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Q3 2007 Earnings Call Transcript

Published: 17 Oct 2007

[Operator:]

Good morning, and welcome to Champion Enterprises third quarter 2007 conference call. All participants will be in a listen only mode until the question and answer session of the call. This call is being recorded at the request of Champion Enterprises. If anyone has any objections, you may disconnect at this time. I would now like to turn the call over to Laurie Van Raemdonck, Vice President of Investor Relations. Laurie, you may proceed.

[Laurie Van Raemdonck:]

Thank you, and welcome to Champion’s third quarter 2007 conference call. Yesterday, the company issued its press release with the results for the quarter ended September 29, 2007. A copy of the release is available on our web site at www.championhomes.com and on many financial web sites. A telephone replay of the call will be available approximately one hour after the conclusion of this call and through October 31, 2007. Replay information is available in our press release and will be provided at the end of the call. A web cast replay will be available on our web site for 90 days. This morning we are joined by Bill Griffiths, Chairman, President and CEO; and Phyllis Knight, Executive Vice President and CFO. They will make some initial remarks regarding our results and current business trends, and then open the call for questions. Also, as a reminder, comments made by the company during this conference call may contain forward-looking statements that involve risks and uncertainties. Listeners are cautioned that these statements are only predictions and may differ materially from actual future events or results. Please refer to the documents filed by Champion with the SEC including, without limitation, its reports on Forms 10-K and 10-Q, which identify important risk factors that could cause actual results to differ from those contained in the forward-looking statements, including statements regarding potential changes to the company’s capital structure, business strategies, financial projections, backlogs, operational improvement initiative, order rates, industry projections and commercial modular opportunities. All forward-looking statements are based on information available to Champion today, and the company assumes no obligation to update such statements. With that said, I would like to turn the call over to Phyllis Knight. Phyllis.

[Phyllis Knight:]

Thank you, Laurie. Good morning and welcome to our third quarter conference call. To begin, I’ll review our financial results in detail. Bill will than follow, with comments on our results, market conditions and strategy. Then we’ll open the call to questions. We are pleased to report an improved third quarter today where, despite persistent downward pressure from the US housing market, we were able to grow our revenues while improving our earnings more dramatically. Champion’s diversification strategy is working well, as strong markets in the UK and Canada are helping us overcome the housing struggles here in the US. Further, our liquidity position remains strong and we are working on a strategy to address our capital structure, which will allow us to put debt covenant pressures in the rearview mirror without using our cash to pay down debt. We are doing this because continued growth and diversification are at the forefront of our ongoing strategy, and our cash resources are key to its execution. Now, on to the specifics for the quarter. Total revenues this quarter increased 3% to $357.7 million, compared to $346.5 million in the third quarter of 2006. Income from continuing operations before income taxes increased 33% to $15.5 million, compared to $11.6 million last year. And that income for the quarter increased 43% to $12.9 million or $0.17 per diluted share, compared to $9 million of $0.12 per diluted share in the prior year. Turning to our segments, our North American manufacturing segment net sales totaled $260.4 million this quarter, a decrease of 11%, as compared to last year’s $293.4 million after a 17% drop in unit sales. HUD code and other segment revenues decreased 12% to $180 million for the quarter, while revenues from the sale of modular homes totaled $80 million, down 10% from $89 million a year ago. Demand in western Canada remains strong; and as a result, our shipment of 441 Canadian manufactured homes represents an increase of 38% over last year and 3% over last quarter. The average selling price per modular units increased to $77 thousand compared to $68,400 last year and $75 thousand last quarter. The average HUD code unit was down slightly, to $44,300 as compared to $45,900 last year and $45,400 last quarter. Manufacturing segment income increased to $20.2 million this quarter, compared to last year’s $19.6 million, resulting in an improved segment margin of 7.8% versus 6.7% last year. Segment income for the third quarter of last year was reduced by an impairment charge of $1.2 million, related to a plant closure. While our unit sales are down, this increase in overall profitability is, in part, the result of our strict focus on capacity rationalization and engaging in profitable business, which provides an acceptable return on our capital. Capacity utilization stood at approximately 60% again this quarter, the same as last quarter, but down slightly from last year’s third quarter rate of 64%. Our manufacturing segment backlogs at the end of the quarter totaled $64 million, compared to $78 million recorded a year ago and $68 million last quarter. The year-over-year decline was caused by our Canadian operations where you may recall a production allocation schedule was implemented during the fourth quarter last year, limiting incoming order rates, and therefore backlogs, to a forward three month period. US quarter end backlogs were 48% higher than a year ago, despite lower incoming order rates as a result of our prior plant closures and reduced work force levels, resulting in our remaining plants operating more efficiently. Our international segment had another record quarter. Sales grew to $85.3 million, compared to $30.9 million in the third quarter of 2006, and are on pace to likely surpass the guidance we previously discussed of $250 million for the full year. International segment income grew to $6.4 million for the quarter, from $2 million last year, on increased sales and an improved segment margin of 7.5%, compared to 6.3% in the third quarter of 2006. International segment backlog continued to build, with contracts and orders pending contracts under framework agreements, totaling approximately $275 million at quarter end, compared to last quarter’s $245 million, sufficient to give us good visibility deep into 2008. Our retail segment recorded revenues of $18.2 million this quarter, compared to $31.4 million in the third quarter of 2006. Retail segment income was $0.7 million for the quarter, flat to last quarter but down from $2.4 million last year. Segment margin stood at 3.8%, which was improved over last quarter’s 3.1% on lower sales, but was off from 7.7% last year. During the quarter, this business continued to be effected by lower unit sales, difficult pricing comparisons, greater level of aged inventory, and pressures from the generally weak housing markets throughout California. While we fully expect the retail segment to remain profitable, conditions in California are still difficult; and, as such, a substantial recovery for this segment is not likely in sight for the next several quarters. Turning to some other financial metrics, our net interest expense for the quarter totaled $3.9 million, compared to $4.2 million last year. Our general corporate expenses of $6.7 million were down $500 thousand or 7%, compared to $7.2 million for the comparable quarter of 2006. Our income tax expense for the quarter was flat with last year, at $2.6 million, but had a lower effective tax rate of 16.7% compared to last year’s rate of 22.3%. The reduced tax rate was a result primarily of the impact of the announcement of a lower tax rate going forward in the UK and its impact on our deferred tax liabilities. Our estimated effected tax rate for the year, however, remains stable at approximately 19% before one-time items. We ended the quarter with $111.3 million of cash, up $6.5 million from $104.8 million at the end of the second quarter. While operating cash flow of $4.7 million was less than we expected, due to a timing difference in collections in our international segment, we collected these receivables early in October; and as a result anticipate operating cash to improve next quarter. We generated close to $30 million of free cash flow year-to-day and remain optimistic that we’ll surpass last year’s $42 million of free cash flow for the full year. Finally, an update on the financial covenants in our credit facility. Our leverage ration at quarter end, as defined in the credit agreement, improved to 4.1 times from 4.3 times last quarter, and our interest coverage was 3.1 times; up from 2.9 times last quarter. Both ratios were well within the current requirements, as amended. As I mentioned earlier, we do expect to take further action with respect to our capital structure yet this year. And with that, I’ll turn the call over to Bill.

