Twin Disc, Incorporated
Q1 2015 Earnings Call Transcript

Published: 28 Oct 2014

[Operator:]

Good day and welcome to the Twin Disc’s First Quarter Fiscal 2014 Financial Results Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Mr. Stan Berger of SM Berger. Please go ahead, sir.

[Stan Berger:]

Thank you, Christy. On behalf of the management of Twin Disc, we are extremely pleased that you have taken the time to participate in our call and thank you for joining us to discuss the company’s fiscal 2015 first quarter financial results and business outlook. Before I introduce management, I would like to remind everyone that certain statements made during the course of this conference call, especially those that state management’s intentions, hopes, beliefs, expectations or predictions for the future are forward-looking statements. It is important to remember that the company’s actual results could differ materially from those projected in such forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in the company’s annual report on Form 10-K, copies of which may be obtained by contacting either the company or the SEC. By now, you should have received a copy of the news release, which was issued this morning before the market opened. If you have not received the copy, please call Annette Mianecki, at 262-638-4000 and she will send the copy to you. Hosting the call today are John Batten, Twin Disc’s Chief Executive Officer, and President and Chief Operating Officer; and Chris Eperjesy, the company's Vice President of Finance, Chief Financial Officer and Treasurer. At this time, I will turn the call over to John Batten. John?

[John Batten:]

Thank you Stan and good morning everyone, welcome to our fiscal 2015, first quarter conference call. As usual we begin with the short summary statement and then Chris and I will be happy to take your questions. First looking at our first quarter results. Sales for the 2015 first fiscal quarter was 64.8 million down 2.5% from 66.4 million for the same period a year ago. A slight decline in year-over-year in sequential quarterly comparisons is driven by moderating demand from our Asian markets for commercial marine an oil and gas transmissions. Partially offsetting the decline in sales to Asia, was an increase demand into a North American market, driven by stronger activity in oil and gas and industrial markets. Overall, sales into our European market showed some slight improvement year-over-year but remained [Inaudible]. Looking at our broader product markets, there is slight decrease in sales can be attributed to a decline of demand for a pressure pumping transmissions in China and softness in some of our Asian commercial marine and controllable markets. Primarily in the lower horsepower ranges but also we can select high horsepower project. However, crew boat demand in Asia and U.S. Gulf Coast remains strong for higher horsepower marine transmissions. Sales for our proportion products in the quarter also declined slightly year-over-year. As many of the global controllable markets projects have fallen behind schedule. To global pleasure craft market specifically in the 44th to 84th range, remained as historically weak levels. However, as we mentioned in our fiscal 2014, fourth quarter call, we did see some increase in activity in the Australian yacht market and the North American customs port fish market, where we have been successful with our Express Joystick System in cooperation with CAT and the 360PC system. While our marine shipments were lower versus year ago level, demand remained at high level for the offshore oil and gas markets especially in the U.S. Gulf Coast. First quarter sales into our industrial markets increased when compared to last year. The majority of improvement is driven by increase in demand from a North American market sectors, including oil and gas, irrigation, recycling and construction. We anticipate this trend continue in throughout the fiscal year. Sales into our transmission markets improved versus fiscal 2014 first quarter level. Shipment into our North America oil and gas markets significantly and partially offsetting this increase was a decline in oil and gas demand from China and anticipated slowdown in our legacy military contract. Gross margins for the quarter were 34.5% compared to 31.1% a year ago and 29.2% in the previous quarter. A better mix of products specifically within our transmission products drove the gross margin improvement over the previous quarters. First quarter spending in marketing, engineering, and administrative or ME&A expenses increased by 2.5% for 393,000 versus the same period last fiscal year, and 15.5 million to 15.9 million. Most of this increase was driven by inflationary items offset by slight decreases in pension and stock based compensation expenses. Turning to the bottom line, the fiscal 2014 first quarter net earnings was 4 million or $0.36 per share versus 1.3 or $0.11 per share a year ago. EBITDA for the first quarter was 9.4 million compared to 6.6 million a year ago. Turning to the balance sheet, we ended fiscal 2015 first quarter with total debt of 23.6 million compared to 18.4 million at the end of the previous fiscal year. Contributions to our domestic pension plan of 3.4 million was the primary factor in the increase. Inventory in the quarter declined slightly by 126,000 from 97.6 million to 97.5 million. Our balance sheet remains strong, the debt-to-capital is still low at 13.5% in the positive net cash position. Our six months backlog decreased from 66.1 million to 63.4 million. Orders for North American markets improved, while Europe remained stable and the orders for Asian decreased in the quarter. Well, taken as one data point, the slight decline is not good news, but we remain confident that the positive trends that we have been seeing in North America can continue just like the many conflicting global macroeconomic indicators. And then our momentum in Asia will return during the fiscal year. The first quarter result, especially on earnings and margins were good start to the fiscal year. But the slowdown that we have seen in Asia begin to politicize some of those global macroeconomic trends that we have been following. While we feel the fiscal 2015, will be an improvement over fiscal 2014, but is too seen to predict by how much. Our lead times remained historically short for a higher horsepower transmission including those in oil and gas. We are acting to any new orders can happen within the quarter. And we still feel that there is some opportunity to take market share with these competitive lead times. Looking at the longer term, you feel free that overall energy markets are still a good place to be and we continue to develop new products for these markets. An acquisition opportunity is to enhance our position within these markets. That concludes my prepared remarks, and now Chris and I will be happy to take your questions. Christy, please open the line for questions.

