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Ducommun Inc. (NYSE:DCO)

Q4 2008 Earnings Call

February 23, 2009 10:30 am ET

Executives

Joseph Berenato – Chairman and Chief Executive Officer

Anthony Reardon – President and Chief Operating Officer

Joseph Bellino – Vice President and Chief Financial Officer

Analysts

Troy Lahr – Stifel Nicolaus

Edward Marshall – Sidoti & Company

Michael Lewis – BB&T Capital Markets

Alex Hamilton – Jesup & Lamont Securities Corporation

Presentation

Operator

And year end 2008 Ducommun Earnings Conference Call. My name is [Tanya] and I will be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question and answer session towards the end of this conference. (Operator Instructions). I would now like to turn the presentation over to your host for today's call, Mr. Joe Berenato, Chairman and CEO.

Joseph Berenato

Thank you, [Tanya]. Good morning, I'm Joe Berenato, CEO of Ducommun and joining me this morning are Tony Reardon, our President and Chief Operating Officer and Joe Bellino, our Chief Financial Officer.

Welcome to Ducommun's Fourth Quarter and Year End 2008 Conference Call. Actually, we had two press releases today. One was our 2008 year end results and the second was a $50 million Embraer for flight control surfaces for the new Legacy aircraft. Joe Bellino will cover the financial update, Tony Reardon will follow with an operations review, and then I will make some comments on the business environment.

Joe, over to you.

Joseph Bellino

Thanks, Joe and good morning. Earlier today for the quarter, we reported a net loss of $4.2 million or $.040 per fully diluted share versus $5.4 million or $0.51 per diluted share a year ago. The reported results reflect a number of items which I'll discuss, including the impact of the non-cash after-tax goodwill impairment charge of approximately $8 million or $0.76 per diluted share.

Regarding the impairment charge, the test at year end itself indicated that the book value of our Miltec subsidiary exceeded the fair value of the business. The impairment charge was primarily driven by adverse equity market conditions that caused a decrease in market multiples and stock price as of year end.

Ducommun's fourth quarter sales of $101 million were up 8.5% from the $93 million a year ago, as both of our segments, Aerostructures and Technologies showed solid gains year-over-year. Aerostructures grew by 5% being driven by higher commercial sales, although the Boeing strike impacted company sales by $6.5 million during the quarter. Our newest acquisition, DynaBil, which we now refer to as DAS New York, which was completed on December 23rd, contributed nearly $1 million in sales.

Ducommun Technologies realized growth was 13% during the quarter, as we benefited by increased revenues in the Phalanx program and various other military applications. The Boeing strike also affected our business mix as we saw a greater percentage of business in military than we have seen in recent quarters.

Q4 2008 sales comprised of 63% military, 35% commercial, and 2% space, and this compares to last year's similar quarter of 58% military, 38% commercial, and 3% space. As of December 31, 2008, the company's record backlog increased 34% to approximately $475 million and this compares to $353 million a year ago. The DAS New York acquisition added $41 million to that backlog. Overall, we expect to deliver at least $236 million of that backlog in the current year.

When we look at operating income, excluding the goodwill impairment charge it was $3.9 million for the quarter, this compares to $7 million for the same quarter last year. The adjusted operating income was impacted by approximately $1.8 million from the Boeing strike and $1.2 million increase in reserves for doubtful accounts.

Our combined effective income tax rate for the fourth quarter was a 55% tax benefit, as compared to a 19% effective tax rate in the fourth quarter of 2007. We benefited from recording full year R&D tax credits in the fourth quarter as the legislation was enacted in October 2008; this legislation will extend through the full year 2009 and as a result for modeling purposes, we estimate our effective tax rate will be in the 30 to 31% range each quarter for the entire year of 2009.

Turning to full year 2008 results, full year net income was $13.1 million or $1.23 per diluted share as compared to $19.6 million or $1.88 per diluted share for 2007. Again, the $1.23 takes into consideration – is after the goodwill impairment charge of $0.76 per share.

Full year sales increased 10% to $404 million as compared to $367 million for 2007. Overall, our commercial sales increased by 14% despite the Boeing strike, and were largely attributable to higher after-market sales and increases in sales to Carson Helicopter.

Our military sales also increased, they went up 8% as we enjoyed sales increases for the Chinook and Blackhawk helicopters in the Phalanx program. Looking at the full year's mix of business, it was 59% military, 39% commercial, and 2% space. This compares to 60% military, 37% commercial, and 2% space for 2007.

From a larger customer perspective, we continue to see broader diversification in our Blue Chip customer base. Of our major customers, we showed slight sales increases to Boeing and to the U.S. Government, and a 10% increase to Raytheon.

When we look at the real growth of our business in 2008, it was a result of growth in helicopter programs, after-market sales, and a variety of new programs we have been developing in recent years. Tony will talk a little bit more about program growth in 2009 after my remarks.

Operating income year-to-date, excluding the goodwill impairment charge increased 6% to $31.4 million compared to $29.7 million in 2007. This reflects stronger operating performance in our Aerostructures business, despite reflecting the factors I touched on earlier, namely the impact of the Boeing strike and the increase in reserves for doubtful accounts. Overall for the year, our effective tax rate was 23.1% and that compares to 28% for 2007.

