Dan Leib - SVP and Treasurer
Tom Quinlan - President and CEO
Miles McHugh - SVP and CFO
Charles Strauzer - CJS Securities
Edward Atorino - The Benchmark Company
R.R. Donnelley & Sons Company (RRD) Q2 2009 Earnings Call August 5, 2009 10:00 AM ET
Good morning. My name is Samarian, and I will be your conference operator today. At this time, I would like to welcome everyone on the R.R. Donnelley second quarter 2009 Earnings Call. (Operator Instructions). Thank you.
I would now like to turn the call over to Mr. Leib. Sir, you may begin.
Thank you. Good morning and thank you for joining us for R. R. Donnelley's second quarter 2009 results conference call. Earlier this morning, we released our earnings report, a copy of can be found on the Investor Section of our website at rrdonnelley.com. During this call, we'll refer to forward-looking statements that are subject to uncertainty. For a complete discussion, please refer to the cautionary statement include in our earnings rerelease and further detailed in our annual report on form 10-K and other filings with the SEC.
Further, we will discuss non-GAAP and pro forma financial information. We believe the presentation of non-GAAP and pro forma results provide you with useful, supplementary information concerning the company's ongoing operations, and are an appropriate way for you to evaluate the company's performance. They are, however, provided for informational purposes only. Please refer to the press release and related footnotes for GAAP information, and a reconciliation of GAAP to non-GAAP.
We've also posted to our website in the Investor Sector a description as well as reconciliation of non-GAAP measures, which we'll refer on this call. We are joined this morning by Tom Quinlan, Miles McHugh and Drew Coxhead, and Dave Gardella.
I will now turn the call over to Tom.
Thank you, Dan, and good morning everyone. I will discuss four topics before Miles covers the second quarter in detail. Once he has taken you through that, I'll return with a few comments, and then open it up for questions. The first topic I would like to address is our strong cash flow performance.
During the second quarter, cash from continuing operations was $312 million, up more than 26% from the same quarter a year ago. Our focus on working capital, and cash management discipline continued to yield very positive results even in the face of the challenges that overall economic conditions are creating for the top line.
Through the first half, cash from continuing operations was $851 million, up $478 million or 128% as compared with the same period last year. In February, we told you that we expected to generate at least $700 million of free cash flow during 2009. Based upon our strong performance in the first half, we believe that we will exceed that, and expect to generate close to a billion dollars of free cash flow for the full year.
Our second topic is our strategy regarding the deployment of capital. As we have said before, we continue to focus on deploying capital in a balanced manner in order to help maintain strong liquidity and operational flexibility. Doing so allows us to best serve our customers and deliver the best long-term returns to our shareholders. Miles will touch on this in more detail, but I want to note the fact that we have paid down nearly $800 million in debt during the past 12 months.
In the first half of this year alone, we have paid down more than $500 million of debt. We believe that our early recognition of tightening liquidity and prompt and aggressive response has enabled us to achieve these reductions, even as the global slowdown significantly impacted revenues.
The flexibility that our strong liquidity provides is allowing us to watch for any compelling opportunities that emerge with regard to M&A. As you saw recently, we will aggressively pursue organizations or assets that fit our strategy and platform, but not at any valuation.
As we continue to be disciplined in our M&A approach, economic conditions are forcing down excess capacity. According to census and industry data, nearly 1000 domestic establishments have closed their doors in the last 12 months. We believe these to have been primarily one or two product operations. Our continuing ability to offer product, service and geographic diversity provides an advantage.
For example, the range of products and services that we offer is illustrated in a new, multi-year $80 million arrangement that we were recently awarded by PETCO. This will see us provide them products produced across our platform, including retail circulars, commercial printing, forms, labels and gift cards. Our ability to support functions from store operations to merchandising helps retailers to implement integrated communications programs, and maximize their procurement leverage.
