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LaBarge, Inc. (NYSEMKT:LB-OLD)

F4Q09 Earnings Call

August 27, 2009 11:00 am ET

Executives

Craig LaBarge – CEO and President

Don Nonnenkamp – VP and CFO

Analysts

Mark Jordan - Noble Financial Group

Fred Buonocore - CJS Securities

Paul Mammola - Sidoti & Company

Operator

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the LaBarge, Inc. 2009 fourth quarter earnings conference call. (Operator Instructions)

Before we begin, the company would like to remind you that during this call the speakers will be making certain forward-looking statements. The company's actual results may differ significantly from the results described in or suggested by these forward-looking statements. The company's actual results are subject to a number of risks, including but not limited to those described in its filings with the Securities and Exchange Commission.

At this time I would now like to turn the conference over to our host, Craig LaBarge, who is the President and CEO. Sir, you may now begin your call.

Craig LaBarge

Thank you. Good morning, everyone. Thanks for joining us today for a discussion of LaBarge's financial results for the fiscal 2009 fourth quarter and full year, which ended on June 28th.

With me today again in Don Nonnenkamp, Chief Financial Officer for LaBarge, and as is our practice we'll begin with some prepared remarks and then open up the call for questions.

The prolonged economic recession interrupted LaBarge's year-over-year growth performance in fiscal 2009 and, as anticipated, drove the company's sales, earnings and backlog below prior year levels. Although we're certainly disappointed in our fiscal 2009 financial results, we do believe that we have managed the business prudently and continue to do so in this very challenging business environment.

The company continues to outperform the industry and our healthy balance sheet, our healthy financial condition, our strong pipeline of new business opportunities and outstanding operational performance validate our confidence in LaBarge's excellent long-term business and financial prospects.

I should note that a reconciliation of GAAP and non-GAAP financial measures that are mentioned during this call is provided in today's press release, which is available on the company's website.

With that I'll go ahead and turn the call over to Don, who will cover our financial results for the quarter and the year.

Don Nonnenkamp

Good morning, everybody.

Fiscal 2009 fourth quarter and full year results are as follows:

Fourth quarter net sales were $64.8 million in fiscal 2009 versus $77.8 million in the year ago period. Fiscal 2009's fourth quarter sales included $12.1 million from the Appleton operation which we acquired in December. The previous year's fourth quarter included $3.8 million of sales related to the now bankrupt Eclipse Aviation.

Full year net sales were $273.4 million in fiscal 2009 versus $279.5 million in fiscal 2008. The Appleton operation contributed $25.9 million to fiscal 2009 full year net sales.

Fourth quarter net earnings were $2.6 million or $0.16 per diluted share in fiscal 2009 compared with $4.6 million or $0.28 per diluted share in the year ago fourth quarter. Fiscal 2009 fourth quarter net earnings included an after-tax loss of $216,000 or $0.02 per diluted share from Appleton. Full year net earnings were $10.3 million or $0.64 per diluted share in fiscal 2009 versus $14.8 million or $0.92 per diluted share in fiscal 2008.

Excluding a $0.23 per share charge related to the Eclipse bankruptcy, fiscal 2009 net earnings were $14.1 million or $0.87 per share. Fiscal 2009 full year net earnings included an after-tax loss of $289,000 or $0.02 per diluted share from the Appleton acquisition.

Fourth quarter gross margin was 17.9% in fiscal 2009 compared with 19.5% in the previous fourth quarter. The fiscal 2009 fourth quarter gross margin reflects 8.9% margin at the Appleton operation and a 20.0% gross margin in the rest of the business.

For the full year, the largest gross margin was 18.6% in fiscal 2009 compared with 19.7% in fiscal 2008. The fiscal 2009 gross margin reflects Appleton's margin of 8.8% and, again, 20.0% for the rest of the business. The decline in fiscal 2009 gross margin was the result of much lower sales volume, particularly in the fourth quarter, and the Eclipse Aviation bankruptcy. Excluding the impact of the Eclipse-related charges, fiscal 2009 full year gross margin was 20.1%.

