Titan Machinery's CEO Discusses F3Q13 Results - Earnings Call Transcript

| About: Titan Machinery (TITN)

Titan Machinery Inc. (NASDAQ:TITN)

F3Q13 Earnings Conference Call

December 6, 2012 08:30 AM ET

Executives

John Mills - ICR

David Meyer - Chairman and Chief Executive Officer

Peter Christianson - President and Chief Operating Officer

Mark Kalvoda - Chief Financial Officer

Analysts

Michael Cox - Piper Jaffray

Steve Dyer - Craig-Hallum

Rick Nelson - Stephens

Brent Rystrom - Feltl and Company

Neil Frohnapple - Northcoast Research

Brian Sponheimer - Gabelli & Company

Mircea Dobre - Robert W. Baird

Tom Varesh - M Partners Inc.

Operator

Good day everyone, and welcome to today’s Titan Machinery Incorporated Third Quarter Fiscal 2013 Earnings Conference Call. [Operator Instructions] Hosting today's conference will be John Mills of ICR. As a reminder, today's conference is being recorded. And now, I would like to turn the conference over to Mr. John Mills. Please go ahead, sir.

John Mills

Thank you. Good morning, ladies and gentlemen, and welcome to Titan Machinery's Third Quarter Earnings Conference Call. On the call today from the company are David Meyer, Chairman and Chief Executive Officer; Peter Christianson, President and Chief Operating Officer; and Mark Kalvoda, Chief Financial Officer.

By now, everyone should have access to the earnings release for the fiscal third quarter ended October 31, 2012, which went out this morning at approximately 6:45 a.m. Eastern Time. If you have not received the release, it is available on the Investor Relations portion of Titan's website at titanmachinery.com. This call is being webcast, and a replay will be available on the company's website as well. In addition, we are providing a slide presentation to accompany today's prepared remarks. We suggest you access the presentation now by going to Titan's website and clicking on the Investor Relations tab. The presentation is directly below the webcast information in the middle of the page.

Before we begin, we would like to remind everyone that the prepared remarks contain forward-looking statements, and management may make additional forward-looking statements in response to your questions. These statements do not guarantee future performance, and therefore, undue reliance should not be placed upon them. These statements are based on current expectations of the management and involve inherent risks and uncertainties, including those identified in the Risk Factors section of Titan's most recently filed 10-K and subsequent 10-Q. These risk factors contain a more detailed discussion of the factors that could cause actual results to differ materially from those projected in any forward-looking statements. Titan assumes no obligation to update any forward-looking statements that may be made in today's release or call.

Lastly, due to the number of participants on the call today, we ask you to keep your question period to one or two questions and then rejoin the queue. The call will last approximately 45 minutes. David Meyer will provide highlights of the company's third quarter results, a general update on the company’s business and review the company’s recent acquisitions. Then Mark Kalvoda will review the financial results in more detail, and Peter Christianson will discuss the company’s segment operating results and its fiscal 2013 annual revenue, net income and earnings per share guidance range along with its outlook modeling assumptions. Then we will open the call to take your questions.

Now, I would like to open the call to the company’s Chairman and CEO, Mr. David Meyer. Please go ahead, David.

David Meyer

Thank you, John. Good morning everyone. Welcome to our third quarter of fiscal 2013 earnings conference call. As John mentioned, to help you follow today's prepared remarks, we have provided a slide presentation, which you can access on the Investor Relations portion of our website at titanmachinery.com. If you click on the Investor Relations tab on the right side of the page, you will see the presentation directly below the webcast in the middle of the page.

On slide two, you will see our third quarter and first nine months of fiscal 2013 results. Our revenue for the third quarter was $582.1 million, pre-tax income was $23.8 million, and we earned $0.66 per diluted share.

For the first nine months of this fiscal year, we generated $1.4 billion of revenue, our pre-tax income was $44.9 million, and we earned $1.27 per diluted share. On our call today, we will discuss the company’s continued top line growth, driven by organic and acquired growth across both our Agriculture and Construction segments.

For our Ag business, despite this year’s drought that impacted customer settlement earlier in the year, this quarter, we were successful improving our margins and leveraged fixed expenses to increase our pre-tax income.

For our Construction business, we continued to grow our top line revenue, however, on today’s call, we will discuss some factors that are affecting our bottom line results for this segment. In addition, we will discuss our current equipment inventory levels and equipment inventory strategy going forward.

We are raising our fiscal year 2013 revenue guidance range and we are iterating our earnings per share guidance range. Peter will provide additional information on this during his prepared remarks.

