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Executives

Susan Fisher – Director, IR and Corporate Communications

Tom Burke – President and CEO

Bob Kampstra – VP, Corporate Controller and Chief Accounting Officer

Analysts

Greg Williams – JPMorgan Chase

Walt Liptak – Barrington Research Associates, Inc.

Adam Brooks – Sidoti & Company

David Leiker – Robert W. Baird & Co.

Brian Sponheimer – Gabelli & Company, Inc.

Modine Manufacturing Company (MOD) F4Q10 (Qtr End 03/31/10) Earnings Call June 3, 2010 11:00 AM ET

Operator

Good day, ladies and gentlemen and welcome to the Modine Manufacturing Q4 earnings conference call. My name is Deidre and I will be your coordinator for today's call. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session following the presentation. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call, Ms. Susan Fisher, Director of Investor Relations and Corporate Communications. Please proceed.

Susan Fisher

Thank you, operator and thank you to everyone for joining us today for Modine's fourth quarter fiscal 2010 earnings call. With me today are Modine's President and CEO, Tom Burke; as well as Bob Kampstra, our Vice President, Controller, and Chief Accounting Officer.

We will be using slides with today's presentation. Those slides are available through both the webcast link, as well as a PDF file which is posted on the Investor Relations homepage of our company website modine.com. Also, should you need to exit the call prior to its conclusion, a replay will be available through our website beginning approximately two hours after the call concludes or through replay – dial-in information, which is included in today's earnings release.

Before we begin, I would remind you that this call may contain forward-looking statements as outlined in today's earnings release, as well as in our company's filings with the Securities and Exchange Commission.

With that, it is my pleasure to turn the call over to Tom Burke. Tom?

Tom Burke

Thanks, Susan and good morning everyone. Let me start first with an overview of our full fiscal year results. Although fiscal 2010 challenged our company and many others in a number of ways, we are proud of the measurable progress we made this past year. While there is still more to do, Modine has come a long way in the past 12 months. We addressed our debt covenant challenges and have a strong balance sheet while our financial results have improved substantially.

For the year, we saw a 17% decrease in our sales. However, we recorded modest sequentially sales growth in each of the last three quarters. Year-over-year, despite the lower sales, our gross margin improved by 130 basis points to 14.6%. At the same time, through a concerted effort by our employees, our SG&A decreased by $42 million to $158 million in total or 13.5% of sales versus 14.2% of sales a year earlier.

Our pretax results improved by $92 million from a loss of $103 million in fiscal 2009 to a loss of $11 million in fiscal 2010. Our adjusted EBITDA totaled $86 million for the year, which far exceeded our minimum adjusted EBITDA loan covenants. Free cash flow for the year was a positive $23 million on our improved year-over-year results.

To sum it up, fiscal 2010 was a pivotal year for Modine. We entered the year with a two-fold mission, first, get the company through the severe economic downturn and second, emerge from it a leaner, stronger, more competitive company. Through the commitment and hard work of our employees around the world, we have achieved both of these near-term objectives and enter the new fiscal year with confidence and a clear sense of momentum building within our business.

Turning to slide five, let's now take a look at our results in the fourth quarter as we finished out the fiscal year. In view of the overall business climate and the headwinds we've anticipated as we moved into the fourth quarter, I am pleased with our overall results. Our sales increased 28% versus a year ago and were up 7% sequentially from the third quarter.

As we had anticipated and mentioned in our last quarterly earnings call, the gross margin came under pressure from increased commodity metal prices and the lagging nature of our materials pass-through agreements with our customers, as well as a wind-down of the heating season within our commercial products segment and costs associated with our plant closure activities. These were the primary factors in our reported pretax loss of $4 million. While down, as expected, from a profit of $2 million in the third quarter of fiscal 2010, this compares quite favorably to the pretax loss of $37 million reported just one year ago.

Adjusted EBITDA of $21 million, while down by $4 million from the third quarter, reflected a $20 million improvement versus a year ago. All in, as we continue to aggressively execute our Four-Point Plan, our business has continued to perform well under the challenging market conditions.

During the quarter, we closed our Pemberville, Ohio manufacturing facility and we are on track to close our facilities in Logansport, Indiana and Harrodsburg, Kentucky during the first quarter of fiscal 2011. This is all part of our commitment to continuously review our manufacturing footprint. This will ensure we remain well positioned to provide the highest-quality thermal management solutions supported by an even more competitive cost base moving forward.

