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Tennant Company (TNC)

Q1 2010 Earnings Call Transcript

April 22, 2010 11:00 am ET

Executives

Tom Paulson – VP and CFO

Chris Killingstad – President and CEO

Analysts

Ted Kundtz – Needham

Seaver Wang – HFP Capital Markets

Joe Maxa – Dougherty & Company

Rob Crystal – Goldman Sachs Asset Management

Zahid Siddique – Gabelli

Operator

Good morning and thank you for participating in Tennant Company's first-quarter earnings conference call. This call is being recorded. If you do not wish to participate, you may disconnect at this time. (Operator Instructions) We ask that you remain online for closing remarks by management after the question-and-answer session. Beginning today's meeting is Tom Paulson, Vice President and Chief Financial Officer for Tennant Company. Mr. Paulson, you may begin.

Tom Paulson

Thanks, Rachel. Good morning, everyone and welcome to Tennant Company's first quarter 2010 earnings conference call. I'm Tom Paulson, Vice President and Chief Financial Officer of Tennant Company. With me on the call today are Chris Killingstad, Tennant's President and CEO; Pat O'Neill, our Treasurer; and Karen Durant, our Corporate Controller.

Our agenda today is to review Tennant's performance during the quarter and our outlook for 2010. First, Chris will brief you on our operations and then I will cover the financials. After that, we will open up the call for your questions.

Before we begin, please be advised that our remarks this morning and our answers to questions may contain forward-looking statements regarding the company's expectations of future performance. Such statements are subject to risks and uncertainties and our actual results may differ materially from those contained in the statements. These risks and uncertainties are described in today's news release and the documents we file with the Securities and Exchange Commission. We encourage you to review those documents, particularly our Safe Harbor statement, for a description of the risks and uncertainties that may affect our results.

Additionally, on this conference call, we will discuss non-GAAP measures that include or exclude special or non-recurring items. For each non-GAAP measure, we also provide the most directly comparable GAAP measure. Our release includes a reconciliation of those non-GAAP measures to our first quarter 20009 GAAP results. Our earnings release was issued this morning via Business Wire and is also posted on the investors section of our website at tennantco.com.

At this point, I'll turn the call over to Chris.

Chris Killingstad

Thank you, Tom and thanks to all of you for joining us this morning. Today, I'll discuss the highlights of the 2010 first quarter and our strategic priorities. To began, I'd like to share with you an honor that Tenant just received.

PepsiCo fleet North America named Tennant supplier of the year last week, during a lunch in with about 1,000 PepsiCo employees. Of the 1,200 vendors that PepsiCo works with, Tennant was one of just five vendors. PepsiCo chose Tennant because of our outstanding sales and service report, innovation, sustainability and quality of products. We are proud to receive this recognition from one of our larger customers.

Turning now to our financial performance, we probably all saw our April 12 pre-release. Tennant pre-announced stronger than expected first quarter results and increased sales and earnings guidance for the year. We were delighted to share that news.

In the first quarter, our net sales increased 16.7% with sales rising in nearly all geographies. Notably, Tennant's organic mix of net sales which exclude the impact of foreign currency, grew approximately 12%. This was the second consecutive quarter that we have posted year-over-year organic sales growth.

While organic sales in EMEA were down 2%, we were pleased with the 18% organic sales gains in both our Americas and Asia-Pacific regions. The higher sales volume coupled with our continued emphasis on controlling and improving our cost structure led to increase gross margins and earnings per share.

Gross margins rose 150 basis points to 42.5%, up from 41% a year ago and our first quarter earnings per share totaled $0.21 versus an adjusted loss of $0.04 in the prior year quarter. The company generated $14.1 million in cash from operations in the quarter and we ended the 2010 first quarter with total debt of $33.1 million, down from $91.9 million at the end of the prior year quarter.

Now, I'd like to take you to the factors influencing our strong notes. Tennant's first quarter double-digit sales gains were cheaply driven by continued demand for our proprietary easy water technology platform as well as sales to our strategic account customers. Many of these customers have recently designated Tennant as a preferred supplier.