Now, I would like to provide some color on each of our industries that are key to our business. On slide three, we provide an overview of our agricultural industry. Despite this year’s highly publicized drought, the settlement of our farmers has improved through the third quarter. Producers enjoyed an early harvest growing season, providing them plenty of time to prepare the fields for calendar year 2013 growing season, as well as lowering their current year harvest costs.

This year’s final yields exceeded the previous lowered expectations before harvest. Higher commodity prices are creating an increased return on investment for our producers, land improvements which will enhance future yield potential.

The lower projected 2012 U.S. crop carryover is supporting higher commodity prices, providing a strong market for our customers’ 2012 and 2013 crop production. Crop insurance proceeds supplemented reduced yields and USDA is projecting net farm income for calendar year 2012 to be $114 billion, which is well above the 10-year average net farm income.

We anticipate increase in 2013 planted acres as a higher percentage of available land will be utilized for crop production. As an example, acres in the Conservation Reserve Program are returning to crop production after not being utilized for over 20 years. Also, with the low field moisture levels, many areas previously too wet to farm can now all be in production. The Section 179 and 50% bonus depreciation tax incentives through December 31st, 2012 are a positive factor for equipment sales through the end of the calendar year.

While turning to the Construction segment of our business, on slide four, we provided an overview of the construction industry in our markets. Titan’s footprint includes one of the highest growth energy production regions in the U.S., which will provide us with the long-term demand for construction equipment we supply. Our construction business continues to benefit from this increased energy industry activity in our region, including coal, natural gas and oil. North Dakota has now become the second largest oil production state in the United States.

As many of you are aware, several of the states in our footprint are capitalizing on the Bakken, Three Forks, Niobrara and Tyler Oil formations. With our recent acquisitions of a number of Colorado construction locations, we have expanded our exposure to the Niobrara formation in eastern Colorado and Wyoming.

Our agricultural customers continue to drive demand for our construction equipment to use in their farming operations, including feedlots, material handling, land improvement and land maintenance. This year’s early harvest provided increased opportunities for land improvement projects.

(inaudible) housing industry which is coming off of 30-year low. Low mortgage interest rates, increasing employment and a near-record low inventory of new homes will likely lead to an improvement in housing starts in 2013 as well. We continue to see growth in rental equipment demand, which is in line with industry forecasts. Peter will update you on the status of this additional growth platform for our company.

Even though we are seeing improved demand in our parts of our construction segment, the slower and expected economic recovery continues to impact the entire U.S. construction industry. Industry equipment inventories have increased year-over-year at both the dealer and manufacturer levels. Peter will update you on how these factors impacted our construction segment in his remarks.

Turning to slide five, you will see our recent acquisitions and store opening activities. We are continuing to expand our U.S. and international Titan Machinery footprint through strategic acquisitions as well as selective new store openings across our agricultural, retail, construction retail, rental and international growth platforms.

Subsequent to the end of the third quarter of fiscal 2013, we completed an acquisition consisting of three agricultural dealerships in Nebraska and an acquisition consisting of two construction dealerships in Arizona, which marked our first dealership in the state. We also recently entered in an agreement to acquire an agricultural dealership in Serbia, which complements our locations in Romania and Bulgaria.

We also have received approval to distribute Case IH agricultural products in the Ukraine, and we look forward to opening our first location in this country during the fourth quarter of fiscal 2013 and further capitalizing on the opportunity in eastern Europe.

We have added locations across all of our growth platforms this year, Ag Retail, Construction Retail, Rental and International distribution. We are pleased with our acquisition to date, and we remain focused on expanding our footprint through selective acquisitions and store openings in our existing and contiguous markets as well as evaluating opportunities for future growth abroad.

And now, I would like to turn the call over to Mark Kalvoda, our Chief Financial Officer to review our financials in greater detail.

Mark Kalvoda

Thanks David. Turning to slide six, our total revenue for the fiscal 2013 third quarter grew 37.6% to $582.1 million, with approximately 64% from organic growth and 36% from acquisition growth. All of our revenue sources contributed to this quarter-over-quarter increase. Our revenue growth reflects higher sales in both our Agriculture and Construction segments.

Our sales mix was weighted more towards equipment revenue this quarter and was reflected in our overall gross profit margins. Although our rental and other revenue stream grew 25%, we anticipated a larger increase from this revenue source. Peter will comment further on the impact of this less-than-anticipated revenue growth from our rental business in our construction segment results.