The same is true with the other sectors we serve. R. R. Donnelley spans the breadth of their communications supply chain. Top line is the third topic about which I'll comment. During the second quarter, revenue decreased 19.6% on a pro forma basis, of which, approximately 3% was attributable to currency fluctuations, and 85 basis points were attributable to lower paper prices. This was in line with what we had expected and previously communicated.
We believe that the top line is reflecting the overall softness of the global economy, not decisions by customers to take their business elsewhere. The full effect of the dramatic economic slowdown for us was not felt until the third quarter of 2008, so during Q3 and Q4, we expect the revenue impacts to moderate as we compare quarters on a year-over-year basis.
Fourth, I would like to address earnings per share. During the quarter, non-GAAP EPS was $0.37, up from $0.24 during Q1. Through aggressive cost management, our decremental EBITDA margin year-over-year was 23% in the quarter, comparing favorably to the range we communicated to you last quarter.
While cost management is a vital and ongoing part of our operating discipline, we recognized that it alone will not deliver the results that we seek. After Miles walks you through the quarter, I'll comment about how we are working to increase our share of the $280 billion global opportunity that lies before us.
Thanks, Tom. As expected, our second quarter showed a continuation of challenging sales trends we experienced in the first quarter, and resulted in a 19.4% year-over-year revenue decline. Again, negative foreign exchange comparisons accounted for a sizable impact, approximately 300 basis points in the second quart, and lower paper prices accounted for approximately 85 basis points.
Excluding these impacts, our year-over-year pro forma revenue decline was approximately 15.8%, comparable to the sales decline of 15.3% in the first quarter. We expected the year-over-year revenue trends to improve in the back half of this year, as we started to feel the impact of the current recession in the back half of 2008, particularly in the fourth quarter.
The exceptional cash flow trend we saw in the first quarter also continued into the second quarter, as we generated an additional $312 million in cash from operations, driven primarily by underlying earnings and reduced working capital needs. The working capital reduction was due to lower operating levels, and improved working capital management.
On the year-to-date basis, cash flow from operations was $851 million, almost half a billion dollars more than during the same period last year. With respect to GAAP earnings, we delivered $135.0 million of income from continuing operations in the quarter, compared to $276.4 million in the second quarter of 2008.
The current quarter includes $40.1 million of restructuring related to employee termination, lease termination, and other facility closure costs. In addition, we incurred $8.1 million of impairment charges, and $1.4 million of acquisition related expenses in the quarter. A full reconciliation of our GAAP to non-GAAP earnings is included in today's press release.
As I discus our operating results in more detail, I will refer to our non-GAAP results. Consolidated net sales in the second quarter were $2.4 billion, down 19.4% from the second quarter 2008 results. Excluding the negative impact of foreign exchange rates of 3% and lower paper prices of 85 basis points, sales were down approximately 15.6%, primarily due to lower volume as well as continued price pressure.
Our gross margin was 25.4% in the second quarter of this year, compared to 26.7% in the second quarter of 2008. This decrease of approximately 124 basis points was due to volume and mix declines, continued price pressure, and the lower recovery on print related by-products, which has been negative impacted by declines in both volume and pricing.
These factors were only partially offset by the benefits of our continued cost management efforts, a reduction in variable compensation expense, and a favorable LIFO inventory provision. Our non-GAAP SG&A as a percentage of revenue was 11.5%, 45 basis points worse than the second quarter of 2008. This is largely a function of the lower revenue base as SG&A expense decreased by $52.3 million from the second quarter of 2008, due to continued cost control efforts, and lower variable compensation expense.
Our SG&A expense decreased by $12.2 million sequentially from the first quarter of 2009. Across all our operations, as well as each of our corporate functions, we continue to focus on controlling SG&A costs to match these expenses with revenue. We generated approximately $328 million in non-GAAP EBITDA, a decrease of about $129 million from the second quarter of 2008. This equates to a decremental margin of 22.6% on reported sales results.
As we have discussed on previous earnings calls, there are many factors that will determine the bottom line impact from a given revenue change. Factors such as changes in pricing, duration and severity of a revenue change, product mix, foreign exchange, changes in commodity prices and the resulting by-product impact, bad debt and LIFO provisions, benefit plan expenses and variable compensation to name just a few.
