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Executives

Kevin Inda – Investor Relations

James L. Welch – President, Chief Executive Officer & Director

Richard K. McClelland – Chairman of the Board

Ray E. Schmitz – Chief Financial Officer & Vice President

Analysts

Alexander Brand – Stephens, Inc.

Robert Dunn - Sidoti & Company, LLC

David Campbell - Thompson, Davis & Co.

[Ben Skalicky] - Noble Financial Group

Helene Becker - Jesup & Lamont

Kevin Sonnett - RK Capital

Dynamex, Inc. (DDMX) F1Q09 Earnings Call December 4, 2008 10:00 AM ET

Operator

Welcome to the Dynamex Incorporated first quarter 2008 earnings conference call. At this time all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Mr. Kevin Inda.

KK

Welcome to the Dynamex conference call to review the company’s results for the first fiscal quarter of 2009 which ended October 31st. Conducting the call today will be James Welch, President and Chief Executive Officer, Rick McClelland, Chairman and Ray Schmitz, Vice President and Chief Financial Officer.

Before we start let me offer the cautionary note that this conference call contains forward-looking statements that involve assumptions regarding company operations and future prospects. Although the company believes its expectations are based on reasonable assumptions, such statements are subject to risk and uncertainty including among other things the effect of changing economic conditions, acquisition strategy, competition, foreign exchange and risks associated with the local delivery industry.

These and other risks are mentioned from time-to-time in the company’s filings with the SEC. In light of such risks and uncertainties, the company’s actual results could differ materially from such forward looking statements. The company does not undertake any obligation to publically release any revision to any forward-looking statements contained herein to reflect events and circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events.

Caution should be taken that these factors could cause the actual results to differ from those stated or implied in this or in other company communications. With that stated, I’ll turn the call over to James Welch.

James L. Welch

Welcome everyone to the Dynamics first quarter conference call. Since I’m just in my first month as President and CEO of Dynamics I thought I would open the call with just a few comments and then basically turn things over to Rick McClelland, our Chairman and Ray Schmitz, our CFO for the presentation and actual overview of the first quarter results.

First of all I want to let everyone know just how absolutely delighted and excited I am to be here at Dynamics. In the short time I’ve been here I’ve been truly impressed with the company and I believe it has a great business model, it’s an asset light variable cost model that makes the company very nimble and flexible and I really like that and I’m excited to work with it. The flexibility and speed at which the organization operations is definitely impressive and it’s backed by world class technology.

I realize that the word or the phrasing world class technology is used all too frequently these days but I can tell you that I’ve been exposed to and worked with various technology platforms and applications in my past and I can say that the Dynamics technology is a competitive advantage for the company and most importantly its customers. It’s exciting for me to watch the company react to customer needs and challenges in minutes and hours versus much of the transportation industry which deals in transit services of a day or days.

I’m pleased and impressed with the quality and caliber of Dynamics’ operation personnel and also with the people who interface directly with our customers. The Dynamics’ culture is most definitely built around meeting and exceeding the challenges of the transportation and services expectations of the customers and in my short time here I’ve really seen this in action and it’s very impressive.

Now, it’s no secret that Dynamics has been talking about improving its sales effort and expanding the sales force in fiscal year 2009. From my early observations, I can tell you that I’m in total agreement with management’s past discussion about improving our position in the marketplace. So, one area of my focus in the near term will be making certain that we have the right foundation in place to effectively add sales resources so that we can minimize the time in which the right kind of revenue can be added to the top line.

I have no doubt that we must moves the sales resource needle this year. It may even sound a little strange for a transportation company these days to be actually wanting to add some resources at a time when the economy is struggling and when most companies are making cost containment their number one goal. While I can absolutely assure you that we will be focusing very diligently on cost control at the same time we will be working just as hard on better positioning Dynamics to capture a larger market share.

This company has the ability to handle new business volumes and to do it very efficiently. Lastly, I was drawn to the Dynamics opportunity for several other reasons. I’m very pleased and impressed with the quality of the board members. There is no doubt that they want Dynamics to continue to grow and be profitable. They are a committed group and don’t mind getting intimately involved in the details and they’re also a strategic thinking group of directors. I really like the fact that they want management continuously looking two and three years out as we build the company. That was very exciting and impressive to me.

Certainly the financial position that Dynamics is managed to is very attractive to me especially with the challenges and the future challenges that our economy faces. We will continue to work smart to leverage the Dynamics debt free position. The management team is solid and we are already working well together as we prepare to face the challenges that lay ahead.

With those comments I will now turn the call over to Rick McClelland for the first quarter presentation but, before doing so let me just say how glad I am that Rick has agreed to stay on as Chairman of the Board for Dynamics. Rick and I have quickly developed a very good working relationship and our transition has been going very smoothly and Rick is probably working harder than ever as we both agreed during our transition that he would stay actively involved in Dynamics while giving me the flexibility and time to observe and learn more about the same day transportation business.

I think him for making this extra effort to ensure that our transition goes as smoothly as possible. With that, I will now turn the call over to Rick and I will be available to answer questions during the Q&A session.

Ray E. Schmitz

Overall I am pleased with our accomplishments during the first quarter. Our performance was in line with expectations despite the turmoil in the financial markets and the associated softening in the overall economy. Excluding the impact of the one-time special payment, we grew both the top line and bottom line and improved our margins. EBITDA was up about 10% from the prior year despite a pretty sluggish shipping environment.