SG&A as a percent of sales was 10.9% in the fiscal 2009 fourth quarter versus 9.6% in the fiscal 2008 fourth quarter. In actual dollars, fiscal 2009 fourth quarter SG&A expense decreased $386,000 or 5.2% from the previous year's fourth quarter.

For the full year, SG&A expense as a percent of sales was 12% in fiscal 2009 versus 10.6% in fiscal 2008. In actual dollars, fiscal 2009 full year SG&A expense increased $3.2 million to 11% from the fiscal 2008 level. The increase included $2.1 million related to the Appleton acquisition and $1.9 million related to the Eclipse-related charge.

Fourth quarter operating income was 7% of sales in fiscal 2009 versus 9.9% in fiscal 2008 fourth quarter. For the full year, operating income was 6.6% in fiscal 2009 versus 9.1% in fiscal 2008. Excluding the impact of the Eclipse-related charges again, operating income in fiscal 2009 was 8.8% of sales.

Fourth quarter interest expense was $483,000 in fiscal 2009 compared with $253,000 in fiscal 2008 fourth quarter.

Full year interest expense was $1.3 million in fiscal 2009 versus $1.5 million in fiscal 2008, reflecting lower average interest rates in fiscal 2009 and lower average debt outstanding during fiscal 2009.

Net cash flow from operating activities was $4.2 million in the fiscal 2009 fourth quarter compared with $12.9 million in the fiscal 2008 fourth quarter.

For the full year net cash flow from operating activities was $29.6 million in fiscal 2009 versus $18 million a year earlier. The higher full year net cash flow in fiscal 2009 was largely attributable to reductions in accounts receivable and inventory, higher depreciation and amortization expense related to the Appleton acquisition, and lower estimated tax payments.

Offsetting cash flow from operations during fiscal 2009 was record capital expenditures of $10.8 million, including new manufacturing equipment and facility upgrades which are increasing our operating efficiencies and expanding our capabilities.

Total debt at June 28th was $45.5 million, the same level as at March 29th, compared with $15.6 million at last fiscal year end. The increase in debt is the result of the Appleton acquisition.

Stockholders equity at June 28th was $103.2 million compared with $100.3 million at March 29th and $91.5 million at the end of last fiscal year.

As an important aside I would like to mention that we are completely in compliance with our bank covenants at June 28th. Our credit facility had $28 million of unused capacity in addition to the $4.3 million of cash that we had on our balance sheet.

And finally, backlog at June 28th was $168 million compared with $185.6 million at March 29th and $221.3 million at the end of last fiscal year. The backlog declined as a result of continued weakness in key market sectors, particularly industrial and natural resources, and a fiscal 2009 second quarter reduction of $39.6 million due to the removal of Eclipse orders. Approximately 86% of the backlog at June 28th is scheduled to ship in the following 12 months.

Now I'll turn the call back to Craig.

Craig LaBarge

Thanks, Don.

Including the Appleton acquisition, shipments to customers in the defense, natural resources, industrial and medical market sectors comprise 92% of LaBarge's fiscal 2009 net sales. The Appleton acquisition added significant new customers and expands LaBarge's presence in the natural resources, medical and industrial market sectors.

Shipments to defense customers comprised the largest portion of our 2009 net sales at 46% compared with 38% in fiscal 2008. In actual dollars, fiscal 2009 sales from the defense market sector increased 18% from the previous fiscal year, reflecting increased shipments supporting a wide variety of defense programs.

Shipments to natural resources customers represented 18% of fiscal 2009 net sales versus 23% in fiscal 2008. In actual dollars, 2009 sales from the natural resources market sector declined 23% compared with the previous fiscal year due to overall weakness in that sector, particularly in oil and gas and mining. Approximately 19% of fiscal 2009 natural resources sales were contributed by the newly acquired Appleton operation.