[Operator:]

Thank you. (Operator Instructions). And we will take our first question from Josh Chan with Baird.

[Josh Chan:]

Very good morning John and Chris. Hi, I was wondering if you can talk a little bit more about the softness that you are seeing in Asia both on the marine side and oil and gas side. And what's causing that and also what gives you confidence that might recovery it within a year?

[John Batten:]

I guess I will start with the easy one first. Some of the marine softness really driven by the demands for polls in China and so a lot of the activity is lower, versus year ago level with some of the coal tugs, [Inaudible] activity and it was kind of a slowdown in orders and building and we think that has – that has flattened out and should improve at some point during the fiscal year and then there was some higher horsepower projects, they were kind of delayed and that kind of late, they were delayed. So, overall we think that those opportunities are still there, they have just been pushed out a quarter of two or maybe more. Oil and gas, I should have been little bit more specific, we did have demand with some of the – our customers in China are purchasing in the U.S., so they showed up as North American sales. I just think there's been a slowdown in China, they plan developing an issue new leases and some of the planned activity. We don't see that going away, it just looks like they have moderated a bit, in building new equipment, because they are not sure of the timing of – when we are going to get the leases for new activities. So that, those are the two primary places that we saw the slowdown.

[Josh Chan:]

Okay. Okay. That's helpful. And if I can look into the North American market, oil and gas market, you said in your comments that customers have been more cautious in placing orders and I was wondering if, you have seen customers potentially wanted deferred deliveries as well?

[John Batten:]

We have had a mix. There is been some activity pushed out from one quarter to another, but then we had other things pulled in. I guess, one of the best signs that we have seen, Josh, really is the increase in rebuild activity and aftermarket, rebuilding the equipment has being used. And so that's one of the data points, that makes us feel a lot better about the North American market in general, going forward, if they are spending the money to rebuild things that are being used for the last to be three to five years but they have been postponing. So, there has been push out from one quarter to another, there is also been units, that they have been pulled in. Again, it's the mix depending upon the customer and what fleet they are concentrating at any one time.

[Josh Chan:]

Okay, okay, and how big is the rebuild in terms of order of magnitude compared to new equipment for you guys?

[John Batten:]

I don't have in front of me, I would say off the top of my head, I don’t know – it was extremely low for many quarters but we will probably up, I would have to say maybe in the 20% range, it's – and I would say, we are – it's just kind of at the beginning of that, Josh.

[Josh Chan:]

Okay. Okay. And so, if we think about the North American oil and gas market in an environment where pricing of oil have come down significantly, how should we think about kind of the trajectory of this market, looking out 6, 12, 18 months or so?