During the quarter we strengthened our executive management team with the addition of James as President and Chief Executive Officer. We also continued our share repurchase program acquiring 306,300 shares during the quarter and another 132,800 shares in November and we added two additional franchises during the quarter. Now, subsequent to our last conference call and the fiscal 2009 guidance we provided on September the 17th, we witnessed a significant drop in volume in November and the economy has continued to weaken leaving us with an unclear outlook for the remainder of fiscal 2009, or at least it’s difficult to judge in many ways.

While our variable cost structure technology and North American presence will provide us with a platform to sustain solid levels of profitability during this period of market uncertainty, our business is not entirely immune from the effects of the current environment. Therefore, we have modified our outlook for fiscal 2009. We are now forecasting fiscal year 2009 sales to be 8% to 11% below the prior year and net income to range from $1.00 to $1.20 per share compared to $1.53 per share last year.

$0.26 of that decline is due to the one-time special payment, a lower exchange rate and a higher income tax rate. This is not an outlook that we’re pleased with. Obviously, we never like to guide down and we have work to do in order to strengthen the top and bottom line on a go forward basis. We do not plan to sit back and wait for the economy to turn positive and I’ll speak to our offensive tactics in a moment but, before I do that I want to make an observation about how Dynamics has performed thus far in the current environment.

This past Monday the National Bureau of Economic Research released a report indicating that the recession in the US started about a year ago. Not a big surprise, this has been reflected in trucking industry tonnage reports and has certainly been reflected in the reduced earnings from most participants in that part of the transportation industry. In our case we’ve continued to grow the top line and improve our margins during the past 12 months.

Our outsourcing service has served us well in past downturns and once again we’ve been able to continue to grow and maintain our margins well in to this negative period. We’re been buffeted by a pretty severe downturn and a wild swing in the currency exchange but I think we’ve done quite well all things considered and I think the long term outlook for Dynamics remains quite positive.

That said, we are certainly being impacted by more dramatic declines in shipping activity especially in certain industry verticals. Retail is obviously being hit hard. We have a big position in the office supply space and with one client in particular. Our sales plans are geared to growth by product but also geared to increasing the penetration of certain industry verticals. We have a diverse customer base and we have been working to mitigate the customer concentration issue for some time.

It obviously would have been better had we been further along in the process of delevering and I wish we could have moved more quickly on that issue. Nonetheless, we did learn a lot as a result of penetrating this particular vertical. We developed and applied skills that we now use with other clients in the same vertical and clients in different industries that have similar needs and will continue to expand our presence in sectors that include home healthcare, hospitals, clinics and labs, pharmaceutical and medical supplies, safety and industrial supplies, electrical supplies, after market for auto parts, wholesale mail processing, high tech printing, publishing, graphics, aviation and the airline industry.

We’re taking a very unique value proposition to our clients in these segments. Our value proposition includes scheduled and on demand pickup and delivery capacity. Technology includes road optimization, scanning that enables track and trace, real time shipment visibility, GPS location of vehicles, customized invoicing and management reports that speak to service quality and delivery costs. Clients can access this capacity in any metropolitan market in the US and Canada and our solutions are often tailored to the industry vertical.

For example, we provide service to a client in the electrical supply industry who was challenged by a few post acquisition issues and needed to reduce costs and at the same time maintain strong brand identification. The solution was to outsource two separate fleets to Dynamics. A key to the solution was providing them with detailed costs and service data by brand allowing the client to identify their costs by brand and we reduced their overall fleet size in the market by 25% after optimizing the routes.

In addition, we provide the customer with real time shipment visibility. Dynamics now has the opportunity to provide the solution to the client in several other markets with total revenue potential in excess of $60 million. Another of our clients is a leading pharmaceutical provider. Their product is not only patient critical but highly regulated.

As a national company with extensive experience in healthcare Dynamics understands and knows what it takes to move the product in an efficient and cost effective way while remaining compliant with DOT requirements. Our client benefits from us being able to provide dedicated drivers with trained backups that can assist when peaks in their business occur and we provide route optimization and benchmarks throughout each market.

When we first began working with this client most of their fleet was in house. They began outsourcing by late spring this year and will have completely outsourced their fleet in the not too distance future. This trend is being seen with other companies in the same space. The potential upside with this client is about $10 million and the potential upside in this vertical is significant. Another client is a leading provider of industrial and commercial supplies. This client was being challenged by inconsistent same day service utilizing local service providers and the restrictive service requirements of the overnight players.

Our solution involved the deployment of a dedicated local delivery fleet utilizing branded cargo vans. Route engineering was a key part of the solution enabling us to create a cost effective end result and we developed a shipment visibility solution providing tracking and tracing capability down to the item level for their customer service group. In the launch market we’ve improved on time performance from the high 80s to the high 90s in terms of on time performance.

Now, there are two key takeaways from those examples: one, our opportunity is not limited by any client or industry vertical; and two, our solutions are unique and often tailored to the specific opportunity and/or the target industry as a whole. In terms of general sales traction, there are approximately 190 midsized to large accounts that have or should close during this current quarter and we estimate that these accounts should produce something in the order of $21 million in revenue on an annualized basis.

Year-to-date we are achieving our production targets from the sales team that is deployed. Unfortunately, those results are not sufficient to offset the drop in volume from certain customers that are being impacted by the downturn. This is why on the last investor call we announced that we were going to expand the sales organization by about 25% and since the last investor call headcount in the US is up about 10% and sales headcount in Canada is up about 15%.

We should achieve our headcount expansion goals of 25% by the end of the third quarter and total current headcount right now is right around the 100. In addition to the new sales activity, we closed two small tuck in acquisitions since our last call one in Virginia and one in Alberta Canada and we’re in active discussion with a number of other competitors that have an interest in exiting the business.