Moving on to discuss a little bit about liquidity and capital resources, during the year, we continued to generate positive cash flow, particularly $26 million in cash from operations. This underscores our focus on continuous improvement and effective working capital management. This cash flow has allowed us to continue to strengthen our balance sheet and expand our financial flexibility for further growth initiatives.

Even though we paid for our DynaBil acquisition mostly in cash, we wound up the year with a low 12% debt-to-capital ratio. Our leverage ratio is still below our target debt cap of 30% and we feel that given the current economic environment and uncertainty in the credit markets, this is an excellent position for us to be in.

We expect CapEx for the full year of 2009 to be in the $17 million range and this compares to about $12 million for 2008, and it's primarily the result of new program acquisitions. Our depreciation runs approximately $10 million a year.

We feel confident that as we enter 2009, our strong financial position will allow us to take advantage of several market opportunities and enable us to benefit from our strong credit risk profile. And with that, I would like to ask Tony Reardon to make some overall business comments. Tony?

Anthony Reardon

Thank you, Joe. Good morning, I'd like to summarize Ducommun's fourth quarter operational results and then recap 2008. In fourth quarter our sales performance for the fourth quarter was solid despite the impact of Boeing and the Eclipse bankruptcy.

The sales increase in Q4 '08 versus '07 was supported by higher sales on the Phalanx program as Joe mentioned, but also increases on Boeing Chinook and the composite winglets from Dassault Falcon program.

Our performance in the fourth quarter was impacted by both Boeing and Eclipse bankruptcy, and in addition to their impact on sales and operating income, we had a negative impact on overhead absorption in Q4, which is a direct result of these programs and contributed to lower margins.

Some of the – one of the things I'd like to make a note on was that we were partially offset the impact of these events for both Boeing and Eclipse with the appropriate cost reductions beginning in October.

The fourth quarter successes which were, there’s a couple of them; the new business plan follow-on bookings in the fourth quarter were pretty solid, for Raytheon we picked up a multi-year contract of over $100 million at DTI, or Ducommun Technologies. And we had big wins on the Embraer design and build contracts, which the press release was out today for the Legacy program for the flight control services, and we had a large [patchy] follow-on contract.

The biggest impact in the fourth quarter, of course, was our acquisition of DynaBil, which as Joe mentioned we call DAS New York, Ducommun Aero structures New York. It brings very complimentary product line, including higher level assemblies to Ducommun and further diversifies Ducommun customer base with the large Sikorsky content. It opens the doors for more UTC companies and cross-selling, and they have added content on the 787 programs as well as the Boeing 777.

They have a very solid management team, which we think we have the ability to grow the business with, and they are just starting their Lean Six Sigma program, so we believe we have the ability to drive Lean and Six Sigma through that organization and be successful in the cost reduction efforts. The last thing on the fourth quarter that was really successful is that our Mexico operation exceeded our expectations on the 737 program and helped lessen the impact of the Boeing strike.

The 2008 results for the year, Ducommun Aerostructures had solid performance throughout the year with some new business startups which were being executed at the expectations of the customers; very successfully done there. On the Ducommun Technologies we struggled with new business start ups for the year, but we now have those under control and refocused the growth plan and are working on new engineered product development for future growth. We believe DTI is in a position for better performance in 2009 as a result of those efforts.

On the new organizational front, we reorganized Ducommun to our one Ducommun focus in 2008 and let me summarize some of the major events that we had across the year. From an information technology standpoint, we put a common IT infrastructure across the company which improved communications; we put in voiceover IT and a common email system across the company, and we’re progressing in implementing our MRP system across Ducommun, same MRP system.

Supply chain management, we had a commodity management team in place across the company and we hit our planned cost reduction goals in every sector of the business. The inventory management plan is in place for this, was put in place in the fourth quarter of this year and we’re set for a solid performance in 2009.

On the human resources front, we had over 70,000 hours of training across Ducommun last year, which averages about over 40 hours per employee. The Ducommun University, we graduated 186 members to our leadership development program, which is just about 9% of our employee base, and succession planning is in place across the company, so we’ve done a tremendous job in terms of identifying our next generation of leadership.

On the continuous improvement front, across the company we had 240 Lean Six Sigma events and a large percentage of those were in the administrative area. We also graduated eight greenbelts in our greenbelt training program, certified training program.

We had global initiatives, which established design and structural engineering support relationships in China, in India and Brazil to support our structures as well as our technologies business, and on Thailand and Mexico operations, we’ve been able to restructure growth, as well as put ourselves in a position to support growth for the future. Both of those outside entities will help support our growth for the future.

And finally on the marketing front, we established growth targets for each one of our business units across the company and I’m pleased to tell you that we hit our growth targets at both DAS and at DTI, which resulted in our backlog of over $474 million.

We captured design in manufacturing of the flight controls and some major assembly contracts as well. We have solid long-term contracts in both business units, and finally we’ve captured initial development contracts in our IR&D programs, in both the Water Watch Program and the Inertia Navigation Systems.

So all in all we had a very solid year. We felt that the new organizational structure across Ducommun was a large success and we look forward to moving forward in 2009, so I’ll turn it back over to Joe Berenato.

