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Spartan Motors, Inc. (NASDAQ:SPAR)

Q4 2012 Earnings Conference Call

February 12, 2013 10:00 a.m. ET

Executives

Greg Salchow – Director of Investor Relations and Treasury

John Sztykiel – CEO

Joe Nowicki – CFO

Analysts

Joe Maxa – Dougherty & Company

Robert Kosowsky -- Sidoti & Company

Operator

Good morning, everyone and welcome to the Spartan Motor’s Fourth Quarter and Full Year 2012 Earnings Results Conference Call. All participants will be in a listen-only mode. (Operator Instructions) After today’s presentation, there will be an opportunity for you to ask questions. (Operator Instructions) Please also note that today’s event is being recorded.

At this time, I’d like to turn the conference call over to Mr. Greg Salchow, Director of Investor Relations and Treasury. Sir you may begin.

Greg Salchow

Thank you. Good morning everybody. I’m joined on the call today by John Sztykiel, our Chief Executive Officer; and Joe Nowicki, our Chief Financial Officer.

I assume everyone has seen this morning’s earnings release on the Newswire. Before we start the call, I need to inform you that certain statements made today during our conference call which may include management’s current outlook, viewpoint, predictions and projections regarding Spartan Motors and its operations may be considered forward-looking statements under the Securities Laws.

I must caution you that, as with any prediction or projection, there are a number of factors that could cause Spartan’s results to differ materially. All known risks our management believes could materially affect the results are identified in our Form’s 10-K and 10-Q filed which will be filed with the SEC. However, there may be other risks we face.

And as we typically do, please remember that during the question-and-answer period, we ask you to limit yourself to just one question and one follow-up per analyst. That will allow everybody the opportunity to ask a question. After asking your question if you have an additional question, you’re welcome to join the queue.

And I’m pleased to turn the all over to John Sztykiel for his opening remarks.

John Sztykiel

All right. Thank you, Greg. Good morning, everyone, and thank you for joining us on Spartan Motors fourth quarter 2012 conference call. We appreciate your time and interest in Spartan Motors. The main message to take away from today’s call is that Spartan ended 2012 with a return to revenue growth, adjusted earnings growth for the full year, recovering markets, strong financial position, and continued implementation of a plan to improve profitability in 2013. We did many things right in the fourth quarter of 2012 and throughout the year.

A few of those highlights include we consolidated our Emergency Response Chassis and Emergency Response Vehicle business into one unit, Spartan ER. Positive results our combined Emergency Response backlog totaled 98.1 million at the end of 2012, up 32.6% from the end of 2011. Next, we transferred production of the Reach Commercial Van to Charlotte, Michigan in the July timeframe, and made dramatic steps in efficiency and quality improvements.

To give you some color, since transferring production from Indiana to Charlotte, we have reduced the total hours required to build the Reach by more than 50%, and reduced the number of defects per vehicle from over 50 to less than five when coming offline that is dramatic progress. There’s more progress to be made and we’re not done yet. Also during the fourth quarter, we completed an order for 150 Reach Vans for UPS and started production on our second order for 100 units for FedEx to be completed in the first quarter of 2013. In total, we built and shipped 577 Reach vans during 2012, and expect that number to more than double in 2013.

Next, the major relocation of Utilimaster’s operations from Wakarusa to Bristol, Indiana, about 25 miles apart remains on schedule, with most of the move to be completed by the end of the first quarter of 2013. We are currently doing validation builds of walk-in vans at Bristol, and expect to begin ramping up production volumes within the next couple of weeks.

When I look at our accomplishments for ‘12, it is clear we have accomplished a great deal. Our fourth quarter results shows that we have the right products, products that customers demand and value. While we did a good job generating revenue growth during 2012, the reality is we did not convert that revenue into profit to the extent we should have. Frankly, we underestimated the scope and the timeframe required to achieve the goals, which we set before us relative to improved profitability, gross profit margins.

Later in the call, I will share the plan to change that. Joe Nowicki, our CFO, will discuss that as well, but before we get into your plans for 2013 and beyond, I wanted to discuss our segment results for the fourth quarter.