As you are aware, our proprietary and environmentally friendly ec-water platform converts plane tap water into a powerful cleaning agent without any added chemicals. This industry-leading technology continues to gain momentum in the marketplace. We believe and I think our results are beginning to back us up on this that ec-water gives Tennant a significant competitive advantage.

For customers with large fleets of cleaning machines, the cost to switch suppliers can be high but in many situations already, the benefits of ec-water have been compelling enough to motivate a shift to Tennant. We are pleased with the increased sales to our strategic account customers and building service contractors.

Our first quarter results benefited from the significant number of orders, we received from existing strategic accounts and new ones that we signed throughout 2009. These new customers include many national and global big box retailers and consumer goods companies.

Additionally, in the 2010 first quarter, we wanted new contracts as the preferred supplier for two other large national retailers. Also in the first quarter, we signed ISS as a new global customer, based on our ability to enhance their green cleaning efforts. ISS is a global building service contractor that operates in 53 countries. It is one of the world's largest facility management companies. The social, economic and environmental benefits of ec-water became clear to ISS in multiple pilots leading to this agreement.

We already see increased demand from their operations despite the fact that this contract is very new. Clearly, our sustainable ec-water cleaning technology is a true market differentiator for Tennant. By mid-year, we will have ec-water on all of our targeted 14 scrubbers. We continue to demonstrate success in chemical-free cleaning with our proprietary ec-water technology.

If you recall that ec-water has only been on the market for about 22 months. Since we first introduced it, we have brought a great deal of our capabilities of water cleaning technologies. We now believe we can develop electrically activated water into a chemical free cleaning technology platform. We think this platform is potentially relevant in a broad array of markets and applications.

The platform has two equilibrium important benefits. First is scalability. We have created an electrolyzed water cell large enough to be used in our scrubbers and we have figured out how to miniaturize it so that it fits into the head of a spray bottle. We now believe we can package the technology and adapt it to a wide array of cleaning devices.

This will help us achieve our goal to clean more of a customer's environments in more environmentally friendly ways. The second platform benefit is performance. We know that ec-water are scrubbers, delivers great cleaning results. Our license technology on the active ions spray bottle has been enhanced to the point that the EPA has approved it as a sanitizer.

It kills 99.9% of common household bacteria including e-coli, listeria and salmonella and it inactivates the H1N1 virus. Additionally, Tennant is exploring the possibility that ec-water technology can be further developed to act as a disinfectant. We are excited about this prospect.

We plan to leverage our ec-water technology platform in three phases. First, we are in a process for extending ec-water to all relevant existing products. The goal is to accelerate sales and market share growth in our current markets.

Second phase involves cleaning more of our customer spaces in more environmentally friendly ways. We currently have research studies and tests underway with key customers in North America and Europe to determine how best to leverage ec-water in most, if not all of our customers cleaning applications.

The third phase is to develop new markets and new applications. We recently launched the new ORBIO brand. To build on our success today with ec-water, to support or move into new chemical free cleaning markets, applications and products and to help set the standard for sustainable cleaning around the world. To accomplish these objectives, we now have a dedicated ORBIO technology's team, who are charged with figuring out how best to capitalize on our opportunities.

This requires a higher level of R&D investment this year. As we previously stated, our planned R&D spending levels for 2010 will approach 4% of sales. We believe that we have the ability to leverage our technology platforms to profitably expand beyond our traditional business. It has been Tennant's legacy to successfully evolve.

We are known as a technology innovator with a growing reputation for environmentally sustainable cleaning solutions. In fact, in keeping with our mission, we are finalizing our first corporate sustainability report that outlines our efforts through 2009 to create a cleaner, healthier better world. We plan to post this report on Tennant’s website in the next few weeks and I hope you will find it interesting.

Moving forward, we remain focused on efficiently running the business as well as positioning the company to capitalize on our exciting growth opportunities. In the process, we are directing our resources against three strategic priorities to drive process improvement and operational efficiencies.