We typically do a few tuck in acquisitions each year and we’re seeing a stronger stream of opportunities right now due in part to the economic downturn. This is one of the silver linings behind the bad economy; there are motivated sellers for sure and we have the financial capacity to do deals so long as we like the fit, the risk profile, valuation and deal structure. The deals typically involve a limited amount of cash at closing and our earn outs so we limit our risk, if any, if the business goes away.

We also recently closed two transactions where the owners were not motivated to exit the business but wanted to remove themselves from the day-to-day blocking and tackling in order to focus on sales and marketing. The owners of these two companies have agreed to outsource their back office and dispatch functions to Dynamics. We’ll leverage our existing infrastructure when we absorb these functions and we’ll take about 20% of the associated revenue to our bottom line.

The franchise pipeline is active. In addition to the two we announced in the press release, we have one signed agreement in hand. The deal is subject to the completion of our due diligence process and we’re talking to people in many other markets that are of interest to us and I’m optimistic we’ll continue to see that part of the network expand. The bottom line here is that we’ll continue to build dynamics in terms of market share, market presence and the overall network.

On the operational side of the house, we have made a conscious effort to sign more contractors who operate two or more trucks with us. These are contractors who want to add more routes as a means of increasing their revenues and are therefore a valuable new capacity resource as we continue to expand the company.

These contractors will recruit drivers for new routes that become available and this shift maintains our variable costs, non-asset based model and enhances our ability to expand capacity more quickly and efficiently and it comes with no economic downside since the costs are paid out to these contractors is comparable to our historical contractor costs. By this time next month approximately 90% of our scheduled and distribution business will be executed by contractors who service more than one route.

As we look ahead, it is difficult to tell exactly how the current market forces will affect Dynamics at least over the short to midterm so it’s difficult to say. But, what we can tell you is this, we are a vigorous competitor and we are a very well positioned competitor in our market in terms of our service menu, technology, geographic reach and most importantly, our people. I can tell you that we have a unique service menu that is selling, that we don’t have a competitor that looks like us in the US or Canada, that we’re adding sales capacity.

We have a negative economy that should continue to present us with outsourcing opportunities and acquisition opportunities and we have a negative economy that should continue to present us with franchise opportunities with owners that want to be in business for themselves but not by themselves especially in times like this. Our direct costs will continue to be directly tied to revenue. We’re a non-asset based company with very limited cap ex requirements, we are debt free and we have debt capacity of about $40 million.

Compared to many companies today we are well financed to weather a storm even a big one. We have a management team that has managed through serious downturns in the economy before so we’re going to continue to build. We’re certainly going to continue to aggressively manage costs but we’re going to continue to build.

When I focus on our strategy and our position in the marketplace, I think a lot about the short to midterm health of the company and I’m feeling good about that issue. I also think a lot about the mid to long view and I think about the billion dollar milestone. A few months ago I would have told you I thought we could be there in seven years or so assuming an organic growth rate of 10% give or take and a few acquisitions along the way and grow we can.

Our compound annual growth rate over the past five years has been just shy of 12%. This is a large fragmented industry. We’re unique and very well positioned and have single digit market share. This current period will set us back a little but we’ll get back on our track soon so I’m not changing my view. Extraordinary times require extraordinary people and I’m confident in our people and I’m confident in our people and our position in the marketplace and our ability to maximize profitability even during these economic challenges.

I believe our sales and marketing group can grow our company by 12% or more. The 12 route outsource deal can produce about $1 million in annual sales. One deal like that in each of our top 50 markets means $50 million in additional sales. I believe we can do that and I believe we can do more than that which is why we’re adding sales capacity. I believe we can put an additional 50 franchise docks on the map in the midterm. That would get us to about 100 locations.

I think the typical new franchisee will continue to have about $1 million in new sales when they come on board and I think we can grow them to $3 million in 24 months or so by taking national account business to them and teaching them to sell new services. According to my calculations, 100 franchise locations generating $3 million a year in sales paying a 5% royalty would produce a royalty stream of about $15 million.

Our SG&A attached with the program should be about 20% of those royalties so my model says that’s an 80% gross margin on the royalty stream driving $12 million to the operating income line. This is not so much a top line growth play as it is a network expansion play, a market share play and a EPS play. It’s also a great deal for the franchisee since he or she is paying us 5% on the new business in trade for helping him or her triple the value of the company in 36 months or so.

How long do I think will it take us to add the additional 50 units? About 36 months. I believe we’ll continue to complete acquisitions that will enhance our network and market share and increase our top line in earnings a half a dozen deals a year or so considering the current environment is certainly not unreasonable and may be conservative. I believe that we’ll continue to partner with other transportation firms, this is our wholesale revenue stream and it is about 10% of total sales and I think as we grow that ratio may stand.

Finally, I believe that James Welch will leverage his years running a $3 billion transportation service firm and drive Dynamics to new levels of execution and fully capitalize on our opportunity. James will complete his orientation to Dynamics in a few weeks setting the stage for me to turn the reigns over to him. In the few weeks that we’ve had to work together, I can tell without hesitation that this man has tremendous leadership skills, broad industry experience and a very high level of integrity.

I’m excited about seeing him put his mark on the company and I can already tell that he’s going to set the bar pretty high. There’s no doubt that our near term results will be less robust than we thought when we originally gave guidance for this fiscal year but there’s also no doubt in my mind that we can weather this storm and in many ways take advantage of this storm. Over to you Ray.

