Jim Thyen - Chief Executive Officer
Bob Schneider - Chief Financial Officer
Sean Connor - BB&T
Kimball International, Inc. (KBALB) F2Q10 (Qtr End 12/31/2009) Earnings Call February 5, 2010 11:00 AM ET
At this time I would like to welcome everyone to the Kimball International second quarter fiscal 2010 financial results conference call. (Operator Instructions)
As with prior conference calls, today's call, February 5, 2010, will be recorded and may contain forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Risk factors that may influence the outcome of forward-looking statements can be seen in the Kimball Form 10-K and today's release.
The panel for today's call is Jim Thyen, President and Chief Executive Officer of Kimball International, and Bob Schneider, Executive Vice President and Chief Financial Officer.
I would now like to turn today's call over to Jim Thyen.
Welcome everyone to our second quarter conference call. We hope you had an opportunity to review our earnings release issued this morning on the results of our second quarter ended December 31, 2009. As in our last conference call, our format today will start with my overview comments on the quarter, followed by Bob's financial review. We will then open the call to your questions.
At our last conference call I mentioned that we are seeing positive signs in our EMS markets and that our outlook for the furniture markets remain tentative and uncertain for the remainder of our calendar year. Now, three months later, we continue to see much of the same. Our electronics business is gaining momentum and I am very happy to note that our sales volumes have increased sequentially over each of the last three quarters.
We have had several new customer wins recently and hopefully you have seen those press releases. These wins give us greater optimism, but it's important to note that the new programs contributing to the increase in electronic sales over the last three quarters are not the wins we recently announced. The current sales increases are the result of effective business development work in the previous fiscal year. We are pleased with the work that has been done by our electronics team to put us in this position of sequential revenue growth and profitability in the second quarter just ended.
We are continuing to see positive trends with our customers in all four EMS verticals. Bob will talk more about the electronics results and progress.
Our furniture business is continuing to feel the effects of the depressed economy, and the many components which reduce corporate demand for new office furniture and hotel demand for new hospitality furniture. Our sales of furniture products have declined sequentially in our second quarter and also compared to a year ago. We are very pleased with the work that is being done by our furniture teams in controlling costs, improving productivity, and maintaining high standards of quality and reliability performance during these difficult and volatile economic times.
The economy appears to have reset. Improvements remain spotty with some verticals improving and some continuing the descent. I view the economy and its relationship to our markets as stable, but fragile, and our visibility quite short. Office furniture verticals showing continued strength are the government, education, and healthcare. Seasonality continues to be a normal element of the market. Consumption continues to be driven by a strong preference for value.
The hospitality markets continue to be depressed along all price points. On a consolidated basis our sales in the second quarter were relatively stable, compared to the previous three quarters. We will make that a bit clearer for you today with our comments and by answering any questions you may have.
We spoke during our last call about the automotive industry showing demand improvement during the first quarter of our fiscal year. It was mostly driven by the cash for clunkers program in the US and a similar program in Europe. During the second quarter we continue to see improvement in this market, but at lower volumes than what we had seen in prior years. We are happy to see improvement in this important Kimball market.
The EMS medical market continues to show stability and strength. Our growth in this vertical market over the last couple of years is the result of our customer and program diversification strategy. This is our largest EMS market. Quoting for new business and new customers remains strong.
The EMS industrial market is showing pockets of improvement for us due to new customer wins, along with the effect of the tax credits provided to consumers who replaced heating and air-conditioning units with high-efficiency units meeting the greater SEER ratings. Quoting activity is increasing in this vertical.
The EMS public safety market shows stability and optimism. It remains an important aspect of our growth, margin improvement, and diversification goals.
Regarding our furniture markets, occupancy rates of commercial properties and hotels, RevPar rates in hotels, commercial real estate values, and the availability and cost of commercial loans are all key factors keeping the outlook tentative and uncertain for the remainder of this calendar year.