To provide context for just how far we have come this past fiscal year, please turn now to the charts on slide six. These three panels, which were reviewed many times, show our measured progress. Through the combination of modest sales increases during the past three quarters and disciplined execution of our Four-Point Plan, we have been able to significantly lower our cost base, increase gross margins, and significantly improve our adjusted EBITDA. These are solid results that we believe are good indicators as we enter fiscal 2011, a period when we expect market volumes to continue to recover.

I would now turn the call over to Bob Kampstra who will provide additional detail on our recent results. I will then be back to review our sales outlook and our expectations as move into fiscal 2011.

Bob Kampstra

Thanks, Tom. Good morning, everyone. I'm going to spend a few minutes walking through our fourth quarter results, as well as an update on our metals pricing and currency fluctuations.

So I'm going to start on slide eight, which presents our fourth quarter fiscal 2010 results as compared to our fourth quarter of fiscal 2009 results. Start on the first line, net sales. If you look at our net sales from the fourth quarter of last year to this year, you see an improvement of $70 million. The box over on the upper right-hand side of the slide shows that sales increased by segment. And what you will note is that sales improved dramatically across all the segments of the company.

Moving down to the gross profit line, what you will see is that our gross profit improved $20.7 million on a year-over-year basis. Really, the impact of the higher sales, as well as some fixed manufacturing cost reductions, which the company completed in the fourth quarter of last year and into the first quarter of fiscal 2010, contributed to that year-over-year increase in gross profit.

Moving down to the restructuring charges and impairments line, what you will note is that both of these categories decreased approximately $6.3 million in total year-over-year. So as a result, earnings loss from operations improved $25.9 million on a year-over-year basis.

Moving down to the other expense line, what you will see is that our other expense decreased less expense in the current year versus the prior year. Included in our other expense is our results from our joint ventures, as well as foreign currency transaction gains and losses. The primary result of the fluctuation was a permanent reduction of a joint venture last year in the fourth quarter of fiscal 2009 and that joint venture has now been sold during fiscal 2010, and there was no similar significant charge in the current year.

So as a result, what you show is a – what we show is a pretax – on our pretax loss, we show an improvement of $33 million on a year-over-year basis. We still generated a slight pretax loss of $4.2 million in the fourth quarter of fiscal 2010 as we are approaching breakeven levels at our current volumes. So as a result, we had adjusted EBITDA of $21 million in the fourth quarter of fiscal 2010, which improved approximately $19.7 million on a year-over-year basis.

For our free cash flow – our free cash flow improved $13.7 million. We had a slight cash outflow in the fourth quarter and I'll review our cash flow in a little more detail in a couple of slides.

Turning to slide nine, we show a sequential snapshot of our results over the last two fiscal years by quarter. Let's start with the sales line. What you see when you look at the sales is a significant drop in our sales as we moved into the third quarter and fourth quarter of fiscal 2009, really saw the bottom of the recession in the fourth quarter of fiscal 2009 and into the first quarter of fiscal 2010. Since that point, we've shown three quarters of sequential improvement in our sales and from the third quarter to the fourth quarter of fiscal 2010, a $22.5 million in our sales.

We still have a long way to go to get back to pre-recessionary levels that we saw in the early part of 2009, but we are pleased with the slow, but steady improvement that we are seeing in our sales line.

Looking at the gross margin, similarly, you see the gross margin decline as we near the bottom of the recession in Q4 of '09. At that point, the company took a number of steps to reduce its manufacturing costs and you could see the impact that that had on our gross profit, improving in Q1 of '10 and improving through Q3 of fiscal 2010.

From Q3 fiscal 2010 to the fourth quarter of fiscal 2010, we did show a decline in our gross profit of approximately 220 basis points. This was expected, as we highlighted last quarter, due to some higher metals costs, as well as seasonality which we experienced in our CPG business.

Moving on to the SG&A line, we can see that SG&A was running at approximately $60 million a quarter beginning in fiscal 2009. Beginning in the third quarter, the company took a number of actions to reduce its SG&A cost structure, including a 25% workforce reduction. Since that point, for approximately the last six quarters, the company has been holding relatively flat at approximately $40 million a quarter.