Our Emergency Response business grew modestly to 44.9 million, compared to 44.3 million in the fourth quarter of 2011. The sales increase came from the Emergency Response Vehicles unit, which recorded revenue of 23.6 million in the fourth quarter of 2012, up from 19.3 million in the fourth quarter of 2012.

In terms of revenue growth, I believe it’s absolutely clear that we are outperforming the industry in gaining market share as again, our ER backlog, the Emergency Response backlog improved 32.6% in 2012. Spartan ERV, and Brandon, South Dakota hit an all time high run rate and expanded its production capacity during the fourth quarter of last year.

Switching over to sales of Emergency Response Chassis, those actually declined slightly to 21.3 million in the fourth quarter of 2012 compared to 25 million in the prior year. We adjusted the line rate downward during the fourth quarter as some of our customers pushed out delivery dates into 2013.

On a very positive note, Spartan’s reputation as the industry leader in safety was enhanced and demonstrated by the high order rate of our Advanced Protection System or APS as we call it, an industry leading advanced airbag occupancy system.

APS equipped Chassis carry a price tag of approximately $5,000 higher than one without. Our most recent order rate within the mid-60% range above our expectation indicating the value of our innovative products and the opportunity for improved profitability.

Switching over to delivery and service, delivery and service sales were up to 52.6 million from 41.9 million in the fourth quarter of 2011. For the quarter, our truck body business increased sharply, while our walk-in van business was reduced compared to the fourth quarter of 2011. This was primarily due to a large UPS order that took place last year, plus the scheduled ramp down for the move to Bristol.

In the past, and to give you a quick market overview as to why delivery and service is performing so well from a top line prospective, in the past delivery and service was about delivering packages and service, and is now moving into mobile retail as well.

This increase in demand is illustrated by the growth rate in our delivery and service business Utilimaster, which has nearly doubled since 2010 to 208.2 million. On an annual growth rate, over the last three years, up 35.7% per year. Simply, society craves mobility and we are in a great spot to take advantage of it.

The order backlog at the end of 2012 for Utilimaster stood at 39.7 million, down from 47.7 million at the end of 2011, mainly due to the timing of orders, also influenced by the move of the walk-in van production to Bristol, Indiana.

Switching over to our third core segment, specialty vehicles, reported fourth quarter revenue of 27 million, up 8% from 25 million in 2011 for the fourth quarter. Sales of Spartan Recreational Vehicle Chassis rose during the fourth quarter to 20.4 million from 17.5 million.

This increase in sales comes from consumer demand for superior ride and handling found only on a Spartan. Spartan is the high end, high performance chassis brand leader in the ERV industry. The overall RV market continues to grow, with motor home sales from an industry prospective through November up 11.8% from 2011 levels. Sales of larger Class A motor homes the segment in which Spartan operates were up 13.3% through November and up 70% for the month of November in 2012 compared to 2011. These industry sales gains correspond to what we have seen in the market which is a dramatic improvement.

With order trends in the RV sector remaining positive, we look for expanded growth in 2013. Sales of aftermarket parts increased to 5.5 million from 5 million in the fourth quarter of 2011 largely due to the higher sales of defense-related aftermarket parts. Offsetting growth in these two business lines was a slower build rate of Isuzu N-Series trucks and the Isuzu work down inventory, and also the lack of defense vehicle business during the fourth quarter of 2012.

Now I’d like to turn over to Joe Nowicki to provide a more detailed review of Spartan’s fourth quarter 2012 financial results. Joe?

Joe Nowicki

Thank you, John, and thanks everyone joining us on today’s call. As John mentioned, Spartan has a lot of accomplishments to its credit for the fourth quarter of 2012 as well as for the full year. We’re proud of what we’ve accomplished, which has put Spartan into a strong competitive position, strong financial condition, and more efficient and still improving operating condition at the end of the year. Of course, there’s often some costs associated with these initiatives and these costs impacted our revenues of the fourth quarter and full year of 2012.

To provide you with the most accurate picture of the company’s performance during the period, we have provided you with some non-GAAP measures that show our results excluding the impact of some of these actions in related costs.

Now, turning to Spartan’s financial results for the fourth quarter of 2012. We ended the year on a strong note in terms of revenues. Our fourth quarter sales were 124.5 million, up 12% than the fourth quarter of 2011. Sales for the full year were also up to 470.6 million, an increase of 10.5% from 2011.