Two, we invigorate the large equipment portfolio and to build a sizable robust chemical-free cleaning business. I look forward to keeping the apprized of our progress against our vision and our strategy.

Now at this point, I’ll ask Tom to review Tennant’s financial results and outlook. Tom?

Tom Paulson

Thank you, Chris. In my comments today, all references to earnings per share are on a fully-diluted basis. As Chris noted, we’re pleased with the company’s performance which represented a significant turnaround from a year ago.

For the first quarter ended March 31, 2010, Tennant reported net earnings of $4.1 million or $0.21 per diluted share, on first quarter net sales of $150.1 million. In the year ago quarter, Tennant reported a net loss of $41.7 million or a $2.29 loss per diluted share, on net sales of $128.6 million.

The year earlier loss included the goodwill impairment charge of $43.4 million or a $2.32 loss per share and a $1.3 million benefit from a restructuring charge reserve revision or $0.07 per share. Excluding those special items, the 2009 first quarter adjusted net loss was $0.7 million or $0.04 adjusted loss per share.

Turning now to the more detailed review of the 2010 first quarter. Tennant’s consolidated net sales of $151.0 million increased 16.7% over the prior year quarter. For the 2010 first quarter, consolidated net sales benefited from a favorable foreign currency exchange effect of approximately 5%. Organic sales, which exclude the foreign currency impact grew approximately 12%. Our organic sales grew approximately 2% in the 2009 fourth quarter. So this is the second consecutive quarter in which we posted year-over-year organic sales growth.

As I take you through our sales by geographic regions, please note that we re-categorized our three regions to cover. The Americas, which now accomplishes all of North America and Latin America, EMEA, which still covers Europe, the Middle East and Africa and lastly, Asia Pacific which includes China and other Asian market, Japan and Australia. For your reference, we’ve provided a table of the 2009 sales by quarter for this new geographic re-categorization on the investor portion of Tennant’s website.

In the Americas, we reported our first quarter year-over-year sales gain of 20.4%. Excluding a favorable foreign currency impact of approximately 2%, organic sales growth was roughly 18%. The growth in the Americas was driven by sales to strategic account customer, customers with sales of Tennant’s scrubber once again leading the way.

In EMEA, sales rose 4.7%. Excluding a favorable foreign currency impact of approximately 7%, organic sales declined approximately 2% due to ongoing weakness in the European economy. In Tennant’s Asia Pacific region, sales rose 36.4%. Excluding a favorable foreign currency impact of approximately 18%, organic sales growth was roughly 18% fueled by strong sales in China and Australia.

Tennant's gross profit margin for the 2010 first quarter was 42.5%, up 150 basis points from 41% a year earlier, primarily as a result of higher sales volumes, continued tight spending controls, flexible production management and a favorable foreign currency impact. We are very pleased with the solid performance from our operations team has added quickly ramp up production when March orders came in higher than anticipated.

Research and development expense in the first quarter totaled $5.5 million versus $5.7 million in the prior year quarter. R&D expenses as a percent of sales was 3.7% in the first quarter of 2010 compared to 4.4% in the first quarter of last year.

Selling and administrative expense in the first quarter of 2010 totaled $51.7 million or 34.5% of net sales compared to $45.5 million or 35.3% on net sales a year earlier, which included a $1.3 million favorable restructuring reserve revision.

The first quarter of 2010 higher expense level on a dollar basis stand from several factors, variable selling expenses on a significantly sales volume, new product launch activity, foreign currency impact and a large incentive – a larger incentive due to return to positive year-over-year sales growth and much improved profitability.

Our first quarter operating profit was $6.5 million or 4.3% of sales versus an adjusted operating profit of 245,000 or 0.2% sales a year ago. Our goal is to achieve an operating profit margin of at least 9.5% when revenues return to pre-economic downturn levels.