Richard K. McClelland

Our quarterly results were in line with our plan of earnings per share of $0.30 after the one-time special payment. Excluding that payment, net income would have been $0.40 per share. This was slightly above the prior year’s EPS of $0.39. The weaker Canadian dollar and the higher US income tax rate this year reduced net income for the quarter by approximately $0.027 per share compared to last year.

Sales increased 3.3% this quarter removing the impact of changes in fuel surcharge and foreign exchange, core sales per day were up 2.8%. For the reasons we stated in the press release, we are currently forecasting a sales decline for the full year of 8% to 12%. This forecast assumes that oil remains close to current levels and the Canadian dollar averages .81 US dollars for the full year. The gross profit margin for this quarter was 26.9% compared to 26.6% last year.

Purchase transportation costs represented 65.3% of sales compared to 66.1% in the prior year due in large part to ongoing cost reduction initiatives. Other direct costs as a percentage of sales increased .5% as we added space and labor to support expanded cross docking and sortation operations for new business we added over the last year. Salaries and employee benefits represented 15.5% of sales this quarter compared to 14.4% last year.

All of the percentage increase is attributable to the one-time special payment. Excluding that payment, total SG&A would have been 20.1% of sales this year compared to 20.3% last year. Once again excluding the one-time payment EBITDA would have been $7.9 million or 6.8% of sales this year compared to $7.2 million or 6.4% last year. Our cash balance was slightly above $9 million at the end of the quarter down from $20 million at July 31, 2008. Most of that reduction resulted from the repurchase of company stock.

We continue to closely monitor accounts receivable and we have not seen a material change in the payment patterns for the bulk of our customers. DSO on a functional currency basis was slightly higher at the end of October 2008 compared to July 2008 but lower than October 2007. For a variety of reasons DSO has generally been higher at the end of the October quarter than year end and this year is no exception however, the increase this year is not as pronounced as it has been in the past.

Capital expenditures totaled $600,000 in the first quarter down from $800,000 last year. We intend to limit capital expenditures to the extent we can for the remainder of this fiscal year but we have ordered the specialized equipment we disclosed in our year end press release to service one of our larger contracts. The balance of that purchase order, $2.8 million will be paid next calendar year.

Our outlook for fiscal 2009 has been reduced from $1.50 to $1.60 per share to $1.00 to $1.20 per share on an expected year-over-year sales decline of 8% to 12%. The previous outlook was based upon a 7% to 9% increase in sales and exchange rate between the US dollar and Canadian dollar of $0.94 US dollar for each Canadian dollar. This outlook assumes an average exchange rate of $0.81. The leverage we generally achieve from our relatively fixed cost infrastructure when our top lines expand actually works against us when sales decline as we are spreading a lower gross profit over a relatively fixed cost base.

Although we will aggressively manage SG&A cost, we will most likely not be able to reduce those costs to a level that would maintain our current operating margins in the short term. As both Rick and James indicated, we intend to increase our investment in sales and marketing and although we face some tough decisions on what costs we remove, we do not intend to overreact in response to what we deem to be a temporary, albeit painful blip in our top line growth.

With that, I’ll open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Alexander Brand – Stephens, Inc.

Alexander Brand – Stephens, Inc.

I guess I’d like to understand Rick what changed when? When did Office Depot come to you and sort of exactly how are you scaling that back? I guess my concern here is that you in some of your projects and perhaps the Office Depot is a bad example, but in some projects you actually do have some expenses that you build up for the customer and what kind of fixed cost risks that we might have beyond sort of this new guidance? I know there’s a lot there but any color would be helpful.

Richard K. McClelland

Their situation I guess to start with is like a lot of shippers that we deal with and that we don’t deal with, they’re finding the market very tough, volumes are down so we’re rescaling the network. I think our folks have done a terrific job of doing that. In other words, we basically protected their cost structure even though we brought the overall network down so there was no pain for them there and I think we probably found some additional cost savings for them. That’s their problem and we’re responding to their problem.

As it relates to any cost hangover, we do have provisions built in to our agreement with them that obligates them to certain fixed costs if for any reason we were to stop servicing the work. So, I’m not sure if I’ve answered all your questions but that’s my attempt.

Alexander Brand – Stephens, Inc.

As your quarter progressed it sounds like later in the quarter and particularly since the quarter ended that business has more materially weakened. Is that accurate?

Richard K. McClelland

Yes, I think at the very tail end of October, more pronounced in November and then it just seems to – yes, that’s really it. The end of October and certainly in to November and we certainly haven’t seen any uptick.

Alexander Brand – Stephens, Inc.

So, it must have been very difficult to come up with any kind of guidance because you don’t know how much worse it can be. Can you help us understand how you thought about that? Did you sort of look at it and say, “We’ve got to plan for it to get worse on the top line and we’re going to have to respond on the cost side as a result?”

Richard K. McClelland

First of all, you’re 100% right, it is a very tricky market in order to come up with predictions that you feel are rock solid. Let me turn it over to Ray and he can comment on that.

Ray E. Schmitz

Alex, we looked at this in detail. We looked at what our current run rate is from our customers, we looked at some potential reductions in that current run rate from the Office Depot contract because none of that has occurred in this quarter that we talk about in the press release. We made some assumptions about how much of that business we would retain and looked at what the other parts of the business.

Rick is right, it’s hard to get a real handle on it because we’re making some assumptions in here that our sales force will at least be able to replace any new business that we lose for the remainder of the year. That’s one of the assumptions in there so we think that we will be able to maintain a relatively static although maybe a slightly declining gross profit because there is a level of fixed cost in that line. Then, we’ve made some assumptions about what costs we could take out. Now, we didn’t put in there the maximum amount we could take out, we made a conservative estimate at this time.