Joseph Berenato

The outlook for 2009 is pretty clear, lower commercial build rates. What we don’t know is the timing or the extent. It looks as though the BizJet and regional jet markets are being hit harder than the large commercial jet market so far.

Partially offsetting the downturn in commercial jet build rates for Ducommun is our robust military business, and our continuing ability to win new business from new and existing customers, while expanding our scope of work, such as the new contract with Embraer announced earlier today, which is our first work directly for Embraer and which allows us some design engineer content.

So while no one likes a downturn, we believe we are well positioned for avail with a strong organization, a focus on operational excellence, and the drive to make Ducommun a more capable company, which is becoming more important to our key customers every day.

With that [Tanya], Tony, Joe and I would be happy to answer any questions.

Question-and-Answer Session

Operator

(Operator Instructions) And your first question will come from the line of Troy Lahr – Stifel Nicolaus.

Troy Lahr – Stifel Nicolaus

Just a little bit on the last comment that you made about the business in the regional coming down. Can you maybe frame that for us? I know commercial’s 35% of your business, but how much of that is regional in business versus large commercial Boeing Airbus type work?

Joseph Berenato

The majority of it is Boeing type work. We’ve got some regional work on a variety of aircraft like Cessna, like the Embraer 171-90, like the Eclipse. But many of these programs are building or were building, so that the majority of our commercial work was still primarily with the large commercial jets.

Troy Lahr – Stifel Nicolaus

Okay. So I mean regional business, is that maybe 10% of your sales?

Joseph Berenato

Maybe 10 to 15%.

Troy Lahr – Stifel Nicolaus

Okay and then what are your expectations for Boeing production in 2009? I mean, it looks like pretty stable first part and then maybe back part is called into question? Or how are you thinking about that?

Joseph Berenato

I’ll let Tony Reardon tackle that one.

Anthony Reardon

First of all, we’re still – I think Boeing and most of the operations are still recovering from the strike so we would anticipate that Boeing is going to, first of all they’ve projected 480 aircraft for the year, so that’s about a 40 aircraft per month, which we would assume that the 737 would be the largest contributor there.

Now before the strike, they were running at between 31 and 34 aircraft. So we anticipate that we’ll be slow through the first quarter, pick up in the second quarter and then be solid for the rest of the year. We think that what’s happening at Boeing is the backlog’s being filled in for those that are pushing out with other customers. As late as July of last year, they were talking about having the aircraft in some sectors over sold. So we think that should be relatively solid.

Joseph Berenato

Troy, one additional comment: Airbus announced this past week that they were reducing their A-320 build rate by two aircraft a month and that would start up in about October of ’09. So that leads us to believe that the Boeing 737 build rate, as Tony suggested, is going to be pretty solid through ’09, and the first quarter slow period that he made reference to ties to the after effects of the strike where Boeing is building back their build rate.

Troy Lahr – Stifel Nicolaus

Okay, and how should we think about the margin on that Boeing business, if Boeing going into 2010, were to cut production 10%, which is what Scott Carson has kind of briefly talked about as maybe a possible level? I mean would that have a dramatic impact on your margins at that business, from a leverage standpoint? Or would that be manageable and margins could hold up? How would that impact margins?

Anthony Reardon

It should have no impact on margins. We’re not anticipating any impact across the board on margins. Some of the business will be built in Mexico which we’re leveraging and we think that there should be no impact if they’re a 10% drop in production.

Operator

And your next question will come from the line of Edward Marshall – Sidoti & Company.

Edward Marshall – Sidoti & Company

Looks like sales came in pretty solidly, with a 9% increase, now that's despite a $6.5 million from Boeing hit, but profitability fell. Am I right to think you got a lot of low margin business through the door? And what would that be attributable in the products mix? Was it more toward military? Can you kind of clarify that for me?

Anthony Reardon

Yes, one of the things that we had running through was in the fourth quarter we had hit production rate on some of our development programs. I mentioned the Dassault winglet, which as you come down the learning curve, there's a little bit lower margin.

We anticipate those margins to pick up this year and that was a big contributor in the fourth quarter in terms of the revenue, but the overhead absorption was a big hit to us with the loss of the revenue on both Eclipse and Boeing. So despite our efforts to reduce overhead, which we actually did early in the fourth quarter, we weren't able to overcome that.

You have to remember, I think also in the fourth quarter what you see is a large number of holidays, which we typically have so we have an absorption impact as well going through there. So it was a mixture of that and some new program developments coming through that picked up the revenue, and we have a number of new programs that are in development right now across the company.

Joseph Berenato

And you'll notice that we have a higher percentage of military sales in the fourth quarter than the rest of the year, and that's because we made up, as Tony said, the sales by pulling some work forward to fill the gap where the 737 rate was down. And it turned out that the mix of that was not 100% commercial. So that's the reason why the military piece was higher in the fourth quarter.

Edward Marshall – Sidoti & Company

You mentioned the Dassault program and that contribution to the sales growth. Now that oil has come well off its highs and knowing that that particular winglet is used for fuel efficiency as a retrofit has orders been as solid for the Dassault?

