Spartan Motors' CEO Discusses Q1 2013 Results - Earnings Call Transcript

May. 8.13 | About: Spartan Motors, (SPAR)

Spartan Motors, Inc. (NASDAQ:SPAR)

Q1 2013 Earnings Call

May 8, 2013 10:00 AM ET

Executives

Greg Salchow – Director, IR and Treasury

John Sztykiel – CEO

Lori Wade – CFO and Tresurer

Tom Gorman – COO

Analysts

Robert Kosowsky – Sidoti & Company

Joe Maxa – Dougherty & Company

Rhem Wood – BB&T Capital Markets

Operator

Good morning, and welcome to the Spartan Motors Incorporated First Quarter 2013 Earnings Conference Call. All participants will be in listen only mode. (Operator Instructions) After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded.

I would now like to turn the conference over to Greg Salchow. Please go ahead.

Greg Salchow

Thank you, Chad. Good morning, everybody, and welcome to Spartan Motors’ first quarter 2013 call. I am joined today by John Sztykiel, our President and CEO; Lori Wade, Interim Chief Financial Officer; and Tom Gorman, our Chief Operating Officer. I will assume that everyone has seen our release on the Newswire and Internet this morning.

Before we start the call, I need to inform you that certain statements made today during the 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 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 Forms 10-Q and 10-K filed with the SEC. However, there may be other risks we face. And as usual, we ask that during the Q&A period, that you ask one question and one follow-up, and then if you have any additional questions you could reenter the queue.

Now, I am pleased to turn the call over to John Sztykiel for his opening remarks.

John Sztykiel

Hi. Greg, thank you very much. Good morning, everyone and thank you for joining us on Spartan Motors first quarter 2013 conference call. Joining me today for the first time on the call is Lori Wade, Spartan’s Interim Chief Financial Officer. This is Lori’s, as I mentioned first quarterly conference call. A few of you have already had the chance to meet with her in person or speak with her during a phone call.

As most of you know, Joe Nowicki accepted a new position late in the first quarter. We appreciate all of Joe’s contribution to Spartan, his time with us, and wish him the best in his new position. His recommendation, which I fully support, was the name Lori as his successor. She has agreed to this on an interim basis. She is honestly excited about the opportunity as well for the future. And she brings a great deal of operational expertise including management cost accounting to a new role, and she is already making a positive impact and influence in a job, which she has been in for less than six weeks.

Q1, quick summary, was about a loss, $0.13 greater than was expected or in plan. Part of it was the revenue working through the unexpected challenges of Bristol, the high volume line ramp up and ERV’s operational issues. Lori will provide greater detail, but many of the issues relative to Q1 from a loss perspective are Q1 specific, and Lori is going to cover that.

Before we get into the detail, Q2 is expected to be profitable, not fantastic, as there will be some carryover from Bristol and ERV, however, significant progress in Q2 versus Q1. As the release stated as well out this morning, we expect 2013 to be a full year of profitability and expect improvement throughout the course of the year. As we move forward and as the release talked about, the first quarter was about three items. First, we completed the move of Utilimaster’s walk-in van business from Wakarusa, Indiana to Bristol, Indiana.

Our high volume line is now running at expected rates. We are now implementing ramping up production of the lower volume mix model line, which should ramp up to expected rates during the second quarter. And this has been a lot of work. We are excited to see more than 12 months of hard work come to fruition in the form of a high-quality product coming off the line a 100% complete.

Second part was about the market validation, the acceptance of Reach. And clearly, it’s defined by the order or a couple of orders that totaled 1,900 units from Federal Express or FedEx as its more commonly known. We built 577 units in 2012. There was a lot of pain, lot of suffering, but we have a great product in the marketplace. And now we are very focused on improving not just the operational performance and the financial performance of Reach. I’ll get into that detail as will Lori, a little bit later on.

The third part of Q1 is simply the growth in the order backlog. As you look at the order backlog of $228 million, up from a $162 million in 2012 and $135 million from a year ago, this growth represents an increase of 41% compared to the last quarter, and over 68% or approximately 68% from a year ago. This illustrates the strength in our brands, our marketing and our market expansion activities. As we shared with you, during our year end 2012 call, the first quarter was to be impacted by seasonally slow rates throughout most of the company as well as completing the Bristol move and the ramp up.

Total revenue for the first quarter of 2013 was $96 million. We expect that to be the low point in 2013, down from $118 million in the first quarter of 2012. As planned DSV was our only segment that posted a negative revenue comparison to the first quarter of 2012. Revenue declined to $31.9 million from $58.8 million in the first quarter of 2012. A large part of it was just moving and all the implementation of a significant part of the $228 million business model. We added only 22 miles away, but this is not just about a move, it’s a variety of other things, which I’ll cover a little bit later on.

When we look at Utilimaster’s and DSV field service solutions, aftermarket parts, and accessories, there was a sharp drop in revenue from $21.7 million to $5.7 million. The drop was primarily due to the end of the keyless field service program. This drop was expected as the keyless order was abnormally large. The good news, keyless validated a significant field service solutions opportunity within Utilimaster’s business. To a certain extent, it’s sort of like a Lowe’s or a Home Depot, people have a house and then you try to determine how you can able others to improve it and enjoy it more as time goes on without necessarily having to buy a new one.

Utilimaster’s vehicles are kept in service, 10 years, 15 years, 20 years, society changes, technology changes, market changes, and that everyone desires or needs a new vehicle, nor can everyone afford one, there is now dedicated sales, engineering and production group pursuing, securing opportunities. We’re currently working on a nice order for Centaur that is in-house that will be a more of Q3 event, plus we have many other small orders already in-house. Summary, relative to the field service solutions, tremendous opportunity for existing product 2012, I should say 2013 field service sales revenue and income will be below that at 2012. But as we look to 2014 we expect field service solutions to be above that of 2013 based upon the orders, the bids, and all the activity that’s going on.