So, we don’t want to present as we obviously haven’t done in the past a picture that’s going to be better than what we actually think might happen so this is our normal course here. We think we’re conservative here but the outlook is still uncertain.

Alexander Brand – Stephens, Inc.

It sounded Rick in your comments like you got more acquisition opportunities and it does seem like you guys are in the perfect position to take advantage of the environment with respect to that. What are your thoughts on sort of capital allocations, share buybacks versus acquisition opportunities and other investments in the business?

Richard K. McClelland

I’m sure Ray’s going to have some important comments on that and James as well likely. But, since you asked the question of me I’d tell you the first thing that comes to mind or the things top of our mind right here is just making sure we have a balance sheet that looks like it can weather whatever the heck is going to happen next in this economy. That’s priority one. I think priority two is we definitely want to be aware of and responsive to any opportunities to build the company’s top line, take advantage of a weak competitor, a distressed company, whatever it is.

Then I think thirdly, the third order of priority would be we certainly want to take advantage of any opportunity to repurchase stock. That’s my quick reaction. Ray?

Ray E. Schmitz

I think I would completely agree with Rick. We want to make sure we maintain a strong balance sheet here and have the capabilities but we are being presented with a number of opportunities that we’re evaluating and we think that will continue especially during this time frame and we’re going to take a hard look at those?

James L. Welch

Well, my position is cash is king right now and I think having a conservative balance sheet and then as Rick and Ray both have said, using that as a balance to be either in the market buying our stock if we feel like that’s the best opportunity for cash and/or acquisitions whether its tuck in or outright. I think it’s just a matter of analyzing what’s best for the company in the near, mid and long term and taking appropriate action.

That’s one of the things that drew me to the company, the fact that it’s got a good balance sheet that’s going to allow us the flexibility to truly analyze the business and do what’s best for it. A lot of companies don’t have that flexibility in today’s market.

Alexander Brand – Stephens, Inc.

Just one more question if I could, I just want to make sure I understand what you were talking about Rick with the outsource back office. It sounds kind of like a franchise opportunity only it’s different. So, you’re handling – it’s kind of a new thing I guess, back office and dispatch and did I hear you say you get 20% of the revenue as your sort of fee for the service?

Richard K. McClelland

Yes, at a high level what’s in play here is an owner that’s operating a business and like a lot of small businesses he’s wearing a lot of hats and in a down economy his business is shrinking and he finds it very challenging to do anything but sort of manage the minute-to-minute, hour-to-hour stuff and the business isn’t going anywhere. In the best case situation, it’s even.

So, the bottom line is we’ve closed two deals where the owner has resolved that he would really like to totally jettison order entry, dispatch, driver recruitment, service quality management and so forth and even the invoice processing and outsource that to us so that he can focus on managing his existing customers, growing his existing customers and adding new customers.

Typically this is going to be an on demand company with a 45% gross margin and this is always going to be in a market that we have a presence in so we’re going to leverage the infrastructure that we have in that market and what should remain as sort of the margin share that in these two cases will bring about 20% of the revenue to Dynamics net of our costs, if there are any additional costs for processing.

So, what it really is fundamentally is another relationship option. A relationship option is a franchisee, a relationship option is an acquisition and a relationship option is outsourcing option.

Operator

Our next question comes from Robert Dunn – Sidoti & Company, LLC.

Robert Dunn – Sidoti & Company, LLC

You touched on obviously there is weakness in retail and in the office products but now have you seen that weakness spread to some of the parts of the business that had previously been strong, particularly the healthcare? Or, is it pretty much concentrated in retail and office products?

Richard K. McClelland

No, healthcare is a space we love, it’s big, it’s growing, it’s only going to get bigger with the aging population and it’s never going to go away. The stuff we move can’t be emailed, it’s not going to be impacted by imaging technology. It’s a changing landscape all the time, mergers and as companies grow so the bottom line is to answer your question, we’re not seeing any worrisome negative trend in terms of volume there.

People are still going to hospitals and so forth. We do a lot of work with contractors, electrical contractors and industrial supplies and so forth and you’re seeing some down trading there as it relates to what’s tied to the softening in the construction markets and so forth. We’re seeing some down trading in those verticals just as customers of those companies try to go more skinny on purchasing so as the customers of our customers are trying to purchase less.

We deal with a very broad section of the economy so what you’re hearing everyday in the press in general about different industries is the same thing that’s happening to us.

Robert Dunn – Sidoti & Company, LLC

Just kind of about the guidance, looking at the low end, baked in to that assumption there are you still thinking that some of the lost business from Office Depot will be offset? Does that include that back office contract or even the new business that you expect to bring on, that 190 customers? I mean, would you categorize the bottom end of the guidance range as the worst case scenario or if things continue to deteriorate do you see even further downside to that?

Richard K. McClelland

The forecast we provided there incorporates all of the things that we see going on in the company including the two outsource deals that we talked a little bit about here in the Q&A session. As it relates to the dollar, worst case, it makes me think of Alex’s comment. It’s so hard to predict anything.

We think as Ray said already our projection is conservative but we’re in uncharted water here. It’s weird what’s happening out there in many, many verticals. So the bad news is it’s really hard to get a reliable read on what’s happening. The good news is this is a company that can weather just about whatever the hell happens. We certainly hope that that buck is worst case.

