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Executives

Cal Jenness – SVP and CFO

Jim Osterman – Chairman and CEO

Analysts

Ryan McGaver – Capstone Investments

Dax Vlassis – Gates Capital Management

Bob Franklin – Prudential Financial

Alan Robinson – Royal Bank of Canada

Blount International, Inc. (BLT) Q4 2008 Earnings Call Transcript March 3, 2009 1:00 PM ET

Operator

Good morning and welcome to the Blount International teleconference with Chairman and Chief Executive Officer, Mr. James Osterman and Mr. Calvin Jenness, Senior Vice President and Chief Financial Officer. My name is Linea and I will be your facilitator today.

The conference will begin with a brief overview of the fourth quarter 2008 results and then some comments about 2009, followed by a question and answer session. (Operator instructions) This conference is being recorded.

At this time, I would like to turn the conference over Mr. Jenness. Sir, you may begin.

Cal Jenness

Thank you. Good morning, everyone. This call is being broadcast live on the Internet and recorded for future transmission and use by Blount and third parties. Participants in the call, including the Q&A session, agree that their likeness and remarks may be stored and used as part of the earnings call.

Before Jim and I summarize the company's performance, I would like to remind everyone that the statements made in the course of this conference call, regarding the company's or management's intentions, hopes, beliefs or expectations for the future are forward-looking statements as defined in the Securities Litigation Reform Act of 1995. These statements involve risks and uncertainties that could cause actual results to differ materially.

Now I'd like to turn the call over to Jim Osterman, our Chairman and CEO.

Jim Osterman

Thanks, Cal. Good morning or afternoon everyone and thank you for joining us to review the company's 2008 results.

Our fiscal year 2008 was a good year for the company. We achieved a record sales level for continuing operations and posted a solid increase in profits, despite some challenging cost pressures. Additionally, we invested significantly for future profit and growth with the acquisition of Carlton and R&D efforts on new products. Although we are pleased with our full-year results, our fourth quarter performance reflected the first time in 2008 that Blount was significantly impacted by the global economic downturn.

In the fourth quarter, we experienced a slowdown in sales from our international customer base for the first time in nearly three years and began to see customers delay orders. Comparable year-over-year unit volume decreases were more significant as the fourth quarter progressed, and have continued into 2009. Domestic sales growth in the first quarter of 2008, aided by storm activities and our heavy replacement mix helped to dampen the affect of the international slowdown. However, international and OEM customers continue to be impacted by the stronger US dollar and the economy.

Overall, Carlton added approximately 11% to sales compared to the fourth quarter of 2007. Our comparable sales order backlog was 4% above the level at the end of 2007. However, many customers have requested shipping dates that are farther out than normal, as both OEM and international customers remain cautious about inventory levels as they enter 2009.

We expect 2009 to be a challenging year for the company. Comparable sales volumes in the first half of the year are expected to trail 2008, requiring us to reduce headcount and production levels. We believe that our replacements business, which represents approximately 76% of our sales, should improve as the year progresses and field inventories need to be replenished. Although we should see some healthy operating margin relief from foreign currency exchange rates and commodity cost, we expect the decline in the first half of 2009 volumes will result in full-year revenue and profit decreases from 2008.

Accordingly, we have implemented several cost control actions to minimize the impact of the unit volume decline. To date, we have initiated the permanent closure of a manufacturing facility, reduced worldwide headcount by approximately 8%, and have frozen certain salaries and wages. As experienced in prior downturns, we expect to continue to generate healthy cash flow that will be available for debt reduction. Cal will cover some of the details of our 2009 outlook later in this call.

Let me now cover a few of the fourth quarter operating highlights of our core business, the Outdoor Products segment. The Outdoor Products segment accounted for 95% of the company's sales in the fourth quarter. Sales were nearly $127 million and were $1 million above last year's fourth quarter. Sales from the Carlton business slightly more than offset comparable quarterly sales declines in the other outdoor products segment’s component businesses.

Comparable year-over-year sales were down 11% in the fourth quarter of 2007. The majority of the sales decrease was volume-related with foreign currency fluctuations adding to the decline. Higher selling prices helped offset the volume and currency impact on sales. Base unit volume declines were experienced in the international markets for our wood cutting products, slightly offset by domestic growth. So segment domestic sales were up 3.5 from 2007’s fourth quarter, excluding the effects of Carlton sales. However, this was a slower growth rate than we experienced over the first nine months of 2008.

