non-residential and about 10% residential. The combination of non-residential and residential which we refer to as the AEC business still remains the same, about 80% and about 20% is in non-AEC. We don’t bake them down by region.

[Scott Schneeberger:]

If you do not have an exact number can you just give us more color on which region might be more res exposed versus non-res?

[Suri Suriyakumar:]

What we have evidenced by the numbers, Ella, is that southern California, particularly the Orange County market has been growing very, very aggressively because of the residential market place. That segment in that area we had more than 15% of non-res business during the good times, and obviously that has significantly impacted the marketplace. But if you just overall look at the market places, Orange County, Atlanta, Florida, these are the areas where there has been a fair amount of housing residential activity. Those have just tapered off and that is reflecting in a soft market in all these areas.

[Scott Schneeberger:]

Also about your sales force; can you talk more about if you are still going to grow your sales force team, and what would be there focus, would they focus more on the traditional reprographics, or more on the non-AEC projects?

[Suri Suriyakumar:]

In terms of growing the sales force, each of the division employs a sales force as required for that region. With increased acquisition if we continue to buy companies, our sales force will grow relative to those new acquisitions. What we are doing is putting a bigger and a better focus on the sales force; training the sales force; and then in terms of what business we go after, obviously traditional business is AEC business and we will still go after the business using our superior position in the industry. In other words, areas like premier accounts, national accounts, those are very unique to us. We are the only people who can provide services across the nation on a single platform. On the AEC side we will go after businesses like that. We are also starting to focus more on the non-AEC business; color business outside the like the [inaudible] business which we can do with the same core competencies but not necessarily in the AEC market place. So we are focusing more on that because they are great opportunities to get those businesses.

[Scott Schneeberger- Oppenheimer & Co.:]

And to talk about the repurchase you are putting on hold for now, can you give us more color on why and when you think you would start repurchase again?

[Suri Suriyakumar:]

On the stock repurchase plan obviously we got the Board approval, and the banks lined up for the credits required and so on so we figured out a way to do the stock repurchase. However, because the credit markets got into a turmoil and turned down so sharply we decided it was not a good idea for us to do stock repurchase in a down market, particularly at a time when credit is difficult to come by. So we decided that we will preserve the cash because we want to make sure we will be able to do whatever acquisitions, technology acquisitions, or reprographic acquisitions or for that matter any investment that we may have to do we want to be able to be ready for that. Fundamentally we decided that we would preserve cash at a time when there is a credit crisis out there. As to when we might reconsider that, it is subjective to market conditions. If the credit conditions in the market change then we can certainly reconsider that.

[Operator:]

Your next question comes from Piyush Sharma - Longbow Research.

[Piyush Sharma- Longbow Research:]

Could you give us some color on your pipeline for your premier accounts?

[Suri Suriyakumar:]

Obviously we have a fair number of accounts we are working on. We don’t name them by accounts obviously for confidentiality reasons because many of our competitors could be listening. In terms of the premier accounts in general what we can say is that we have been working with several large accounts, and it takes awhile to sign a large account. For example, we are going to be working on Boeing; it took us six months to get to Boeing, sign the contract, and then kick off the account. Generally they take a long period of time for us to work on. We are working on several large accounts and we certainly expect to have a few signed up this year.

[Piyush Sharma- Longbow Research:]

Do you still expect minimal growth margin improvement this year?

[Suri Suriyakumar:]

We already have experienced some gross margin which I think is phenomenal given the market conditions and where we are. Jonathan, would you like to add some color?

[Jonathan Mather:]

In quarter one we are pleased with our gross margin, but again what Suri said earlier about the revenue going forward to the second half of the year based on the market conditions seeing a potential slow-down we are being cautious in not projecting improvements in gross margin. Again, we don’t provide guidance in gross margin, and I would suggest that if we achieve is that is great.

[Piyush Sharma:]

Suri, earlier you talked about you are not experiencing any price erosion just yet, but could you provide some color on what kind of presumption you are baking in for pricing for your guidance this year?

[Suri Suriyakumar:]

We have taken into consideration there might be slight price erosion in the latter part of the year. But that is a very minimal impact we have taken into consideration given the fact that if the market continues to deteriorate there is a chance that the price can be affected. But we haven’t seen that just yet.

[Piyush Sharma:]

My last question is about your facilities management services. Could you talk about what you are seeing in terms of your existing clients of the volumes you are generating per client basis, and whether your existing clients are renewing the contracts?

[Suri Suriyakumar:]

We have actually no trouble in getting the customers to renew their contracts. Generally that is the case with most [inaudible] otherwise we have service problems. The renewal of the contract doesn’t seem to pose any problems at all, but what we are seeing in general is that the volumes that clients are doing are lesser. That is typically indicative of a softer market place. So if our customers are not as busy as they used to be, then the volumes we would be billing for would be lower and we are noticing that a little bit with our customers.

[Operator:]

We have no further questions at this time.

[David Stickney:]

Thanks very much for joining us today. We appreciate your attention and your continued interest in American Reprographics Company. Have a great evening and good night.