[Bill Griffiths:]

Thank you, Phyllis. As you all know by now, the US housing industry continues to be a tough place to do business. Despite this, however, we are reporting a very respectable third quarter, driven by two key elements of our strategy. First, a substantial increase in revenues from our Caledonian operations, at 7.5% margins, and secondly, a substantial increase in North American manufacturing segments margins, to 7.8%. This improvement came about, despite an 11% drop in revenues and a 17% drop in unit volumes, and was attained through efficiency initiatives and matching capacity to current industry conditions. Since the third quarter of last year, we have reduced our capacity by approximately 20%. All of our employees in our manufacturing operations are to be congratulated, as our internal operational improvement initiatives continue to gain traction. As we have said before, improving our core operations is key to funding our overall strategy, growth through diversification. This diversification continues to show positive results. This quarter, almost half of our revenues were non-HUD code, with domestic modular accounting for 22% and Caledonian 24%. We expect this trend to continue into the fourth quarter, with Caledonian on track, to exceed their quarter performance. We are also optimist about our North American operations. While overall backlogs are $64 million, down slightly from last quarter, our US backlogs are up 48% compared to last year and flat to last quarter. Modular now accounts for 54% of the backlog, compared to 46% last year and 50% last quarter. As Phyllis pointed out, the implied reduction in Canadian backlogs is as a result of the policy change, not business conditions; as, in fact, we expect continued strong performance from our Canadian operations next quarter and into the foreseeable future. We are starting to see a normal seasonal decline in order rates; but this decline is nowhere near as precipitous as it was last year. Your will recall that this drop at the end of the third quarter, and the beginning of the fourth quarter last year, was driven by a very rapid 40% decline in industry shipments in California, Arizona and Florida. Since December of 2006, shipments to these three states have flatlined at about 1250 units per month. We see no reason for any further declines in these shipment numbers. Conversely, Texas has shown steady improvement over this period; and we have been encouraged by relative strengthening in the mid-west and north-east. As we said earlier in the year, we expected the second half to be stronger than both last year and the first half of this year. Our third quarter results demonstrate this trend and we anticipate the fourth quarter, although seasonally lower, to follow a similar pattern. Our current order rates and our stronger backlog position should result in a better fourth quarter than last year. We also expect to see improvement in 2008, in both our domestic resident modular and our HUD code business, although growth in both segments is likely to be in the single digit range, as the US housing industry will likely struggle for another year. However, if California, Arizona and Florida recover sooner, as a result of a leveling of the playing field with respect to financing, we could see a rapid double digit improvement in shipments. Such a HUD code recovery we view as pure upside; and, as such, we will continue to actively pursue diversification opportunities, both organically and through acquisitions. We are actively considering opportunities to develop a larger commercial modular presence in the US, as well as expanding our international foot print. This diversification strategy has served us well this year; and, along with our operations improvement initiatives, has allowed us to post solid performance in what will go down in history as one of the worst years ever in every segment of the US housing industry. With that, I would now like to open the call for questions. Operator.

[Operator:]

(Operator Instructions) There are no questions at this time. This concludes Champion’s third quarter 2007 conference call. I’d like to remind you that a telephone replay of the call will be available approximately one hour from now through Wednesday, October 31, 2007. To access the telephone replay, please call 888-286-8010 for domestic callers, or 617-801-6888 for international callers. The pass code is 10494354. The webcast replay will be available on the company’s web site for 90 days under the investor relations link. You may now disconnect.