The storm activity in the US Gulf Coast continued to help sales as customers reloaded inventories in the early part of the fourth quarter. International sales declined by 17.6% in the fourth quarter, excluding Carlton and reflect volume declines and the impact of a stronger US dollar. Pricing actions we took earlier in the year partially offset the volume and currency impacts. Currency translation reduced sales in the fourth quarter by approximately $2 million in comparison to last year's fourth quarter.

Sales at OEMs were down 2.1% as compared to last year's fourth quarter, excluding the effects of the Carlton acquisition. Comparable sales for the replacement market were down 13.5% from the fourth quarter of 2007. Sales of concrete cutting equipment were down about 23% from the fourth quarter of 2007, as the pace of demand weakness accelerated in the domestic construction market.

Segment order backlog was $98.9 million at quarter end. This was up $1.2 million from the end of the third quarter of 2008. Compared to the year end of last year, order backlog was up 7% excluding the Carlton business. However, customers are requesting shipping dates that are slightly longer than historical standards. We believe this reflects cautiousness from our customers as they manage inventory levels and their desire to ensure that they have product available if demand picks up.

Contribution of operating income from the Outdoor Products segment was $22.1 million. Margin was 17.4% of sales, a decrease from last year's fourth quarter margin of 19.5% and the 18.3% margin recorded in the first nine months of 2008. The decline in margin can be attributed to the decline in unit volumes and associated inefficiencies at our manufacturing facilities and the continued high raw material cost in the fourth quarter. The impact of our earlier selling price actions and a favorable foreign currency impact in the fourth quarter partially offset the effects of volume decreases and higher raw material costs on the segment's contribution margin.

The raw material increase is predominantly for steel, as suppliers increased prices to us throughout 2008. In the fourth quarter, we estimate that the impact of higher steel costs on the segment's contribution was a negative $4.2 million, with the full-year total being negative $7.9 million. We expect the year-over-year impact of higher steel cost will continue to increase in the first half of 2009, as we lack the relatively lower cost in the comparable quarters of 2008 and as the higher costs of materials roll through our inventory in early 2009. After that, we should see some relief in steel prices as our purchase cost is expected to decline in concert with the declines already prevalent in the broader metals market.

Foreign currency rate changes improved year-over-year segment contribution in the fourth quarter. This is a change in trend from recent years when stronger Canadian and Brazilian dollars currencies resulted in higher manufacturing costs. With a stronger US dollar relative to these currencies expected to continue through 2009, we should see additional margin relief.

In the fourth quarter of 2008, foreign currency fluctuations increased year-over-year segment contribution by approximately $2.3 million. In the fourth quarter of 2008, the Brazilian and Canadian currencies were 22% and 19% weaker than the fourth quarter of 2007 respectively. While the recent strength in the US dollar against most currencies should continue to benefit segment contribution going forward, it can result in lower revenues due to the impact on cost to our international customers.

Now I would like to turn the call back to Cal Jenness, our CFO for some additional financial highlights before answering any questions you may have. Cal?

Cal Jenness

Thanks, Jim. First, let me cover a few profit and loss items outside the Outdoor Product segments before turning to some other key indicators.

In the fourth quarter, our gear components business had sales of $7 million, a 14.4% improvement from last year's fourth quarter. Nearly all the revenue increase is attributed to pricing increases and sales mix. These price increases were put in place in part to offset higher raw material costs.

The reported loss from other and corporate of $3.8 million was approximately $200,000 higher than the fourth quarter of 2007. The small increase relates primarily to incentive compensation in conjunction with the full-year results and other small overhead cost increases.

We experienced an unusually high 49.3% effective income tax rate in the fourth quarter of 2008 compared to 36.2% in the first nine months of the year. The higher income tax rate was a result of increased taxable income at our foreign subsidiaries, combined with a sharply stronger US dollar, which caused a significant reduction in the tax benefit in the company's foreign operations in the fourth quarter.

Outstanding debt was $325.5 million at the end of the year. We had cash on hand of $58.3 million. The company's net debt position decreased $11.3 million during the fourth quarter. We continue to classify our volumes on the revolving credit facility the current liability due to the scheduled maturity of the facility in August of 2009. We are in active discussions concerning potential replacement financing options and expect to resolve the matter in the first half of 2009.

EBITDA, as defined by our credit agreement, was $25.6 million in the fourth quarter and the last 12 months of EBITDA was $116.3 million. This yielded a total debt to EBITDA leverage ratio of 2.83 times and a net leverage ratio of 2.3 times.