On slide seven, our gross profit for the quarter increased 27.1% to $94.1 million, reflecting higher revenues. Our gross profit margin was 16.2% compared to 17.5% for the same quarter last year. As I mentioned on the previous slide, gross margins were impacted by a change in sales mix in which our higher margin parts and service business made up a lower percentage of our total gross profit. It’s important to note that our equipment margins improved to 9.2% for the third quarter from 8.8% in the second quarter of fiscal 2013.

Third quarter Ag equipment margins year-over-year improvement offset lower construction equipment margins. Our overall third quarter equipment margins were in line with our expectations and support our full-year equipment margin modeling assumption of 9.3%. Our operating expenses as a percentage of net sales in the third quarter of fiscal 2013 were 11% compared to 11.8% for the same quarter last year. This reflects our operating leverage across higher revenues.

Our overall interest expense increased approximately 40 basis points. While Floorplan interest expense increased as a dollar amount, it was relatively flat as a percentage of sales. Our other interest expense increased $2.6 million to $2.9 million, which accounts for the 40 basis point increase. This other interest increase is primarily due to our April 2012 convertible debt offering.

Our pre-tax margin was 4.1% compared to 5% in the third quarter of last year. The quarter-over-quarter decline primarily reflected the lower gross margin percentage as a result of the change in sales mix in addition to the increase in other interest expense as I just discussed. Earnings per diluted share for the fiscal 2013 third quarter was $0.66 compared to $0.61 in the third quarter of last year.

Slide eight shows our results for the first nine months of fiscal 2013. Our revenue increased to $1.41 billion, which is a 34.4% increase compared to the same period last year. Again, all four of our revenue streams, equipment, parts, service and rental and other contributed to this growth.

On Slide 9, our gross profit for the first 9 months of fiscal 2013 increased 28.6% to $234.8 million, reflecting our higher sales for the first 9 months of the year. Our gross profit margin was down 80 basis points primarily reflecting lower equipment margins. Overall, interest expense increased 50 basis points which reflects higher Floorplan interest as a percent of sales due to increased levels of interest bearing inventory as well as higher other expense due to the convertible debt offering. Our pre-tax margin for the first 9 months of the fiscal 2013 was 3.2% compared to 4.2% for the same period last year, with the decrease being primarily attributable to lower equipment margins and higher interest expense. Earnings per diluted share were $1.27 compared to $1.31.

Turning to Slide 10, we provide an overview of our balance sheet highlights at the end of the third quarter of fiscal 2013. We had cash and cash equivalents of $115.7 million as of October 31, 2012. Our inventory level was $1.05 billion as of October 31, 2012 compared to $748 million as of January 31, 2012. Of the $300 million inventory increase, $57 million was from acquisitions, new inventory including acquisitions increased $281 million from the end of fiscal 2012 and our used equipment inventory including acquisitions remained flat with a slight decrease of $1 million from the end of fiscal 2012. I will provide an overview of our equipment inventory with the next slide. We increased our Rental Fleet Assets to $105 million compared to $62 million at the end of last year. This is in line with our strategic growth plans for the rental business. As of October 31, 2012, we had $189 million available on our $925 million Floorplan Lines of credit. The $925 million reflect the $125 million increase in our Floorplan Lines which became effective in October.

Turning to Slide 11, I would like to provide an update on our inventory levels. Consistent with what we have projected on our last conference call, we saw equipment inventory levels increased during the third quarter. You will notice that the increase occurred in new equipment inventory which is reflected in the blue bar, while used inventory noted by the red bar continues to remain flat. We remain disciplined in the management of our used equipment inventory as we hold market fluctuation risk associated with this inventory. We have increased our new equipment inventory levels through the third quarter positioning us well for our seasonally strongest equipment sales quarter of the year. It is important to remember that approximately 50% of this new equipment inventory is financed with manufacturer on non-interest bearing terms. In addition, this inventory availability is critical as our customers need to take physical possession of the equipment to qualify for the section 179 and 50% bonus depreciation available to them through December of the current year. As we stated on our second quarter call, with the increase in inventory levels and shorter production lead times in both the agriculture and construction industries we are changing our inventory strategy to increase our inventory terms. Our primary component of this strategy will be placed on marketing new equipment. It is important to remember that many of our production slots were locked in 12 ago, prior to the change of market conditions and we projected our new inventory levels to peak in the third quarter and forecasted our equipment inventory to decrease in the fourth quarter as reflected on Slide 11. We anticipate a $75 million decrease in equipment inventories excluding fourth quarter acquisitions by fiscal year end. Our inventory management strategy supports our long term financial goal of achieving a three time inventory turnover.