Looking at the pretax line, you can see our pretax results decreasing relatively dramatically as we moved into the recession and then starting in fiscal 2010, holding at approximately breakeven or slightly negative at the current volumes that we are experiencing.

Adjusted EBITDA also declined as we moved into the recession and during the fiscal 2010, we've been running at approximately $20 million to $25 million per quarter at the current volumes, and that level is well above our current debt covenant requirements.

Finally, looking at cash flow, you can see cash flow, as we moved into the bottom of the recession, was an outflow in Q4 of '09 and Q1 of '10. We have positive cash flows in the second and third quarters of 2010 and then a slight outflow in the fourth quarter. That outflow was largely due to the timing of some capital spending, as well as the slight reduction in our results in our gross margin from Q3 to Q4 of fiscal 2010.

Moving on to slide 10, we have a little bit deeper dive into our segments – our segments' sequential results for sales and adjusted operating income. So let's start with sales, which is on the top part of this slide. Generally what you can see across the majority of our segments was a similar trending where the results were – where the sale results were dropping as we moved toward the bottom of the recession and then several quarters of sequential sales improvements as we moved across fiscal 2010.

A couple of items I want to note in particular on this. Starting with Europe line, when you look at Europe's results from Q3 to Q4 of fiscal 2010, it does show a slight decline. That decline is – was driven entirely by a reduction in the euro related to the dollar that we experienced within the last quarter of the year. Without that, our sales in Europe would have been up $6.5 million. In addition, looking at the CPG line, you do see approximate $6 million reduction in CPG sales from Q3 to Q4. This was expected due to the seasonality in our CPG business as the heating season comes to an end.

Looking now to the bottom half of this chart, we show adjusted operating income. This is our operating income, adding back restructuring, repositioning and impairment charges. Generally, what you can see here is a decline across the segments as we move to the bottom of the recession and then sequential improvement since Q4 of '09 on a quarterly basis.

Starting in Q3 and moving on into Q4, we did see the anticipated decline in our results with rising metals, as well as the CPG seasonality in the majority of our segments. The exception – one exception can be noted within Europe. Europe's results from Q3 to Q4 improved by approximately $2.6 million. While Europe did see some rising metals, those were offset – more than offset by the growing business volumes and the operating leverage that we are starting to see within our European business.

Move to forward to slide 11, which is a sequential summary of our free cash flow over the last four quarters. It also shows our full year results for 2010 and our full year results for the prior year, 2009. What you can see when you at look at our – the last four quarters, after two quarters of positive free cash flow in the second and third quarters, we did show a slight outflow in the fourth quarter. Three factors really drove that outflow, which can be noted above. When you look at the net loss, net loss earnings line, you can see a reduction in our results, primarily driven by the gross margin decline with the metals and with the CPG seasonality.

In addition, when you look at the capital spending line, you can see that capital spending increased in the fourth quarter in comparison to the third quarter. That was really due to the timing of when those capital expenditures took place.

And then finally, the sale of discontinued operations in the third quarter of 2010, net $11 million related to the sale of our South Korean business. We didn't have a similar sale in the fourth quarter, so it results in a decline in our comparative quarters. So the slight outflow really relates primarily to the timing of the capital spending that we see.

When you look at the full year results, for 2010, we generated $23 million of positive cash flow in comparison to breakeven in the prior year. That increase was primarily driven by the reduced capital spending. You can see our capital spending went from $103 million in 2009 down to $60 million in 2010. That was through our capital allocation discipline under our Four-Point Plan.

Turning to the net debt graph on the upper right-hand corner, shows our net debt, our total debt, less our cash on hand over the past two year. What you can see was through the first quarter of fiscal 2010, our net debt had grown up to a $229 million balance. With the stock offering in the second quarter, we saw a dramatic decline in our net debt and then with the positive free cash flow in the third quarter, it continued to decline. So at the end of the year, our net debt is down $110 million from the end of 2009.

As of March of 31st, 2010, we have $211 million of availability through our available borrowings, plus our cash on hand, which we believe is more than sufficient to fund our future operating and capital needs.