In the 2010 first quarter, Tennant's overall effective tax rate was 30.9%. Our base tax rate was 36.1%, and we had discrete net favorable tax items of about $300,000. Our base tax rate does not yet include any benefit for federal R&D tax credits as we're not allowed to consider these credits in our tax rate until they are formally reenacted. Our base tax rate in any given year is chiefly due to the mix of earnings by countries

As you are aware of the new healthcare legislation as we do the income tax reductions for the cost of providing retiree Medicare Prescription Drug Coverage for many companies. Tennant has very few retirees that would have qualified for that subsidy, so it was never pursue. Therefore, this change in healthcare legislation will have no impact on us.

Turning now to the balance sheet, again, we are pleased with the company's progress. Net receivables at the end of the 2010 first quarter increased to $111.2 million versus $102.1 million a year earlier due to higher sales compared to the prior-year quarter. Account receivable days outstanding was 67 at the quarter end, down from 75 at the end of the 2009 first quarter. We have proactively managed our receivables both by enforcing tighter credit limits and successfully collecting past-due balances.

Tennant’s inventories at the end of the 2010 first quarter declined to $58.2 million from $66.8 million in the first quarter last year. FIFO days inventory on hand declined to 93 days at the end of the quarter compared to 121 days in the year ago quarter. The improvement is due to higher sales level and a continued progress we are making for inventory reduction initiatives.

Accounts payable totaled $43.5 million at the end of the first quarter, up from $25.5 million in the year ago quarter due to the lengthening of payable terms and higher sales volume. With our increased focus on conservative cash management, we have worked closely with our suppliers to extend payment terms, while retaining the flexibility to revert back to taking cash discounts when economic conditions warrant.

Capital expenditures totaled $1.8 million in the 2010 first quarter versus $3.8 million in the 2009 first quarter. We continue to tightly control capital spending and have recently implemented a rigorous prioritization process to ensure that we are proving the projects that best align with our strategies and our designed to offer an attractive return on investment.

Our strong cost controls continue to yield benefits. We saved more than $15 million in 2009 from our restructuring actions and we anticipate incremental savings of another $5 million from those actions in 2010 for a total of $20 million in savings in 2010.

Tennant generated $14.1 million in cash from operations in the 2010 first quarter compared to $11.3 million in the year earlier quarter. The company’s total debt of $33.1 million is $58.8 in lower compared to $91.9 million a year ago. The debt reduction was a result of our focus on cash optimization, lower capital spending and improved working capital management.

Our debt to capital ratio fell to 15.2% at the end of the 2010 first quarter versus 35.7% at the end of 2009 first quarter. The company’s total cash was $27.3 million at the end of the 2010 first quarter.

Moving now to our outlook. Obviously, we saw improvement in the company's performance in the 2010 first quarter but we will continue to manage the business conservatively with a focus on operational excellence and strong costs controls. Our financial outlook included the following expectations for 2010, as of today, improving but still sluggish economic conditions worldwide, a favorable foreign currency impact on sales in the range of 1% to 3%, a gross margin in the range of 41% to 42%, research and development expense of approximately 4% of sales and capital expenditures in the range of $13 million to $15 million.

Also we mentioned in our fourth quarter conference call, we had ESOP income in 2009 of about $1 million. However, on December 31, 2009, our ESOP program ended so we will no longer have ESOP income this year. We continue to anticipate a base tax rate in 2010 in the range of 34% to 36%, depending primarily upon a mix of full year taxable earnings by country.

Consistent with our April 12 news release that preannounced the company’s expectations, we estimate earnings for the full year 2010 in the range of $0.90 to $1.20 for diluted share on net sales in the range of $630 million to $660 million. Our revised full year guidance includes Tennant’s strong first quarter result and assumes performance consistent with our original plan for the remainder of the year. If recent positive trends continue, this guidance could prove to be conservative. We look forward to increase sales and profitability in 2010, along with continued investments in key initiatives to help secure our long-term future.

And now I'll like to open up the call for any questions, Rachel?

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Ted Kundtz from Needham. Your line is now open.

Ted Kundtz – Needham

Thanks. Good morning, everyone. Very nice quarter and could you just follow up may be on that last comment you made about recent trends. If they continue, you could be stronger. What are you currently seeing?