As we move forward, there is a lot going on, but on the positive side again relative to Utilimaster, the delivery and service business, their order book has gone from $40 million to just over $100 million in 12 months. This illustrates the strength of the brand, the quality of the people. This growth is simply dynamic. And to give you an idea of where it comes from, it’s about doing a lot of little things right. In the month of March, we probably should have released on it, but we didn’t, but in the month of March Frito Lay, Pepsico awarded Utilimaster the Supplier of the Year Award.

Yesterday I was in Bristol, Indiana with Frito-Lay. We are doing a variety of units, truck bodies this month profitable units for us. We are talking about a variety of other initiatives, but when a world brand name company like Pepsico, Frito Lay chooses one of our brands as Supplier of the Year from a group of over more than 200, it is not surprising to understand where the crawls in the backlog comes from. And again I saw it yesterday as well.

Let’s switch gears over to Emergency Response. Revenues rose 3.1% the $34.9 million from $33.9 million in the first quarter of 2012. The sales increase came from the Emergency Response Vehicles unit, which more than offset the decline in the Emergency Response Chassis area. In terms of revenue growth, backlog growth, where is it coming from, it is simply the strength of the Spartan brand, exciting products, and marketing that when coupled with the brand and the products we are simply gaining share.

And we have introduced a variety of exciting products over the last three to four years, that’s driving obviously backlog in the right direction. We introduced several new products at the recent FDIC show, the largest Emergency Response show in North America. One of them was the MPA 65, a pumper with aerial capability at a very attractive price point, the result of the Spartan and Gimaex JV. Another positive event that took place in Q1, Spartan Advanced Protection System, which is on our Emergency Response Chassis, it is a margin enhancement item.

It’s now being specked on over 60% of all Spartan Chassis. So as time goes on and we build more Spartan Chassis with APS as we call it, we expect the margins to grow and that will grow in numbers as we move through Q2, Q3 of this year. Total Emergency Response Backlog rose to $104.1 million at the end of March 31 versus $82.2 million at the end of the first quarter of last year.

An increase in Emergency Response Vehicle orders accounted for a majority of the increase. Now, let’s switch over to the specially Chassis and Vehicle segment and that group, which is primarily made of both Isuzu, defense, and RV business report a revenue increase in the first quarter of 2013 compared to the prior year with sales rising to $29.3 million versus $26.1 million.

Most of the growth was driven by the sale of Spartan RV chassis that rose from $18.4 million to $20.4 million. Part of this increase came from a market recovery of growth, I think we’re past the recovery point in the RV industry, we’re now in the growth, but also, when you look at the high horsepower, high performance parts of the marketplace, we have the dominant brand and that’s reflected in the statistical data, but it’s also reflected in our sales and we expect this to continue throughout 2013.

Here in a moment, I’ll cover the details or I should say in the closing, I’ll cover the details of the plan to turn backlog into income. Lori is going to cover some details as well, but as I wrap up this section and as we move into 2013, and when you look at the backlog growth of 41% versus the last quarter, approximately 68% versus a year ago, this is a very big deal. A lot of companies just struggle bringing exciting product to market and as I tell people, an important part of having a strong backlog is it gives you the opportunity to drive every other part of the business in the right direction.

Without a backlog, one has no opportunity. All the other aspects of an organization have sort of a move point or an expense. We have the backlog, we have the opportunity, and through a disciplined plan, drive as we call it, opportunity will become reality, which we call net income. Lori?

Lori Wade

Thank you, John. And thank you to everyone for joining us on today’s call. I have had an opportunity to speak with a few of already and look forward to meeting more of you in the future. The Bristol had a significant impact on Spartan’s total revenue during the first quarter 2013. And in fact, we were not building walk-in vans for approximately a month during the relocation phase, which dramatically reduced DSVs revenues during the first quarter of 2013. Revenue from vehicle sales fell to $26.2 million in the first quarter of 2013 from $37.1 million last year.

Likewise, strong sales of keyless entry products during the first half of 2012 made for a very difficult year-over-year comparison, with aftermarket parts and solutions declining to $5.7 million in the first quarter of 2013 from the $27.7 million in last year’s first quarter. Note that although, we were not producing walk-in vans during the move. We continue to book new orders and saw dramatic entries in our order backlog, which grew to $100 million as of March 31, 2013 compared to approximately $40 million at the end of 2012 and March 31, 2012.

So, although, our first quarter 2013 revenue was significantly impacted by the Bristol move and seasonally slow sales. Our rapid growing backlog should tell you that demand for our products remained high. With low revenue, combined with higher cost, it’s not surprising that DSV’s financial performance suffered during the most recent quarter. DSV posted an operating loss of $4 million in the first quarter of 2013, compared to an operating loss, and excuse me, operating income of $1.3 million in the first quarter of 2012.

Now, moving onto the Emergency Response, Emergency Response or ER segment fared somewhat better than DSV in the first quarter, but still faced significant headwinds and posted an operating loss. Closing revenue in the ER segment increased 2.9% to $34.9 million this year from $33.9 million in 2012. Now, breaking that down a little bit more, ER chassis revenue declined to $17.4 million from $19.3 million in the first quarter of 2012, while the ERV vehicle sales grew to $17.5 million in the first quarter of 2013 from $14.6 million in the same period last year. During the first quarter, ERV incurred approximately $0.5 million related to an aerial unit recall and service campaigns plus an additional $600,000 to establish a new distributor in the Pacific North-West. Expenses related to this project came in at a low range of our estimates of $0.5 million to $1 million that was mentioned during the fourth quarter 2012 call. For the quarter, the ER segment reported an operating loss of $2.6 million versus an operating loss of $2.4 million in the first quarter 2012.