[John Batten:]

That is a very good question because that $20 drop in oil happened so late in the quarter, I can't say what effect it had on the first-quarter results but looking forward, certainly, the drop in oil does not, it doesn't improve the prospects and I don't know how much it damaged it because there is still, there is still the supply here, there is still a demand. I can't tell you what is that the price point that is going to prevail activity significantly, I don't know I mean, if it's in the 70s, if it's below 70, below 70, but certainly I think there is some other constraints on whether it's the sand or the trucking and expense side, I guess, part of that question is, how much of the expense side going to go up with the barrel price. I don't like to see it 70, it's kind of makes you wonder a lot more but, my gut feeling is that, it's going to start to go back up in 80s. Because I just don't see it coming down, I know there is some people, I forget the guy's name who think it's going to go down in the 20s. I personally don't buy that I don't think we buy that here. But I don't know when it's going to get backup over 100. But I see that more, much more likely scenario has been going down into the low 70s and 60s. I can honestly say, Josh, so far it does not had an impact. It's too soon to talk.

[Josh Chan:]

Okay. So, you haven't had anybody, customers come and call because of the price movement basically is what you are saying?

[John Batten:]

Yes, yes.

[Josh Chan:]

Okay, alright. Thank you for the call. I will jump back into.

[Operator:]

And we will take our next call from Walter Liptak with Global Hunter Securities.

[Ryan Cassil:]

Hi guess this is Ryan of Global. Just to elaborate on the North American oil and gas market a little bit. Could you talk about the order trends as worked through the quarter and possibly coordinate a date, it doesn't sound like things change too materially, but any color there?

[John Batten:]

Yes, I mean, I would again, this is – I just wanted to say, it's hard to read on a quarter-to-quarter basis because we did have a lot of – not a lot – a good number of customers, when they started ordering or placing, a demand for six months. And so, that their overall demand of number of units hasn't changed really at all. It's more of the timing of when they want it and depending upon who we are selling it to, when their customers wanted. I do sense the increase in rebuild activity and replacing units with the transmission or engines with new unit is on the increase so, regardless of the price of oil, I guess going back-to-back, they still have to bring a certain amount of energy, energy up out of the ground and I know they are looking at everyday whether it's going to be a rebuild activity replace it, with new units, or just by new rigs altogether and keeping the cost down because one of the most expensive things you can do is get to your fractals and have several units not looking and that fractals got significantly expensive so. I see the overall momentum still as positive. And for me it's fully by the – for us the increased in aftermarket activity and rebuild activity. So, I suspect that we still have a good run here on all this from North American but it could moderate quarter to quarter and we don't report out at six month. So, a lot of what we could get an order, is going to be plan for seven, eight months from now, and it won't show up. So, overall positive but the quarter-to-quarter could be up-and-down a little bit. Like it was this quarter.

[Ryan Cassil:]

Okay. Thanks. And just go back to the shadow inventories that we have talked about in the past, where do you think we are now in the channel and - are we kind of that equilibrium going forward?

[John Batten:]

We are lot closer to equilibrium given the actual market activity. I think a lot of what they were doing is, when unit would, for whatever reason was not operable, they replaced it with the new unit from inventory and I think in the last three months, we have gotten down much closer to zero again with the profits and there is still some operators who had slightly more than others. So, if not uniform but I would say, we are very close to that point where a lot of inventory is now – had been used up or will be in this quarter.

[Ryan Cassil:]

Okay. Great. Thanks for the color. I guess, and then finally it sounds like in North American the industrial markets, general industrial is strong for you guys. Could you just elaborate a little on what you are seeing there and where that demand is coming from?

[John Batten:]

Actually I would say is, it's broad base. We just had a lot more activity and I know talking with our sales guys and our distributors, it seems like a lot of projects are put on hold finally came through and it was also one, a couple of projects with our (inaudible) which we have been slower than we would have liked to get into market, we are battling a couple of domestic players that have in tranche market share and this is top product that we acquired many years ago from technique, we required technique in Italy and we are starting to see much better market penetration with our products. So that is into -- but there is one product that's what I think we can improve overall, I would say it's just broad some of our customers are feeling more confident moving ahead with projects.