Slide 12 gives an overview of our cash flow statement for the first 9 months of fiscal 2013. When we evaluate our business, we look at our cash flow related to the equipment inventory net of financing activities with both manufacturers and other sources including non-manufacturer Floorplan notes payment and convertible notes, which are reported on our statement of cash flow as both operating and financing activities. Until we report on future growth opportunities, our temporary use of the portion of the proceeds from our convertible debt was to reduce our Floorplan notes payable balances, resulting in a higher level of equity in our equipment inventory than we have historically maintained. We use this adjustment to maintain a constant level of historical equity in our equipment inventory at 15%. When considering a non-manufacturer Floorplan proceeds and the impact of our convertible note proceeds on our equipment inventory financing in the first 9 month of fiscal 2013, our non-GAAP net cash used for inventories was $55 million. In our statement of cash flows, the GAAP reported net cash used for operating activities for the first 9 months of fiscal 2013 was $172.7 million. We believe including all equipment inventory financing as part of our operating cash flow better reflects the net cash flow of our operation. Making these adjustments, our non-GAAP adjusted cash used for operating activities during the first 9 months of fiscal 2013 was $32.9 million. As our inventory turnover improves, this will have a positive effect on our operating cash flow.

Now, I would like to turn the call over to Peter to discuss the agriculture and construction operating segments in more detail and to discuss our fiscal 2013 annual guidance. Peter?

Peter Christianson

Thanks, Mark. Now, I’ll turn to Slide 13. You will see an overview of our segment results for the third quarter. Agricultural sales were $503.5 million, up 39.2% driven by acquisitions and organic growth. We generated an Ag pre-tax income of $26.1 million, an increase of 29.9% compared to the prior year period. The improvement in pre-tax income primarily reflects higher equipment sales, partially offset by increased Floorplan interest expense.

Turning to our construction segment. Our revenue increased to $94.9 million, up 22.5%, which reflected strong acquired growth, organic growth, and the expansion of our rental business. Construction segment pre-tax income decreased to $0.5 million from $3.3 million in the prior year quarter. The decrease in pre-tax income is primarily the result of three factors. The first factor is lower equipment margins driven by increased industry equipment inventory availability and the associated pricing pressure, especially in metro areas. Additionally, we anticipated more aggressive rental revenues as we ramp up this growth platform of our business. The additional rental revenues drive significantly higher margins as the primary cost associated with the rental fleet have already been recognized. Finally, our construction pre-tax income was impacted by increased interest expense associated with our rental fleet and higher Floorplan expenses.

In summary, we continue to growth the construction segment of our business and although the operating margins are less than anticipated, we are confident the segment of our business represents significant future earnings leverage as we implement our inventory strategy, increase our rental utilization, and integrate our acquisitions into the Titan operating model.

Slide 14 shows our first 9 months segment overview. Our Ag revenue increased 31.2% in the first 9 months of fiscal 2013 compared to the first 9 months of last year. Our pre-tax income increased 15.9%. As you may recall, our Ag pre-tax income was impacted in the second fiscal quarter by the drought which pressured our equipment margins. Our construction revenue increased 49.8% in the first 9 months of fiscal 2013 to $271.7 million as we continue to expand this segment of our business through organic and acquired growth as well as rental growth. The lower pre-tax income reflects the factors I mentioned in our quarterly overview.

Turning to Slide 15, this shows our same-store results for the third quarter of fiscal 2013. Our overall same-store sales increased 24.5%, highlighting year-over-year improvements in both segments. The improved agriculture same-store sales increased to 26.4% for the third quarter of fiscal 2013 highlights our ability to continue to growth organically despite the weather related challenges earlier this year. Our third quarter 2013 construction same-store sales increased 15.2% reflecting the continuing recovery of the construction industry in our markets as well as our initiative to expand our rental business. For the third quarter of fiscal 2013, overall same-store gross profit increased 16.4% year-over-year, primarily reflecting higher sales. Our same-store sales growth outpaced our same-store gross profit growth due primarily to the lower equipment margins we discussed earlier.

Slide 16 shows our same-store results for the first 9 months of fiscal 2013. Our same-store sales increased 19.2% and our same-store gross profit increased 14.8%. For modelling purposes, it is important to remember that we calculate same-store sales by including stores that were with Titan for the entire period in which we are comparing. In other words, only stores that were part of Titan for the entire three months of the third quarter of fiscal 2012 and the third quarter of fiscal 2013 are included in the third quarter same-store comparison. In the third quarter of fiscal 2013, a total of 24 locations were not included in our third quarter same-store results consisting of 19 agricultural stores and 5 construction stores. For the first 9 months of fiscal 2013, a total of 33 locations were not included, consisting of 21 agricultural stores and 12 construction stores.