Robert Dunn - Sidoti & Company, LLC

You touched on it briefly in your comments but do you think that the issues with Office Depot and the current downturn really tainted the overall long-term growth story of the company? How lasting will the effects of this be? Do you think the overall earnings power of the company has been reduced in any way given the current environment?

Richard K. McClelland

I’m not a sophisticated economic guy. What I’m hearing is the soft economy could run another six months, nine months, whatever it is. The question seems to be, has this diminished our long-term opportunity. Hell, no. The economy is going to come back. This is a great country. The Canadian economy is a great area to be involved in and so forth.

We have a national footprint, a unique service menu; our operating people are doing a terrific job at servicing customers and helping us grow in the relationships that we have; we have multiple revenue engines in terms of the service menu, the franchise program; we can do acquisitions and so forth.

I personally feel as excited about our opportunity as I ever have. It’s very unfortunate to be in a trough like this; pleased that we were able to sustain our performance as long as we did; and we’re going to come out of this thing swinging. That’s what I think.

Operator

Our next question comes from David Campbell - Thompson, Davis & Co.

David Campbell - Thompson, Davis & Co.

I just wanted to confirm what you’ve been saying. One of my questions is that the revenues are down 10% this year but you’re limited as to how much you can cut costs because you’re in the process of expansion of your sales group, sales personnel. Is that the wrong to look at it?

Richard K. McClelland

I wouldn’t use the word we’re limited in terms of being able to cut costs. I think we’re using discretion there. I think what we’re feeling like is we could reduce SG&A as a way to prop up EPS in the short run but we think there’s pain there or a penalty to pay in the mid- to long term. We’re feeling like the financial strength of the company is such even in this economy that we should continue to build. So we’re just making a decision on the SG&A. We’re looking real hard at all opportunities to reduce expenses that will not impact our ability to grow or to service the customers properly that we have. Does that help David?

David Campbell - Thompson, Davis & Co.

Yes. In other words, you’re still in the process of evaluating SG&A. It’s possible you could cut them more or you may cut it less but you’re not real sure yet.

Richard K. McClelland

I think that’s good.

David Campbell - Thompson, Davis & Co.

In the gross profit margins, I always thought if the on-demand business went down more that would increase your gross profit margins. It seems like on-demand was flat sequentially and the decrease was in distribution and scheduled business. How does it look for the fiscal ’09 forecast of a 10% decrease in revenues? Would you expect some comparable decrease in on-demand or has something changed here? I mean on-demand I always thought that was the most cyclical of the businesses.

Ray E. Schmitz

In the past I think I would have agreed with that comment. I think the last downturn in the economy took a lot of the traffic out of the on-demand, the non-emergency traffic out of the system and it never came back. Now we monitor the volumes here although we’ve seen some declines in volumes more so in some locations than others depending on what businesses they service that that’s held up better than it did in the last downturn to this point. Now I can’t tell you that it won’t be impacted further as we go along in this fiscal year but so far it’s held up fairly well.

David Campbell - Thompson, Davis & Co.

Why would that be? Do you have any thoughts on that?

Ray E. Schmitz

I would think that this is truly emergency traffic in the system and that people have to move the product that they have.

David Campbell - Thompson, Davis & Co.

So that’s baked into your assumption? It appears to be the assumption that you’ll be able to sustain a 27% gross margin for the year?

Ray E. Schmitz

If you assume that on-demand falls hard that would have a downward impact on the gross margin because that has the higher gross margin than distribution and scheduled. We’ve made our assumptions here. We think that we can maintain those margins somewhat close to current levels, maybe a little less because there is a piece of fixed cost in costs of sales. That other cost of sales is relatively fixed and we can’t do anything with that.

David Campbell - Thompson, Davis & Co.

The tax rate is 44% in the first quarter because of the policy of repatriation of cash from Canada. Is that going to continue for the year?

Ray E. Schmitz

We may revisit that situation as we go forward here because we’re looking at changing where we’re going to spend our money and there are opportunities in Canada for acquisitions. We may change that but at this point the assumption in the model is that it’s going to remain at the 44.8% in the US.

David Campbell - Thompson, Davis & Co.

Then what about fiscal 2010?

Ray E. Schmitz

It will come down a bit in 2010. But the reason that the tax rate this year is as high as it is because we brought in cash from prior years that we had to pay the taxes on. Then we assumed that the excess cash this year would be brought in and that may not happen. So that’s what I’m saying. We may revisit that and determine that we’re not going to bring this cash down; we’re going to leave it permanently invested. The impact of that we’ll have to determine.

David Campbell - Thompson, Davis & Co.

Do you have any new estimate of cap ex for the year? I had assumed $6 million. It sounds like it could be less.

Ray E. Schmitz

I think it’s going to be more in probably the $5 million range or less; somewhere in there. $5 million or less would be my current estimate.

David Campbell - Thompson, Davis & Co.

Is Office Depot a mix of on-demand and scheduled or is it all scheduled?

James L. Welch

Scheduled.

Operator

Our next question comes from [Ben Skalicky] - Noble Financial Group.

[Ben Skalicky] - Noble Financial Group

As shipment volumes deteriorated, did pricing also weaken?

Richard K. McClelland

I would say in general no. There have been some specific cases where as you might expect customers are looking for price relief and so forth to help them with their problems. Personally I would not describe that issue as a critical problem. I would describe it as a traditional issue in times like this, and I think we’re dealing with it okay.

[Ben Skalicky] - Noble Financial Group

On the tax rate side, the tax rate came in a little bit higher than we were expecting. What number should we model for the year?