In the fourth quarter of 2008, we generated $13.5 million from operating and investing activities from continuing operations, including capital spending of $8.4 million. This compares to $17.4 million in the fourth quarter of 2007. The decline in cash flow was primarily due to slightly worse operating results and increase in inventory and higher capital spending in the fourth quarter of 2008. Capital spending in the fourth quarter of 2008 was about $3.6 million higher than 2007’s fourth quarter. Full year capital spending from continuing operations in 2008 of $26.1 million was $7.5 million higher than 2007. The increased level of spending was driven primarily by capacity increases and the inclusion of Carlton's capital spending in 2008.

As Jim mentioned, we remain cautious in our outlook for 2009. Our current view for 2009 is that sales will range between $510 million and $560 million. Additionally, we estimate that operating income will range between $65 million and $75 million. Included in operating income range is between $6 million and $7 million in expenses related to the closure of Milan, Tennessee production facility and severance for positions eliminated at the company’s other locations. Approximately 60% of this charge is non-cash and reflects write down of obsolete assets.

Volume declines experienced in the last half of the fourth quarter of 2008 have continued into 2009, and as customers remain cautious about inventory levels and the decline in the economy. Operating income should benefit from a stronger US dollar, but continued to be negatively impacted as we sell through inventory held at the end of 2008 would be higher embedded steel costs.

We have made adjustments to our workforce to reflect the weaker demand experienced in recent months. We have eliminated a majority of temporary workers, reduced production and administrative headcount, in short (inaudible) company's inventory levels. Additional reductions may be required if order intake does not pick up in the second half of 2009 as anticipated.

The shutdown of the Milan, Tennessee facility is expected to be completed by mid-year and should result in efficiency gains worth $3 million to $4 million per year in the future.

We expect full-year net interest expense to range between $25 million and $27 million under the existing terms of our credit agreements. We expect interest expense to increase on that level and will depend on the terms we reach in the connection with the maturity of our revolving line of credit. Our income tax rate on continuing operations are expected to be between 37% and 39% in 2009. Cash flow available for debt repayment is estimated to be between $25 million and $30 million.

And I believe that covers all the financial highlights for the fourth quarter and our comments about 2009. At this time, I would like to open up for any questions you may have.

Question-and-Answer Session

Operator

(Operator instructions) Our first question is from Ryan McGaver of Capstone Investments. Please go ahead.

Ryan McGaver – Capstone Investments

Cal, what was the D&A for the fourth quarter?

Cal Jenness

It was about 23 for the year; fourth quarter – let me look it up.

Ryan McGaver – Capstone Investments

While you find it –

Cal Jenness

Yes, give me another one. I will find it.

Ryan McGaver – Capstone Investments

Sure. In terms of the backlog lengthening, could you give us an idea of how long it has been, kind of expended versus what it had been maybe a year ago?

Cal Jenness

Backlog has never been much more than looking out at the quarter; may be just look at just the absolute levels of it and what rolls to the next quarter. So, for example, if at the end of 2007, it was $66 million or thereabouts; the first quarter sales were over $100 million in 2008. So it would kind of waltz through pretty quickly. But I would say on this backlog, it was probably about half of the backlog right now is for orders in the next sixty days or so. You know, that probably is more like 75 or so historically. So there is a slight lag there.

Ryan McGaver – Capstone Investments

Okay. I know on previous calls you have indicate that there is no steel hedging going on. Are there any plans to change that in 2009?

Cal Jenness

No. We have kind of had a lag on the upside. We will probably have a lag on the other way too. But we will be with the market, a little bit of lag probably from the general markets.

Ryan McGaver – Capstone Investments

Okay. Other than that D&A number, I get back in queue.

Operator

The next question is from Dax Vlassis of Gates Capital Management. Please go ahead.

Dax Vlassis – Gates Capital Management

Cal, what was the pension expense for the full year and expectation for 2009 and can you talk a little bit about the funded status of the plan that you are in?

Cal Jenness

Yes. I might not have these numbers precise but the year-over-year pension increase was about $6 million from 2008 to 2009. We went from probably a nominal cost of about $7 million in pension expense next year; that is just our funded plan. Everything else didn't change that much but that really reflects the kind of the downturn on the assets. Worldwide, on our funded pension plan, at the end of 2007 we were at least actuarially fully funded, give or take $1 million. Then in 2008, I think we were about $40 million down right now. We had probably about a mid-20% kind of decline in assets down the year. So that has been going on quite a bit. The good news is that, with the US froze two years ago, so we don’t accumulate any more benefit there.