Shipments to industrial customers represented 18% of net sales in both the 2009 and 2008 fiscal years. In actual dollars, fiscal 2009 sales from the industrial market sector declined 3% from the previous year due to some weakness in that sector. Approximately 5% of the fiscal 2009 industrial sales were contributed by the Appleton acquisition.

Shipments to medical customers represented 9% of fiscal 2009 net sales versus 7% in 2008. In actual dollars, 2009 sales from the medical sector grew 24% compared with fiscal 2008. Primarily this was due to the addition of the Appleton operation, which contributed approximately 35% of our fiscal 2009 medical sales.

Shipments to commercial aerospace customers were just 3% of 2009 revenues compared with 8% in 2008. In actual dollars, fiscal 2009 sales from the commercial aerospace market sector declined 55% compared with 2008 due entirely to the cessation of shipments to Eclipse Aviation in the fiscal 2009 second quarter.

In terms of new business generation, bookings in fiscal 2009 were down a little more than 20% compared to our record year in 2008. Don alluded to this earlier; this weakness was primarily attributable to the industrial and natural resources market sectors, where the majority of the current business is tied to our customers' capital equipment purchases, many of which are being deferred.

We're closely watching activity in these markets for signs of recovery, but I am pleased to report that our long-term strategy for surfacing new business opportunities is helping us win major new pieces of business in the defense sector as well as winning significant new customers in a variety of commercial markets that we do business in.

We're particularly pleased about several significant defense opportunities that are currently in process and which will position LaBarge well on long-term military platforms. For example, we expect fiscal 2010 will include expansion of our involvement on the Black Hawk helicopter and further penetration on the Joint Strike Fighter or F-35 programs, as well as contract wins on some other new programs.

In addition, we're optimistic about several new relationships that we've been developing with commercial customers, most notably in the natural resources, medical and industrial market sectors.

Also exciting are the improved efficiencies and expanded capabilities that we expect to achieve from our significant investment in capital equipment during fiscal 2009. The main beneficiaries of this investment were our Tulsa and Pittsburgh operations in 2009, where we installed new manufacturing equipment to expand our printed circuit board manufacturing capabilities, among other things.

The new equipment is specifically designed for the needs of our business niche - that is, low to moderate volume production, quick changeovers and tremendous flexibility. The new production lines are already reaping benefits and improving our efficiencies, resulting in less re-work and waste.

In the current year, current quarter, we're continuing upgrades and expansions that we have under way at our Houston plant and our Joplin plant as well. We're confident that these expanded capabilities will allow us to effectively compete on new opportunities in both defense and commercial market sectors.

To summarize, although down from the previous fiscal year's levels, fiscal 2009 results were bolstered by strength in the defense and medical market sectors, excellent operating efficiencies, internal cost reductions, and the acquisition of our Appleton facility. The current business environment remains challenging and we anticipate that sales and earnings in our fiscal 2010 first quarter will be down from the fiscal 2009 fourth quarter levels.

However, on a brighter note, based on the visibility we have today, we believe that the fiscal 2009 fourth quarter and current year first quarter represent the bottom. Bookings in the first quarter are strengthening from fourth quarter levels and based on this improvement we expect that sales and earnings will follow suit beginning in the second quarter.

At this time Don and I will be happy to take any questions that you may have.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Mark Jordan - Noble Financial Group.

Mark Jordan - Noble Financial Group

I'd like to ask a question relative to compensation. Clearly, management did a very positive thing in fiscal 2009 by suspending bonuses and curtailing growth of compensation. I'm curious as to what are your compensation metrics you're using for fiscal 2010 and will you be accruing bonus-type expenses and have you increased or postponed or are you increasing annual salaries to accrue in the first quarter or are you postponing that until you see a more robust performance?