Joseph Bellino

Yes, I think, we're under contract through the end of 2009 and this is the both production that's going and the production aircraft, as well as a mod kit for the aircraft. So we anticipate that it'll – it may drop off a little bit, not so much because of the lower oil prices, as much as drop off in sales of the aircraft.

Edward Marshall – Sidoti & Company

Now the win with Embraer, today it looks like with Miltec, I mean that seems to, does that go for Miltec or is that the first big contract you guys had is kind of the Miltec contribution with the build to print?

Anthony Reardon

No, on the Embraer, actually Miltec's not teamed with us on that. It's actually teamed with an Indian design company so Miltec is – the big wins we had there were on the IR&D program where we're doing producability across the technologies division, so the Water Watch program and the commercial navigation system are two programs that we're developing there as well as the space program.

Joseph Berenato

And Ed, this is just the way that we try to enhance our footprint. We've developed relationships with both engineering firms in China and India, and on particular programs, depending on what the expertise required is, we've teamed with people to give us any expertise we might need that we don't have internally to be able to go after bigger programs like this.

So what we're trying to do is not staff up enormously on the engineering front until we start driving a good quantity of design engineer product business through us. We have engineers, but I'm not a huge fan of if we build it they will come. So we try to tie in with people who have the expertise, and quite frankly, for discrete projects the rates that we pay in India and China are very reasonable.

Edward Marshall – Sidoti & Company

Is that to say, are you saying kind of indirectly that this particular program doesn't encapsulate the capabilities of Miltec, or is it just not of their strengths and that's why you chose to use an outside firm?

Joseph Berenato

Yes, this is not one of their strengths and so we've used an outside firm where we can target the exact capability we need at a very reasonable price. We have other projects where Miltec is a part of that, including the fuel tank for the crew launch vehicle. So depending on what the expertise is and where the talent is, that's where we'll go for it.

Edward Marshall – Sidoti & Company

I see. As a percent of your business, do you have an idea how much is toward helicopter programs as opposed to just commercial and military aerospace, the percent?

Joseph Bellino

If you look at that any point in time, Ed, it's between 25 and 30%.

Edward Marshall – Sidoti & Company

Okay and you had mentioned the percentage of new business that's adding to the business. Can you kind of tell me, revenues for 2008, what the contribution of new business was, new programs that were added for 2008, that contribution to the total revenue?

Joseph Berenato

Ed, the total amount of revenue from new business would not be substantial. It's almost a definition of new business. When you get a program in, you've got to get it properly spec'd, then you've got to get first articles, and only then do you go into production.

So it usually takes about a year from the time you get a contract to the time you actually – this is on the Aerostructures side – until the time you really start producing product with any noticeable revenue. On the common technology side, ironically, even though it's got more design engineered content, you get to market sooner.

Edward Marshall – Sidoti & Company

And then the backlog contribution for DynaBil in the quarter?

Joseph Berenato

On the backlog, we said our overall backlog is $475 million approximately. A little over $40 million is from DynaBil.

Edward Marshall – Sidoti & Company

And then one last question, the reserve increase, is that – can I assume that's associated with Eclipse?

Anthony Reardon

Yes.

Operator

And your next question will come from Michael Lewis – BB&T Capital Markets.

Michael Lewis – BB&T Capital Markets

Joe or Joe, with regard to the overhead absorption question earlier, if we look at that impact is there a way for you to help us account for how many basis points of the margin fall in Q4 was attributable to that absorption issue?

Joseph Bellino

It's a good question, Michael. I think it's a little bit difficult for us to quantify because we have so many different businesses, but certainly it has affected us by points. Tony talked about it when we get into slower periods, not able to fully run the volume there; we lose the benefit of operating leverage.

So it does, and we look at our business, typically our second and third quarter is the strongest and then the fourth quarter and even the first quarter are the slowest. So you will see swings sequentially from quarter-to-quarter just because of that effect.

Joseph Berenato

Mike, if you look at the fourth quarter, our gross profit margin was 18.2% and it was exactly that a year ago, and the margin for the year was 20.3% this year and 20.6% last year, so you can see the fourth quarter, and if you go back further you'll see the same kind of anomaly.

The fourth quarter always takes a hit in the gross profit margin line because we're carrying so much overhead and fewer work days. The last two weeks of December, most of our customers are shut down so we're not selling much during those two weeks, and then you've got the Thanksgiving holiday as well. So we just carry more overhead, not in terms of dollars, but spread out over fewer days of production.

Michael Lewis – BB&T Capital Markets

Yes, I understand that. What I'm trying to get at here, is that if I'm looking for 6-1/2% margin in the fourth quarter according to my model, I'm calculating around sub 4% margin on a continuing basis in the business following this report, but what I'm trying to differentiate here, was their 250 basis points of margin impact as a result of these issues that we witnessed in the quarter, including the write-down on Eclipse?

Joseph Bellino

Yes, that's a fair enough question. When I went through my remarks, Michael, I said that when we take out the impairment charge, we made nearly $4 million of operating income on 101 that you have in your analysis and that excluded the impact – or that $4 million included impact of $1.8 million of the Boeing strikes and the $1.2 million of the Eclipse reserve.

You could add those up and see how that faired compared to the $7 million in operating income on $93 million the year before and you will find that the difference is it's a lower percentage of operating income as we adjust it, and you could say it was a combination of the product mix was an impact, as well as inventory absorption – or overhead absorption, excuse me.

