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Lydall (NYSE:LDL)

Q3 2013 Earnings Call

November 04, 2013 11:00 am ET

Executives

Robert K. Julian - Chief Financial Officer and Executive Vice President

Dale G. Barnhart - Chief Executive Officer, President, Director and President of Global Automotive Business

Analysts

John Walthausen

Operator

Good day, and welcome to the Lydall Third Quarter ended September 30, 2013 Earnings Release Conference Call and Webcast scheduled for 11/4/13. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Mr. Robert Julian, Executive Vice President and Chief Financial Officer. Please go ahead.

Robert K. Julian

Thank you, operator, and welcome everyone to our third quarter 2013 earnings conference call. I will start off by taking you through the financial highlights for the quarter, and then will turn it over to Dale Barnhart, Lydall's President and Chief Executive Officer to talk about our operational results by business. So that you can follow along, I will be referring to the PowerPoint presentation titled Q3 2013 Earnings Conference Call, which you can find at lydall.com in the Investor Relations section.

On Page 2 of the presentation is a reminder about forward-looking statements. Please note that any information discussed in this presentation that may be forward-looking in nature is made available pursuant to the Safe Harbor provision for forward-looking statements as defined in the securities laws. Lydall's businesses are subject to a number of risk factors that may cause actual results to differ materially from those anticipated in the forward-looking statements. For information identifying some of these important risk factors, please refer to Lydall's reports on Form 10-K and Form 10-Q under cautionary note concerning forward-looking statements, as well as risk factors.

With that, I'll be turning to Page 3 of the presentation to cover the Q3 2013 financial highlights. Q3 2013 net sales were $98.0 million, an increase of 4.1% versus Q3, 2012, when net sales were $94.2 million.

Operating income for the quarter was $7.4 million or 7.5% of net sales compared to operating income of $5.2 million or 5.5% of net sales in Q3 2012. Net income for the quarter was $4.6 million or $0.27 per diluted share compared to $3.9 million or $0.23 per diluted share in Q3 2012.

The third quarter 2012 included a benefit of $0.03 per diluted share, due to the reversal of valuation allowance on foreign tax credit carryovers.

Finally, we ended the quarter with $60.0 million of cash. This includes the impact of $6.1 million in cash used for year-to-date to repurchase more than 423,000 shares of Lydall common stock, under our share repurchase program.

Turning to Page 4 of the presentation, I will review our summary statement of operations for Q3 2013 versus Q3 2012. Again, consolidated total net sales increased 4.1%, driven by increased sales in the Thermal/Acoustical Fibers segment that was a result of higher consumer demand on Lydall's existing platforms, and tooling sales for new platforms. These sales increases were partially offset by lower sales for the Performance Materials segment driven by lower demand for Industrial Filtration products, and lower net sales for Industrial Thermal Insulation products due to the divestiture of the electrical papers product line in the prior year.

Gross margin of 20.9% improved 45 basis points when compared to Q3 2012. This improvement was primarily driven by the Thermal/Acoustical Metals segment that experienced lower raw material costs, improved fixed cost absorption and favorable mix between high-margin parts sales and low margin tooling sales.

Operating income margin improved 200 basis points to 7.5% in Q3 2013, when compared to Q3 2012. This improvement is primarily related to the items I just mentioned, as well as lower selling product development and administrative expenses.

Q3 2012 included $1.7 million of expenses related to severance, recruiting and strategic initiatives. This was partially offset by higher salary and benefit expenses in the current quarter.

In addition, Q3 2012 included a $0.5 million unfavorable pricing adjustment in the Thermal/Acoustical Metals segment.

As noted earlier, reported diluted earnings were $0.27 per share compared to $0.23 per diluted share in Q3 2012. Third quarter 2012 included a benefit of $0.03 per diluted share, which was the reversal of valuation allowance on foreign tax credit carryovers.

Turning to Page 5 of the presentation, you will see our summary balance sheet as of September 30, 2013, and December 31, 2012. Consistent with the approach I've taken in previous quarters, I will not go through all this information in detail, but will highlight our continued strong cash position of $60.0 million as of September 30, 2013. The decline in cash versus 2012 year end is primarily due to changes in working capital, capital expenditures and share repurchase activity. The changes in working capital relate to an increase in accounts receivables, as well as inventory. The increase in accounts receivables is primarily due to the timing of sales and the longer collection cycle for tooling receivables.

Higher inventory is primarily driven by $5.5 million of tooling as our Automotive business is prepared to support future production. As I mentioned earlier, $6.1 million has been used year-to-date to repurchase more than 423,000 shares of Lydall common stock under our share repurchase program.

Finally, as you can see, based on the chart on the right-hand side of the page, Q3 2013 inventory and receivables days performance are slightly unfavorable, when compared to the third quarter and full-year 2012 results, primarily driven by the increased amount of tooling in our Thermal/Acoustical Metals and Fiber segments.

Page 6 details our statement of cash flows. Again, just covering the highlights. The use of cash in 2013 was driven by the change in working capital, and share repurchase activity I just discussed. Year-to-date, capital expenditures for 2013 were $9.5 million, and we anticipate full year capital expenditures to be in the range of $14 million to $15 million.

With that, I would like to turn it over to Dale Barnhart, Lydall's President and CEO to discuss our operational results by segment in more detail. Dale?