As mentioned in our press release, all of our operating segment generated revenue growth in the fourth quarter of 2012. One of the key drivers of our growth was the product development efforts. A couple of examples you have heard us talk about during the past year includes the Reach delivery van, and Spartan’s Advanced Protection System or APS, an industry leading active, safety system featuring front, side, and roof air bags that provide unmatched protection for firefighters.

Our gross margin fell short of our expectations for the quarter and for 2012 as a whole. Despite good revenue growth, we didn’t convert higher revenues into profit. We incurred a number of higher costs in the fourth quarter; in particular they had a negative impact on our gross margin.

Higher labor costs in our Emergency Response Vehicles and Utilimaster operations were not fully absorb as both units added labor in advance of production increases in the fourth quarter. Higher material costs also added adverse impact on gross margins during the quarter, primarily due to product mix. This was especially true in our Emergency Response and delivery and service segments, both of which had a less favorable product mix than we had forecast.

Emergency Response Vehicles produced during the quarter tend to have a lower option rate and feature content than projected. DSV saw a higher mix of truck bodies, which typically carry a lower margin than our walk-in vans.

And of the walk-in vans that were produced during the fourth quarter, the mix was less favorable due to the lower option content than average. This led to materials accounting for a slightly higher percentage in the selling price and is typically the case.

Included in the gross margin for the fourth quarter is a restructuring charge of 0.8 million related to Utilimaster’s Bristol relocation project. This charge reduced gross margins by 0.6% during the quarter, excluding the restructuring charge our fourth quarter gross margin was 11.2% compared to 13.1% in the fourth quarter of 2011.

For the full year, Spartan booked 6.5 million of restructuring charges into costs of goods sold most of which were related to the Utilimaster relocation project that compares to 1.7 million booked in the prior year.

So excluding those restructuring charges, full year gross margin for 2012 was 13.8% which was just 14.6% in 2011. We reported operating expenses of 15.9 million or 12.8% of sales in the fourth quarter of ‘12. Operating expenses in the fourth quarter of 2012 included 0.6 million of restructuring charges and 1.9 million in Utilimaster earn-out growth.

Even that our growth are based on Utilimaster’s revenue growth exceeding the sales targets that were put into place at the acquisition and are a result of Utilimaster’s success growing its business as John described.

Since the fourth quarter of 2012 accrual was substantial higher, we decided to mention it so you could see the underlying operating expense levels more clearly. Adjusting for the restructuring charges and earn-out accrual, for our operating expenses in the fourth quarter of 2012 down to 13.4 million or 10.8% of sales versus 12.2% of sales in the fourth quarter of 2011.

When you look at our adjusted operating expenses, you can see that Spartan continues to demonstrate a high degree of financial discipline in cost control. Despite year-over-year revenue growth of 12% in the fourth quarter, we actually posted lower operating expenses in dollars than in the fourth quarter of 2011.

The story was much the same for operating expenses for the full year. In 2012, we reported operating expenses of 61.2 million or 13% of sales, compared to 59.3 million or 13.9% of sales in the prior year. During 2012, we recorded 2.6 million total in restructuring charges, compared to 1.1 in 2011. In addition, the earn-out accrual for 2012 totaled 2.9 million versus 1 million in 2011.

Again, adjusting for the restructuring charges and earn-out accrual, our operating expenses for 2012 totaled 55.7 million or 11.8% of sales compared to 13.4% of sales in 2011, and total amount due to reduction of more than 1.5 millions in operating expenses year-over-year.

On a GAAP basis, Spartan booked a net loss of 2.5 million or $0.07 per diluted share in the fourth quarter versus net income of 0.7 million or $0.02 positive per share in the fourth quarter of ‘11. After restructuring charges, after tax and the 1.9 million in earn-out accrual that has no tax, in fact, Spartan posted adjusted net income of 0.5 million or $0.01 per diluted share in the most recent fourth quarter.

For the fourth quarter of ‘11 after excluding the 0.1 million reverse of an earn-out accrual in that quarter, our net income totaled 0.6 million or $0.02 per diluted share. For the full year 2012, Spartan reported a net loss of 2.5 million or $0.07 per share versus net income of $0.8 million or $0.02 positive per share for 2011. Again for 2012, adjusting for 5.9 million of restructuring charges, and 2.9 million in earn-out accruals our adjusted net earnings totaled positive 6.3 million or $0.19 per diluted share.