Craig LaBarge

Let me address that with respect to the salary freeze and in the case of executive officers the salary reduction that we implemented last year. Those remain in place. We are looking at activity levels and sales and earnings on a regular basis to determine when things are going to turn around. Certainly, at some point we would anticipate lifting that freeze and lifting the salary reductions, but we haven't done that yet and don't foresee doing that in the near future. We want to see solid evidence of a turnaround before we really address that topic.

Now with respect to variable compensation or incentive compensation, both long-term and short-term, in 2009 we did not pay bonuses, either short-term or long-term. The long-term incentive program, which typically calls for payment in the form of restricted stock, did not pay out. Of course, there have been no long-term or short-term incentives in the numbers in 2009 and none were paid.

With respect to 2010, we're just going to be watching that on a case-by-case basis. The metrics will be similar to the metrics that we've used in the past or they are similar to the metrics we've used in the past. Depending upon individual responsibilities in the organization, they'll be tied to everything ranging from net income or operating income, as the case may be, bookings, cash flow and a variety of other factors.

So I would say that given the forecast and comparing to the goals that it's probably unlikely that there will be long-term incentive payouts in fiscal 2010. We may reach goals that will allow us to pay bonuses on an annual basis in certain operations or in certain areas, but at this point we just have to evaluate that on a month-by-month basis and make our judgments.

Mark Jordan - Noble Financial Group

A second question relative to amortization of purchased intangibles and also overall depreciation and amortization levels. It looks like you had total D&A expense of $2.2 million in the fourth quarter. What is a normalized run rate for that in fiscal 2010? And secondly, while Appleton lost a couple hundred thousand, what's the amortization that was implicit in that loss that you posted in the fourth quarter?

Don Nonnenkamp

Appleton's amortization is about $700,000 a quarter.

One other comment I want to make about Appleton operations in the fourth quarter and for the year is that it also was negatively impacted by a bad debt charge that we certainly consider to be a one-time charge of about $230,000 pre-tax. Those two things impacted the fourth quarter for Appleton.

On an ongoing basis, our expectation is that we will have on the consolidated company depreciation and amortization of about a little less than $2.1 million a quarter.

Mark Jordan - Noble Financial Group

Relative to the pipeline you're talking about, could you talk specifically about the natural resource industry, what you're seeing from a fundamental basis there? There has been some increase or material increase, for example, in a couple of places. Has that equated to any improved pipeline for the surface mining area? And also with the bounce back from very, very low oil prices, any change in terms of what you might be hearing from Schlumberger or other participants in the oil and gas industry?

Craig LaBarge

Sure, I'll address that.

On the mining side we're really not seeing any kind of a meaningful change at this point. One would expect to see something, I suppose, as the economy improves and I think more than anything as manufacturing and construction activity would pick up, but that's still not really translating into any material or any noticeable improvement for us.

On the oil and gas side, while prices are up and certainly at what would ordinarily be considered a healthy level as far as production goes, I think the lack of real solid demand is still causing activity to remain low. We're not seeing an improvement in the oil and gas side of the business at all at this point and don't really have any good guidance from our customers that indicates that it's imminent.

Mark Jordan - Noble Financial Group

Trying to reverse engineer the segment revenue breakdown in the fourth quarter I seem to come up with the government systems and/or other category being around $7 million where it had been running about $3.5 million in the preceding quarter. Is that correct and what caused the large pop in revenue outside of your five major industry groups?

Don Nonnenkamp

I don't have that. It tends to be just whatever's not included there. I don't know why that would have been up. I don't have enough information at my fingertips right here to answer that question.

We'd be happy to research that and get back to you, Mark.

Mark Jordan - Noble Financial Group

Okay. And a final question - CapEx in 2010 and just, given that, do you have a rough sense or range of what your free cash flow generation might be in 2010?