As you know, furniture purchases are more discretionary in nature and more deferrable than some other products. Experience of the past is that, typically improvement in the economy does not manifest into improvement in these markets until several quarters into the future. That is why we are cautious as to the timing of volume improvement.
Key metrics we are closely monitoring are, the unemployment rate, which is now slightly under 10%. the underemployment rate is estimated to be slightly under 17%, commercial property values, and commercial lending activity. Our sense is that there will have to be marked improvement in these indicators before consumers and companies gain the confidence in their business that would lead to increased furniture purchases.
As our industry had significant excess capacities, we expect the competitive pressures in both hospitality and commercial office furniture markets to remain very intense over the remainder of this calendar year and possibly beyond. We continue our strong actions in the second quarter to conserve cash, manage our liquidity, and continually improve our cost competitiveness. At the same time, we are promoting growth in those vertical markets, which are showing some signs of stabilization and beginning of recovery by strengthening our distribution channels, building upon our customer relationships, and continuing to invest prudently in new product introductions.
While the economy seems to have stabilized, we will continue to have risk of customer bankruptcy, which can impact our accounts receivable and potentially drive excess or obsolete inventory risk. Additionally, there is financial and operating risk with suppliers that could disrupt supply chains. These are areas being closely managed and monitored to reduce our exposure. At this time, we believe, we have adequately reserved for these risks.
With that, I'd like to turn the call over to Bob to discuss our second quarter results in more detail. Bob?
We reported today net sales in the second quarter of $275.2 million, which is a decrease of 16% from the same quarter of the prior year. The decline, as I mentioned in our last call, was very swift in our second and third quarters of last fiscal year, and while at a much lower level, it is good to see our quarterly sales were actually up slightly sequentially each of the last three quarters.
Our EMS segment net sales were flat compared to the second quarter of last year, and have also shown improvement sequentially over each of the last three quarters. We saw improvement compared to a year ago in the automotive market, which offset declines in the industrial controls and public safety, resulting in our sales being flat in the EMS segment compared to the second quarter of last fiscal year.
The furniture market was down 33% from last year and about half of that decline occurred in the second and third quarters of last year. We've had a trend of reduced quarters since then, with the quarter just ended being the lowest furniture sales level during that time. Jim spoke of the overall economy and how furniture purchases tend to be deferrable.
As companies have focused on conserving cash and liquidity, it is clear that many are still deferring purchases of furniture along with other capital expenditures. Within our furniture our segment the mid-market office furniture brand has declined at a lesser rate than the contract market brand.
With declining RevPar rates in the hospitality industry, that's revenue per available room, which was down 16.9% for calendar year 2009, hotel operators have been hard-pressed to build or even complete in some situations new hotels and also hard-pressed to refurbish existing hotel venues, which has put significant pressure on our Kimball hospitality brand.
Based on our recent order trends, we expect the decline in furniture sales to continue into the third quarter. Recall that governmental sales tend to be seasonal and our third quarter is generally comprised of less government business.
Our consolidated gross profit as a percent of net sales was 16% in the second quarter, which was down from the prior year's 17.2%. We do not like to see this decline, but it is important to note that we saw improvement in our gross profit margin in both segments. The reason for the decline in the consolidated measure is what Jim mentioned earlier, our electronics segment is gaining traction with improving sales, while the furniture segment continued to decline. Consequently, since the electronic segment has much tighter margins, the mix of sales change had the effect of lowering our consolidated gross profit percentage.
We have taken decisive action in our units to reduce costs, and so in spite of the lower volumes we have been able to increase select margins in both segments, which is great and very difficult to do when sales are low and we lose leverage on our fixed cost structure.
It is important to note that we have removed manufacturing capacity since last year, but not to the extent that sales have declined. Our team members have been very focused on cost innovation over this past year, looking for innovative ways to serve our customers, but in new and less costly ways. As a result of that is a 10% reduction in selling and administrative expense exclusive of the SERP, which I will talk about in a minute.