That compares in 2011 begin excluding 1.9 million in restructuring charges and 1 million in earn-out accruals our adjusted earnings were 3.6 million or $0.11 per share. So when compare our adjusted earnings Spartan’s net income increased 75% from 2011 to 2012. During the fourth quarter, we also took steps to strengthen our financial position. In November, we amended our private placement shelf agreement with Prudential to extend the term by three years to November 3 of 2015, and then we also increased availability into the agreement to a maximum of 50 million from 45. This provides us with additional flexibility as needed to support Spartan’s future growth initiatives.

We ended 2012 with cash of 21.7 million, down from 31.7 million at the end of 2011, due to the investments in our Bristol facility and also the transition into inventory. Accounts receivable ended the year stood at 47.1 million versus 40 million at the end of 2011. The balance was higher due to the year-over-year revenue growth of 13 million from the fourth quarter of ‘11 to ‘12 and a greater proportion of our sales recurring during the latter half of the quarter.

Our full year, accounts receivable DSO, day sales outstanding, actually still remains strong at 34 days. Inventory rose to 67.6 million at December 31, ‘12 versus 67 at the end of 2011, the increase in inventories was really due to the addition of 9.6 million in 2010-spce diesel engines we purchase prior year end.

This was an advance and a little more stringent diesel emission standards for 2013 and ‘14. We purchased these 2010-spec engines to allow us to continue vehicle production, while we make engineering changes to adapt our chassis to the newer 2013-spec engines.

This advance purchase of engines more than offset our reduction and base inventory levels of 9 million, compared to the end of 2011. We’re currently working through our inventory of 2010-spec engines and expect to use all of those by the end of the second quarter of 2013.

We invested 2.8 million in capital during the quarter with the majority of this – that related to Utilimaster’s Bristol relocation project. For the year, Spartan invested 12.5 million capital, compared to 5.3 million in 2011. We ended 2012 with a backlog of 164.4 million, up 20% from 137 million at the end of 2011. When we look at our total backlog, we are confident of a generally favorable outlook for revenue in 2013.

As we mentioned during our third quarter 2012 conference call, we expect the first quarter of 2013 to reflect lower sales in the DSV segment due to the Bristol relocation project that is actively underway. We expect Utilimaster for units ramp up from pilot builds to higher volume production within the next few days.

We’ve also recently encountered shortages of strip chassis used for walk-in vans due to major suppliers shifting production of these chassis. These shortages has affected all users of strep chassis and have put pressure on remaining chassis manufacturers and their suppliers to meet demand.

The remaining high volume producer of strip chassis are now taking steps to increase capacity, but we do not expect additional supply to reach the market until late 2013. We’ve been in contact with other chassis providers and with our customers regarding alternative such as the Reach and using alternative chassis for some delivery vehicles, but we still anticipate chassis availability issues more have a negative impact on our 2013 revenue, primarily during the first half of the year.

In early 2013, we announced a new distributor for ERV in the Pacific Northwest and Western Canada. We have been working on strengthening our presence in these markets for the past several years. During that time, we determined that our previous distributor was in a critical financial situation and could not continue as a viable partner in that region.

After considerable studies, Spartan intervened to minimize disruptions to our customers. We named a new dealer to represent – we named a new dealer to represent Spartan ERV in the region and are working to strengthen times with our OEM chassis customers.

We expect costs to these steps to result in expenses in the range of $0.5 million to $1 million to be incurred in the first quarter of 2013. We elected to complete the fire trucks that were in process of being built to minimize the impact to the customers. We look at this as an investment in our brand and a step of increasing our presence in that region.

While we expect our other operating segments to full revenue growth in the first quarter of 2013 compared to last year’s first quarter, we don’t expect higher revenue of those segments to offset the decline in delivering service revenue for the reasons I mentioned previously. We therefore expect consolidated revenue in the first quarter of 2013 to come in below year-ago levels and to book an operating loss for the quarter. For the balance of 2013, we expect to return to revenue and earnings growth compared to 2012.