The Specialty Chassis vehicle segment recorded improved results for the first quarter of 2013 with those revenues and operating income coming in higher than the first quarter of 2012. Segment revenue totaled $29.3 million in the first quarter 2013 compared to $26.1 million in the same period last year. Revenue growth versus the prior year came from the higher production of sales at Motorhome Chassis and aftermarket parts and accessories. During the quarter, we also produced and sold six ILAV lab units. Operating income for the first quarter of 2013 was $1.3 million versus the $100,000 loss a year ago, improved operating performance was due to higher sales and operating efficiencies in the Motorhome chassis, higher aftermarket parts and accessories revenue, plus the contribution of the six ILAV units produced during the quarter. The segment was adversely impacted by accrual of $1 million for certain Motorhome Chassis.

Spartan’s overall gross margin for the first quarter of 2013 was 6.6% of sales versus 11.6% of sales a year ago. Gross margin for the respective periods were $6.3 million and $13.7 million. The first quarter of 2012 include the restructuring charges of $3.6 million. As shared with you during the fourth quarter of 2012 conference call, we anticipate the gross margin to be adversely impacted by the seasonally slower sales and additional cost incurred from the Bristol relocation project. During the most recent quarter, DSV occurred approximately $1 million of additional expenses due to inefficient operations during the ramp up of the production in Brazil. ERV’s aerial unit recall of $0.5 million and $0.05 million related to the setting up for the new fire truck distributor in the north zone, plus the $1 million accrual for certain Motorhome chassis also reduced gross margin and profit for the first quarter of 2013.

Operating expenses totaled $13.2 million in the first quarter of 2013, down $4 million from $17.2 million in the first quarter of 2012. All of our operating segments recorded lower operating expenses for the most recent quarter due to operating expense control. As percentage of sales operating expenses totaled 13.7% in the first quarter of 2013 versus the 14.4% in a year ago first quarter. The first quarter of 2012 include the restructuring charges $3.6 million. No restructuring charges were booked in the first quarter of 2013. Spartan recorded an operating loss of $6.8 million in the first quarter of 2013 compared to an operating loss of $3.4 million in the first quarter of 2012. Spartan’s loss for the quarter totaled $4.3 million or $0.13 per diluted share in the first quarter of 2013. This compares to a net loss of $2 million or $0.06 per diluted share in the first quarter of 2012.

Now, turning for a moment to the balance sheet, we ended the first quarter of 2013 with a cash position of $60.6 million, down from the $21.7 million at December 31, 2012. Cash at March 31, 2013, was reduced by $10.1 million or it’s reduced by the $10.1 million increase in inventories, a large part due to the higher work-in process at ERV and due to the Bristol relocation project at DSV.

Accounts receivable declined by nearly $7 million from year end 2012 to $40.3 million. Accounts payable rose $300,000 at March 31 compared to year end 2012. Capital investments totaled $1.4 million in Q1, 2013 versus the $1.1 million in last year’s first quarter. With our Bristol facility now fully equipped and running, our investment requirements have declined. For 2013 as a whole, we expect capital investments to total in the $5 million to $7 million range. This compares to the $12.5 million we invested during 2012, most of which was to support the Bristol project. We believe that our cash position will increase throughout the year, as our financial performance improved and due to lower capital requirements as compared to 2012. We announced today our semi-annual cash dividend of $0.05 per share. This marks the 20th consecutive year of paying a dividend to our shareholders, a tradition we are very proud of and it reflects the board’s confidence and our financial strength and strategic direction.

Now, that we are at the final stages of the Bristol project, we are able to share our expectations for Spartan’s operating performance for the rest of 2013. We expect the remainder of the year to be profitable and to show revenue growth. Factors that we expect to be positive for the year include growth in all of our segments for the rest of the year and our efforts to increase gross margin throughout the company. Headwinds include the remaining work to bring Bristol’s operating efficiencies to expected levels during the second quarter. We are making steady progress and on track to meet out targets by the end of the second quarter. We also have more work to do at ERV to improve operating performance as we increased production this year.

Our expectations for 2013 is to post revenue growth in the mid single-digits with all of our segments generating growth the rest of the year. We will continue to manage our operating expenses carefully, but recognize we need to add resources in certain areas to support growth of 2013 and beyond. So, for the year, we expect that increased operating expenses in dollars will project a range of 11.5% to 12% of sales. Operating income is estimated to come in between 1.5% to 2.5% of sales for the year. We expect each of the remaining quarters of 2013 to be profitable. We will continue to be in the launch phase of efforts, and are working through production issues at ERV, which will constrain profitability in the second quarter. By the end of the second quarter, we expect most of the Bristol issues to be behind us, and for output to increase leading to higher profitability in the third quarter of this year. We project that the second half of the year, particularly the third quarter should post significantly better profitability in the second quarter of 2013.

Now, I would like to turn it over to John Sztykiel for his closing remarks.

John Sztykiel

Lori, hey, great job, and thank you very much. It’s interesting when I was asked about my thoughts regarding the first quarter, my initial thought was a sense of relief that the heavy lifting is behind us, and for the first time since late ‘09, we are not integrating an acquisition or will physically be moving a part of the business. As I mentioned earlier, I believe the worst is behind us and although the remaining paths are not a walk in the park, we are making progress everyday and that progress will happen as we execute the I and DRIVE integrated operational improvement. DRIVE is our strategy and it is diversified growth, redefining technology innovation, integrated operational improvement, vibrant culture, and extend our core. The I integrated operational improvement is really centered around four key objectives, and really this is where most of our time is spent today in a very disciplined, prioritized way.

The four key objectives are gross margin, Bristol, Reach, and Spartan ERV. And the release talked about gross margin is a disciplined focus on gross margin improvement that permeates every operational aspect of Spartan. We have got dedicated people leading us companywide. We expect to see the second quarter to show improvement – significant improvement compared to the first quarter and look for continue improvement throughout all of 2013.