For volume increases or decreases, we do have a fair amount of variable costs in our cost structure, and would expect a normalized decremental percentage in the range from the high 20s to mid 30s through the end of 2009. The third quarter is likely to be at the high end of this range, due to the reversal of approximately $38 million of incentive compensation expense in the third quarter of 2008.
Depreciation and amortization expense in the second quarter was approximately $20 million lower than the same quarter in 2008, primarily due to the intangible asset impairments recognized in the fourth quarter of 2008, and the lower capital expenditures as compared to historical levels.
Our non-GAAP operating margin decreased by 217 basis points from the second quarter of 2008 to 7.8%. Volume, mix and price declines impacted both our top line and our recovery on print related by-product. We were able to partially offset these declines with our productivity and cost takeout initiatives, reductions in both variable compensation expense and in our LIFO inventory provision, and lower amortization expense to the intangible asset impairments in the fourth quarter of 2008.
Additionally, changes in foreign exchange rates benefited our non-GAAP operating margin by 51 basis points in the quarter. Net interest expense was $60 million in the quarter, $2.2 million higher than the second quarter of 2008, primarily due to interest on the $400 million of notes we issued in January of 2009, and lower international interest income as a result of lower average interest rates, partially offset by lower average short-term borrowings.
Our non-GAAP effective tax rate in the second quarter of 2009 was 37.5%, and was higher than the non-GAAP effective tax rate of 33.3% in the same period last year, due to the loss of tax benefits in certain foreign tax jurisdictions. In the second quarter of 2009, non-GAAP earnings per diluted share were $0.37, increasing sequentially from $0.24 per diluted share in the first quarter of 2009.
Now, we will discuss our quarterly operating results by segment. Sales of our US Print and Related Services segment declined 17.6% to $1.8 billion in the quarter. Lower page prices accounted for about 115 basis points of the decline. Similar to last quarter, we continue to see large declines in volume versus the prior year in our catalogue, magazine and retail, four color book, commercial print, capital markets related financial print, logistics and direct mail product offerings.
Additionally, our forms and labels business continues to experience accelerated pricing pressure. Non-GAAP operating margin decreased by 402 basis points to 9.2% in the second quarter of 2009. Our continued focus on productivity and cost management initiatives combined with the variable compensation expense reduction, partly offset by declining volume, price pressure and lower demand in pricing on print related by-products.
Our International segments reported sales dropped 24.6% or 13.2% excluding the impact of foreign exchange to $574.4 million, due to volume declines across most product lines, and continued price pressure, most notably in Europe and Asia. We continue to see volume growth in Latin America, and in this quarter, we saw volume growth in our telecom and technology offerings in Asia.
Similar to last quarter, our biggest volume drop in the quarter came from decreases in demand from technology clients within our global turnkey solutions offering. Non-GAAP operating margin improved by 137 basis points to 7.6% in the quarter of 2009. While foreign exchange rates negatively impacted our top line growth, they improved non-GAAP operating margins by 177 basis points.
Excluding the impact of foreign exchange rates, operating margin declined 40 basis points from the second quarter of 2009 as continued volume and mix declines, and price pressure were only partially offset by lower amortization expense due to the intangible asset impairments in the fourth quarter of 2008, continued productivity initiatives, and the variable compensation expense reduction.
Finally, our Unallocated Corporate expenses decreased $18 million from the second quarter of 2008, primarily due to a lower LIFO inventory provision, continued cost control efforts across all functions, and the elimination of the company 401(k) match in 2009, partially offset by a higher bad debt provision.
During the quarter, we spent $37.2 million on capital expenditures, a decrease of nearly $50 million compared to the second quarter a year ago, as the volume declines have opened up significant capacity across most of our operating platform. On a year-to-date basis, our capital spend is $92 million, almost $65 million lower than the first six months of 2008. We continue our rigorous review of all capital and other cash expenditures, a discipline that has allowed us to maintain a very strong balance sheet and liquidity profile through these particularly difficult times.
