Spectrum Control Inc. Q2 2009 Earnings Call Transcript

Jun.25.09 | About: Spectrum Control, (SPEC)

Spectrum Control Inc.

Q2 2009 Earnings Call

June 25, 2009 4:45 pm ET


Richard Southworth – President, CEO

Jack Freeman – Senior Vice President, CFO


Ted Kuntz – Needham & Company


Welcome to the Spectrum Control Inc. 2009 second quarter conference call. Representing the company today, we have Dick Southworth, President and Chief Executive Officer and Jack Freeman, Senior Vice President and Chief Financial Officer. Their discussion of the company's operating performance for the quarter ended May 31, 2009 should take about 20 minutes. They will then try to answer as many questions as reasonably possible. We expect to conclude this conference call at approximately 5:30 pm Eastern time.

As a reminder, the following discussion will include certain forward-looking statements which reflect management's current views with respect to future market conditions and operating performance. These forward-looking statements are subject to certain risks and uncertainties which could cause actual results to differ materially from historical results or those anticipated. These risks and uncertainties are described in the details in the company's most recent quarterly and annual SEC filings.

The words belief, expect, anticipate and similar expressions identifying forward-looking statements. Listeners are cautioned not to place undue reliance on these forward-looking statements. Such forward-looking statements speak only as of the date on which they are made and the company does not undertake any obligation to update any forward-looking statement to reflect events or circumstances after the date of this call.

I would now like to introduce Mr. Dick Southworth, President and Chief Executive Officer of Spectrum Control.

Richard Southworth

We welcome you to Spectrum Control's 2009 second quarter conference call. I'll briefly review some key operating and financial highlights for the period, after which Jack Freeman will review our financial performance in more detail. We'll then be happy to take any questions after that.

For the second quarter of 2009, we reported net income of $2.2 million or $0.18 per share on sales of $33.6 million compared to a net income of $2.2 million or $0.16 per share on sales of $32.6 million for the same period last year.

For the first half of 2009, we have had net income of $4.4 million or $0.35 per share on sales of $66.7 million and for the comparable period of 2008, we had net income of $4 million or $0.29 per share on sales of $63.7 million.

We are very pleased to report second quarter results that are consistent with our previous guidance. In addition, to increase revenue and earnings per share, total customer orders received during the current quarter amounted to $36.1 million, a 15% increase from the first quarter of this year.

We believe this strong performance during the ongoing global recession demonstrates the effectiveness of our fundamental business strategy and we remain committed to customer and end market diversification, maintaining the balance between military, defense and commercial markets.

As a result of this strategy, the current growth of our military defense business has substantially offset the impact of the poor market conditions which persist for virtually all commercial products and applications. Our sales to military defense customers during the second quarter of 2009 were $21.1 million or 63% of our total sales, up from the $14.6 million or 45% of sales for the same period last year.

With no individual customer representing commitments to providing customer application specific solutions, will continue to be the foundation for our future growth and enhanced shareholder value.

At this point, I'd like to introduce Jack Freeman, our Chief Financial Officer and ask Jack to review our second quarter results in greater detail. When Jack has completed his presentation, I will conclude with some final comments and then we'll open the floor to questions.

Jack Freeman

As Dick indicated, total customer orders received in the second quarter were $36.1 million, a 15% increase from the first quarter of this year. Orders received in the second quarter included a $3.1 million order for ruggedized interconnect assemblies. These complex assemblies will be used by a leading supplier of tactical radios for defense forces.

Product deliveries have started already in our third quarter with additional follow-on orders anticipated within the next 12 months and continuing for the following three years. We think this order re-affirms the current strategy of our advanced specialty products group to focus on the development of high end specialty products and assemblies and we also believe this new focus will continue to present growth opportunities for our company.

Also during the second quarter, our Microwave group received a $3.3 million contract for a millimeter wave integrated assembly used in military ground tactical communication terminals. This follow-on contract which was awarded by a major defense contractor will commence production in late 2009 and run through 2010. Additional production releases are expected in 2010 and beyond.

Again, we believe this award in this case, reinforces our customer's confidence in our vertical integration process which sustains a high rate of production capability for complex millimeter integrate wave assembly.

Our consolidated net sales were $33.6 million in the second quarter of fiscal 2009. That's an increase of about $1 million or 3% from the comparable period last year. This increase reflects $3.3 million of SatCom product shipments reflecting our acquisition of SatCom Electronics last September as well as additional shipment volumes for many of our products used in military and defense applications.

These shipment increases were partially offset by a reduction in shipments to our commercial markets reflecting the world wide recession and its ongoing impact on most commercial customers.

Sales of our advanced specialty products were $10.2 million in the current quarter compared to about $13.6 million in the second quarter of fiscal 2008. Our advanced specialty products are used in numbers industries including military and defense, medical equipment and instrumentation, industrial controls and communication equipment. Although sales of these products for military and defense applications were actually up slightly from the same period a year ago, shipments in support of virtually all commercial applications decreases with very soft market demand.