Moving over to Bristol, Bristol is not just about moving a facility, it is about literally creating a facility of processes, the people, which in some respects is more dynamic than the product that continues to gain market share, but also deliver significant operational savings. We are up to line rate as mentioned earlier on the high volume line. We are now ramping up the mix model line and we will overcome those challenges, which has presented to us both known and unknown in Q2, it’s just simply mechanics, and honesty some expense, but it will be done, but we will get through it.

And so Bristol, what’s interesting and again with the customer yesterday I mentioned in earlier Frito Lay and with another significant customer three weeks ago down in Bristol. One of the first things they said is, they said in the specialty vehicle business, this is the first time I have seen all the parts fully enclosed for my product. Because the reality as you go to a variety of other specialty vehicle companies and Spartan is unique and that we store our parts inside under roof. Wakarusa, there were all over the place. Bristol, they are under ruff. But it’s amazing how those customers, one of the first thing they notice is wow the products which you’re building for me, the parts are actually under the ruff.

When we look at Reach in the third quarter, we started the production of the 1,900 unit order for FedEx. When we restarted Reach production and there is a pause right now and it’s a disciplined pause, okay. It will be with a new more efficient design, that is easier to build, that requires less labor and offers substantial material savings. By the time this order is complete in late 2013, early 2014, we expect the Reach to show much better financials. The positive news at the end of Q1, Reach was ahead of plan from a financial improvement perspective. We expect Reach to be on the positive side of gross margin, somewhere in Q3, probably late Q3, but we will get there. We’ve got an exciting product now. It’s just a simple process of mechanics. We have the right people. Mechanically, you were to execute it.

Now, let’s go over to the last part, the I and DRIVE, the four most important areas that are going to turn backlog into income, Emergency Response. And it is clear, we have more work to do at ERV. To give you some background over the past three to four years, industry volume has dropped by approximately a third. While volumes may have improved slightly, they are still very depressed, along with volume declines, pricing has dropped somewhat. And Spartan ERV has been very successful of gaining market share in the industry, as shown by the 47% growth in backlog from the first quarter of 2012. However, we have been less than successful when it comes to producing vehicles profitably. And the issues at ERV, which we’ll cover the plan at the same time, revolve around three areas. One, low margin pricing; number two, issues associated with an accelerated production ramp up to accommodate the order growth, and leadership.

When we look at the pricing, and the operational financial results, we have made price increases or implemented price increases that are rectified what we call the margin discrepancy right at square one. As we move through the balance of 2013, pricing pressures are going to be there as we have an order backlog, which is not in the position it should be. So, you should be asking the question, okay, what are you going to do or what’s your plan to overcome that? Well, one, we’ve done a variety of different things from a bill of material cost perspective, working with our supply base, engineering is very, very focused, and developed more efficient common bill of material sets at a lower labor rate, simply we’re having dedicated focus to improve the gross margin, and the profitability of every product produced today. It’s not going to happen overnight. Progress is being made.

The second area relative to an accelerated production ramp up, in hindsight, we probably try to ramp up too quickly, and ended up with bringing too many people on board too fast, and we encountered problems. Today, the line rate has been reset at a lower rate in the line with current capabilities. Business is no different than one respect Emergency Healthcare, or Healthcare. You have to stabilize the patient before you can work on improvement.

We have stabilized ERV. We’re now on the improvement side alike progress is being made and over time we will ramp up production, but it will be done in a disciplined way where we will see both the operational and financial results which we expect to see from the increase in production.

Move over the third item and that is leadership. We realized we needed to increase the level of management experience especially as it related to the Emergency Response industry and I brought Kevin Crump back to oversee the manufacturing at all three ERV locations. As mentioned in the release, Kevin was most recently working at our Bristol project and prior to that he led Crimson Fire, which is now Spartan ERV and he led it profitably. Actually, he turned it around from a negative into a positive and then we moved him on.

We obviously made in there, relative to our leadership capabilities and the depth in ERV. We realized that and the good news is Bristol is moving in the right direction and Kevin can now comeback and focus a 100% of his time at ERV reporting to Dennis Schneider. So when we look at the pricing, when we look at the accelerated production ramp-up and the issues behind it, in the leadership we’ve addressed all three. We expect progress to be made in Q2 even more in Q3 and as we sit here today, we expect the ERV group to be profitable in Q4 and beyond.

So in essence, we will have fixed the business. Obviously, we’re trying to accelerate that, but we’re excited about the opportunities going forward. And again coming back to the I and DRIVE is all about gross margin, Bristol, Reach and Spartan ERV. As I bring this to a close, one of the reasons I feel confident about our outlook in 2013 and I mentioned it earlier as we’re moving towards simpler business model. Let me just give you a quick summary on what we’ve done in the past four years, okay and it is a lot. One, we’ve endured the greatest recession since the great depression. We have figured out how to rebound from over $400 millions in loss defense revenue since 2008.

In the RV industry, over 30% of the motorized Class A business has disappeared since 2007, 2008. When we look at Spartan as a whole, we have moved from being dependent over 80% dependent on government business in 2008 to approximately 45% today, doesn’t stop there. We purchased two companies Utilimaster, absolutely huge in transforming for us, and we’ve integrated it. Classic Fire, a smaller Emergency Response acquisition, we’ve integrated that. We’ve also set up an assembly agreement to control the empty defense facility, 35,000 square feet now have an alliance with Isuzu producing 21 N-Series chassis a day, and we did all of this in less than 12 months.