Tom Paulson

We had a significant surge in revenue, as I think is obvious by the magnitude of our first quarter, given we originally given guidance near the end of February and we've continued to see strong order patterns, although they are normalizing a bit. April is not at the same kind of level, the activity that we saw as we finished the March, but it's really, it's meeting our expectations.

Ted Kundtz – Needham

Okay. So healthy, but a little bit slower, but is that a seasonal thing or is it?

Tom Paulson

It tends to be, Ted. It's always one of the things that we see as we finish our quarter. It's just we tend to naturally start up in next quarter, a bit slower and we tend to gain momentum during a quarter. Our backlog is very normal and that activity continues to be robust. But our absolute level of order pattern has slowed down a bit. But did not concerning at least that and we still remain optimistic of our abilities, organically grow the balance of the year.

Ted Kundtz – Needham

Okay. Could you comment a little bit on your gross margin guidance, given that you had such a strong gross margin in the first quarter, 42.5%? Your guiding for the year to be 41 to 42, what would bring that gross margin down from the current run rates, assuming the business stays fairly healthy when you get the good operating leverage from that?

Tom Paulson

Yeah. I will comment on that. I mean – I would put the gross margin range firmly in the camp of being conservative. We would certainly hope and expect to be at the higher end of that gross margin range. The things that give us a bit of – that cause us to be a bit cautious is we are beginning to see pressure on the commodity side of things. We didn’t have any negative impact in the first quarter. We did see a bit of inflationary impact in our cost. We are seeing that increase in the quarter that we are in right now. And we are bit nervous about what we are going to see in that, through the balance of the year. So that's part of the reason for us being cautious.

The other piece that we’ve commented on earlier is we are certainly in a position where we don't think we are going to be able to get the level of pricing that we've had historically. And we – that hasn’t changed at all. We think we will get very limited pricing benefit for the balance of this year. And those are the two things that really causes to be conservative as we talk about gross margins.

Ted Kundtz – Needham

Okay, terrific. And Chris one question for you, just, I would like, if you could. You mentioned three stages of growth here. One, if you, kind of discuss in a little bit more in detail. One you talked about extent to the ec-water, all the relevant product lines. I assume you meant by that, the 14 scrubber product lines that you were targeting for this year. Are there any additional products you would extend that to, in your current portfolio?

Chris Killingstad

Well, Ted, we are extending it to the 14 products in the scrubber portfolio and we continue to evaluate what's possible in our carpet-care, the carpet-care part of our business and any other products that we make where ec-water maybe relevant. The majority of the effort has been behind scrubbers with some effort in carpet-care and other parts of the business. And the results there so for have been inclusive. So we are not announcing that we are going to come out with some new products in those parts of the business anytime soon.

So focus on the scrubbers. And remembers that still – scrubbers represent 50% of our business, and ec-water is relevant to 70% of our scrubber application. That's the big idea.

Ted Kundtz – Needham

Great. Okay. And then you also talked about the stage, the second stage being, cleaning more varieties of spaces, of space with your existing customer base, to leverage that out, was that assuming you are coming up with another additional product lines to do that.

Chris Killingstad

I think that would be our medium-to-long-term goal. First we got to figure out what all of our existing customer's cleaning needs are? We use an example of a retailer. A retailer has floors, they have racking, the have checkout counters, they have a bakery, they have a need counter, a vegetable section, restaurants, bathrooms, cold storage. All of those areas need to be clean. Today, we go and then we clean their floors with their scrubbers. So we are – we have a number of test in place in North America, than Europe to figure out what’s possible, how can we leverage our chemical free cleaning technology to clean, most if not all of their current environments and what kind of products are we going to have to develop to deliver that chemical free cleaning performance. So I think it’s early days yet. We are still very much in the exploratory phase.

Ted Kundtz – Needham

Because the market, potential market is just kind of a limited here. Would you go after those markets with – develop them internally or would you still tend to look for outside relationships to do that?

Chris Killingstad

We are open to all options. We're going to choose the one that's best for maximizing potentials, the technology. I would think that some we are going to do ourselves, where it's close enough to what we currently do to, so that we can be successful. But I fully expect us to form a number, with partnerships going forward to fully leverage the technology across multiple vertical markets and applications.