As we show on the last schedule of our earnings release, we had net available liquidity of $2.4 billion at the end of the second quarter of 2009, an increase of $825 million from the second quarter of 2008. As of June 30, we do not have any borrowings outstanding under our $2 billion committed credit facility. As Tom mentioned earlier, we have paid down nearly $800 million in debt in the past 12 months. Our remaining debt is 100% fixed, at an average interest rate of 6.3%.
Our expectation for 2009 cash flow from operations, less CapEx, is approximately $1 billion, representing a $300 million improvement from our expectations last quarter, and our actual amount in 2008. Our full year cash flows could be even greater than this, if trends continue.
We are well positioned for our upcoming debt maturities in 2010 and 2012. We have no term debt coming due in 2011. As we have mentioned in our call in May, we expect that our required pension funding for 2010 may be as low as our 2009 contribution, which is currently estimated at approximately $22 million, compared to the $40 million we contributed in 2008. We currently expect a modest amount of pension income in 2009.
There continue to be discussions, public discussions regarding possible pension related regulatory changes. Therefore, we will continue to track developments closely, and adapt our plans if circumstances change or opportunities arise. For 2010 and beyond, investment performance and discount rates will determine the future required cash contribution. Much will depend on the timing of contribution and his market conditions. We will continue to evaluate the most opportune time to fund our pension obligations.
Throughout 2008, we felt the impact of the recession, with our sales deviating from the normal pattern of a seasonal sales lift in the third quarter. In the third quarter of 2009, we expect to return to our historical pattern with modest sequential sales growth in the third quarter.
As I mentioned earlier, our decremental margin in the third quarter will be adversely impacted give the large incentive compensation reversal recognized in the third quarter of 2008. While we are not providing earnings guidance, we will share with you some of what we are expecting for full year 2009.
Depreciation and amortization expense of approximately $580 million, interest expense of approximately $235 million, and a non-GAAP tax rate in the range of 35% to 36%, although this estimate could be significantly impacted by business trends affecting different countries in which we do business or by changes in tax laws. A fully diluted share base of approximately 207 million shares for the full year, capital expenditures of approximately $220 million, almost $100 million lower than 2008, and less than half of the $482 million we spent in 2007. Corporate expense in the range of $130 million to $140 million, although this range could be significantly impacted by changes in our LIFO inventory provision, bad debt expense and healthcare cost trends.
We expect to maintain our working capital improvements as we measure relative sales volume throughout the year. Cash from operations, less CapEx, of approximately $1 billion, an increase of approximately $300 million from our comments last quarter, and we respect the dividend, we continue to evaluate all the deployment of capital to assure that we maintain strong liquidity and operational flexibility.
We will continue to focus on liquidity and debt reduction in this environment. Maintaining our investment grade credit metrics is very important to us as well as to many of our customers. We are targeting a debt to EBITDA ratio of 2.0 times to 2.5 times on a sustainable basis, recognizing that in certain economic environments, we will be at the high end or above the end of that ratio.
Lastly, before I turn the call back to Tom, I would like to announce an organizational change that we've made. Dan Leib has served in many capacities at R. R. Donnelley, and he will now have the responsibility for Operations, Finance as group CFO, in addition to maintaining his current M&A responsibilities.
Dan will be transitioning his Investor Relations responsibilities to Dave Gardella over the next few weeks, and will transition his Treasury responsibilities when we fill that Treasurer's role in the near future. Some of you have already met Dave, and he has worked closely with Dan in supporting the IR function over the last few years.
Dave has held a variety of roles during his 17 years at R. R. Donnelley, and I'm very pleased to have him succeed Dan in directing our Investor Relations activities. I thank Dan for the many contributions he's made over the last several years, and look forward to the future contributions that he will make in his new role. With that, I'll return you to Tom.