At the end of the first quarter, when we complete the bulk of the Bristol move, we expect to be able to provide more detailed expectations for 2013, we’ll share outlook for the rest of the year at that time. Our longer term 17-11 fix targets for 17% margin, 11% operating expense and 6% operating income remain in place.

Now I’d like to turn the call over to John Sztykiel who will make his closing remarks.

John Sztykiel

All right, thank you, Joe. As we move into 2013, our area of greatest focus this year will be gross margin improvement. We have the products; our customers want to buy, as demonstrated by growth in sales and the order backlog. We must now turn revenue growth into profit growth.

The reality is that this will not happen in one quarter. In the case of Bristol or Reach, for example, we believe it will take two to three quarters to see meaningful results from these initiatives as they are very, very large in both scope and complexity. There has been and will continue to be a dedicated focus on gross margin improvement.

As I mentioned earlier, we underestimated the complexity and time to achieve certain objectives. The objectives having been set and they will be met. I’m confident we have the right focus, the right people, and the right plan to move the ball in the right directions.

For the last several quarters, I have talked about our diversified growth strategy. That strategy has been a great success as we have transformed Spartan from being heavily dependent on government customers to where it is today, a diversified company that derives approximately 59% of its revenues from consumer and business buyers. Combined the diversification with the growth and sales in backlog and it is evident the strategy, diversified growth is working extremely well.

As we enter the New Year, we are combining those efforts with an enhanced focus on improving operating efficiency in growth and profit. I refer to this combined approach as structured growth since it is profitable growth resulting from disciplined, structured initiatives executed effectively and efficiently. The strategy is simple. We call it drive and it is as follows; number one, diversified growth. We will continue to pursue growth opportunities in all three of our operating segments; delivery and service, Emergency Response, and Specialty Vehicles.

We will maintain and grow a diversified revenue stream so that we are not dependent on any one market and can weather the cyclicality that affects all markets. Number two, redefining technology and innovations. Spartan is a leader in its markets. We are a high-end, high-performance brand in each of our markets and customers pay more for our products because they value the solutions and experience we provide. It is clear that we have momentum and now is the time to accelerate and continue to differentiate in the competitive marketplace.

Third, integrated operational improvement. We must match our product innovations with an improved ability to manufacture those products efficiently. We must generate and attract a product, so that we can reinvest in the company and earn an even higher return for our shareholders.

Number four, vibrant culture. To enhance our product leadership, creativity, we need to nurture a culture that fosters those qualities and rewards the associates.

Extend our core markets, number five. We have two great brands, Spartan and Utilimaster that serve our three core markets. We expect to be the first name consumer’s think of, whether it’s for services, parts, or a new vehicle. A solution to their needs, the experience they desire.

In summary, looking back on ‘12, I believe Spartan has many notable achievements to its credit, in reality it was another transformational year and there were a lot of moving parts. We also have work to do to reach our potential and bring our operating performance, our profitability where it needs to be. I’ve outlined for you some of the initiatives we have underway to make that a reality in 2013.

In ‘12, we have demonstrated that Spartan is moving in the right direction, that we are a diversified, growing, profitable company. And I’m confident we are heading in the right direction and that 2013 will be a year of structured growth, increased sales, and increased profits while positioning us for an even more exciting future.

On behalf of our associates, the leadership team, I thank you for your interest in Spartan, and we now look forward to taking your questions.

Greg Salchow

Okay. Operator, we’re ready to take questions now.

Question-and-Answer Session

Operator

At this time, we’ll begin the question-and-answer session. (Operator Instructions) And our first question comes from Joe Maxa from Dougherty & Company. Please go ahead with your question.

Joe Maxa -- Dougherty & Company

Thank you. I’ll just ask on the gross margins side. What kind of range are you thinking about for Q1? And then, how do you see that progressing as the year goes on? Are you going to – do you think you can get back to that 15%, 16% in the last, second half of the year?

Joe Nowicki

Hey, Joe, good morning, this is Joe Nowicki. How are you doing today?

Joe Maxa -- Dougherty & Company

Good, Joe, thanks.

Joe Nowicki

To answer your question on gross margins. Our long-term goals hasn’t changed at all. We’re heading towards the 17% margin, targeted for us (inaudible). The first half of the year will clearly be more of a challenge, and that we go out and we have said that 17% margin was a ‘14 kind of goal, but as we get in ‘13 towards the back half of the year we should be getting there.