Michael Lewis – BB&T Capital Markets

That's very helpful. I'll shift gears here for a second. With regard to Eclipse, did you reduce backlog at all to take into account that that's likely to go away?

Joseph Bellino

Yes, we did. When they filed, we went back and looked at where we stood with backlog orders and peeled those back significantly.

Michael Lewis – BB&T Capital Markets

Do you have an amount that you pulled back?

Joseph Bellino

It's relatively insignificant. I'll say that, relatively small percentage. It was – although it's an important program, it wasn't that large in the first place. When we looked at some of the backlog numbers, it was probably less than 3% in the first place and it's been peeled back.

Joseph Berenato

Michael, we had high hopes for this program, of course, to grow into something significant for us, meaning in the $5 to $10 million a year of revenue, and so obviously, that's not happening, but the backlog never got real big because we only put in the backlog that for which we had purchase orders. So, by reducing the build rate as they had been over the past year and half, the backlog never got large.

Michael Lewis – BB&T Capital Markets

Okay, Troy had asked a question earlier with regard to regional proportions of business. Your answer was 10 to 15% of sales. Now is that 10 to 15% of total sales or is that Aerostructure sales?

Joseph Berenato

Yes Aerostructures.

Michael Lewis – BB&T Capital Markets

Okay, just wanted to make sure we got that right. And then two more quick questions here for you. Pension costs, I'm assuming that you've made assumption changes to your pension costs. Can you talk about what your expectation is for 2009 versus 2008?

Joseph Bellino

In all of our plans we have 401(k) with the exception of our composites and metal bonding operation in Monrovia, where we have about 300 workers. That's the only one where we have a defined benefit pension fund and those costs did go up a bit. Your question, Michael, was what can we expect in '09? It's not that significant of a cost overall on a year-to-year basis the way the calculations are made. So, it's probably a couple hundred thousand at the most.

Michael Lewis – BB&T Capital Markets

That's helpful. Okay and then, with regard to DynaBil, you said that most of that was cash that you purchased with. What was the debt portion and what are you blended debt rates and cash interest rate levels right now, as a percent?

Joseph Bellino

Well, I mentioned with the DynaBil transaction, the $46 million purchase price was – it was $46.5 million – it was $32.5 million cash at closing and a $7 million note, and we do that for, let's say, indemnification purposes and it's broken up into one chunk is due in 18 months and the other one is due in five years.

So, what we did is that we had cash; we continued to accumulate cash during the quarter. It was a very strong collection quarter for us. So actually, after we closed the transaction on December 23rd, we continued to receive cash and we actually had bought on our line that $10.5 million that we talked about in our K, and we actually paid that off at year end, and so that's what shows up in our balance sheet is that our cash was down. But we're real pleased that we're generating so much cash that we're able to do that.

Can you maybe restate, Michael, your other questions?

Michael Lewis – BB&T Capital Markets

Yes, with regard to debt interest rates, what's your blended rate that you're applying right now?

Joseph Bellino

We have a swap that's for $20 million that goes to September 2010. That's locked in at 4.88, but we borrowed on an incremental basis – we borrow currently at LIBOR over 175 basis points. We do that probably for one month or three months. So, that's probably in the mid-three range, 3.5 to 3.75. So, it sure helps make our acquisitions more attractive from a financial standpoint because we're using leverage and better optimizing our balance sheet. Plus it's a low cost of incremental capital.

Joseph Berenato

Mike, you'll note that we've said in the past that we'll probably be redoing our revolving credit sometime in the first half of the year and so those spreads will probably change, but of course, we're not going to do anything that doesn't make sense for us.

Operator

And your next question will come from the line of Alex Hamilton – Jesup & Lamont Securities Corporation.

Alex Hamilton – Jesup & Lamont Securities Corporation

Two questions, I guess first on the military side, lots of chatter starting to come out of D.C. and I haven't necessarily scrubbed the programs lately. Can you share with us any thoughts on programmatic risk there in the next year or two that you see?

Joseph Berenato

Yes, on the military side of course there's a lot of discussion about where the cuts will come because there certainly will be cuts. It's my completely uninformed opinion that the likelihood is that the cuts will come in programs that are not in production, and by that I mean future combat systems and joint strike fighter and some of the Navy ships where they're trying to decide between which type of destroyer to build going forward, as opposed to programs that are in production. The exception to that could be the F-22 because the Secretary of Defense really seems not to like it.

The Air Force has recently come out and said, hey, you know what? We've reconsidered. We really don't need 381 of them anymore. We could make due with 240 to 250. Right now the plan is to stop at 183. So, that program could be the exception to my rule about production programs not being cancelled. And the reason for this is that there's just too many jobs tied to it. And in an economy where the administration is trying to either create or preserve 3.5 million jobs, it doesn't look too good to cut high paying defense jobs while trying to encourage people to go to work at a service organization at lower wages.

So I actually feel more optimistic about the C-17 than I have any time in the last couple of years. What I've said before about the C-17 is I expected the program to be cancelled sometime between 2010 and 2012. I'm now cautiously optimistic that the program will go further, but probably at lower build rates.