Ray E. Schmitz

It’s about 41% I think consolidated effective tax rate. There will be some changes. There was an unrealized gain in Canada that we will realize in the second quarter and that will reverse part of that higher tax rate. It’ll come down somewhat in the rest of the year. 41% is probably a pretty good average rate for the combined company and that also depends on the foreign exchange rate.

[Ben Skalicky] - Noble Financial Group

Related to the foreign exchange rate, what are your thoughts about hedging your exposure in Canada?

Ray E. Schmitz

We’ve not thought that was appropriate in the past. If you’re not bringing down hordes of money, you’re really not losing anything. So really it doesn’t have that much of an impact other than the conversion. We’re not bringing down money currently at these low levels and don’t at this time intend to. I’ve been involved the oil and gas business and other areas about hedging and quite frankly we don’t have the expertise on board and it always seems to me that we would be at a disadvantage in that area.

Richard K. McClelland

I think to raise a point that it doesn’t hurt us if we leave it there and a number of the acquisitions that we’re looking at are there. Some of them may require some amount of cash at closing so this is a good time to I think stay conservative there. I think James is excited about being able to grow the company so he’s going to have some dry powder to work with up in Canada and the US and may decide to leave it that way.

[Ben Skalicky] - Noble Financial Group

Related to growing the company, are we still looking at expanding the sales force 25% for fiscal ’09 or is a different number your target right now?

Richard K. McClelland

We did comment on that in the prepared remarks and we are committed to doing that and we’re on track.

Operator

Our next question comes from Helene Becker - Jesup & Lamont.

Helene Becker - Jesup & Lamont

In terms of growth for the company, have you considered and are there opportunities to grow in Mexico and do more of a NAFTA type business plan? My second question is kind of a question that Alex asked but I wanted to ask it a little differently in terms of share repurchase programs. Your thought process of buying back stock to return capital rather than maybe issue a dividend to effect the same thing, return capital to shareholders. As you grow to be $1 billion, what’s the right share count for a company with $1 billion in revenue?

Richard K. McClelland

I’m going to answer the Mexico question first and then we’ll try to answer the other question. I’m not sure I understood the last one. But as far as Mexico’s concerned we have had discussions with folks down there in the not too distant past. I kind of like the franchise model down there entering into a relationship with a player that is based there, has operated successfully down there for a number of years and somebody that we like on an integrity basis and profitability basis. We haven’t found that entity yet.

I like the idea of being down there with a franchise model and I think ultimately it wouldn’t surprise me if we were down there. It would be James’ call. So I would expect to see us down there and if I had to guess, I would say it would be with a franchise.

Ray E. Schmitz

As to your other question related to the appropriate share count for a $1 billion company, quite frankly I don’t know what the answer to that question is. We’re in a unique position in the fact that we generate a lot of excess cash flow. We don’t have a lot of capital requirements so generally our net income is a surrogate for free cash flow because capital expenditures and depreciation and amortization are almost equal. Having said that over the last three years we’ve bought back about $50 million of the company’s stock. In that time the Board and senior management have had discussions about the appropriate use of cash.

Our investment base has overwhelmingly said that we should have a share buy-back rather than a dividend although I’ve heard some comments lately and we will continue to talk about that situation as we go forward. I’ve heard comments that we’re taking too many shares out, the liquidity’s a bit of a problem, but those are good problems we think to have because we thought at the time that was the most appropriate use of cash. We will continually look at that as we go forward.

Operator

Our next question comes from Robert Dunn - Sidoti & Company, LLC.

Robert Dunn - Sidoti & Company, LLC

Office Depot, at least in their most recent filings, their domestic sales were down 11% or so. And your business you’re thinking is going to be down with them more than 25%. Could you give maybe a little color on where the variance is there? Is it a function of what you’re shipping for them, are they moving towards slower modes [inaudible]?

Richard K. McClelland

There are a lot of things that we don’t understand about Office Depot. We have a close working relationship with them and we see the public filings but I don’t really know how to explain that variance. We operate in a certain specific part of their business and we know what kind of volume they want to put through our networks and we’re scaling to it and we know what the impact is going to be. What the delta is between our impact and their overall domestic decline, I don’t have any other explanation.

Robert Dunn - Sidoti & Company, LLC

Could you just remind us what you are shipping for them? What are the main products?

Richard K. McClelland

It’s everything from papers and pencils to filing cabinets and calculators and just anything that you would see when you walk into an Office Depot or a Staples store.

Operator

Our next question comes from Kevin Sonnett - RK Capital.

Kevin Sonnett - RK Capital

What’s the tax rate assumed in the fiscal ’09 guidance?

Ray E. Schmitz

On average the effective tax rate is about 41% for the full year.

Kevin Sonnett - RK Capital

If the Canadian currency remains at the current level, should that lead to roughly about an 8% hit to revenues for the consolidated company?

Ray E. Schmitz

Based on last year if it remains at its current level, it’s almost a 20% hit from last year. From our previous $0.94 estimate that we had at the end of the last year that we put out, it would be down about 10% or 12%. That rate we used was $0.94 and it’s in the $0.80 or a little lower than that right now I believe. We think the rate’s going to be about $0.81 if there’s no material changes in what’s going on.

Kevin Sonnett - RK Capital

Right. But that would be a 20% hit on 40% of the business, so about 8% to the overall revenues?

Ray E. Schmitz

That’s probably correct, yes.

Kevin Sonnett - RK Capital

Just on a fiscal ’08 to fiscal ’09 basis.

Ray E. Schmitz

Yes.

Kevin Sonnett - RK Capital

Fuel; assuming it settles out about where it is now, would that be roughly a few percent hit to revenues on a pass-through basis?