Turn to slide 12, titled Impact of Recent Euro Decline Versus the U.S Dollar, the functional currency of our European business is primarily the euro. And so when we have the euro moving versus the U.S. dollar, that changes the amount of profits that are translated into U.S. dollars for a European business. So when you look at last year, what you saw in calendar 2009 was the general rise of the euro relative to the U.S. dollar. That means that our European profits translated into more U.S. dollars in the prior year.

Since November and really the beginning of calendar 2010, there has been a dramatic decline in the euro relative to the U.S. dollar, approximately 14% decline since January 1st, 2010. Current spot rates as of May 28th was $1.23 to every 1 euro.

What we've done in the bottom is we have shown a little bit of sensitivity analysis of a hypothetical 10% permanent decline in the euro and what does that mean to the company. What that would mean, if the euro would decline 10% and hold at that level for an annual period, the company's consolidated sales would be reduced by approximately $40 million on an annualized basis and our operating income would decline by approximately $2 million on an annualized basis. So this – so the recent reduction that we've seen in the euro does present a modest headwind as we look forward into fiscal 2011.

Turning to slide 13, we show our commodity metals trends. Last quarter, we spent some time on the earnings call talking about the impact the metals prices was having on the company. We thought we'd provide a brief update on this call. What we have shown is a 14-month history of the aluminum prices on the top and the copper prices on the bottom. What you can see is that aluminum, over the past 14 months since the beginning of fiscal 2010, have increased 50% and copper prices have increased 75%.

Now, in the last two months, we have shown – we have seen a slight decline in both aluminum and copper to current spot rates for aluminum of $0.92 and copper of $3.14. Year-over-year increase in the metals prices does impact our earnings until the pass-through agreements with our customers catch up. As a reminder, we have pass-through agreements with our customers and they can vary from quarterly to semiannual or annual. So it takes some time for those to catch up and therefore, we do anticipate seeing a higher metals cost on a year-over-year basis.

Now turning the call back over to Tom who will talk about our outlook for fiscal 2011.

Tom Burke

Thanks, Bob. Turning now to slide 15, let's take a look at our sales outlook. You will note that we are looking at this from a calendar year perspective. I will first provide you some of our end market assumptions within our established vehicular segments, then discuss the factors that support our sales outlook within Asia and of course our commercial products group.

Starting in North America, where the medium duty commercial vehicle market remains relatively flat, we continue to see modest incremental recovery in the Class 8 vehicle –vehicular production. Our current expectation on a calendar year basis is for an estimated 115,000 units within the medium-duty market and 145,000 units within the Class 8 market. The highway market conditions within North America also continue to improve, driven by a recovery in the agricultural and mining segments.

In Europe, despite the overhang of an uncertain economy, commercial vehicle volumes appear to have bottomed. In both the commercial vehicle and in off-highway markets within Europe, we see evidence of the early stages of recovery. While our expectation for light vehicle sales in Europe has improved from flat to slightly down to now, flat to slightly up. This is based on our observation that the premium end market of the market, in item part of the market, which we participate, appears to be recovering faster than the lower end of the market where scrappage programs have begun to phase out.

In South America, where we serve the commercial vehicle, off-highway, and bus markets, signs point to a strong recovery with momentum gaining in all markets. In Asia, Modine continues to actively launch a large number of new programs in China. We are managing our way through a few customer-driven program delays in India, but we remain highly confident with our teams and our order books building in the region.

Within commercial products, we are focused on generating continued above-market growth, which is projected around 5% within an otherwise flat market, as our commercial HVAC teams continue to leverage our high – new high-efficiency product offerings and gain share in new markets.

On a final note, as you may expect, particularly during a year of vehicular model changeovers and significant supplier volatility, we have received a number of very specific questions about individual customer and program awards. I can appreciate the nature of those questions and as such, would like to respond with a bit of my philosophy and a perspective from our company's viewpoint.

Because of the world's continually increasing demands for high-quality thermal management solutions and the presence of multiple solutions to address those demands, there is a natural level of switching that occurs in the supply base from time to time. That's the nature of the industry.