We're building at about 15 C-17s a year right now and maybe the program will go on for quite a number of years but more in the eight to ten aircraft a year range, and that would be made up of additional buys to the U.S. Air Force and some foreign sales. So that program is big for us.

On the Apache side, another big program for us, we already commented in our third quarter queue that the build rate for 2009 on that program would roughly be cut in half, and what we said at that time was we thought we could make up the revenue loss in that program by other new work that we had coming on, and of course, some of that might get hampered by the declining build rates especially on the BizJet side, but we continue to win new programs.

So, we feel pretty comfortable that we're going to continue to grow our business as we go forward with a combination of internal growth and acquisitions. We've seen a couple of military helicopter programs get bigger for us. Also with the acquisition of DAS New York, they have significant content on the Blackhawk and we were winning some new work there anyway. So that will become a bigger program for us, and so, generally speaking I am looking for a continuation of relatively high build rates, with the exception of Apache, relatively high build rates on our military programs going forward.

Alex Hamilton – Jesup & Lamont Securities Corporation

Thanks Joe, and to that just looks like the next few years are going to be challenging. Several analysts have alluded to, where are the commercial production rates going? We all have views of it. You have views of it and at the end of the day no one really knows.

And then on the military side, obviously, the chatter has been increasing as to where the cut's going to come, I guess where my question is going is you stated in the past that you wanted to get this company to a billion dollar company and a lot of it was going to come via acquisition.

Given the challenges on both sides of, on both of your end markets how are you looking at acquisitions? Has that look changed or do you look at is your outlook now that it's a more opportunistic time to do this?

Joseph Berenato

Well, the opportunistic always ties to what's available for purchase and the – we think that there are companies out there that make sense for us. The question becomes whether the target company thinks it makes sense to sell at a particular time and that always comes down to price, and that ties to, in the commercial and military markets, it ties to what build rates are.

So any price we might offer, the seller or potential seller would have to match up with what his view of the future is and I have always said, a guy only sales when you're offering them more than what it's worth to him.

So, the only way that a deal like that makes sense is if we knew what we were going to do differently with the business to make it more valuable to us than it was to the seller and, so we continue to look at those kinds of things. As an example we thought DAS New York was a great fit for us because we understood the business, they had capabilities that were complimentary but not the same as ours, they had relationships with people and programs that we were not as strong with, and they were just beginning their Lean journey and we thought we could help them do that.

So there were a variety of things that we thought both on the cost cutting and sales growth side, we could do something with, more so than they could do with their own, and they have brought us some ideas already that are helpful to the rest of our business so it's not just a one way street.

So we look for those kinds of acquisitions. Now, in the environment that we're in and you know I've been adverse to begin with, in the environment that we're in, we're not going to leverage ourselves up into some risky situations.

So the billion dollars is still our target. We still need about $350 million of sales via acquisition and a couple hundred million of sales from internal growth and we're going to continue working it, but we're not going to make a stupid acquisition in order to get to a number and what we really want to do is kind of like the tag line that we've used on all of our releases, is we want to make Ducommun more important to our key customers with more capabilities, and so that's what we're striving to do.

Acquisitions ought to bring us more capabilities and give us growth and give us the opportunity also to take costs down. So the environment that we're going to go through in '09 and '10 probably makes it a little more challenging than it was before, but I don’t think it dramatically shifts the landscape.

Operator

(Operator Instructions). Your next question is a follow-up question from Troy Lahr – Stifel Nicolaus.

Troy Lahr – Stifel Nicolaus

Thanks, can you guys break out what the segment sales and margins were for the quarter? I know you generally can do that when you – in the Qs and the Ks, but can you just give us some thoughts on that?

Joseph Berenato

The – Troy I'm looking at – we're still drafting and finishing up the K and then it will be – that will be issued in a couple days, but let me if I may give you the full year numbers. Our Aerostructures business our sales were $251 million, Technologies was $153 or $152 to get to the $403.

The segment information was Aerostructures was $35 million, that's for the year and the Technologies was like – it was about $9 million in operating income for the year, when you exclude the impairment charge. I don’t have those numbers right in front of me for the quarters but you could back into it from our third quarter break out.

Troy Lahr – Stifel Nicolaus

Okay that's perfect. Thanks and can you maybe directionally talk about 2009? I know you guys probably don’t want to give too much detail but maybe just kind of overall sales, kind of how you see them growing and then do we continue to see margin improvement next year? And is there any mix shift that we should be aware of going into 2009?

Joseph Berenato

Yes, I'd say a couple of things about that. Obviously, it's a little murky out there, but when you get the production rates on your big programs coming down, it means that you're new programs; your startups are going to be a bigger percentage of the whole.

And so, we're going to have a challenge in terms of margins with more impact from the new programs, but having said that, we continue to drive Lean and Six Sigma so I don’t see any dramatic change in margins. It's really going to be an issue of how we handle the overhead as we go through the year and continuing to right size it to manage wherever the sales go.

We do try to get in front of these things and so we've made a couple of – in the last six months we've made a couple of reductions in force which total about 5% of our head count as we anticipate things like the Apache bill going down and a slow down on the – well all of the Boeing commercial because of the strike.