Ray E. Schmitz

That is included in our estimate of the 8% to 12%.

Kevin Sonnett - RK Capital

Right. I’m just trying to understand the hit.

Ray E. Schmitz

It’s probably in the range of 3% to 4%.

Kevin Sonnett - RK Capital

So if you take fuel and currency out of it and put pricing aside for a second, I was trying to think about the volume change. And even with your projection of revenues down 8% to 9%, excluding fuel and excluding currency we’re still looking for revenues up a few percent. I guess that primarily comes from what Rick described earlier in the conference call which is the new business, and this is where I was hoping you could provide a little more detail, that’s new business; I think it was $20 million or so; that you have targeted to come on over the course of the year or in the current quarter?

Richard K. McClelland

It’s business that has closed in this quarter or we believe will close in this quarter, and it will come on I would say during the second quarter and the third quarter. If it’s in the third quarter, probably somewhat early to mid.

Ray E. Schmitz

And that has been included in our outlook for the year. We made some assumptions about what our sales force would bring on and what we think the additional volume declines might be, and the numbers that we’re giving you are inclusive of those numbers.

Kevin Sonnett - RK Capital

Do you have a figure just to give us a sense of how that figure stacks up to the past? What I’m looking for is a figure for new business on an annualized rate brought on in fiscal ’08, fiscal ’07?

Ray E. Schmitz

I don’t know that I have that at the top of my head. I can only point you at the net growth that we had. We do have some attrition in this business every year. It’s generally in the 6% to 8% range and the new sales would be the increase less the attrition less any fuel surcharge impact or foreign exchange impact.

Kevin Sonnett - RK Capital

So the new sales might amount to something like 15% or 20% of the prior year’s revenue to get you to that low double-digit compound growth rate? In the last few years maybe $50 million, $60 million, $70 million of new business brought on per year. Is that in the right ballpark?

Richard K. McClelland

I think it’s in the right ballpark. It might be a little bit lower than that but off the top of my head. It takes a big of business. If you have a $400 million business and you add 10% to it, that’d give you $40 million growth net and then you add back the 6% to 8% attrition and therefore that tells you what you’ve added during the current year all-in.

Kevin Sonnett - RK Capital

On the subject of attrition, I would imagine that 6% to 8% attrition has been mostly coming from loss of customers as opposed to reductions in volume. With this macro backdrop we’re facing I’m guessing it’s both. You’ve got some loss of customers and maybe to the extent you’ve got some cyclical end markets and smaller customers, maybe even just an increase in the number of customers going away and then compounding that which we probably haven’t seen much in the last five years is a reduction in volumes. Is that accurate?

Ray E. Schmitz

Yes. When I think of attrition now, I think a lot more often about declining volumes from the existing customers; definitely a dynamic that wasn’t anywhere near as prevalent or is not anywhere near as prevalent in normal times.

Kevin Sonnett - RK Capital

And I guess that’s par for the course given what we’re looking at from an economic perspective. I’m mostly interested in the attrition from a customer standpoint. That 6% to 8% that you normally see if that’s been mostly customers, how’s that looked real recently, in October and November? Has that picked up or stayed in the historical range?

Ray E. Schmitz

I would say that it may have picked up a bit but also included in that would not be the attrition related to any business we would lose from Office Depot. That’s not included up to this point. We do lose some business. Some locations we lose for existing customers and we add new locations. I’m sure there’s been some uptick in that business. There’s also been an uptick in the declining volumes.

Kevin Sonnett - RK Capital

In your outlook you were asked this earlier and I think you described what you had baked in for your full-year outlook as far as the macro environment goes. I’m curious. As the fiscal year progresses, and we’ve got another 8 months of the fiscal year, is there some assumptions we get toward the last quarter or two especially as we get maybe through the spring and into the summer, of some stabilization or even increase in economic activity or do you think that’s beyond the time horizon that we can predict but you had to give your guidance so you pushed any recovery expectations into the next fiscal year?

Ray E. Schmitz

I would expect that any recovery will not occur until at least in our second quarter next year which is where we are right now.

Kevin Sonnett - RK Capital

So it sounds like you took a pretty good haircut to the plan and you’re not just hoping for a strong July quarter to get you to let’s say the middle of the range of your guidance?

Ray E. Schmitz

No, we’re not. The only thing that you look at in quarters is the number of business days in those quarters and some are stronger than others. Obviously our second quarter is our weakest quarter because we have only about 60 working days because it has all the holidays in it and the first and fourth quarters are generally our strongest quarters because we have more working days. We spread out the gross margin over a fixed cost base and therefore the profitability of those quarters is generally a little higher.

Kevin Sonnett - RK Capital

Do you have those days by quarter in front of you Ray?

Ray E. Schmitz

No. But if you send an email, I’ll send them to you.

Operator

There are no further questions at this time. I would like to turn the call back over to management for closing comments.

Richard K. McClelland

I just want to make a few closing comments. I just want to reiterate that I think we have a very solid operating foundation on a go-forward basis. I think the balance sheet is just right in a market like this and I continue to think the company has a very long runway and that our story is not just a quarter-to-quarter story.

We’ve got a value proposition that’s selling pretty well in a tough market. We’re maintaining good margins and cash flow. We’re going to be facing some pretty strong headwinds here for the next few quarters or so; that’s clear. But we’ve got a business that will weather the current storm and come out the other end an even stronger industry participant as far as I’m concerned. I think everyone in management would agree with that.

Thanks for joining us on the call and we’ll talk to you next quarter.

Operator

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.

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