Slide 17 shows our fiscal 2013 annual guidance. As David said, we are raising our previously issued revenue guidance range and reiterating our earnings per share range. We expect fiscal 2013 revenue to be in the range of $2 billion to $2.15 billion from the previous range of $1.95 billion to $2.1 billion. We expect our annual net income attributable to common stockholders to be in the range of $44.1 million to $48.3 million resulting in an earnings per diluted share range of $2.10 to $2.30 based on an estimated average diluted common shares outstanding of 21 million shares. Our modeling assumptions supporting our guidance are as follows:

We are raising our Ag same-store sales to be in the range of 6% to 11% compared to the previous range of 3% to 8% and we are maintaining our construction same-store annual growth to be in the range of 18% to 23%. It’s important to note that our comps in the fourth quarter of last year were 38.1% for our Ag segment and 61.1% for our construction segment. We are maintaining our equivalent margin modeling assumption to be approximately 9.3% for the year. This equivalent margin assumption is within the range of equivalent margins for the past 3 years which are fluctuated from 8.3% to 11.1%.

Before we take your questions, I would like to conclude by thanking our employees for all of their hard work and thank our valued customers for their continued support. Operator, we are now ready for the question-and-answer period of the call.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And we will first hear from Michael Cox of Piper Jaffray.

Michael Cox - Piper Jaffray

Thanks. Congratulations on a nice quarter, guys. My first question is on the rental business. And you talked about trying to boost the utilization rate in that segment. Can you maybe give us a little more color around what your initiatives are internally to try and drive those utilization rates higher and then a follow-up to that is, what sort of incremental investments do you intend to make as you look ahead to next year to continue to build that – are you content where you are today? Thanks.

Peter Christianson

Thanks, this is Peter. When we talk about our rental business, you know, on our previous calls, we have been sharing with you that we want to grow that growth platform for our business, and we have been increasing our rental fleet. And as we have done that, we put the people in place to drive that business and ramp up that revenue. And it’s just a matter of timing as we grow that fleet revenue, and we increased the utilization. As far as our investment going into next year, we will grow that part of our business and we will update you what the exact amount that we anticipate on that on the next call when we give our annual guidance for our outlook for fiscal year 2014.

Michael Cox - Piper Jaffray

Thanks. And if I could maybe ask one last question here. As you shifted more to pre-sell marketing type program, could you maybe talk a little bit about how your customers have responded to that and how your calls have tracked relative to your expectations?

David Meyer

It’s not a new phenomenon and our customers are fairly used to that. The nice thing that they like about that, it gives the latest technology. Many times they combine multi-unit purchases so they can maximize their buying power by doing – they can find their business. So, it’s a good program. I mean, we have a large percentage of our business, we do pre-sell, but as much as we can expand that in the future, and I think basically our customers like to do business that way.

Michael Cox - Piper Jaffray

Thank you.

Operator

Next, we will hear from Steve Dyer of Craig-Hallum.

Steve Dyer - Craig-Hallum

Thanks, good morning guys. Just was wondering, it’s historically in the third or fourth quarter of each year you have, and I don’t know how you would categorize it, but incentives that come back from CNH regarding hitting certain incentive levels, do you expect that this year, and if so, how do we think about that in the context of gross margin?

Peter Christianson

Steve, this is Peter. We built that into our modeling assumptions. And you could look at our historical results and kind of get a trend line on that based on what we have done historically and then build that into your model with our gross margin assumption on our equipment.

Steve Dyer - Craig-Hallum

Okay. And then, as it relates to Section 179, what are you hearing from farmers and dealers and so forth in terms of how is that impacting the activity relative to Q4 of this year and then how would you anticipate that it would impact next year, if at all?

Peter Christianson

First of all, most of our customers on the Ag side of the business made a lot of money this year. So, they are looking at ways that they can, anything they can do from a tax side of the business, and depreciation is a good one. So, that’s definitely driving business right now. As we look ahead, I think everybody has to understand that right now most of our customers have very little depreciation basis in their entire fleet. So, we look at a very long run rate. We like to accelerate it for this year, but long term, there is a long runway to just get back to normal depreciation levels for most of our customers in their entire fleet.

Steve Dyer - Craig-Hallum

Okay. And then, last question and I will hop back in the queue. Europe, what are kind of you are seeing in the early days in eastern Europe and any additional color there?

Peter Christianson

Yes, we continue to expand our footprint over in eastern Europe and you will see our financial statements where we are doing that profitably. And right now, one of our big initiatives is, we have the distribution rates in Ukraine and so, we look at that opening up additional locations now in the fourth quarter and first quarter and continue to build that out. And then, we are working with training the employees and implementing some of our operating strategy and tactics that we have in North America and bringing that over to eastern Europe on the product support side of the business.