The interesting thing is when you look at our ability to improve our operations when we have a dedicated focus that is Isuzu plan, out of 21, our 22 facilities worldwide is Isuzu has for assembly, we are number two and we have gotten there in less than 24 months. What’s also very positive which will drive our gross margin in Q2 in the second half of 2013 is our labor efficiency we have gone from building 21 units a day with 49 people, a year ago to now building 21 units a day with 20 – with 43 people in less than 12 months, that’s over a 10% labor efficiency improvement. So when we’re focused, we can execute.

We also have to make sure, we limit the amount of moving pieces, but it doesn’t stop there. We sold Road Rescue, takes up major amount of time. We eliminated one brand, Crimson Fire, brought all the ER products under one brand. We brought Reach to marketplace, not only did we bring much – Reach to marketplace, we then moved the Reach in the middle of last year up to Charlotte, Michigan from Indiana because everything around Isuzu will be around the Charlotte campus. And then we made the decision to move Utilimaster from a campus of 15 plus buildings to a campus, okay, of one building, and to give you a space perspective, we are decreasing the acreage size from 102 acres to 46 acres.

So, we’re taking a business and we’re reducing the size of all that we can utilize, down by 55%. Utilimaster is not just about moving. It’s moving into a business model, where it’s about different tooling, assembly process, jigs and fixtures and everything else, because the reality is and you took a look at today’s release, Utilimaster has been very good for us over the last nine quarters, over the last few years, tremendous growth, 3% operating income with all the restructuring charges. We are very focused on delivering that $4 million in operational savings in a timely manner.

And in summary, the last four years has been a lot of work, probably at times too much on our plate. I really don’t believe we had a choice because, you can either stay where you’re at and probably go out of business or go through something disastrous or you can make a decision to control your own destiny. As I mentioned earlier, we were probably two to four people short from a leadership perspective at hindsight typically small companies are probably a little bit too lean at times on the leadership side (inaudible) give to others. If you are going to put a lot on your plate, make sure you’ve got the right people and the depth in place to make it all happen. Reality, late Q2 second half of Q3 or second half of 2013, 2014 business and life will be simpler. It’s going to be about simply turning great backlog growth into net income, in other words let’s just sell the products profitably.

I’ll tell you what, it’s not a walk in the park, there are challenges, if it doesn’t seem like I’m excited, or upbeat, the reality is that I really am. I will tell you over the last three to four years, there has been a ton of work. We have done a ton to transform and move the company in the right direction and it is exciting to move to a simpler business model where it’s all about building products profitably. In the past we’ve done it in a very good way. I have no doubt, as 2013 moves on and you will see significant improvement in Q2, that we will move the ball in the right direction. Thank you very much.

Greg Salchow

Okay. Chad, we’d now like to open it up for questions. As a reminder, please ask one question and a follow-up and then go back into the queue, if you have more than one question.

Question-and-Answer Session

Operator

Thank you. We will now begin the question and answer session. (Operator Instructions) Our first question comes from Robert Kosowsky with Sidoti & Company.

Robert Kosowsky – Sidoti & Company

Yeah, hi. Good morning. How are you guys doing? And Lori, nice to talk to you.

Lori Wade

Thank you.

John Sztykiel

Good Rob. Hopefully, you’re having a good day.

Robert Kosowsky – Sidoti & Company

Yeah, pretty good. Quick question on the DSV, so production was down for about a month. Did you miss shipments and can you maybe talk about products on back order maybe versus backlog and if that is the case?

Tom Gorman

Rob, this is Tom Gorman. We purposely work with our customers knowing that we wanted to keep volume lower in this first quarter as we were moving back to, we ran at a rate of about 50% versus Q1 2012 with the design. The customers work for us very well and with regard to the orders being able to push things out. So we are on target for where we are (inaudible) shipment.

Robert Kosowsky – Sidoti & Company

Okay, that’s good to hear. And then, otherwise on the new big reach orders, so 1,900 units. Is that often FedEx and you think, can you kind of give us a timing of how long these orders are going to be, when they’re going to hit the cadence and how much of it does extended to maybe 2014?

John Sztykiel

Rob, this is John Sztykiel and one, all the orders are from FedEx. I got to what that is a great win. They’re paying more for this product than what they are for other products and we delivered them over $300 last year and they obviously saw the value in it and but so one, it’s a great win, it’s all for FedEx. From a delivery perspective production will start in Q3. Whether we deliver it all in 2013 depends really up on us. I should say working with FedEx relative to the integration of the vehicles within their fleet. Do we have the production capacity and the capability to do it? Absolutely, however integrating 1900 vehicles into a fleet even the size of FedEx there is a lot of mechanics that have to go on in their direction as well. They are excited about the product is evidenced by the order, but it’s really dependent upon FedEx we have the capability. If it does go into Q4 or I should say it does go into 2014. I don’t think it’s going to go too much into 2014.

Robert Kosowsky – Sidoti & Company

Okay. So that means you’ve ramped up production pretty substantially at Reach because it seemed like at the beginning of this year, you were talking about may be 1500 for the entire year 1000 to 1500?

John Sztykiel

Well, actually 1000 was probably right. We built 577 last year. We indicated that we expected to more than double that in 2013, this order is now on the books. So, we are going through the production and the operational plans that provide us the capability to deliver not just the 1900, but we do it from right or I should say the appropriate financial perspective as well. I think the quality of the product is absolutely dynamic today. Now, we are taking the pause to make sure we do all the other things right to get to the financial outcomes, which we all desire and that should start to happen from a positive GM in Q3 and improve even more in Q4 and beyond.

Robert Kosowsky – Sidoti & Company

Okay, and what can we on the outside kind of look at to get some confidence that this is going to be earnings coming in from this 1900 units and not just a lot of revenue and no margin?