So we've tried to be prudent about that and try to right size the business. Joe mentioned earlier that we're going to spend about $17 million in CapEx, which is a noticeable increase from the $12 million we spent in '08 and which itself was higher than our average over the last four years, which is more in the $9 million range and the increase in he CapEx ties primarily to equipment and facilitization for new programs.

So we're kind of in an investment phase, obviously, if the $17 million comes to fruition to help start up new programs, and so that will be a little bit of a drag too, but those are all the headwinds that we have. In the meantime, we're doing positive things to improve the margins in our business. So again, I don’t see a dramatic change, but because of the headwinds I can't tell you there's going to be a dramatic upside either.

Troy Lahr – Stifel Nicolaus

Okay and then you talked about the head winds from the Boeing strike. Is that just more a first quarter issue and could you maybe frame that a little bit for us?

Anthony Reardon

Yes, primarily what we're looking at is a slow start up in the first quarter and then we would anticipate that the second quarter will be much stronger in terms of sales deliveries to Boeing. So we would anticipate that by the end of the second quarter, we'll be at full rate production as well – well, Boeing would be at full rate production which would then [initiate a pull] from us.

So right now they're burning down inventory which is causing our slower build, but we anticipate them to start picking up second quarter.

Troy Lahr – Stifel Nicolaus

Okay. Fourth quarter impact though from the Boeing strike was $6.5 million, I mean is it going to be like half of that though in the first quarter? How should we think about that?

Anthony Reardon

A little bit more than half, because they're actually at a rate of about 20 [ship sets] on the 737 and I think they're around four on the 777. It depends on where – how much inventory we have out there and which business units, so it's kind of hard to couple it, so a little bit more than half.

Troy Lahr – Stifel Nicolaus

Okay and then last question. The Embraer Legacy contract, does that kind of go towards working down, I think you said last quarter you were still trying to win maybe about two, two and half programs to offset this eventual wind down in some of the other legacy programs; does that kind of count towards that? How are you thinking about that and still maybe what are the opportunities out there?

Troy Lahr – Stifel Nicolaus

Yes, but the problem with the Legacy of course, is that we'll be in development most of the year next year so we won't see any large uptick in revenue in 2009. Primarily, we'll be doing first articles and flight test units and proof of design concepts, so we're actually designing the flight control units.

So the impact, the answer is yes but it won't exactly happen in 2009 and we have a couple of other programs that we're really close to picking up and we anticipate that we will get the wins, which will have some minor impact in 2009 to pick that up, and we've lost some of the revenue by pickup on some of the other military programs from the Apache and other business units.

Troy Lahr – Stifel Nicolaus

Okay, so just I guess so I'm clear, I mean are you still looking, do you think you need to win maybe one, two more programs over the next year, two years to eventually offset kind of the Apache and C-17 wind down?

Joseph Berenato

I think two more.

Troy Lahr – Stifel Nicolaus

Okay, so two more. So you're counting this kind Embraer Legacy as maybe half a program I guess?

Joseph Berenato

Well half a program and it'll start really impacting in 2011, but because it's a new airplane as opposed to an existing platform, we kind of discount its value to us in terms of sales because we just have to see Embraer sell it.

As opposed to winning a contract on an existing platform where we've gotten a proven program where it's got a track record of sales etc. and we can be more confident in how much in the way of new sales that would give us.

Troy Lahr – Stifel Nicolaus

Okay, but 2011 is kind of where you start needing the revenue to pick up anyway, right?

Joseph Berenato

Oh exactly, but as an example the 787 is a program that with the DAS New York acquisition, we've got now a nice position on and we're going to look to continue to add to that.

Troy Lahr – Stifel Nicolaus

Okay.

Joseph Berenato

And that could well be one of those programs for us.

Troy Lahr – Stifel Nicolaus

Okay and do you see A-350 opportunities out there for you?

Joseph Berenato

A-350?

Troy Lahr – Stifel Nicolaus

The Airbus A-350.

Anthony Reardon

We will be working on that. We haven't seen any packages come out in the recent past, but we certainly will be, will drive to that so depends on – we would plan on participating on that aircraft.

Joseph Berenato

What is true about our business as a second tier/third tier subcontractor is that we don't get on the front end of new programs. So whereas somebody like a [Moge] may announce that they're on a program because their equipment has been spec'd into it, the people that we do work for after they win the program they have to stabilize the design and only then do they look to outsource subassemblies or subsystems to others.

So 787 is a great example. We're just now winning more 787 work and some people announced two years ago that they had gotten work on 787, but the kind of work that we win comes later in the manufacturing cycle.

Troy Lahr – Stifel Nicolaus

Okay. Any 787 wins that have kind of, that you've received over the past one two quarters that you really...

Joseph Berenato

As soon as we can put out a press release on it we will and sometimes it gets frustrating, because you send the press – we always have to get approval for our press releases because it involves somebody else's name, and sometimes for reasons that our completely unknown to us, the approval gets stalled. So we have at least one contract on 787 that we won almost a year ago, that we still haven't been able to put out a press release on. So once we get approval – and it's not big it is on the 787, so once we finally get approval we'll put out a release on it.

Troy Lahr – Stifel Nicolaus

And does that bring the components up to four or five on the 787, this one that you can't talk about?