Tom Paulson

Okay. Tom, my last question for you would be just in terms of the acquisition strategy, would that incorporate an acquisition strategy, now that your debt has really come down so dramatically. You have plenty of buying capacity. Are you looking actively in acquisitions?

Chris Killingstad

We will continue to look at potential acquisitions, although it is a low priority than it was historically. And we are – we have a plenty of internal priorities of the current time. So we are going to focus primarily on internal organic growth. And will look at acquisitions that three different strategies, but it will not be a significant priority for us.

Ted Kundtz – Needham

Okay. Thank you, all.

Tom Paulson

Sure.

Operator

Your next question comes from the line of Seaver Wang from HFP Capital Markets. Your line is now open.

Seaver Wang – HFP Capital Markets

Hi guys. It does indicate that basically every category of products, it was a bit positive for the quarter. Did you see any differences in big-ticket items which I think is a pretty good indicator of people being more willing to buy?

Tom Paulson

We did start to see some pick up in our large equipment part of our portfolio. Certainly, not growing at the same rate as our smaller products, but we did begin to see year-on-year growth in that category. We are not ready to claim victory in that regard, but it was – that was certainly somewhat encouraging. Because we have not seen growth, prior to this quarter in large equipment part of our business.

Seaver Wang – HFP Capital Markets

Okay. And then, what are your expectations of Europe, considering – I mean you guys obviously had a very good quarter despite the European segmenting off a little bit and I think relatively good quarter, even though minus couple of percent.

Tom Paulson

Europe is our most concerning geography. I mean we are far more confident in North America and in Latin America and the Americas, I should say in Asia-Pacific. Europe continues to be a concern, although we did see a fair level of improvement relative to the fourth quarter. We saw, I think it was in the vicinity of 9% organic declines in Q4 and we saw 2% organic declines in Q1. So it's moving in the right direction, but there is a lack of clarity of what that economy looks like going forward. So it's the one area that we are monitoring very closely.

Chris Killingstad

We are well positioned in Europe, now to take advantage of the recovery when it comes and we've done a lot of restructuring in key markets like the U.K. and in France, have expanded our presence in Eastern Europe. I mean, we have a better structure in Europe today than we've ever had. And we will take advantage of the recovery when it comes out. Right now, it is an economic issue. It's not a Tennant's performance issue.

Seaver Wang – HFP Capital Markets

Is the acceptance of ec-water better in certain continents than others?

Chris Killingstad

Europe in 2009, Europe led the way. It had the highest adoption rates.

Seaver Wang – HFP Capital Markets

Okay, great. And then last question on the gross margin, the sustainability of that. I mean your guidance implies that there will be a little bit of a fall off in the gross margin. Is that from – because you are kind of anniversarying steel prices or...? How should we look at that?

Tom Paulson

It's a combination of upward inflationary pressures from a commodity standpoint and we do have concerns around resins and steel and also lead would be the three areas that we are the most concerned about from an exposure standpoint. And then that in conjunction with our ability that we don't think get pricing at historical levels are the two things that cause us to be conservative in our approach there.

Seaver Wang – HFP Capital Markets

Okay. Thank you.

Operator

Your next question comes from the line of Joe Maxa from Dougherty & Company. Your line is now open.

Joe Maxa – Dougherty & Company

Thank you. Tom, why do you think pricing will be down or not be able to achieve historical levels?

Tom Paulson

We – if you think about the environment we've come out of, we saw deflation last year in our cost structure from a commodity standpoint. And we're seeing a bit of uptick in the commodity side but it's not enough at this point we believe to take any meaningful level of pricing. And then you combine that with an economy that's just beginning to show some sustainable growth patterns. We just don’t think it’s going to be prudent so assume that we can price that the historical 2% to 3% levels. And I hope we are wrong. I mean we view ourselves as the price leader we would certainly like to be able to take pricing. We just don’t think we should manage our business and count on that current time.

Joe Maxa – Dougherty & Company

So you’re talking – you – the 2 to3% level being above the competition?