[Ryan Cassil:]

Okay. Okay. And this is my last one, I promise but on the – it sounds like on the second quarter sales are going to be flat to slightly up from last fiscal 2014. Is that in line with your overall plan? I know you guys have better visibility on the timing of shipments. I guess is that in line with your thoughts to begin the year and have Q or second half being strongly weighted?

[John Batten:]

Yes, the short answer is yes. I do miss the days when our trends used to be that sales and earnings influenced sequentially as we move through the year, so the first quarter was the weakest and the fourth quarter ends the strongest. So that trend has gone away. And so, now we are dealing with typically our first quarter that can be very strong and then second quarter or third quarter not as strong as the first quarter, but the fourth quarter typically is very strong. So you have first quarter and fourth quarter now seems to be the trend of the strongest quarters and second and third quarters flip flopping which can be the most difficult, but I would, I guess the second half of the year, I think it's going to be better than the first half of the year. And the question of with the second quarter and again, it’s not that I’m trying to be query or anything but there are – it's for us the timing of shipments for instance if we ship 12 85,000 to Asia, if we don't make the cut off in the second quarter as far as the timing, all of that will show up in the third quarter. So there are very discrete package of shipments that can affect which quarter is going to be stronger second or the third quarter.

[Ryan Cassil:]

Okay. Great. Thanks for the color. I will catch up. Thanks guys.

[Operator:]

And we will take our next call from Steve McManus with Sidoti & Company.

[Steve McManus:]

Hey guys how are you doing?

[John Batten:]

Hi Steve.

[Steve McManus:]

Just a quick question regarding on ME&A it jumped at about 24.5% of sales this quarter. I just wanted to see your thoughts you think that's a fair run rate going forward or it's kind of hard to tell?

[Chris Eperjesy:]

No. I mean it's not a fair run rate because kicking into John’s comments just now, typically the top line still will grow throughout the year, you won't see a comparable growth in ME&A, so the answer is no. I mean that's the high point. Also we are expecting this year to be a better year than last year. So there is some incentive compensation that built into the numbers this year when there was virtually none last year. But to answer your question is no. I mean that's the high point I would expect for –

[Steve McManus:]

Okay. Great. Thanks guys. And then just to getting back to the product mix shift, has there been a significant change weighting more towards the power transmission systems since last quarter end what your thoughts on the mix moving forward?

[John Batten:]

Yes. There was few shifts, the oil and gas shipment is the percentage of our overall sales increase and there is the shift from the shipment gone to Asia versus the shipments staying here in north America. And the biggest, I would say the biggest impact of that certainly it drove the margins up just on the mix within the geographic mix and the timing, when we shift to North America we essentially can recognize the sale immediately. So, we get that margin effect typically when we are shipping to Asia, its expanding quarters. So that shift to North America had a higher margin mix shift had a good impact on the first quarter.

[Steve McManus:]

Okay great. Thanks a lot guys I appreciate it.

[John Batten:]

You are welcome.

[Operator:]

[Operator Instructions] And we will take our next question from Doug Dyer with Hartland Advisors.

[Doug Dyer:]

Good morning gentlemen. What do you think in terms of (inaudible) towards pricing is that helping or hurting you at this point and do you sense that your market share is going in which direction?

[John Batten:]

In the quarter I have to say I haven’t looked at it. I think I truly believe that both of our market share is increasing and I don't think – I think this year the same philosophy is – I don't think they are out to set any type of price war. I don't –pricing, does come up, I think CAT financing comes up more and so, we do need that channel of financing to operate. That is – I think that is the certainly a competitive dynamics that we are well aware of. But to-date it hasn’t come up with – as a major threat on CAT as far as pricing. If that's the question, I haven’t seen that I mean we are working hard on as I think layer, on getting as much of the business that's out there. And certainly I do think there market share is increasing and I think that our market share in the market of that's here right now, is also increasing. It has particularly what we have been able to do in Asia.

[Doug Dyer:]

All right. Thank you very much for the color.

[John Batten:]

You are welcome.

[Operator:]

And we will take our next question from Josh Chan with Baird.