Dale G. Barnhart

Thank you, Robert, and good morning, everyone. First, I will start by taking you through the results of our Performance Materials segment on Page 7. Sales declined nearly 10% in Q3 2013 compared to Q3 2012. Quarter-over-quarter decline was primarily due to lower Industrial Filtration net sales, and to a lesser extent, over net sales of Industrial Thermal Insulation and Life Science Filtration products.

Sales in the Industrial Filtration division were lower primarily due to decreased global demand for air filtration products. As we have discussed in prior quarters, the decrease in Industrial Thermal Insulation sales is caused by the divestiture of the electrical papers product line in a prior year. Sales for this divested product line were $1.1 million in Q3 2012. In addition, in Q3 2013, we experienced higher demand for products used in cryogenic applications.

Sales declined in Life Sciences Filtration business, primarily due to lower demand for respirator applications. Decline in operating income in Q3 2013 compared to Q3 2012 was primarily due to reduced revenues, unfavorable absorption of fixed cost, as well as product mix offset to some extent by lower selling, product development and administrative expenses.

Turning to Page 8 to look at our Thermal/Acoustical Metals segment. Part sales increased 5% in Q3 2013 compared to Q3, 2012, driven by increase in demand for products in North America, and a relatively flat demand for products in Europe, as well as favorable foreign currency translation in the current quarter. Tooling sales were lower this quarter and more in line with historical levels as Q3 2012 tooling sales were higher than normal.

The increase in operating margin for the segment in Q3 2013 compared to the same period in 2012 was attributed primarily to reduced raw material cost from lower aluminum pricing. Improved absorption of fixed overhead cost due to higher inventory levels in anticipation of new platform launches and favorable mix in sales between parts and tooling, as part sales typically result in a higher gross margins compared to tooling.

Additionally, a $0.5 million non-recurring unfavorable pricing adjustment, which occurred in Q3 2012, contributed to the increase in operating income when comparing Q3 2013 to Q3 2012. Lastly, our expansion into China, which will better position this business to serve the local automotive market is on track, and we anticipate that manufacturing facility will be fully operational in the first half of 2014.

On Page 9 is the summary of our Thermal/Acoustic Fibers business. Fiber parts sales grew 13.4% in Q3 2013 compared to Q3 2012, driven by higher consumer demand for vehicles on Lydall's existing platform, and from sales of parts on new platform awards. As you can see, tooling sales in this segment increased significantly driven by the timing of new product launches.

Operating income increased 210 basis points to 16.7% in Q3 2013 compared to Q3 2012. This increase is primarily attributed to higher net sales, improved absorption of fixed cost, favorable raw material pricing and manufacturing efficiency improvements related to improved material usage and reduced labor cost.

Turning to Page 10 to look at our Other Products and Services, which comprises the Life Sciences Vital Fluids business, sales were down 4.9% in Q3 2013 compared to Q3 2012, driven primarily by lower volume in bio-processing net sales.

Decline in operating margin is primarily due to increased selling cost associated with the distribution of CELLution Biotech and protect equipment advanced of orders as these initiatives ramp up.

Concluding with our summary on Page 11, overall, I am pleased with the consolidated results for the third quarter of 2013, as the business continued to improve operating performance. The softness that we experienced earlier in the year in Europe has subsided, and we expect that the global demand for products to remain stable in the final quarter of 2013. We, however anticipate that operating results in the fourth quarter will be impacted by an unfavorable shift in product mix and absorption of fixed cost.

We remain focused on increasing margins in all of our businesses throughout -- through our Lydall's Lean Six Sigma continuous improvement program, and remain committed to funding organic growth programs, capital investments and pursuing strategic growth opportunities. With that, I will be glad to open up to any questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from John Walthausen of Walthausen & Co.

John Walthausen

I was just wondering whether you could elaborate a little bit about what's happening in the Industrial Filtration market? You commented that air filtration demand has been declining. And of course that sector of your business has been in decline for quite a few quarters now. What's behind this?

Dale G. Barnhart

Well, we've seen general softness in Asia, as we came in to the year and it continued for most of the year. Seeing some indication that, that may be stabilizing now. Europe was soft for the first part of the year, and in North America it was soft again in air filtration. It's hard to predict, how demand comes to us in those segments, and that there's so many channels of distribution between the OEM who buys from us and them. And they react a lot to the general economic conditions. Our sense is that it's pretty much stabilized now. Also going forward, other than normal seasonality, we should see some return to some growth in that segment. In other areas, such as our Fluid Power, we're actually seeing some improvement. And Life Sciences were down. Filtration, principally because of a respirator business that tends to be more of a spot buy when there's a surge in demand due to different environmental issues.

John Walthausen

Right. But as you talked to the customers in the channel, did you get the sense of whether it's basically industrial applications, or semiconductor, pharmaceuticals? Or where you're seeing the weakness in filtration?

Dale G. Barnhart

Well, Asia's been principally -- and the semiconductor and flat panel fab, capital investments in that area, which really drive the clean spaces. So, that's the predominance of the impact there. In Europe, it's again not so much of a clean room, but its just a general Industrial Filtration, and the overall weakness of the European economy. And in the U.S., it varies a little bit by customers and some of the customers, of some of our customers are not doing quite as a strong this year as they did last year.

Operator

[Operator Instructions] As we have no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to Mr. Dale Barnhart for any closing remarks.

Dale G. Barnhart

We thank everyone for participating in the call today and we look forward to giving the full year results as we go into 2014. Thank you.

Operator

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

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