Steve Dyer - Craig-Hallum

Okay. Great, thank you.

Operator

Next, we will hear from Rick Nelson of Stephens.

Rick Nelson - Stephens

Hi, good morning. Can you talk about the acquisition pipeline, where you see the most opportunity in the year ahead? Is it the U.S., eastern Europe, Ag or construction?

David Meyer

You can see, like what we did this year, we have done the acquisitions in all four of those segments of our business. I look at that to continue next year. So, as you can see what we did this year, we made five really nice Ag acquisitions in Nebraska, Imperial and McCook early in the year, Grand Island, Broken Bow and Ord. So, we like that with the irrigation we have from the Ogallala Aquifer. So, there are some nice acquisition targets out there we want to continue, and I think we did a good job what we did this year, construction side. If we look at the last construction markets, very large markets, the Phoenix market, the Denver market. So, we are being pretty selective. We are making acquisitions that make sense and we anticipate to continue to do that in the future.

Rick Nelson - Stephens

Has the drought increased the opportunity and valuations? I am wondering how they compared to what you have done historically?

David Meyer

No, I don’t think that drought has really affected the acquisition pipeline. I think it goes back to the same demographics that you are looking at. You are looking at an aging dealer principle group out there, you are looking at the increased digital sophistication that run these businesses, lack of succession in many cases, the huge capital requirements. I think those are really weighing into way more than anything else.

Rick Nelson - Stephens

Got you. Thanks a lot and good luck.

David Meyer

Thanks Rick.

Operator

And next, we will hear from Brent Rystrom of Feltl and Company.

Brent Rystrom - Feltl and Company

Hi, good morning. Just a couple of questions. The fourth quarter, as we are going around looking at dealers, it looks like you guys are off to a torrid base as far as trade-ins for that new equipment. Would you care to comment on how the portfolio is addressing so far?

David Meyer

Can you repeat that? We didn’t catch it all. Can you repeat the question, Brent?

Brent Rystrom - Feltl and Company

Sure. As I visit in your dealerships and others, it looks like the fourth quarter is off to a very fast start, and I have seen lots and lots of trade-in activity, lots of new equipment leaving your lots. I am curious if you would care to comment on how you feel the fourth quarter has started?

David Meyer

Well, we can’t comment on the fourth quarter right now, but if you look at all of the income that our customers made this year, if we talk about in the call here, higher yields expected throughout the year. We have had really strong commodity prices out there. Historically, it’s a big quarter. So, I mean, there is nothing out there. Take a look at what’s happened in some of the landfills recently. I mean, Brent, to give you a good idea of the buying part of our customers out there right now, it’s a lot of really big positives.

Brent Rystrom - Feltl and Company

It helps when debt for farmers is only 11% of their assets right now. From a – yes, from a simplistic perspective, talking to grain elevators, talking to a lot of people in the grain channel, they think farmers are going to be liquid on this year’s crop at record early times. So, that completes sell-through of the crop. You know, a lot of regions might be done by March, three or four months earlier than normal. Do you feel that the substantial cash coming in earlier than normal could have favorable implications for your first half of next year?

David Meyer

Well, I think that these growers are – pretty sophisticated business people out there right now, and just because they have cash and they have got a lot of borrowing power, the balance sheets are in great shape. So, just because they have that cash, I don’t think (inaudible) cash or grain in their bins. We talked to a lot of growers, our results the other day and he still had last year’s corn on hand. So, I mean, you got a mixed bag there, but I think they have a good business people, and they are going to manage their assets, they are going to manage their liquidity, but I think they have got great borrowing power, and they are going to continue to, I think, buy equipment on normal channels than just because they happen to have a bunch of extra cash, I don’t anticipate doing something frivolous out there, but I think it’s good, and I think the fact that they have cash, they have got great balance sheet, bodes well for that segment.

Brent Rystrom - Feltl and Company

All right. Thanks guys, I will jump back in the queue.

Operator

Neil Frohnapple of Northcoast Research.

Neil Frohnapple - Northcoast Research

Hi, good morning guys, congrats on a nice quarter.

David Meyer

Thank you.

Neil Frohnapple - Northcoast Research

Equipment gross margins were better than we anticipated in the quarter and were flat year-over-year. The full-year guidance of 9.3% implied, I believe, a sub 10% performance in the fourth quarter, which should be over 100 basis points drop year-over-year. So, just curious on what you expect to change in the fourth quarter or if you are just being conservative in light of the environment, particularly on the construction side?