During the second quarter we received $3.3 million pretax income related to an anti-trust class action lawsuit of which Kimball was a class member. The class action alleged the defendant sellers illegally conspired to fix prices several years ago. This was recorded in the other general income line on our income statement.
Last year the income reported in the other general income line primarily related to a gain on the sale of our undeveloped land holdings and timberlands.
Non-operating income expense in our P&L was income of $716,000 in the second quarter, compared to an expense of $3.9 million in the same quarter of the prior year. There are several components that comprise the large swing from last year's expense to this year's income, the largest being $2.7 million of improvement from our SERP retirement account.
As we have discussed in the past, when the general stock markets increase it tends to drive SERP expense in our reporting of selling and administrative costs. I need to remind you though that we have exactly offsetting income in non-operating income expense in our P&L, with no effect on profits. It is important to remove the SERP amount from our gross selling and administrative expenses to get a good read on changes in our cost structure, and that is why I made reference earlier to cost structure changes excluding SERP.
On a segment basis our furniture segment had a loss of $996,000 in the second quarter or a 33% decline in revenue from the prior year. Jim mentioned that the electronics segment has been gaining traction and it shows with it reaching profitability in the second quarter, even excluding the class action lawsuit proceeds I mentioned earlier. It is the first profit in the electronics segment in nine quarters.
Our cash and short-term investment position less borrowings on our short-term credit revolver at December 31, 2009, was a healthy $62.3 million. Our operating cash flow in the second quarter was an outflow of $16.3 million and that compares to a cash outflow of $1.1 million in the second quarter of last fiscal year.
Additionally, we continue to have almost no long-term debt, which stood at $349,000 at December 31, 2009, and continues to be extremely low.
With that, I'd like to open up today's call to questions from analysts.
(Operator Instructions) Your first question comes from the line of Matt McCall with BB&T.
Sean Connor - BB&T
This is Sean Connor for Matt. I just wanted to get may be some clarity on the lack of I guess stabilization that you talked about in the furniture business. I wanted to see if there is anything different that you guys are seeing on the project side and the day-to-day side? Then may be also some commentary on what the pricing environment is looking like right now, any sort of color you can talk about in those items?
In terms of the business activity in the furniture, certainly we are seeing projects that are being delayed. Generally there is a pattern. It seems in the industry that customers and clients, uncertain about their business outlook, tend to push out the shipment date for their projects. We are generally seeing projects in scope to be smaller than a year ago, physical size of the projects that are being asked to be quoted on or being awarded. There is some activity in the marketplace to refurb or to look at used product as opposed to new.
It seems all to be grounded in availability and the cost of financing, as well as the uncertainty of the outlook as we look at all the debates that are occurring in our nation. So, it's kind of a tentative situation and the horizon and the vision is relatively short, 60 to 90 days. Beyond that there is a lot of uncertainty.
In terms of the question there on pressure, clearly there is a lot of available capacity in the marketplace. Not only available capacity at Kimball, but at all of the players in the marketplace. There is a strong desire, need to fill that capacity, cover those costs and so that manifests itself in pricing pressures to win the fewer projects and the smaller projects that are out there.
Sean Connor - BB&T
You talked about the projects being delayed and pushed down, are you seeing an increased level of cancellations or just the delay of these opportunities?
No, we are not seeing cancellations. We are just seeing move-outs on the requested delivery date.
(Operator Instructions) I would now like to turn the call over, back to Mr. Jim Thyen.
That brings us to the end of today's call. There continues to be a lot of economic uncertainty on the horizon and what improvement there has already been in the economy is quite fragile. At the same time at Kimball, we believe we are well-positioned with strong brands, strong businesses, and a strong balance sheet to take advantage of market opportunities as they arise. We appreciate your interest and we look forward to speaking with you on our next call. Thank you. Have a great day.
Ladies and gentlemen, this concludes your conference. You may all disconnect. Have a great day.
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