Lori Wade

Hey, Rob. This is Lori. As we have stated previously, we have always done our pricing around the 2000 to be our sweet spot to be that spot, that’s our base pricing. So, we are very confident that we are going to attain profitability. Again, we said before that we brought (Frank) an expert in the manufacturing, and he is working diligently with the team, and with the engineering to re-engineer to re-design this product for manufacturability. That’s not – we have talked about that before was never designed for manufacturability. So, now we are going through, and as we do this redesign, we are also taking cost out of the product they have a great cadence, and they are already exceeding where we had – had been paid. So, we are really – I think we are really poised for this to be a profit in the year.

John Sztykiel

And Rob, this is John Sztykiel. To give the group some color, you should be asking the question, okay, how did you get in this position? Okay, you got a great product, but why is it difficult to make money on it? And the reality is when we purchased Utilimaster, the product was being designed by a firm in the Greater Detroit area. And the Reach product was designed around a lot of automotive tooling orientation. It’s a very complex product to build. And to give you an idea to bring the two walls together, the roof and the floor in the back of the wheel requires over 450 screws or rivets, now that’s just a lot, that’s a ton, way too many. So, in essence, we have a great product, which was designed for lot of automotive tooling jigs fixturing, etcetera, but that’s not in line with the Utilimaster or ours or really any specialty vehicle business model. So, the design is around making it easier to build. So, your breakeven point and your profit point all happens at a lower volume level.

Okay, the good news is when I look at our ability into the future, okay, last year as I mentioned on the previous call, the Q4 call, quality issues were over 150 per units in Q1 of last year. By the time, we had got into Q4 of last year defects per unit were less than two. So, we had made significant improvement with a disciplined focus. As I mentioned earlier on the call, Q1 from a financial perspective, we were slightly ahead of plan relative to Reach from a financial perspective. So, that’s exciting. We now have a very disciplined focus. Are we guaranteeing we are going to get there? No. But do we expect to get there? Absolutely. And the good news is when we look at other challenging issues, one just going to the quality issues and making such dramatic progress in a 12-month period, I am excited about our team’s ability to drive the financial, I should say, to improve the gross margin opportunity within that product line.

Robert Kosowsky – Sidoti & Company

Okay, that’s helpful. And then finally just like a broader question, so it seems like 2011 was a great year for DSV deliveries, 2012 was very good for keyless, and ‘13 shaping up to be a good year for deliveries. And I am just wondering is this a business for from outside looking in or just going to be kind of whipsawed by the end market not really knowing firm way of forecasting the out year and kind of what your thoughts on kind of like a growth rate for this, or is this just a very short cycle in SKUs to just up and down pretty significantly?

John Sztykiel

Well, I think, one, you are always going to have a delivery in service some of the lumpiness of the orders just because of the larger fleet, okay. In regards to keyless, I think our growth into the future will be like that of a bulldozer going uphill. It’s probably going to be slow, but in the right direction, very gradual. And over time it will be going from being a small part of the business to a significant part of the business, just because Utilimaster has over 100,000 vehicles out there, okay. If there is something that excites me about Utilimaster relative to reducing the lumpiness of the business, okay because I think Utilimaster will still grow in single-digits just collect or from a pure holistic perspective when you combine vehicles with field service solutions, what could help some of the lumpiness, is they’re now moving into what I would call the mobile retail end of the business, mobile kitchens, a variety of different things. So, right now, their primary business is around services and packages.

Now, they are starting to move into mobile retail and I am sure a lot of you have either seen it in the larger cities or articles, etcetera, where people are just trying to figure out how you take brick and mortar establishments, put it on wheels, get closer to the consumer. That’s a third market which wasn’t on anybody’s radar screen there years ago relative to Utilimaster. The good news is we don’t perceive there is really going to be a cyclicality around this business model.

Robert Kosowsky – Sidoti & Company

Okay. Alright, thank you very much. And good luck for the back half of the year.

Operator

Thank you. Our next question comes from Joe Maxa with Dougherty & Company.

Joe Maxa – Dougherty & Company

Thank you and good morning.

John Sztykiel

Hey, Joe.

Tom Gorman

Good morning, Joe.

Joe Maxa – Dougherty & Company

Hi. So, it sounds like you are making tremendous progress in all your different segments. Are you going to be at a point where you’ll – you think you maybe hit those target goals by the end of the year or is that more of a 2014 event, I’m talking the 17-11 fix?

Lori Wade

So, I’ll take that question, Joe. So, we believe and again the 17-11 fix was always a 2014 goal, we know that. And so, the four points that John talked about the gross margin improvement, the Bristol, the Reach, the ERV, all those things are huge impactors to the gross margins. Because if you look we believe we’ve got our operating expenses in line, we’re poised for that. So, with this focus, we believe that we are poised to go into and hit that target in 2014. And you will see by the end of this year that you’ll see that cadence that we are stepping up from where we are today.

John Sztykiel

Hey, Joe, this is John Sztykiel. If you listen on the summary of all the things which I indicated we have done over the last four years, I mean literally, I would love it to see happen in 2013. But I will tell you what we just underestimated all that needed to be done to transform the business. I think if I did one thing right, I probably didn’t share all that we were going to be doing with Tom Gorman and Joe Nowicki in the recruitment process, because I’m not sure they would have came on and join the Spartan team in 2009-2010. The good news is it’s coming to an end now.

Joe Maxa – Dougherty & Company

I see. Okay. And just for clarity, the Reach vehicle, that’s still – you still keep that in your delivery and service segment, correct, even though, you could have put – brought it up to Charlotte?

Lori Wade

Correct. Yeah. It’s still in delivery and service segment reportable.

Joe Maxa – Dougherty & Company

Okay. So the disclaimer kind of at the end of your release says delivery and service in less than four months that excludes the Reach obviously?

Tom Gorman

Well. Well. I think you’re talking about...

Joe Maxa – Dougherty & Company

Delivery times of your various...?