The first half of the year will be a challenge, and we get to the second half of the year, Joe, we will start to get closer to that amount and clearly we’ll be back to where as you had described in that 15%, 16% range about the second half of the year, absolutely.

John Sztykiel

Joe, this is John Sztykiel. And I think, again, the Bristol movements, a major, major project, you’re moving the largest part of Utilimaster’s business, even though it’s 25 miles, you’re still moving a very, very large multimillion dollar company, and as Joe mentioned earlier, there’s an estimated $4 million of financial improvement in that project, so that really doesn’t start to kick into gear until the second half of the year.

And then while we reach, while it really is a market desirable product, the operating performance from an improvement perspective, again, will be more of a second half result even though a lot of initiatives are taking place in the first half of the year, it will take some time for those two projects to come to reality.

Joe Maxa -- Dougherty & Company

Great. And my follow-up would be on the DSV line. I just wanted to make sure I understand on your Q1, you’re looking for revenue from delivery and service vehicles to be down year-over-year, but the other segments up, is that – did I hit it correctly?

John Sztykiel

Yes. We expect growth in most of the other segments. DSV is going to be the one that will be significantly down. That’s what – and it will be down and offset the increases of the other segments, which is why the full quarter we expect to see – this should be less than what it was last year for the first quarter.

Joe Maxa -- Dougherty & Company

Right. All right, thanks, I’ll jump back in the queue.

Joe Nowicki

You bet.

Greg Salchow

Thanks, Joe.

Operator

(Operator Instructions) And we do have a follow-up from Mr. Maxa from Dougherty & Company. Please go ahead with your follow-up.

Joe Maxa – Dougherty & Company

Hi, guys. What is that, the crux of the chassis shortage? Are we just seeing increase in demand out there in the industry and the supplier doesn’t have the capacity or what are you seeing?

John Sztykiel

Yeah. It’s two fold, Joe. It is increasing demand and it’s also a less competition as well too. So one of the chassis suppliers is no longer around. So that’s created a bit of a void. And in addition to it, there’s increased demand in a lot of the end markets from the motor home marketplace, obviously is one that’s seeing it and others as well, too.

John Sztykiel

Joe, this is John Sztykiel. There is a positive to this negative, and that is as Joe mentioned a few moments earlier, there’s a significant chassis manufacturer that’s no longer supplying chassis in the delivery and service business, which opens up the door for us to bring into the market a Spartan Chassis for the delivery and service business. While we do not expect that to happen in 2013 we do expect that to happen in 2014.

So, while short-term there are some challenge issues, the good news is there is a lot of consumer or fleet request for another chassis or other chassis options out there. So, the good news is, people are very, very interested in asking us, okay, when is Spartan going have a delivery and service chassis in the marketplace. Obviously, it’s going to be a high-end, high performance chassis that will start at the top end of the marketplace and work our way down overtime. But the good news is there’s a desire for a Spartan Chassis in that marketplace.

Joe Maxa – Dougherty & Company

It makes sense. Joe, what was cash from operations in the quarter, or utilized and what’s your outlook for the rest of the year?

Joe Nowicki

The cash from operations, I want to look that one up real quick for you. Total cash from operations was just about even actually. For the quarter ended December 31, the net cash provided by operations was just about flat, so almost zero. And it’s really a combination of we did work down inventories, but as you know we invested in the transition engines, so that costs has a big outflow.

The other big thing, we continued to make some of the investments into the Bristol facility for the quarter, so the CapEx for the Bristol facility that caused an impact as well. So those are probably the two biggest ones driving it. Receivables gave us a bit – of a kind of benefit as well, too.

Joe Maxa – Dougherty & Company

And what is your outlook for this year on your cash generation?

John Sztykiel

For the full year-to-date, cash from ops was – in 2012, it was up a little over $6 million. As we look into 2013, I don’t have an exact number for you, Joe, but directionally it should be improved from that number. One big shift is going to be a reduction in the CapEx, so for current year we spent $12 million in CapEx.