Don Nonnenkamp

Our budgets are looking for capital expenditures that are much reduced from the '09 level, probably in the neighborhood of $5 to $6 million.

Cash flow generation - free cash flow - we're certainly looking for improved earnings. The wild card for free cash flow will be our receivables and inventories. We generated a lot of cash out of the balance sheet this year. As the business improves it's not reasonable to assume that that's going to continue, certainly on the receivables side.

So I do not expect that we're going to have a $30 million cash flow from operations number in fiscal 2010, but I certainly expect that we could have cash flow in the $20 million area assuming some modest contribution of improvement on inventory turns and no improvement or no contribution from receivables and including the additional depreciation and amortization that's running at the $2 plus million a quarter pace.

Operator

Your next question comes from Fred Buonocore - CJS Securities.

Fred Buonocore - CJS Securities

Could you talk a little bit about gross margin? You did about 18% in this fourth quarter. Clearly Appleton is a drag there. Just in the core you've got some drag, but 20% given this kind of volume decline is quite impressive. Can you parse out that consolidated gross margin and talk about going forward what we should see in the core business as volume starts to improve gradually through 2010? And then on Appleton, what's keeping the margin at the low level and when should we start seeing it approach or at least directionally go towards where the core business's gross margins are?

Don Nonnenkamp

Let me go ahead and respond to that.

With respect to Appleton, I'll touch on that one first, their margins, as you know, have continued to be well below the levels that we're accustomed to in LaBarge. We are working on that. I would say their margins are probably no worse than they have historically run. But they're suffering, too, from slightly lower sales volume than they need to effectively cover the fixed costs and even the variable production costs.

The other thing that we're doing I kind of made reference to, some investments that we're making up there in equipment, it is our plan to spend some money - not a huge amount, but a modest amount of money - this year in Appleton on equipment that we believe will have a very rapid payback in terms of improved efficiencies and that's going to show up in the gross margins as the year unfolds.

It's probably in the near term not a business where we will achieve the kind of, say, 20% gross margins that we're achieving in other parts of the business.

With respect to the rest of the business, we believe that in the core business we can achieve and still can achieve the 20% gross margin level going forward. In Q4, where volume dropped sizably as compared to previous quarters, we were hit with about roughly $2.5 million of what some people might think of as kind of under absorbed overhead or something like that, but it's basically under utilization, lower volume than we need at all of our plants to cover the more fixed component of overhead.

So that is temporary, we believe. I would say that if we didn't believe it was temporary we would be looking at some fairly significant cost reductions, again, across the company, but we really do at this moment think it's temporary and we think that we'll just have to suffer through that again in Q1 and then expect volume to begin moving in the right direction in Q2.

Craig LaBarge

Fred, let me just add one more thing about Appleton gross margin. You'll recall that we did have a step up of inventory values at the acquisition date, so fourth quarter margins at Appleton were impacted by that, basically shipping higher-valued inventory, and that cost us about $200,000 or roughly 2% of gross margin at Appleton in Q4. That stepped-up inventory, if you will, will likely have a much smaller impact. We're just about done with it, frankly, and there will be some shipments in Q1, but not to that degree.

Fred Buonocore - CJS Securities

So in Appleton is it reasonable to assume that maybe we would get to a low teens-ish gross margin at some point in fiscal 2010?

Don Nonnenkamp

I believe so, yes.

Fred Buonocore - CJS Securities

And then shifting to your market segments, your greater presence in the medical market is very interesting. Craig, can you talk for a little bit on where you're seeing growth opportunities in medical? And I know you've talked about this over the last couple of quarters, but what Appleton brings to you in terms of medical customers and opportunity and your outlook for that opportunity going forward?

Craig LaBarge

Sure. The medical market has been sort of interesting to see how that's responded in this recession. I guess we had a sense going in that it would really not be impacted by the recession. We've really seen that there is, in fact, some impact and has been some impact, and it's been a little bit of a surprise to us.