Thanks, Miles. As I said earlier, we recognize that our success is contingent upon more than just our proven ability to control cost. We must create opportunities for top line growth. That is why we have the elements in place, through the acquisitions that we have completed, internal R&D, and organic reinvention, to transform R. R. Donnelley from a printing company into a unique, collaborative integrated communications provider.
For example, in the financial services space, we expanded our range of e-delivery options with a recent acquisition of Prospectus Central. We have evolved from providing financial printing services to offering a comprehensive portfolio of financial communication solutions. This was accomplished by establishing a relationship with Prospectus Central early in their development, forming a market alliance, and subsequently purchasing the company.
This approach gave us the opportunity to prove the marketplaces need, and ensure the organizations fit with R. R. Donnelley. This is a strategy that we regularly pursue. In most cases, these alliances are small investments and will have a small impact in the short-term. However, our goal is that in the aggregate, they will be meaningful to the top line in the longer run. Overall, at the beginning of the decade, R. R. Donnelley could have been fairly characterized as a, 'run by the ton' printing company. Today, we are a service provider of integrated communications.
We believe that this positioning process begun more than five years ago yields three important competitive advantages. The first advantage is that we offer more product, service and geographic diversity than any other participant in our industry. As I mentioned, a lot of doors have closed for one or two product producers. Right now, we serve more than 85% of the Fortune 1000 companies. Of those, more than 25% purchased products and services from us in five or more categories.
We are expanding there with more customers and more products every day, especially as economic conditions cause customers to reevaluate their communication strategies, we offer them the flexibility to respond quickly in traditional multi-vendor relationships, shifting from one medium to another. For example, from catalogues to envelope mail involves renegotiating with multiple suppliers, finding new suppliers, and developing new processes for working with these suppliers.
As a single company offering multiple products and services, we provide customers the ability to simply switch to another part of our integrated platform. This flexibility creates speed to market and cost advantages for our customers, while keeping the work under an R. R. Donnelley roof.
Second, we offer an expansive and expanding portfolio of proprietary capabilities. This quarter we produced teachers' edition textbooks on high speed, variable digital color presses that R. R. Donnelley designed and built. These and the next generation of proprietary presses that we'll be deploying in 2010 open the door for new ways of us using digitally printed communications. For example, during the quarter, a publisher announced that R. R. Donnelley will be providing on-site and near-site digital production services. This will allow the publishers' customers to order what are called (inaudible) titles for on demand production. By using a virtual warehouse with our output engines, these titles can affordably be made available to brand new audiences.
Here's another example. During Q2, our logistics operations were recognized by the Mailing & Fulfillment Service Association, with two awards. One was an award for our co-pallet tray solution, which helps marketers, fundraisers and other customers achieve the best postal discounts on their letter mail, particularly in the emerging shorter run, more highly targeted space.
Our OneSite system brought home the Website Award for being the first portal to combine post production shipment tracking, and post network tracking into one synchronized online reporting tool. Capabilities such as these, combined with our fulfillment scale and expertise to help us achieve low cost advantages for distribution, which plays a critical role in reducing the total cost of ownership for our customers. In virtually every category, R. R. Donnelley is developing and marketing unique proprietary products and services.
The third advantage that our transformation into a provider of integrated communications delivers is our unique ability to leverage customer relationships by introducing additional products and services, in order to increase our share with them. Our revenues comprised less than 4% of what we have identified as just the print-related portion of the available global market, so there is a $270 billion plus upside.
Many of the best opportunities for us reside with our existing customers. For example, we estimate that our incremental opportunity at just two of our customers is nearly $1 billion. From just another 20 customers, it's about $3 billion, and we have more than 60,000 global relationships to work with. So, we are focused on expanding our relationships across the breadth and depth of our offering.
We believe that our strategy and business model are reflected in our choice implemented today, to the move to the NASDAQ exchange. The many technological innovations that we've described make us a great fit for the NASDAQ profile, from developing breakthrough variable color imaging units to enabling customers to transact business in virtual data rooms, we are continuing to create more effective integrated, communication solutions.