Joseph Berenato

Probably five, yes.

Operator

Your next question is a follow-up question coming from Michael Lewis – BB&T Capital Markets.

Michael Lewis – BB&T Capital Markets

Thanks for letting me follow up here. Joe, I was wondering, we closed DynaBil on December 23rd, it's about two months later now, have you seen any weakness in that business that you did not anticipate following the closing?

Has anything changed on the negative side there, or is it essentially business as usual and within the expectation range that you had set?

Anthony Reardon

Michael I think I'll answer that. Basically we're seeing exactly as planned so we had an opportunity to put a plan in place, we used some of their pro forma and then we did our own analysis with the management team there.

So I would say we are on plan, the integration plan is going well. We've put our goal deployment process in place there and we're working with the management team to stay focused. And we just visited Sikorsky and things are looking positive there, so I would say that we're on track.

Joseph Berenato

We just had our monthly apps review for the month of January and they beat their plan so we told them great. Now they just have to do that all the time.

Michael Lewis – BB&T Capital Markets

Okay that's good, and then just one more question with regard to this acquisition. We're going to see this property add north of $40 million, that's more than 10% of the current business base, but with regard to the core business, Joe, and I'm not sure if you'll provide this but it will be very helpful if you did, but what would be your expectation for internal growth, a range of internal growth that we need and the analyst community should look towards for the business in 2009 considering all the moving parts?

Joseph Berenato

Well you're right we wouldn't provide it. We have some stuff that is coming online, new work and we have some build rates that are going down so we're not really sure ourselves where this all plays out.

We obviously have a plan for the year and quite frankly we think the plan for the year is challenging, and so we've going to drive to try to hit that plan, and what I said before all the issues around build rates become evident as we go back to like the second or third quarter of last year, I did make the comment that I thought we would see positive internal growth in 2009.

Now whether we see that or not is going to be a timing issue of new stuff coming online versus how big a degradation we see in various build rates and we don't really know the answer to that yet. We're feeling pretty good about the Boeing build rate. We're a little nervous about the small aircraft built rates.

Michael Lewis – BB&T Capital Markets

Okay a follow up to that. Based on management incentives, where are you basing bonus structures off of in 2009? Has anything changed there or should we expect to see that based on some type of profitability figure?

Joseph Berenato

Yes our bonus program is based on two metrics. It's 50% of it is against net income for the year and 50% of it is against cash flow from operations for the year, and the targets are set based on the plan that we set forth and provide to the compensation committee, and as you can imagine in the year like this one, the compensation committee has accepted our plan which makes us nervous right away.

But they're trying to figure out what the range is around those target numbers should be, because they're grappling with the same thing that we all are. So they want to make sure that they don't approve a plan that's too easy, and they want to make sure they don't approve a plan that's so hard that it doesn't provide any incentive.

So I'm looking forward to that being wrapped up in about a week or two, but the Board does a great job thinking about their fiduciary responsibility in protecting the shareholders.

So it's no – if we get well paid it's because we did a extraordinary stuff and if we don't do what we're supposed to do if you look back on our track record the last six or eight years, there's been a couple of years where the bonus pool was zero because we didn't do what we said we would do. So I think they do a good job of holding our feet to the fire.

Michael Lewis – BB&T Capital Markets

Two housekeeping numbers for Joe Bellino; Joe what was your CapEx for the full year in '08?

Joe Bellino

The CapEx for the full year was approximately $12 million and our depreciation was about ten.

Michael Lewis – BB&T Capital Markets

And your cash flow from operations was $26 million?

Joe Bellino

Free cash flow from operations was $28 million.

Michael Lewis – BB&T Capital Markets

Twenty-eight million, okay and then what percent of your current backlog will be posted in revenue in 2009?

Joe Bellino

Well we made a statement that, of our backlog of almost $475, $236 would – we expect to deliver $236 in '09. That's lower than normal standards, but the way we look at it is when we went back to the fourth quarter we commented on our backlog in the mid $400 area and we said we would ship $90 million.

We have greater visibility in the current quarter than we did for the full year, plus our Technologies group doesn't have the backlogs construed and structured the same way Aero does. So that $236 certainly is not an indicator of what we expect, anywhere close to our sales for next year to be.

Joseph Berenato

And when we go into every year, we've got that kind of gap as Joe said sometimes it's a little higher, a little lower but it's not worrisome to us at this point.

Operator

And there are no further questions at this time. This concludes our question and answer session. I would now like to turn the call over to Mr. Joe Berenato for closing remarks.

Joe Berenato

Well in conclusion, we believe we are more diverse in customers and programs than we have ever been. We believe we're move capable than we've ever been. We have the highest backlog in our history. We've got a solid balance sheet fueled by strong cash flow and we will continue to make important acquisitions to grow to Ducommun's capabilities and to grow our importance to our key customers.

I look forward to meeting with you again on May 4th to discuss our progress in the first quarter. Thanks for attending. [Tanya], back to you.

Operator

Ladies and gentlemen thank you for your participation in today's conference. This concludes the presentation. You may now disconnect and have a great day.

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Source: Ducommun Inc. Q4 2008 Earnings Call Transcript
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