Tom Gorman

Okay, right. That would be a kind of a mathematical average and you’d be right. In the case of the Reach, that is a longer order period they are going to be typical for us. So, what we’re trying to convey with – what that, I guess disclaimer or just a data point rather, is that – if we receive an order today, you figure that time period would be what we need to process the order from ordering materials to shipping it to the customer.

Joe Maxa – Dougherty & Company

And then I’ll ask one more. So, your backlog obviously very good, and that does suggest you should see some year-over-year growth in Q2. Your OpEx looks like it will be down year-over-year. So, the next point is gross margin, I mean how should we look at gross margin improvements. You got a lot done, but if you can throw a number, give us an idea are we at 12%, I mean where should we be looking at? What’s your best range you could give us?

John Sztykiel

No, I think we are better than that Joe. If you look at the range of the expected net income and operating expenses that should get to a pretty close approximation of where we think the margin would be for the year. Obviously, with the first quarter having some of the headwinds that impacted us, you are going to see most of that improvement as we move through the year, especially in the second half of this year.

Joe Maxa – Dougherty & Company

Okay. Thank you.

Operator

Our next question comes from Rhem Wood with BB&T Capital Markets.

Lori Wade

Hi, Rhem.

Rhem Wood – BB&T Capital Markets

Good morning and welcome Lori.

Lori Wade

Thank you.

Rhem Wood – BB&T Capital Markets

Okay. My first question on, specifically when will the better profitability for the redesigned vehicles in fire and delivering service. When will that hit?

Tom Gorman

Yeah, it improves over time. I think the main point we’re making was really regarding the Reach and when we introduced the redesigned vehicle that started production in the third quarter, and as we increased that production volume, we see the profitability improving. I think that John mentioned that process into positive gross margin territory, probably towards the end of the third quarter. And when you get into ERV, then I think we are looking at making some operating improvements throughout the year, we see progress there. And as we work through the existing backlog then we get the benefit of some better pricing, I don’t know if we are looking at towards the end of this year or more likely early 2014 for that, but.

Rhem Wood – BB&T Capital Markets

Okay. So your margin guidance includes some of that, but may be not all of it.

Tom Gorman

No, I think we – no, the guidance would include all of that, I think any impact on the ERV side late this year is going to be from probably new orders that come in and it might get into the production schedule, but I wouldn’t look for that as being a major contributor.

John Sztykiel

Rhem, this is John Sztykiel and just as a group, Reach that’s really about a profit – not the whole thing, but key parts of the product which were redesigning, which will deliver a more profitable product as time goes on in Q3 and Q4. Relative to Emergency Response, it’s the ERV Group, but it’s a number of areas, but they are on a path to move what we expect them to be profitable for Q4, and part of what Greg said is product, the right pricing for the product, but a number of operational improvements we are driving throughout 2013. Now, I’d like for Tom Gorman to jump and he is here with us, our Chief Operating Officer to also share some light as well.

Tom Gorman

Few things on the Reach, Rhem, in particular the concentration on what we have done with quality and delivery we’ve established and stabilized going forward in Q2, Q3 the excitement that we’ve got going on is in redesign of componentry, some of which will take some validation towards the end of the year, but much of which we can realize in Q2, Q3 that will drive cost reductions. We have marshaled our supply base very, very well and they have come to the table with a number of ideas as have our associates inside the plan. I’ve been very pleased with our man hours, person hours per unit that we have had, that we have driven down to within the forecast, where we are coming through, and bring the product through the plant with a very, very minimal rework and the quality that John talked about on fewer than two defects per unit.

Rhem Wood – BB&T Capital Markets

Okay, alright. And then, can you talk a bit – just a little bit more about your earning, kind of your cadence of earnings. I mean, you implied that Q2 will be modestly profitable and then, it’ll get substantially better in the third quarter, but that kind of implies $0.10 to $0.15 or more in the back half, assuming your EBITDA margin of 1.5% to 2.5% so, I guess you except to kind of substantially better revenues and margin improvement so, kind of what – what are the biggest components to achieve the higher end of that?

John Sztykiel

Okay, yeah, I think your math is headed in the right direction, Rhem. With – our business has some seasonal component to it. And in the third quarter, we look for that to have some pretty strong revenues. Fourth quarter, again we expect it to be profitable. It’s seasonally a little bit slower than the third quarter and just to give you an example or you’ll probably recall this with our DSV business, most of our larger customers will want walk-in vans shipped to them and received by the end of the third quarter so that they have them in service for the holiday shipping and delivery season. So those are some things to keep in mind, but, yeah we do expect each of the remaining three quarters to be profitable and your third quarter is typically our, one of our stronger quarters.

Rhem Wood – BB&T Capital Markets

Okay. And last one, just you mentioned sort of product, couple of product recall costs I think in the aerial ladder and then distributors in Northwest, or that is only once, and I guess that’s just kind of a onetime thing in the quarter?

Tom Gorman

Correct. Those are onetime events that we had mentioned to on the last earnings call that we had aerial issue looming out there and it really was right within the range we expected and that motor home one is a new issue. It’s out there’s it’s been released and been embedded as we seek right now. But those are onetime events for some historical builds that we’re working through.

John Sztykiel

Yeah. And Rhem, this is John Sztykiel. One of things and I’ll tell you what, we are a dramatically different company than a lot of organizations whether it be a emergency response, delivery and service or specialty chassis in vehicles, when it comes to quality, warrantee, recall campaign. We always take probably a bit of a more proactive approach because at the end of the day, we want to make sure that we have loyal customers, not just customer’s satisfaction. And as we looked at these campaigns, recall is their label, I won’t say there is a variety of organizations probably might not have gone down the path we did but that’s Spartan because when you’re focused on customer loyalty, part of the reason that we get in the backlog growth that we are toady’s because people trust us.