[Josh Chan:]

Hi guys just a couple of follow-up questions. In your outlook comment you said that Q2 the top line might be similar to last year, I guess is it fair to assume that perhaps you would still have a better mix than you did last year?

[John Batten:]

Yes. I think certainly there is and I got to think, it can change because our – the order lead time to all products is very short, but yes certainly I think that given where we are today and what we have delivered in the first quarter, I think that's a fair expectation.

[Josh Chan:]

Okay and then the last question is you said that you expect fiscal 2015 to be better than 2014 on the top line. I guess like the first half is going to be down slightly. So what in your mind will kind of drive to growth in the second half to make up for the difference?

[Chris Eperjesy:]

I guess Josh, in the first quarter already I think we beat the first half of last year in terms of the bottom-line. So, if that happen, Josh were you talking the top line or the bottom line?

[Josh Chan:]

Yes the top line. Top line.

[Chris Eperjesy:]

Topline. John, go ahead.

[John Batten:]

Yes, well I do think is one of the turnkey, if we take turnkey out, I think we can – there is a chance that we can hit last year, beat last year in the first half there is that chance. Certainly full fiscal year it is a fake assumption borrowing anything that we don't know now that we will beat the top line of fiscal 2014.

[Josh Chan:]

I guess what I wondering was is, the markets that you start to thinking can drive that growth compared to last year that you are more confident than other markets.

[John Batten:]

Certainly North American oil and gas is one and just the North American industrial business is going to help drive it.

[Josh Chan:]

Okay. Great. Thank you for your time.

[John Batten:]

Thanks Josh.

[Operator:]

And we will take our next question from Walter Liptak with Global Hunter Securities.

[Ryan Cassil:]

Hi guys just one more. It sounded like the pleasure craft market picked up a little bit and maybe outpaced your expectations, if that's true has your outlook changed in pleasure craft throughout the year because I know it’s coming off almost zero, so just want to get your comments?

[John Batten:]

I will say no, and I am going to be specific on the pleasure craft. Certainly we don't participate in that tradeable market which I think is actually doing quite well and then the (inaudible) things above 100 feet those are still doing relatively well but there is just so few of those. They don't really move the needle as they are so few transmission and available in the market. The real market that has suffered versus 2008 is that 40 foot to like 90 foot, 83 feet, 78 feet, those are the ones that are the multimillion dollar yacht that people will financing and that financing generally gone and in Europe, even if you can pay cash for it, every time in Italy and France every time you move out of the hard door, custom is there to make sure that you have your taxation there and pay taxes and control, you didn’t have illegal fund to finance it. Here in North America, that's not much of an issue. It’s just the general financing. So it's – I still think that we are years away from that market recovering. Having said that, we are just talking about CAT and oil and gas, how we compete on transmission, in this market CAT is our best alley because typically our marine transmission are designed around their engines and we have the joint Joystick System and the CAT marine sales group is pushing hard to gain market share. They have new engine coming out, they’ve got POD coming out. So, I do think that (inaudible) market will eventually get us more business, albeit in a much smaller market historically than we have been used to, in the 2000 kind of, but from the step level up to 2008. I don't know when that growth in that range of both is going to come back. If it's not going to be driven in what Europe at all so we are going to rely on North American, Australian and to some extend people from Hong Kong and China where they are going to – they can buy the boat, the question that they have in that market is where they are going to put the boat. So we still see a lot of opportunity but it's going to be overall in a smaller market. I hope that helps.

[Ryan Cassil:]

Yes, it sounds like its kind of unchanged in any upside would be kind of incremental to people's expectations at this point.

[John Batten:]

I would 100% agree with your statement.

[Ryan Cassil:]

Okay. All right. Thanks guys.

[Operator:]

It appears there are no further questions at this time. I would like to turn the conference back over to Mr. John Batten for any additional or closing remarks.

[John Batten:]

Thank you Christi and thank you for joining our conference call today. We appreciate your continuing interest in Twin Disc and hope we have answered all of your questions. If not, please feel free to call Chris or myself. We look forward to speaking with you again in January following the close of our second fiscal quarter. Christy I will now turn the call back to you.

[Operator:]

That does conclude today's conference. Thank you for your participation.