All of the growth in medical this year, if you look at the aggregate numbers, all of the growth came from the acquisition of Pensar, of Appleton. And we've got some very nice important new customers as a result of that, specifically Cardinal Health Care and Smiths Medical. We continue to nurture and maintain a very good relationship with both of them and expect over time to see some growth opportunities there.

In addition, given the fact that we have all of the proper medical certifications there and in Pittsburgh, we expect we will continue to pursue new and other opportunities on the medical side of the business.

Fred Buonocore - CJS Securities

And then shifting over to the defense market, which has really been your mainstay for the last several quarters, it actually seems like there's more opportunity. In the last few quarters' calls you've alluded to the goalie stepping out of the goal in terms of competition on defense opportunities as maybe less financially viable competitors have either just gone away or become unattractive to larger defense contractors. Are some of these defense opportunities that you're getting as a result of that or is that still a dynamic yet to play out? Can you kind of characterize where the opportunities are coming from in defense?

Craig LaBarge

Yes. They're coming largely from, although not exclusively, but largely from customers that we have established long-standing relationships with. Some of the opportunities have been directly related to the fact that certain competitors have had some difficulties, financial or otherwise, that have opened up chances for us to win business and we've been taking full advantage of that.

Others are on programs where we just keep focused on identifying new opportunities on programs that we believe will be relatively strong for the next several years or way beyond. We've continued to win more pieces of business on the Black Hawk helicopter program, a program that started with our work several years ago with Sikorsky and has continued to expand. We're very bullish on that.

And the other is the Joint Strike Fighter, the F-35, where we have just sort of quietly been working to win pieces of business on that program that we think will pay huge dividends as that program ramps up in production. Now that's going to be over a number of years, but our strategy all along has been to win a position on the program wherever we could and that continues to be the strategy because long term that program's going to be around a long, long time. The plane has been by all accounts been performing very, very well. The President's budget, the Department of Defense desire is to move that program along as rapidly as possible and ramp up production. So we're continuing to enhance our position there, we believe.

And then on top of that it's just looking for new customers that might be not necessarily a first tier prime contractor but a next level down that we can develop as important customers going forward, and we're having some success there. Hopefully we'll have some things we can specifically get permission to announce over the next few weeks and months.

Fred Buonocore - CJS Securities

That was going to be my next question. Out of all of these opportunities, some of which it sounds like you may have already been awarded or are extremely close, some of them will be publicly announceable?

Craig LaBarge

Yes, I think so. You know, we're very respectful of our customers' desires on that. Most of the time, particularly on the defense side of the world, the customers are quite willing to allow us to announce that. In fact, generally on the defense side they like the publicity. That's not always the case, but we work very closely with our customers and try to get these things announced as quickly as we can once we receive the orders.

Operator

(Operator Instructions) Your next question comes from Paul Mammola - Sidoti & Company.

Paul Mammola - Sidoti & Company

Can you comment a bit maybe on pricing during bidding right now and maybe, given the financial difficulties of some competitors, has pricing been affected there or would you categorize competitor bidding as rational at this point?

Craig LaBarge

Oh, that's just a great question. There's no doubt that there are people that are more aggressive and more maybe desperate at this point in time and it's across the board. It includes defense. People are bidding prices that are more competitive.

I think our advantage really is our performance. I really believe that we execute extremely well and we keep working and keep investing in people and in processes and in improvement in that area. We're constantly driving productivity improvements, but even beyond just productivity we're driving other performance improvements in the areas of quality and delivery reliability and turnaround time and things like that. We're adding and focusing in the engineering disciplines as a way to provide greater value to our customers and that is being well received.

So to the extent that there is bidding pressure, I think that in many respects we are able to be competitive because we continue to drive improvements in our own operations and drive down costs and really work more closely with the customer.