The interesting thing is, the Frito-Lay Pepsico supplier of the year award was not around product innovation, but was around how fast we solve the corrosion issue for them, which enabled their fleet to stand the road, operate efficiently et cetera. So what I loved about that Supplier of the Year award, it really wasn’t driven around driving sales growth through an innovative product, but it was accepting, okay, you had an issue, you solve that fast. We were amazed that how fast you did it and our operators, fleet sales people et cetera said, man, now this is a great product, a great company to work with. So we look at them as onetime events, but I will say this, and again, we’re very, very focused on our warranty costs of 1.5% of sales, which is world-class. We’re going to be above that. So we’re driving a variety of initiatives to bring us back to that 1.5% of sales because one, you not only drive a loyal customer base. But the reality is, when we go to some of the campaigns and recalls which we are today, you know you’re taking shareholder wealth or we’re taking value creation and we’re moving it out into the marketplace to keep the customer loyal, and that’s not a sign of an efficient business as well, and we understand that. So while we take a progressive, proactive approach, in no way shape or former we satisfy or do we find acceptable these campaigns and recalls. We are determined sort of fanatical about our cost of our quality at 1.5% of sales.

Rhem Wood – BB&T Capital Markets

Great, thank you.

John Sztykiel

Okay. Thanks, Rhem.

Operator

(Operator Instructions) Our next question comes from – follow-up with Robert Kosowsky with Sidoti & Company.

Robert Kosowsky – Sidoti & Company

Yeah, hi. Two quick follow-up questions. One is, how do you see the sense of aftermarket sales, do you see a risk to that? And then secondly, last quarter you mentioned introducing some lower price point fire trucks that have decent margin in there, and I’m wondering how the sales of that went or the increase of that went at the FDIC and if you think that’s going to be a material way to kind of tackle this pricing power or pricing pressure?

Lori Wade

Rob, I’ll take the defense. So we are starting to see order intake in our defense parts sales starting to go down little bit having a little bit of impact by the sequester, we’ve really, it’s sort of too soon to tell, but we are starting to see a little softening in the (inaudible), but we are still diligently working to drive through other resources to try and speed distributors there, so we’re still working. We’re not seeing anything significant at the moment though.

John Sztykiel

And also Rob, this is John Sztykiel, the acceptance of the product on the MPA-65 recall was very, very good and the simple reason being for your own edification, the group is about 24,000 fire departments in North America that do not have an aerial device, number one reason is cost. And through this Gimaex, through the Gimaex JV relationship we’ve actually taken a lower cost body design, an area which actually has the European lower cost body design and applied it to a Pumper. So, again this was the soft launch at FDIC. So, we’ve taken an automotive approach where we will introduce it to the marketplace, refine the product specs, refine the pricing, refine the go-to market plans, the hard launch will be in August of this year, but and it’s going to take about 12 to 18 months to drive significant volume of this product, which we would estimate over 50 units a year at a sales tag of about $400,000. So, it’s a high volume, high sales opportunity. But I will see that the initial market response is being tested.

There was one department from Colorado who wanted to buy the vehicle on the floor, Tom Gorman is shaking his head yes, where he said, I was in the market to buy a $350,000 Pumper which is the averaged price for a Pumper on a custom chassis. But he said, I know I can get my department to spend another or the city to spend another $50,000 to $75,000 more because we have three retirement healthcare facilities or retirement homes. And they are all two to three stories, and today we do not have an aerial device. And this 65 foot allows me to get up there, and it’s like, okay that is the absolute target market. So, yeah Lori answered the defense, we expect a very good response. And as we use the term, the MPA 65 is a price performance breakthrough product, but we are confident the margin is positive is why I’m glad you asked about that because we are confident the margin is positive as well.

Robert Kosowsky – Sidoti & Company

Thank you very much.

Operator

There appears to be no further questions at this time. So, I’d like to turn the conference call over to Greg Salchow for any closing remarks.

John Sztykiel

Alright. And guys this is John Sztykiel. But, I want to ask Tom Gorman, he is our Chief Operating Officer, what excites him about 2013, because obviously it is about operations the I and DRIVE, but I want you to hear Tom’s color before we wrap it up.

Tom Gorman

We talked about the I and DRIVE everyday and three things that absolutely keep me and it’s on a regular basis. First and foremost is Bristol, had it come from automotive and I’ve never made a secret with our associates as much as I’ve always loved Utilimaster, I’ve struggled with our original campus in Wakarusa and to see the vision come to fruition of a single building and being able to build products under one roof is extremely exciting. And we really like to see people in plant not only customers, but anybody else because we’re really doing something that’s very, very special in this segment of the industry.

And the second thing, I don’t know when you talk to anybody that will ever say we got excited about gross margin improvement, but I actually am and we’ve taken two of our best people and put them on this full time. 270 specific projects that we’re working on, so it’s more than by far looking at the line items from the P&L for driving gross margin, really putting timing specific project and resources overall and moving ourselves towards the 11-17, 17-11, and 6.

Third is about the changes in the new products that we’re seeing in the ER (indiscernible) on the MPA, we have Series 75 Aerial, and the excitement that was there with customers at the show at the FDIC last week was pretty palpable. The leadership that we’ve had in terms of showing up of what we need to fix with ERV, I think it’s going to give us some pretty great results. Kind of couple of other things, and we talked about the Reach as well, but those are the ones that are driving me pretty heavily right now.

John Sztykiel

To the group, I just want to say thanks so much very, very focused on the high end drawing and driving improvement dramatic as we move along from Q2 to Q3 and Q4 as well. We appreciate your patience, your understanding, and honestly your loyalty. This team, which we have endured, what you have endured over the last two to three years, believe we understand that I’m a significant shareholder as well, but I’m really glad to see a lot of moving parts come to a stop and it’s all about turning backlog into profit. Thank you very much.

Greg Salchow

Okay. Thank you, everybody and have a good day.

Operator

Thank you. The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.

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