Mark Kalvoda

For our fourth quarter, Neil, this is Mark, we are expecting – to get it to balance out there about that 9.3%, it’s right around that 10%. And that fourth quarter, that’s when we have true-ups on some of those incentives that typically happened, and with that strong fourth quarter, equipment sales quarter, that also does that typically bring a little bit stronger margins in that fourth quarter. So, we are not anticipating anything I think unusual in that quarter. And it’s going to balance out to around that 9.3% is what our expectation is for the year.

Neil Frohnapple - Northcoast Research

Okay. I guess I was just trying to understand the – you guys were flat year-over-year in the third quarter, but then, expect 100 basis points decline in the fourth. Just wondering maybe those incentives were less than normal if there’s anything funny going on that doesn’t sound that way?

Mark Kalvoda

No. But the other thing that we kind of mentioned during the call, too, is that CE is running lower than -- the construction side is running lower than what has happened, especially compared to the prior year. So, that kind of balances out the percent in the fourth quarter as well, bringing it down.

Neil Frohnapple - Northcoast Research

Okay. And have used equipment prices stabilized in your markets or are you still experiencing price declines in both construction and Ag, if you could comment there?

Mark Kalvoda

I think we saw a real stabilization of that throughout the third quarter, and in fact, in certain models, it’s fairly strong.

Neil Frohnapple - Northcoast Research

Okay. Great. Thanks a lot guys.

Operator

Next, we hear from Brian Sponheimer of Gabelli & Company.

Brian Sponheimer - Gabelli & Company

Hi, good morning. Thank you for taking my call. Your primary vendor is going through a consolidation right now with its parent. Do you foresee any sort of changes to your business, maybe ease your financing terms as a result of the consolidation of CNH and the industrial?

David Meyer

Right now, we are seeing business as usual. I think it’s got to be a huge positive to be associated with the world’s third largest capital goods provider, just got to be a real positive out there. But it’s business as usual.

Brian Sponheimer - Gabelli & Company

Okay. And just to be on that, I guess is a flipside to kind of a pre-buy in December. What sort of changes in normal seasonality do you see early next year, if some of your customers take hold of equipment in December?

David Meyer

We see pretty stable business next year, similar to what we have seen historically. One thing we look forward to is we have got some really nice new model introductions, Quadtracs, CVT transmission and our maintenance type tractors. So, from that, definitely it’s good demand for those products as availability becomes larger on those.

Brian Sponheimer - Gabelli & Company

All right. Thank you very much.

Operator

Next, we will hear from Mircea Dobre of Robert W. Baird.

Mircea Dobre - Robert W. Baird

Thank you, good morning. I was wondering, can you comment directionally on where you see inventory heading next year, and maybe also give us a little color on pre-sell, what you have done for, instance in pre-sell, in the current fiscal year versus what you expect to do next year?

David Meyer

We commented, Mic, on our inventory strategy where we are trying to go more towards the pre-sell and drive that inventory turn more in line with the long-term financial goal of a three-time turn. And Mark gave some color on that earlier.

Mircea Dobre - Robert W. Baird

Right. So, I am trying to clarify here. Are we talking inventory coming down next year? And I am wondering if you can comment at all as to differences, what percentage of sales have been done on a pre-sell basis in the past versus the way you are kind of looking at the statistic going forward?

David Meyer

When you talk about presales, basically what that means is that you are ordering a piece of machinery that you don’t have on your lot that you get shipped in a future period of time. There is periods of the year where the customers like to do that and get the heads, so that can sometime range from ordering something you may get in 60 days or it could be something that you get in 6 months or 7 months. But, the nice thing about when we talk about turns in a presale, basically when you get to something in and then you settle for it right away, book it right away, that’s basically infinite terms on that group of equipment. So, that’s good business. Another nice aspect of that is that you got exposure to the used piece for that many more months that you can sell that even before the newer piece arrives. So, that’s a positive attribute to that. So, as you look at it, we don’t really break out the percent of our business from a competitive standpoint that’s presales that that amount of business is continuing to increase. It’s good business. We don’t see any change in that taking place. I think customers like it, manufacturers like it, I think total industry is moving in that direction. So, with that you are going to see our inventories – we feel start decreasing because there is no need to really stock that and actually if you can really do a good job preselling you don’t want a lot of inventory lots because then also you have the choice of resells on hand we ordered, so we want to keep moving that model quickly hand down. With these long lead times ahead, if we go back into the last 2011, 2010, with long lead times, shortages of equipment, to hear our revenues we really needed this level of equipment on hand. Now that we are seeing more equipment availability, with shorter lead times, more emphasis on presell, we think we are going to have better turns, less inventory on hand and basically it’s something our customers like, our stores like it, it’s a win-win for everybody.