It's a challenging time and certainly pricing is more important to many customers today than perhaps it was two years ago because they're feeling the strains in their business. Our view is that we just need to be able to respond to that and we do, either proactively or reactively, but try to respond to that with our key customers.

Paul Mammola - Sidoti & Company

And then you talked a lot about new customers and projects, but at this point would you categorize the majority of your bookings and backlog as more follow-on work at this point?

Craig LaBarge

Boy, let's see. I haven't really analyzed the backlog in that regard. I'd say we have certainly in the pipeline a lot more new customers. Our strategy even on the military side is to be really real focused on new customers, but on the military side it's also just more the program, you know, identifying those programs that we really want to be on that are going to generate business for the long haul.

On the commercial side in the various commercial markets, if I can use that term commercial term sort of in a general way, even in sectors of the commercial markets that are relatively depressed our focus is on winning customers now. So even if the volume is not significant at this point, if it's the right customer we want to win a position and we want to establish a relationship so that when that business does turn around, whether it's next quarter or next year or even further out we will be positioned to take advantage of that.

So in many cases we've got what could be significant new customers or potential customers in some cases that we're working with even though we know that it's not going to have a significant impact on our sales next quarter or the quarter after even but just to get positioned properly with the right new customers or other divisions of existing customers so that when things do turn around we'll be able to take advantage of it.

Paul Mammola - Sidoti & Company

And then finally, Don, just to reiterate, there was approximately $200,000 in a one-time debt charge, a bad debt charge, and then $200,000 associated with the write up of inventory, correct, in 4Q?

Don Nonnenkamp

Yes, for Appleton, yes.

Paul, one other point I want to add to Craig's comments. You know, I mentioned earlier that $10 million of capital expenditures - which is a high number for us, much higher than what we've done in the past. Those expenditures were made with the confidence of positioning the company to strengthen our capabilities for a recovery in the markets generally. So that's a further indication of where we see our strengthened position in terms of our offering to our customers and our potential customers going forward, all to gain market share at the expense of others, obviously, but also just to say that we have a broader range of capabilities and a more complete package that we can offer our new customers and our prospects.

Operator

Your next question comes from Fred Buonocore - CJS Securities.

Fred Buonocore - CJS Securities

I just wanted to follow up as it relates to both the new opportunities and gross margin.

And not to be a wet blanket on all these new opportunities that are very exciting, but one of the things that drives your gross margin is the phase that different projects are in or different contracts are in, I guess, as you ramp up and get more productive. Are we going into something here where we might see a big slug of new work from new customers and new work from existing customers where you'll be ramping up new capabilities and trying to get more efficient and we might see a noticeable hit to gross margin because of that? I mean, basically, in short saying will there be kind of a mix shift-driven decline in gross margin or do you not really see it occurring that dramatically?

Craig LaBarge

Let me go back to a few years ago. I don't remember exactly how many years ago it was, but when we were ramping up we talked about significant new customers and the impact on margin and difficulties with the start up and all of that several years ago.

I will just tell you most of that was related to or a significant part of that was related to our initial wins on the Black Hawk helicopter with Sikorsky. We had a very difficult time with that start up. It was substantial. And then we had a couple of others where we just felt like we didn't manage the start up as effectively as we could have.

We have invested heavily in the business since that time in terms of capabilities in the area of lean and operational excellence and quality, and we have developed and implemented processes and systems that we believe are dramatically improved over four or five years ago. So that we think will allow us to handle new program introduction, new model introductions in our plants, far more effectively at far lower risk than in the past.

So the answer is undoubtedly we will see some - I think it's undoubtedly - we'll see some impact. There may be a modest impact on margins, but I don't think it's going to take us down dramatically. I really think that the kind of things that we're doing, I mean, we're literally doing lean engineering, lean manufacturing exercises on jobs before we start production instead of in the past when we had a major start up you get into production and you start it up and then you see that things aren't going according to plan and then you start addressing it.