Making the move is also consistent with our approach to cost discipline. We see this change as giving us the opportunity to take advantage of more services, more cost effectively. We also believe that this change is consistent with our goal of driving top line growth. It will create additional opportunities for us to present and sell our leading portfolio of financial compliance and capital market services.
Before we move to questions, I'd like to thank our employees for their uncompromising efforts in this very challenging environment. They continue to deliver award winning quality, with several major customers and industry groups singling out R. R. Donnelley for quality recognition during the quarter.
A number of our facilities achieved safety milestones during the quarter as working safely continues to be our first measure of operational excellence. During the quarter, we also issued our updated Sustainability Report as we continue to achieve better financial and environmental outcomes by reducing, reusing and recycling.
With that, operator, we will open it up for questions.
(Operator Instructions). For your first question we'll go to the line of Charles Strauzer.
Charles Strauzer - CJS Securities
Hi, good morning. If I can start kind of big picture and work backwards. If you look at the industry, you are talking about 1000 printers or so being shut in the last 12 months. Given that you are kind of on the pulse point of the industry, does it feel like there is acceleration underway of this contraction that's been long awaited and expand a little bit on that if you can?
Sure. Charlie, the way I would put it to you is, if you could go back and picture a graph, where you've got a bid and buy mentality at the top half, we don't add a lot of value there. You've got a number of players that were playing in that part of the graph I'm call it. People then moved down to doing bundled buys. Again, that is where there is more value added by people like us, and there is less people that can do it.
Now you are at a point in our industry where it is all about the total cost of ownership. Once you get to that point, that's a homerun for us, because that's where there isn't anyone else that has the services, the diversity of products that we have, that can offer that to somebody. It's a great, great time for us from a sales standpoint. That is why we are kind of excited by it.
For our sales people to go in and tell their customers, look, we can compress your costs and we can improve your ROI. There's not many people that can do that nowadays. So, as a result of that, as a result of credit still being tight, and I'm not saying everybody overlevered themselves in the industry, a number of players did. However, the ability to reinvest back in this business is a heck of a lot tougher for people that just have those one or two products.
Think about it. This management team and what we've been able to do this year. We were able to put forth a $1.8 billion offer for a company coming out of bankruptcy. There is no other strategic that could even think about doing it. We have been able to keep our monthly payroll deduction costs from our employees' payroll checks for healthcare the same in 2008, 2009, 2010.
We are not going to increase the deductible in it 2010, it is going to stay the same as 2009. There is nobody else that we are competing against that's going to be able to control their healthcare costs, which is a major issue for companies and as you know for this country.
Again, from a dividend standpoint, we haven't touched the dividend. We haven't touched the dividend, we reinvested back into the business, and we are paying down debt. So, when you put all that together, value that we can bring to customers today is, I won't say unprecedented, but it is close to being where there is no one else that can come in and say, this is what we can do for you across the board.
If you want to change from a catalogue to a direct mail piece we can do to for you. If you want to do something in retail inserts, we can do that for you. If you want to go on the web, we are there for you. If you got print on demand, we can help you there. So, I think what is falling out of this is that, people who don't have the balance sheet to survive in what is going on now or have the products.
If you've only got one or two products right now, it's darn tough because of where the global economy is. So, I think you will continue to see a consolidation of people in our industry.
Charles Strauzer - CJS Securities
Excellent. That kind of segues nicely into my next question when you are talking about the increase in free cash flow, overall trends that you are seeing in kind of your quoting activity et cetera. How much of the increase in cash flow is attributed to being more comfortable that we have seen the bottom, and the trends maybe starting to improve a little bit more in the back half of the year? Just from a more organic perspective? Also, just talk about if you can, you have seen sequentially from April through July, any kind of pickup in quoting activity?
I'm going to give you the answer in sort of macro and micro point-of-view. I mean, we've got a sales force, and our sales engine is as strong as it's ever been, regardless of what's going on right now in the economy. So, I think that's sort of a different answer I would tell you than where you are seeing your customers right now.