Next year, a lot of that was driven by the Bristol facility relocation, and also some – that was a biggest driver to it. This year, we don’t have that, so I think the CapEx this year will probably be more around the $5 million to $7 million in total, that’s our traditional level of CapEx.

Joe Maxa – Dougherty & Company

Great. Thanks, guys.

John Sztykiel

You bet.

Operator

Our next question comes from Robert Kosowsky from Sidoti & Company. Please go ahead with your question.

Robert Kosowsky -- Sidoti & Company

Hi. Good morning, guys. How are you doing?

Greg Salchow

Good morning.

John Sztykiel

Good morning, Rob.

Robert Kosowsky -- Sidoti & Company

Yeah, I was wondering, if you could maybe just elaborate on what’s happening with the product mix in the ERV segment? And what can you do to counter this trend towards; I guess just lower margin trucks that you’re going to be selling and put higher material content, or maybe just a little bit more color as to what’s exactly is going on there, and what you can do to rectify that, or combat it?

John Sztykiel

All right. Very good question. This is John Sztykiel. First, the reason you’ve seen a shift towards lower priced Emergency Response products is just simply a direct result of cities and states having less budgets. Less tax dollars coming in, the calls for help continuing to go up, so as they take a look at their needs, they’re like, really no different than any other consumer market. They’re looking at lower cost products. So what we’ve done to address that is, one, we’re very, very focused on the gross margins side of life of reducing our bill to material costs without taking away any of the value of the product.

So as Joe mentioned earlier, as a company-wide effort, but in each one of our lower priced segments, there’s a dedicated focus to reduce our bill to material costs without taking out value. And one can accomplish that really by just trying to utilize more common parts.

The second thing which we’re doing though is you’ll be seeing a number of innovative products coming into the marketplace in April of this year from our Emergency Response group, where they’re priced for lower end of the second segment, but with increased profitability.

So the reality is, while we have been addressing sales in the lower priced segment, it’s been for lack of a better term of product line that was probably designed three to five years ago where the cost structure was higher, so the prices came down but the cost structure was higher.

Really no different than the automotive business where you see them now with smaller cars but yet with improved profitability. So you’ll start to see that unfolding with Spartan ERV in April of this year.

The third item which we’re doing is really focusing on the marketing side of life, the go-to-market, and to leverage innovations of marketing to shift the mix. A perfect case and point, and this will start to kick in again in the second half of the year. As I noted earlier in the call the success rate of APS are advanced protection safety system. We’ve approximately a 60% order rate. It’s just slightly more than $5,000 increase per chassis. It’s clear the market likes it. They’re paying more for it.

So as we deliver more of those products, you’re going to see an increased margin.

And again, within that product mix, how do we drive more customers to our higher end products, gladiator in the chassis side of life and emergency response, the K-Series, and shoot the RV side of life, then you’ve got the Star series and the ERV body side of life.

Again, using marketing to increase the awareness, the focus, and to change the product market mix to drive people or to create the consumer demand back to a higher margin, higher performance product. So we’ve really got four platforms we’re very focused on to improve the gross margins, but also address this shift to lower margin products in particular, in the ER segment.

Did that give you good clarity, Rob?

Robert Kosowsky -- Sidoti & Company

Yeah, definitely. And – okay, so it seems like a few of those issues or a few of those solutions are longer term. But in the near term, do you still have a lower margin backlog sitting there until you get to the fire truck show in April where you start booking some of these more appropriately priced or designed options?

John Sztykiel

Another good question, Rob, and you’re absolutely right. It does have an impact on our backlog and some of the mix of product that’s currently in there as well too. That’s why we described the first quarter, even though, yes, we’re going to have the weakness in DSV, stronger revenue, looking at some of the other business units, but the mix of it will hurt us a bit in the first quarter as well too.

Robert Kosowsky -- Sidoti & Company

Okay. And then, how do you think about your fire truck body or the ERV body business versus the chassis business, because the body business really took off in the fourth quarter here? And just for modeling purposes, how do we think about that going forward?

John Sztykiel

One – we’re very excited, but I think what we’re seeing is the combination of bringing everything under one brand being Spartan, which is now the second strongest brand in the Emergency Response industry. It was a very, very good move on our part. We killed or terminated the Crimson Fire brand. Everything is now under Spartan, so we’re leveraging our resources around that area. I think one of the things which people are seeing in that is, you know, as you continue to focus on innovative products that redefine an industry, even a very challenging market you can still gain market share and move the ball forward, not just in Emergency Response in any market.