So we're just doing some things that are just I really think far better and far more advanced than we were doing five years ago and it's going to help us digest new business and get it up and running far more effectively.

Fred Buonocore - CJS Securities

Just shifting to another market segment, commercial aerospace, with Eclipse now behind us, is this kind of just a category or a market sector that's going to remain sort of in the background for you for the time being or are there opportunities in commercial aerospace that you could exploit as well?

Craig LaBarge

I think in the near term, the next several quarters, certainly, it's going to stay small. We're looking at some opportunities, we're pursuing some opportunities, but they're longer term. We do not see commercial aerospace being a major market sector for us for the near term.

Now with respect to Eclipse, there was an announcement very recently, just within the past I guess, a week or so ago, that there is a company that has acquired the assets out of bankruptcy or at least its been approved by the judge - made an offer and the judge approved it.

So their strategy is to initially work on the 260 some planes, 258 or 260 planes that have already been built and delivered, to upgrade them to the latest configuration, and we expect there will be some modest amount of business for us there over the course of the next year or so. Nothing too dramatic, but we still, as we thought, may have an opportunity to get some modest recovery on the inventories that we still have or that we still retain. It'd just be a little, again, a relatively modest amount. But there could be some opportunity in the long run if they start production again.

Fred Buonocore - CJS Securities

And then finally on acquisitions, have we reached a point now with Appleton where we're going to just continue to integrate that and not really look for additional acquisitions or, to the extent you find something equally as attractive as Pensar, you're in a position to and have the appetite to do another transaction of that nature?

Craig LaBarge

We certainly don't have anything imminent right now, nothing that we're looking at or that's on the drawing board.

I think the kind of thing we would be conceivably interested in right now would be the kind of opportunity where we could - and these would be few and far between, I'm afraid - but the kind of opportunity where we could pick up business and move it to our existing plants. We have a lot of capacity in our existing facilities now and to the extent that we could find situations where there's good pieces of business that we could quickly transition into our own facilities, it would have a very positive impact on profitability.

So that's the kind of thing, if something like that came along, we'd be very, very interested, but at the present time we really don't have any active work going on on acquisitions that we expect would impact 2010.

Fred Buonocore - CJS Securities

Got it. So to the extent free cash flow is generated going forward that would be most likely to be put for debt reduction?

Craig LaBarge

Yes.

Don Nonnenkamp

Yes.

Operator

And, gentlemen, at this time there are no further questions in the queue. Please continue with any closing comments that you may have.

Don Nonnenkamp

Before Craig picks up the closing comments, I just want to clarify.

Paul Mammola asked me the question about the step up on Appleton, and I want to make sure I'm clear. The $200,000, roughly $200,000 - $220,000 of step up of Appleton inventory was over the last six months, not the last quarter. I might have misspoke there or led you to believe that that was a fourth quarter event. That was a six-month event. So we had a gross margin decrement in Appleton over the last six months of about $200,000 - $220,000.

Back to Craig.

Craig LaBarge

Okay. Well, thanks.

I want to thank everyone for joining us today and for your continued interest in LaBarge and support of LaBarge.

We hope that you will again join us when we announce the results for our fiscal 2010 first quarter in late October. In the meantime, if you have any questions please don't hesitate to contact Colleen Clements, our Director of Corporate Communication, who I'm sure all of you know.

Again, thank you and have a good day.

Operator

Ladies and gentlemen, this does conclude the LaBarge, Inc. fiscal 2009 fourth quarter earnings conference call.

If you would like to listen to a replay of this conference you may do so by dialing either 1-800-406-7325 or for international participants 303-590-3030. You will need to enter the access code of 4106220. Those phone numbers once again are 1-800-406-7325 or 303-590-3030, with the access code of 4106220.

Again, we do thank you for your participation in today's call. You may now disconnect your lines at this time.

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Source: LaBarge, Inc. F4Q09 (Qtr End 6/28/09 Earnings Call Transcript
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