Sales of our Microwave Components and Systems were $16.2 million in the current quarter, compared to $10.4 million in the second quarter of fiscal 2008. Excluding the impact of our current period SatCom sales of $3.3 million, sales of our Microwave products grew $2.5 million or approximately 24% from the same quarter last year.

This significant increase reflects additional shipments of our Microwave products in support of numerous military defense programs including applications in secure communications, radar systems as well as counter-measures for improvised explosive devices.

Sales of our Power Management Systems decreased by about $900,000 with sales of $2 million in the current quarter versus $2.9 million in the comparable period last year. Sales of these advanced systems for data storage, networking systems and other commercial applications decreased, once again reflecting the soft market demand in the commercial markets.

Sales of our sensors and controls amounted to about $5.1 million in the second quarter of fiscal 2009, down about $500,000 or 9% from the same period a year ago. Demand for our custom position sensors used in applications supporting military aircraft and vehicles continue to be strong while demand for commercial positioning and temperature sensors decreased with the poor market conditions. Overall, our average selling prices remained relatively stable throughout all of our major product lines.

Our overall sales by industry continues to change, reflecting our strong military and defense markets and relatively week commercial markets. For the current quarter as a percentage of total sales, military and defense was 63%, communications equipment was 15% and medical and industrial instrumentation was about 14%.

In the second quarter of fiscal 2009 our gross margin was $8.9 million or about 27% of sales compared to $8.1 million or 25% of sales for the same quarter last year. This increase in gross margin percentage principally reflects operating efficiencies from higher production volumes.

Our total manufacturing overhead was $12.5 million in the current quarter, the same as it was in the second quarter of last year. As a percentage of sales however, total manufacturing overhead was about 37.5% in the current quarter, down from about 38.7% in the comparable period of fiscal 2008. Our ability to leverage our fixed manufacturing overhead over increased sales volume continues to be one of our financial strategies and ongoing opportunities.

At the end of the current period, we had a total work force of approximately 1,300 employees. That's down about 12% from the end of last fiscal year and this reduction was made in the first half of the year in response to the recession's impact on the commercial markets, and as always, we expect to continuously review our organization and cost structure to further enhance efficiencies while maintaining enough flexibility to respond to the additional production requirements.

During the quarter, selling expense amounted to about $3 million or about 9% of sales compared to $2.7 million or 8% of sales for the same period last year. The increase in selling expense primarily reflects changes in sales mix and related increases to our effective sales commission rates.

Aggregate general and administrative expense was $2.5 million in the second quarter of fiscal 2009. That's versus about $2 million in the comparable period of fiscal 2008. The increase in G&A expense primarily reflects higher personnel costs along with numerous other operating expense increases. On an ongoing basis, we expect our SG&A expenses to approximately 15% to 16% of our consolidated sales.

Our effective income tax rate remains at about 35% compared to the applicable Federal and State combined statutory income tax rate of 40% and the difference between our effective tax rate and the statutory tax rate, continues to principally reflect various State tax provisions, research activities tax credits, U.S. domestic production activities deductions as well as foreign income tax rates.

Net cash provided by operating activities in the first half of fiscal 2009 amounted to $8.1 million including a record $6.4 million generated in the second quarter of fiscal 2009. This increased cash flow reflects improved receivable and inventory turnover rates with accounts receivable and inventories decreasing $2.5 million and $1.2 million respectively during the current quarter.

During the first half of fiscal 2009 with our positive cash flow and existing cash reserves, we repaid $7 million under our domestic line of credit and fully funded almost $2 million of capital expenditures. Approximately $1.2 million of our capital expenditures were made in our Microwave components and systems business to support manufacturing expansion and improvements that are needed for growing production requirements.

At the end of the second quarter of fiscal 2009 our ratio of current assets to current liabilities was nearly five to one and our total debt to equity ratio was about .2 to one. Our total stockholders equity grew to about $108 million for a book value of about $8.60 per share and our total borrowed funds were only $4 million as of the end of May.

We believe this strong financial position will not only serve us well during the current economic environment, but will also enable us to effectively finance future acquisitions as well as continued organic growth.

For the first half of fiscal 2009, our consolidated sales were $6.7 million. That's up about 5% from the first half of fiscal 2008 and our diluted earnings per share was $0.35 which is up 21% from the same period last year. And given the current economic environment, we're proud of that overall financial performance.

Dick will not make some concluding comments.

Richard Southworth

With the world wide recession continuing to negatively impact commercial markets, as you may guess forecasting future business results is extremely difficult, but based on our current assessment of business conditions and customer demands, we expect our 2009 third quarter sales and profitability to approximate our second quarter performance.

With our existing sales order backlog and anticipated customer orders, we believe the fourth quarter of 2009 will be stronger with a 10% sequential increase in sales and profitability. More importantly, we will continue to invest in the long term growth of our company as we develop innovative new products and seek to consummate strategic business acquisitions. With this ongoing focus, we remain very confident in the future of the company.