I think we've sort of seen what I'll call a leveling off at levels that we hadn't seen in years. So, I mean, it's not as if we are throwing a party saying this is great. There is still challenge, credit is still tough, and the consumer is not there. This industry is one that lags, going into recession, and I believe we'll still lag coming out of a recession.
However, the opportunity for us is with our customers, as far as what they are spending on, and how we can help them there. So, I think, we've got the opportunity for organic growth in 2010 more so than we've ever had in any other year that we've been together, because of the fact that we've got the capacity.
So, it's interesting from that standpoint to say, as you look at the quarter that we are going through now, you've got back-to-school, you've got holidays. We think people are going to realize that they are going to have to brand themselves, they are going to have to market themselves to get their name out there.
We think the automobile industry is going to have to come back a little bit here, because they are going to start to have competition with each other. That should be a good thing for us. Not for profits. They are going to have to come back and look to see where can they go ahead and look at new list? Look at new possible donors. There'll be some solicitations that will take place there.
Credit card, with Washington, D.C, with the new rules and regulations that are going on, that should help in further communications both from a printed standpoint and electronic standpoint of what the new guidelines are and what the new products and services that the banks have to offer.
So, we feel excited as far as what our sales force can do for our customers. If you've got 60,000 of them, you should be able to go ahead and have some good days with them. I think the economy, though, is still challenged. Unemployment is still going to creep up here. Credit is still very difficult, marketing, branding is still tough. The states are in a deficit, almost all of them are still in a deficit standpoint. So, there is sort of a good and bad there, but we sort of see the rest of the year, as we talked about the opportunity to have a billion dollars of free cash flow, we feel good about that.
Tom, speaking off of that now, when you look at the kind of a long run side of your business, and obviously, the competition is you know, you are much larger competitors on that field, are you seeing any more rational behavior on the pricing front at all in the last few months?
Charles Strauzer - CJS Securities
Tom picking off of that now, when you look at the kind of long run side of your business, and obviously the competition is much larger with larger competitors on that filed. Are you seeing any more rational behavior on the pricing front at all in the last few months that has emerged?
I don't know how many years I have been 16, 17 years in this industry. I don't think pricing has ever been something I would say has been good. So, I think that hasn't changed. We don't expect that to change. Again, I think when you deal with companies or you compete against companies that have one or two products, the only thing they can compete on is price, and that is a very, very slippery slope for them to deal with, because you can't really grow that way.
Thank goodness we have the platform that we have, that we're able to go ahead and compete on other areas as far as where we are able to bring value to our customers, whether it is on the front end, on digital assets, on the actual printing itself, on the actual ePresentment or the back end with getting warehousing distribution.
Again, if you look at us in the total cost of ownership, and if you are sitting there, if you are in the sea level role or if you are in procurement, you are saying okay, look, I'm going to be okay here because of what these guys can do for me.
Charles Strauzer - CJS Securities
Just lastly, Tom, on the cost front. You guys have done a great job at taking costs out. Give us a sense of how much more flexibility you have on the cost front to keep matching the cost with revenues?
I think as Miles each and every quarter tries to get across to everybody is, we try to make as much as our cost variable as possible. At the same time I'm telling you that, I'll also tell you, I don't want us to shutdown our capacity right now. So we haven't. As you have seen our announcements, unfortunately, we've had to shutdown some facilities worldwide, but that's the last thing we want to do. We want to be able to go ahead and take costs out in any other way we can. Keep those facilities open because we do think when this does come back, we are going to be the player that's going to be there ready to serve our customers, and not have to go ahead and reinvent the wheel. So there is always, always ability to take out costs. How you do that, when you do that, is where the magic comes in.
For your next question we'll go to the line of [Joe Staff].
Good morning. Talking about sort of the producers that effectively fall out, you had mentioned a thousand or so. Effectively, what happens to them in terms of their capacity? Do they just idle and then at some point in the future? Or has it worked historically in terms of the cycle?