Dax Vlassis – Gates Capital Management

I think the net periodic cost in the first three quarters was only about $1.5 million. So was there a substantial increase in the fourth quarter in periodic costs?

Cal Jenness

There wouldn't be. Because basically your costs for the year is determined on where you ended the previous year. So it is pretty much spread evenly throughout the quarter. So there is no pickup in expense in the fourth quarter.

Dax Vlassis – Gates Capital Management

But, what about 2009? What are your expectations for –?

Cal Jenness

It can be about $6 million higher on the full-year basis on that. So if it was $3 million for last year, it is going to be $9 million.

Dax Vlassis – Gates Capital Management

Okay. And what about cash contribution; does the cash contribution sort of match the expense or are they going to be higher or what are you expecting?

Cal Jenness

They may be higher. Our requirements are we don't have to put much in it at all. In our cash flow projections that we have provided, we assume that they're going to put about $10 million into the pension, probably slightly higher than the expense.

Dax Vlassis – Gates Capital Management

And you said you expect to see the benefit of some of the cost cuts that you are making later this year; (inaudible) float through the income statement?

Cal Jenness

Well, we should see the consolidation of the plant in Milan, Tennessee. That is being moved to the facility here that we are sitting in Portland and also to Carlton. And that is just looking on a full-year basis that is probably $3 million to $4 million savings overall. We are in the process of doing that right now. Also, that facility is still running. So we should squeeze some savings out in the second half of the year from that transition. Probably be a little bit of a startup, but there should be some upside there.

Dax Vlassis – Gates Capital Management

I think you had about $9 million in escrow from the Carlton acquisition? When do you get that or do you expect to get the full $9 million back and if so when do you think you will receive that cash?

Cal Jenness

That was escrow from when we sold the business to Cataco last year or 2007. And we got about 1/3 of that back already in the fourth quarter. So we expect to get it over the next couple of years in kind of equal amounts, 2 1/2 maybe.

Dax Vlassis – Gates Capital Management

Okay. And do I understand what you said right about your revolver that you are in part now. Are you contemplating just rolling that forward to the same date as the term loan or are you talking about redoing the whole term loan and revolver? Can you give us a little color on that?

Cal Jenness

Those are two options that are in front of right now. Yes, we are considering both of those.

Dax Vlassis – Gates Capital Management

And you expect that the foreign currency will be a hit from a revenue perspective next year? How much of an impact you expect from that?

Cal Jenness

About $15 million probably, just because of the euro being weaker.

Dax Vlassis – Gates Capital Management

Thanks.

Operator

Our next question is from Bob Franklin of Prudential Financial. Please go ahead.

Bob Franklin – Prudential Financial

Hi. How would you characterize the discussions with the banks at this point?

Cal Jenness

Good and more expensive.

Bob Franklin – Prudential Financial

Okay. How many banks are there involved the existing plan and how many are you talking to right now?

Cal Jenness

The existing agent is GE right now. There are two other banks in our revolver and we have talked to a lot of people, just getting ideas and everything over the last three months here. I think we have got options.

Bob Franklin – Prudential Financial

Okay. This was up in August, right?

Cal Jenness

August 9, yes.

Bob Franklin – Prudential Financial

Okay. I missed a couple of numbers. When you gave the year-end depreciation and amortization, did you say it was 23 for the year?

Cal Jenness

Yes.

Bob Franklin – Prudential Financial

Okay, I thought it was 24.5 through three months.

Cal Jenness

I quoted a wrong number there.

Bob Franklin – Prudential Financial

I might have the wrong one but –

Cal Jenness

There was probably some one-time thing related to Carlton that might have been in the first three months, but depreciation was 21 and there is probably another three in amortization on an ongoing basis.

Bob Franklin – Prudential Financial

Okay. Can you give us the components of EBITDA then? How you get to the 25.6?

Cal Jenness

Yes. Let me try going down and I will get back to that. But get to someone else in the queue right now.

Bob Franklin – Prudential Financial

Okay. One other thing then; the cash flow for next year, you are looking for $25 million to $30 million. How would that be spread over the year?

Cal Jenness

It will be probably more backend loaded. Just kind of looking at the way historically our business has gone.

Bob Franklin – Prudential Financial

Okay. And what did that number come to for this year?

Cal Jenness

That was about $40 million.

Bob Franklin – Prudential Financial

$40 million this year?

Cal Jenness

Yes.

Bob Franklin – Prudential Financial

Okay, great. Thank you.

Operator

Our next question is from Alan Robinson of Royal Bank of Canada. Please go ahead.