At this point, I'd like to open the discussion for any questions you may have.

Question-and-Answer Session


(Operator Instructions) Your first question comes from Ted Kuntz – Needham & Company.

Ted Kuntz – Needham & Company

A couple of questions for you, maybe you could just clarify a few things. One, the gross margin outlook, it was a nice pleasant surprise. It was a very nice job on that. Do you expect that level can be maintained or obviously it's somewhat of a function of mix as well, but it sounds like the volumes are going to be holding up in terms of your top line volumes. Would you expect the margins to maintain this level as well?

Jack Freeman

Yes we would. As you know, one of the items of focus and really one of the opportunities that we think we have is that with the existing manufacturing capabilities and capacity we have as sales volumes increase, we can really leverage our fixed manufacturing overhead and generate some significant incremental margins and some improved overall gross margins. So we certainly are expecting that as we go forward.

As you indicated, the changes in mix can have an impact, but overall, to date I would say that the increase to our military and defense business over our commercial business has had a modest positive impact on our gross margins as well and we would expect that to continue at least for the rest of this fiscal year.

Ted Kuntz – Needham & Company

Would you expect the mix to kind of stay the same as you're currently seeing it?

Jack Freeman

We would not expect any significant or certainly no dramatic change in that mix at this point.

Ted Kuntz – Needham & Company

It kind of leads to my next question on the commercial side of your business, are things, you say weak. Are things getting any worse or better or just really just kind of flat?

Jack Freeman

I'd say they're flat. We haven't seen any further weakening. We haven't seen also any strengthening of the markets yet. If anything, the opportunities I think will first come in the defense market for additional strengthening.

Ted Kuntz – Needham & Company

And how is the bidding activity on the defense side? Can you give us some color as to where these programs, how these programs are currently moving through the system? Are things being held up? We heard that generally in the defense area they were taking longer to approve things with the new administration in place, but hopefully once they do, they may get some longer order cycles out there, more multi-year type orders. Could you comment on any kind of change you're seeing in the military defense bidding activity?

Richard Southworth

I would say it's really probably the same experience we've had for the last couple of years where we're seeing shifting of focus on specific programs where they're funding them and there's an urgency for them and some of the other programs are being pushed out. So it's really a matter are you in the programs that are being really pushed for emergency requirements.

And I think for us, whether it's replenishment or reset or new programs, we're in all of those areas and our investment with our engineering teams are all for future opportunities. We don't expect them to turn dollars in 2009. It would be in 2010 and beyond.

Ted Kuntz – Needham & Company

Is you bidding activity, can you comment as to what level that's at? Is it increasing?

Richard Southworth

We're at our maximum. Let me clarify that. We have from our design team as I said in previous quarters, they have really almost overwhelmed the demand requirements and they continue on that path. Even though we've reduced about 12% of our work force, we have not reduced any of our technologists and design teams.

Ted Kuntz – Needham & Company

Is there any comments or thoughts on the Crew program and where that stands both the existing ones and I guess there's some new versions coming out as well.

Richard Southworth

I think it's the existing ones, like on the adjunct box for the units that are already fielded, that program has been moving well. There was a delay for a quarter but we certainly expect in the fourth quarter that will be back in full swing. And some of the new programs, we have varying parts that are designed in with these OEM's and we just have to, as the new contracts are let out to them, we'll be able to determine it at that time. We don't have any fixed numbers right now.

Ted Kuntz – Needham & Company

Is that anything new? Would that be you really looking at, it sounds like there's not too much visibility on any kind of new effort underway on the Crew.

Richard Southworth

Crew 3.1 for the demand packs, the first release has been out now and I believe the requirements are for the early part of next year to mid next year. So as those orders start coming through, they will have some impact.

Ted Kuntz – Needham & Company

If I could just turn for a minute to the Power Management Systems area, could you give a little outlook there? Business is down there, that's one of the areas where you're a little bit weak.

Richard Southworth

It's because that business in the past has been mainly commercial. We have all new products that we have released and we are out in the defense industry with them and we are working with several main OEM's on those as well as some of the different government agencies, defense agencies.

That remains a very exciting business for us even though we've seen the turn down in the commercial business. Our focus is on the defense side right now.

Ted Kuntz – Needham & Company

So there's potential to see that start to grow in the near term or would that take a little while to get moving?

Richard Southworth

We expect to see some of our defense orders as early as the fourth quarter.

Ted Kuntz – Needham & Company

Any thoughts on where you could see orders going in the next quarter? Do you think they'll, I know this is a good quarter for you. You anticipated it being a good quarter, bookings quarter for you and it was, book to bill at 1.07, so it's very nice. Do you expect next quarter to be comparable? Do you have any feel for that?

Richard Southworth

It may not be 1.07 but we expect it to be a positive.


There are no other questions in the queue at this time.

Richard Southworth

We thank everyone for joining us today and with no questions, we will conclude this conference call.

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