Joe, I would tell you, that is the big question. Where is that equipment going? You can shut your doors, but if that equipment stays in the marketplace then what really has occurred, which is nothing. When we do go ahead and take capacity out, I would tell you those presses will never, ever be seen again. They'll be environmentally taken care of and they won't appear to compete against us.
However, I think most of these are situations where people have had to liquidate. It is not Chapter 11, it is a Chapter 7. They are mama and papa organizations, unfortunate, and when I say that I mean somebody who is less than $100 million of sales really, really has come up against it. The sad part it, it's been probably around for a couple of generations.
So, those are the people that, again, they may have served one or two customers in addition to having one or two products, but because those customers are having tough times, that ends up falling back on to them. Our industry is no different than any other vertical that is out there. I mean, you can go from the financial vertical to the leisure vertical to the automobile vertical. Every one is experiencing the same thing, where capacity is being taken out.
Our industry probably had a heck of a lot more than any other industries going into it. So, there is more to take place there. At the same time, technology plays a huge role. Again, we are at the NASDAQ today. There is a reason for us being over here, and again, our innovative capabilities, what we can do from press standpoint, what we can do from an electronic standpoint for our customers is big.
I appreciate that. A follow-up. As you think about some of these providers, and you think about your overcapacity, and this is obviously relative to sort of the bid that you had provided to Quebecor World. How do you think about your capital allocation policy in that, on a strategic basis, do you look at your excess capacity and try to think about, if you were to acquire X or Y, that that amount could be absorbed by your excess capacity or do you think about the client list or the equipment? Is there kind of a rule of thumb? The one or two most important aspects of acquisitions as you think about the landscape going forward?
Yes. We keep it simple. If we didn't, I'd be this trouble. The three things that we look at all the time are, again, what does it do to our current customer base? Does it get us products that we can then sell on to our current customers? Is it new product related? Is it products that's going to bring value to them? Second, we look to see, what kind of capacity? Do we have capacity? Do we need capacity? Do they have capacity? Can we sell into it? I believe our sales force can sell into anything. The third is, what synergies can we get out of that transaction? That property? What synergies does that offer.
So those three, what I'll call, 'legs to the stool', are how we look at every single opportunity that comes our way. The nice thing with us being an integrated communications provider, with the broader platform, new customers, if they are not with us, there is a savings opportunity for them to compress costs, improve their ROI. If people are with us, it gives us a larger scale. Scale is what this industry is still all about, and will continue to be about. We have that scale.
For your next question we'll go to the line of [Ryan Casey].
You said you were going to pursue strategic initiatives. So now that the Quebecor deal is over, do you have anything in mind? For example Vertis?
I don't know if this is shareholder or one of the bond holders from Vertis. No, we don't comment on acquisitions dispositions like that. You guys know that. Look, again. I think one of the takeaways all of our stakeholders should take away from what occurred in the second quarter is that, we had the ability to go ahead and make that offer. As we sit here today, we've got a ton of dry powder. You obviously need willing sellers as well as being a willing buyer. I think to the previous question from Joe, we are going to continue our financial disciple on how we do this, and we are not going to get away from that.
I think that combined with the economic conditions, combined with where credit is, we feel that we are in a pretty good spot right now. We are not going to go ahead and do something haphazardly for the sake of doing a deal.
(Operator Instructions). For the final question we'll go to the line of Edward Atorino.
Edward Atorino - The Benchmark Company
Hi. On the forecast, and it really wasn't a forecast, the sequential improvement, I presume you meant a lower rate of decline rather than 3Q being higher than 2Q?
We actually think that both will happen. The top line, we believe, with the seasonality of the business coming back, unlike we saw last year, because of the unique circumstances with the economy, we think we'll see sequential quarter-over-quarter growth in both.
Edward Atorino - The Benchmark Company
Okay. That's really all I had to ask. The credit card deal I guess is dead right? It couldn't come back again, I guess?
No, Ed. We believe it is dead, and we've moved on, and we are moving forward, and we are having good days. So, appreciate your question. I appreciate everybody's support for taking the timeout to be with us today. Thank you.
This concludes today's conference. You may now disconnect.
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