Tom Paulson

Over time we would say, we price at a higher levels and we are the premium price people generally in the industry.

Joe Maxa – Dougherty & Company

Okay. Can you talk a little about the newer product, the Ecolab Scrub-N-Go give us an update on that, as well as the – your new battery powered street sweeper, what you are seeing?

Chris Killingstad

On the Ecolab Scrub-N-Go, I think what we reported last time is that the big chains like McDonalds and Yum brands have authorized the product in their chains. We would have to say that the early going it’s been slower than what we anticipated. I think it’s just a new way of cleaning these stores and people are conducting I think a longer test than we had though they would. But nothing – there is nothing out there indicate this is a medium to long-term big win for us. So there’s nothing indicate that but we are off to a slower start.

Joe Maxa – Dougherty & Company

Okay.

Chris Killingstad

And then the lithium-ion battery powered street sweeper. We are pretty much still in demo mode, have a handful of machines that we are demo'ing most across Europe mostly. We have had our first couple of sales. So if we have sold it and I think the first one went into Amsterdam. But we are pretty much now just going out and educating major cities across Europe about the machine and about the technology.

Joe Maxa – Dougherty & Company

Okay. And on discretionary spending, give us a few more thoughts somewhat you’re expecting for this year. There was a time, I think maybe Q4 you talked about possibly lightening up on some of that, but it sounds like you might be kind of holding more firm? What should we be thinking about going forward? And then how does that play into what should we be thinking about operating margins as we go through the year should we be above the level here in Q1?

Tom Paulson

Our comment on a couple of those pieces, Ted. I don’t want to get specific around operating margin targets of the current time. I will tell you do it own modeling from the EPS guidance we provide. But let me give you a little bit of insight into the spending side of things. We did the first spending out of Q1 more than we anticipated because we frankly didn’t anticipate our revenue levels to be where they are at, so we did.

We were cautious about how we spend money. You will see our spending we are going appropriately support our new product launches over the next couple of quarters. We will begin to increase our R&D spends supporting ec-water technologies and we will be of raises, we did we held the line last year.

You won’t see – you always see very limited people adds but you will see our spending go up a bit and as we go across the year. We will create leverage in our operating expenses and it will be somewhere. I hope as much as the 100 basis point of improvement in operating expense for the year would probably the high side of the leverage we will create. And I think we will see an acceleration as we go into future years though. As we commented R&D is going to be – count on it being right around 4%.

Joe Maxa – Dougherty & Company

Okay. Thank you.

Tom Paulson

You bet.

Operator

Your next question comes from the line of Rob Crystal from Goldman Sachs Asset Management. Your line is now open.

Rob Crystal – Goldman Sachs Asset Management

My question has been answered. Thank you.

Tom Paulson

Thanks, Rob.

Operator

Your next question comes from the line of Zahid Siddique from Gabelli. Your line is now open.

Zahid Siddique – Gabelli

Hi, good morning.

Chris Killingstad

Good morning, Zahid.

Zahid Siddique – Gabelli

A couple of questions. First on in terms of – for Q1 what does the breakdown between volume and pricing both at the consolidated and perhaps at these geographical levels?

Chris Killingstad

Say that again, Zahid. I am sorry.

Zahid Siddique – Gabelli

Sure. That the pricing volume breakdown for Q1?

Tom Paulson

It was – we had less than a percent a pricing benefit quarters. So it was predominately units was really that virtually the complete driver of the increase year-on-year. And obviously, we had foreign currency in there, but out of the 12% organic growth it was predominately very limited pricing benefit.

Zahid Siddique – Gabelli

And is that also accurate for you European segment?

Tom Paulson

Yes. There’s consistency across Europe and Americas in that regard.

Zahid Siddique – Gabelli

Okay. And on the availability of credit, what has the environment improved or what are you seeing out there?

Tom Paulson

It’s not improving as much as we’d like. We continue to be reliant especially in large equipment to get leasing financing from our partners. We don’t carry those leases. But we are seeing approval levels have not returned historical levels yet, and so it’s a bit disappointing to be honest. But we have a still impacting our business negatively and we are seeing a bit of improvement, but it’s not as fast as we’d like.