Alan Robinson – Royal Bank of Canada

Good morning. Can you discuss how you view your competitive position evolving? Are you starting to see some of your smaller competitors fall away (inaudible) or are you having to cut prices to maintain share? Perhaps you could provide some color along those lines.

Jim Osterman

We have raised prices and we are holding prices. We aren't chasing markets that aren’t there. We – the only small competitors that we really see are coming out of China and other than one Chinese company, we really don’t see anyone as a viable threat. And we believe that we have either held or gained additional market share overseas.

Alan Robinson – Royal Bank of Canada

Okay. And then I guess one for Cal. It looks like the inventory has increased sequentially, when this time last year you had a decrease there. Can you give us an idea of the components of that increase, what you're seeing in the inventory channel there?

Cal Jenness

There is a little squeeze on it from the cost of steel, but the larger one is probably just the slow down that we saw overall and be able to correct our production levels quick enough to see how long it was going to last. So, I think it is just a factor of the downturn in the market.

Alan Robinson – Royal Bank of Canada

So you would attribute most of the increase to be in the steel cost, your input cost?

Cal Jenness

No I would say that is part of it, but there is the larger part is probably the short-term softness of the market that we weren’t able to correct their inventory. Production scale was quick enough.

Alan Robinson – Royal Bank of Canada

Okay, thank you. I will get back in queue.

Cal Jenness

In terms of the make up of EBITDA, first of all, the depreciation in the fourth quarter was $5.2 million, amortization was about $600,000 and then stock comp and the non-cash thing was about $400,000. If you add that to the operating income, you get pretty close to the EBITDA with a few minor adjustments for the quarter.

Full-year, there was depreciation of $21.2 million, amortization of $1.7 million, stock comp of $3.3 million and some other which is pretty much one-time kind of relative to the Carlton acquisition and is about $1.8 million overall and that comes up to your full year, more or less the $116 million of EBITDA for the year. I don’t know if that answers folk’s questions, but that is kind of a make up of EBITDA.

Operator

Our next question is from Dax Vlassis of Gates Capital Management. Please go ahead.

Dax Vlassis – Gates Capital Management

Yes, I was wondering, of the cash that you have on the balance sheet, the $50 million or so, how much of that do you view as excess and being available for debt pay down and how much is just sort of the ongoing requirements of running the business?

Cal Jenness

We had to pick a number and most of that cash is overseas. I think it is probably about a $20 million level we would need to kind of run the business comfortably. So the difference is the excess.

Dax Vlassis – Gates Capital Management

And what about on the revolver drawn during the quarter? I know you have $150 million facility and I guess you had $37 million drawn on it last quarter and I was coming up with about $33 million at the end of this quarter, so about the same level. How much of the revolver do you require in any given quarter, given the requirements of the business and would you contemplate reducing the size of the revolver as well?

Cal Jenness

Well, this time last year I don't think we had anything drawn on the revolver. We drew significant portion of it to buy Carlton in May and we have paid down as we go. The first quarter is always a challenging quarter for the revolver, because we have our bond payment on February 1 and it has never been a great cash flow quarter, the first quarter and so if we increase it at all, it would be in the first quarter and then come down from there. The second part of your question, we have $159 million revolver. That kind of got that way over time as we paid down debt. It just was out there. We would think about downsizing that. We don't need to have that level out there.

Dax Vlassis – Gates Capital Management

And can you talk a little bit about the end markets, OEM versus replacement and the international markets, if you could kind of give us an overview of what you are currently seeing and why it would play out that the second half would be better than the first half?

Jim Osterman

The OEMs are always the ones that drop off the first as it turns down and we have seen them holding back. Some of them have told us that they are working their inventories down and as soon as they are down, they will reorder. The replacement market is kind of spotty around the world. We have actually done the best in the United States with the ice storms and storms that we have had here. I think with the currency revaluation of the dollar, it has caused a lot of our customers to pull back and try and work down inventories to generate cash. The orders that are on hand and being delayed are mostly for replacement business. So we see that starting to pick up in the second quarter. The Asian market is much lower than it has been at this time of the year and also with the decline in oil prices we have seen a big drop-off in Russia, although those markets are expected to pick up later on.

Dax Vlassis – Gates Capital Management

Okay, thanks.

Operator

(Operator instructions) Gentlemen, I'm showing no questions at this time.

Cal Jenness

Okay. Thanks for your continued interest in Blount and thank you very much and hope to see you in the next quarter.

Operator

That does conclude today's call. You may disconnect your line.

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