So one, we’re excited, but we’re also seeing the effects of a strategy that where two or three years ago, Crimson Fire which is now Spartan ERV was very focused on innovation, so we’re seeing very good top line growth. Okay. But I think net-net some, we’ve got some good redefining innovation that was introduced two or three years ago which is generating top line, but you’re also seeing the effects of the Spartan ERV brand come together.

Joe Nowicki

Other addition that I would add to John’s comment is, as you know, we have lower market share on the ERV side of it that we do on the chassis side, right. A lot of the efforts that we’ve done have been really trying to grow our brand and presence, a lot on the Spartan ERC which gets to the ERV finished vehicle side. So I think you’ll see just like this year probably stronger growth in the ERV business than in the chassis business just as that market share kind of starts to increase.

But then you’ll get to the point where those two start to come together and you’ll see more consistent patterns of growth in the chassis and also the ERV business. But in the short-term, so thinking about this year, we’ll probably continue to see more growth on the ERV side than the ERC side just as we’re increasing our market share there.

Robert Kosowsky -- Sidoti & Company

Okay. So ERV – ERC side should be more kind of where ever the market grows and the ERV side is going to be growth in excess of that, because of you taking some share?

John Sztykiel

Correct. Good way to look at it, yes.

Robert Kosowsky -- Sidoti & Company

Okay. And then, could you maybe just give us your longer term outlook of the fire truck industry in general? It seems like peers, aren’t they rededicated some capacity from ambulances to fire trucks, and we also had a cyclical trough here, and I’m wondering how pricing is going to play out? And then also just are you going to see fewer fire truck manufacturers given it was a pretty fragmented industry or it is pretty fragmented industry?

John Sztykiel

Well, first it’s a very fragmented industry. I’ve been in this business for 27 years and I’m not sure if we ever have less fire truck manufacturers, only because it’s an easy business to get into.

I think, you’ll see a greater separation between those that are growing and those that aren’t. You know, as an industry as a whole, I believe in 2013 the industry will see better growth in ‘13 than what it saw in ‘12 and part due to pent up demand, but second in part due to improved economy.

One of the things, which is becoming clear is there’s about a two-year lag time between housing starts and growth in Emergency Response sales, so as we look over the next two or three years, not just me but a number of people in the industry, perceive, okay, we’re now going to move on a growth path.

I do believe this, though, those organizations that focus on what I would call products that are attractive from a price point with a very good value proposition that are multifunctional in nature have the opportunity to have what I would call very, very good double-digit growth in the Emergency Response industry, because if there’s one thing that isn’t changing Rob, and that is the call for help continues to go up.

Whether it be Sandy, Nemo, wildfires, just houses, you have more people texting while they drive, even though they shouldn’t. The reality is there’s more things today happening within North America that are raising the calls for help, so from a pure infrastructure perspective, it’s a very, very good industry to be in, but those organizations, I think that focus on the right price with the right what I would call multifunction value proposition, will see very, very good growth in the Emergency Response industry. But the demand is there.

Robert Kosowsky -- Sidoti & Company

Okay. So I guess, the key takeaway is that you think probably the likes of you and pierce and the bigger companies will probably end up taking share over time.

John Sztykiel

Yes, I think that’s correct.

Joe Nowicki

I think that is correct.

Robert Kosowsky -- Sidoti & Company

All right, cool. Thank you very much.

John Sztykiel

Thanks, Rob.

Robert Kosowsky -- Sidoti & Company

Thank you.

Operator

(Operator Instructions) And at this time I’m showing no additional questions. I’d like to turn the conference call back over to management for any closing remarks.

John Sztykiel

All right. This is John Sztykiel. First, I just want to say thank you very, very much. 2012 is now behind us. It was a year of revenue and adjusted income growth. As we look to 2013, we’re very focused on what I would call a very disciplined structured growth plan where we deliver growth in sales and also growth in income. Thank you very, very much for your time today. Have a great day.

Operator

Ladies and gentlemen, that concludes today’s conference call. We do thank you for attending. You may now disconnect your telephone lines.

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