Zahid Siddique – Gabelli

Okay. And the last question, any plans for share repurchases?

Tom Paulson

We consistently evaluate that. I can’t comment any further than that. We don’t have any restrictions at the current time. But it’s something we will continue evaluate as we access capital structure going forward.

Zahid Siddique – Gabelli

Thank you.

Tom Paulson

Bet.

Operator

(Operator Instructions) Your next question comes from the line of Ted Kundtz from Needham. Your line is now open.

Ted Kundtz – Needham

It’s one to the follow-up question on the building service contractor business. Could you comment a bit on that I guess primarily in the U.S., I think you have a little better share in the Europe? At least more done that way, but may be in the U.S. you mentioned a new customer the ISS Group and may be – can you give any sense of how big they could be? I mean this sound like a pretty big company I don’t know what their needs are over the course of a year. But I don’t know if you can put any more color on them and just business service contractor business in general specifically in the U.S.?

Chris Killingstad

Just to touch on ISS first, they are the biggest building service contractor in the world. They are one of the largest facility management companies in the worlds. As we said, they operate 53 countries. And given that we’ve just started with them, I am sure we know what’s possible. But I mean they could definitely turn into one of our very largest customers here over the next two or three years. I think that’s basically all we're prepared to say on that right now.

Ted Kundtz – Needham

And they’ve been a customer in the past, Chris, at all or not?

Chris Killingstad

I tell you what we have been – we never had a global relationship with them. What we’ve had our local operations around the world that liked our offering and liked our service and would do business with us on an ad hoc basis.

Ted Kundtz – Needham

Okay.

Chris Killingstad

So we have a little bit of business, but it was immaterial.

Ted Kundtz – Needham

So you’re preferred supplier to them. You are not going to be exclusive to them, obviously, because you are a preferred stock supplier?

Chris Killingstad

Yes. We are a preferred supplier. And they are definitely profiling our ec-water scrubber line.

Ted Kundtz – Needham

Okay. And then maybe just some general thoughts on the rest of the BSE business in the U.S. How is that trending?

Chris Killingstad

Well, I mean – we know that BSE is probably still clean 40% plus of all facilities in North America. We historically had a very low share. We have been growing very nicely in that segment. We are a preferred supplier in just about all the major national BSEs today.

Ted Kundtz – Needham

Is their business coming back?

Chris Killingstad

Is their business coming back? Well, I mean there – if you look at all segments of our business, they were that the segment that was most robust during the recession, right. Because we talked about this before, if you have a cleaning contract that last two or three years with a building service contractor and versus making a capital purchase of a piece of equipment.

And during recession you would cuts your capital budgets not by the cleaning equipment just used what you had, but when you have a cleaning contract you maintain that contract the building service contractors had to still provide a consistent level service and they needs to buy equipment from us and others to do that.

So that’s remained fairly robust during the recession. But I mean we are seeing improvement there as well. But we still have relatively low share, we have not commented publicly on what that share is and a lot of growth opportunities going forward both here and in Europe as well.

Ted Kundtz – Needham

Okay. Terrific. Thanks for the color.

Chris Killingstad

Sure.

Operator

(Operator Instructions) There are no further questions at this time. I now turn the call back over to management for closing remarks.

Chris Killingstad

All right. Thank you, Rachel. We are very pleased with our financial performance in the first quarter. As Tennant sales earnings and cash from operations all posted significant gains. We made continued investments in new product that we believe will fuel Tennant’s future revenue growth. We are also excited and committed to achieve our long-term strategic vision to become a global leader in chemical free cleaning.

We believe that our strategic direction coupled with strong cost controls, improved operating efficiency and new products will further enhance Tennant’s long-term value creation potential. So thank you all for joining us on the call today. And thank you for your questions. Take care.

Operator

This concludes today’s conference call. You may now disconnect.

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Source: Tennant Company Q1 2010 Earnings Call Transcript
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