Mircea Dobre - Robert W. Baird

I see, thank you. My last question is on construction. Your press release mentions improvement in the fourth quarter, but we know that fourth quarter is a seasonally soft quarter. So, I am wondering what is it that you expect the drive the improvement here, are you looking at adjusting the cost base at all there? Thank you.

Peter Christianson

We are just looking at how we are modeling, what our sales level activity is going to be and then we do have this rental business that have been going is well made.

Mircea Dobre - Robert W. Baird

Thank you very much.

Operator

Next we will hear from Tom Varesh of M Partners.

Tom Varesh - M Partners Inc.

Good morning, guys.

David Meyer

Good morning.

Tom Varesh - M Partners Inc.

To the extent that the harvest wrapped up early this year, do you feel or is there any indication that there was some sales that would otherwise have occurred in Q4 pulled into Q3? How do you see that impacting Q4?

Mark Kalvoda

Well, for what I could tell in Q3, our customers, they didn’t get a day off. They were out there in their combines, in their tractors. I mean, if you drive across the country, I have never seen these fields in this good a condition. From what I am hearing from most of our people, it was hard to get the customers to sell, they just want to get it done, they want to get their crop in the bin, they want to get their crop off, they wanted to get the utilities work, they have a lot of work to do in some of the fields, and they were really focused up until freeze to get that done, which is basically takes you through the third quarter. So, I don’t think they took a lot of time to think about buying machinery as much as they thought, hey, let’s just get our field work done. So, I wouldn’t put a lot into that.

Tom Varesh - M Partners Inc.

Do you have any indication as to whether or not that bonus depreciation program or some form of it is going to be extended or continue into the next calendar year?

Mark Kalvoda

Buoy, a good question. I mean, we talk about the fiscal cleft, I mean, there is a lot of things being bouncing on a number of fronts. So, I mean, yes, I have got no idea. Like I said earlier, whether they come with something accelerated, they do or not, our customers have very little depreciation basis left in their equipment right now, due to the fact we had so much accelerated depreciation in the last 3 to 4 years. So, regardless of a come with something accelerated or not next year, our customers need to get their depreciation basis back up to the normal levels, the bankers are telling that, the tax advisors are telling that. So, we think we have got a long runway to get back to normal levels regardless of what happens on that next year.

Tom Varesh - M Partners Inc.

Okay, great. That’s it from me. Thank you.

Operator

And we have time for one more question. We will now hear from Brent Rystrom.

Brent Rystrom - Feltl and Company

Yes, just a couple of quick follow-ups. Can you give us some thoughts on the European markets? When we think about modelling those locations, you know, when I look at historically how your locations have grown in the US, should they experience similar growth, should the growth be faster because it’s of a smaller relative base? How should we think about growth in Europe?

Peter Christianson

Brent, this is Peter. First, what I would point out is that, we think that they are going to have a stronger growth opportunity for us when it comes to developing markets. But I just would mention to keep in mind that they still are a very small part of our overall business. So the impact on our overall business isn’t that large. Finally, what I would point out is that in each different country there are different – it’s different maturity of the distribution network. For instance, in Bulgaria we got involved and that distribution network was full established. In Romania, we opened new locations this past year and now we are going to be opening new ones in Ukraine. So, there is different levels of growth that are within different countries. Finally, Brent, when we talk about the Eastern European business, one thing that I would say that is important to think about when we are modeling that is that over in that part of the world, first of all, they have somewhat higher equipment margins and secondly, they have a much lower percentage of their sales mix that is related to the parts and service business. We want to grow that parts and services business but the current situation is that they have a lower percentage of their mix coming from parts and services.

Brent Rystrom - Feltl and Company

Alright, that’s very helpful. And then final question, did Redwood Falls supercenter, did that open in the third quarter?

David Meyer

Yes, we are just moving into that as we speak right now. So, just making that right now, great looking location there.

Brent Rystrom - Feltl and Company

Yes, great, great spot. And then Iowa Falls, when is that going to open now?

David Meyer

We should see that open up sometime I would say second or third quarter of next year.

Brent Rystrom - Feltl and Company

Alright, super. Thank you guys, great job.

David Meyer

Thanks.

Operator

Mr. Mills, I will turn the conference over to for any additional or closing comments.

John Mills

Alright. Thank you for your interest in Titan and we look forward to updating you on our progress on our year-end call next year. We will also be attending a number of investor events and look forward to seeing you during the next few months. Have a good day everybody.

Operator

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

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