More often than not, confidentiality requirements prohibit us from discussing individual business wins or losses as they occur. In addition, business wins or losses can come in various forms. For example, in some limited cases, a particular customer program may be dual sourced in which case we will win some, but not all of the business. In other cases, we do not receive the original business award, but later asked to step in as a full or partial replacement

And from time to time, there may be some prospective business which we choose for a variety of reasons including our own profitability standard, not to participate. In this context, in order to best serve our customers and the balance of our overall business needs, we generally are not in a position to discuss or disclose individual program wins or losses. I appreciate that many of you on this call would very much like that information in real time. Rest assured that we have made, and will continue to make, announcements regarding wins and losses when we are in a position or required to do so.

With that said, I will tell you that we are highly confident in our thermal management capabilities and current offerings, as well as our research and product development activities regarding future technological needs. Our discipline in these areas has only increased during this time of economic volatility. We have very solid relationships with our existing customers, a number of which have been strengthened in this past year to what we consider as strategic partnerships. And we are cultivating relationship with new customers across the globe, who appreciate our stability and technological capabilities.

As we pursue our future growth objectives, we are very confident in our market position and long-term order book. Our business wins are meeting our expectations. This is showing up in our improved results, a trend we expect to continue.

Turning to slide 16, I would like to provide some perspective on our business expectations as we head into fiscal 2011. As we indicated earlier, sales have trended positively in each of the last three quarters. Based on our assumptions for modest overall growth in our key served markets, we are expecting an approximate 8% to 12% sales growth in the coming year.

Like all global manufacturing companies, however, we continue to face a number of headwinds and obstacles. Our current expectation is that the benefit we expect to obtain from much of our increased sales would be largely offset by a number of factors. These include higher metals and material costs and the lagging nature of our material pass-through agreements with our customers, the weakening of the euro versus the U.S. dollar and the associated pressure from foreign currency translation, and finally, higher SG&A costs.

Here, I want to be clear. We continue to closely monitor and control our SG&A expenses. In fiscal 2011, a significant portion of the projected $10 million to $15 million increase in our SG&A relates to an unavoidable rise in pension expense. This is due to a decline in the pension discount rate, which results in higher pension costs.

The balance of the SG&A increase consists of added engineering development cost due to the many new program business awards we received and a conscious decision on our part to increase our spending in the areas of greatest long-term opportunity. This includes additional resources to support our market penetration goals for the commercial market – vehicle market in Europe, support for sales for the strong growth in Asia, which we have projected to grow rapidly, and the incremental investment in our commercial products business to support the continued growth through our expanded range of new high-efficiency product offerings.

We continue to manage our business using the Four-Point Plan framework, while selectively investing support our three year to five-year business plans and ultimately, our objective to return Modine to an 11% to 12% return on capital employed.

In conclusion and moving to slide 17, Modine made considerable progress in fiscal 2010, yet there is more to do. As I mentioned, we will continue to use our Four-Point Plan framework to manage our near-term challenges. Through product rationalization, we will maintain our portfolio of advantage products and engage in highly targeted research. By focusing on truly advantage products, we are able to set new priorities for where we invest our time and resources both human and financial, to optimize our future growth.

In terms of manufacturing realignment, we will continuously review our global footprint to ensure Modine is positioned to provide the highest-quality thermal solutions, supported by the most competitive global manufacturing cost base. At the same time, our commitment to SG&A cost containment and capital allocation discipline will ensure effective deployment to manage our growth as we maintain a sufficiently lean asset base. As we do so, the culture of continuous improvement we are building through the Modine operating system is helping us achieve continuous and sustainable step-by-step improvement as we bring real value to our customers and shareholders.

The past 12 – actually, indeed 24 months at Modine have not been easy. Through a lot of hard work and discipline, however, we have a emerged stronger company, well positioned to achieve our future growth objectives. We have a strong balance sheet and ample liquidity to support our business. We are well positioned to benefit from the significant operating leverage as our end markets recover and the regulatory and technological growth drivers that drive our business remain intact.

We recently bolstered our governance structure in anticipation of future Director retirements. We added three highly experienced Directors to the Modine Board and have engaged a well-respected heat transfer expert to serve in an advisory capacity to our Board's technology committee. These exceptional individuals will no doubt serve our shareholders well for many years to come. Finally and most importantly, we have in place a strong and capable leadership team and a highly committed workforce, prepared to drive our company forward.

With that, we would be happy to take your questions. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from the line of Ann Duignan. Please proceed.

Greg Williams – JPMorgan Chase

This is Greg Williams at JPMorgan sitting in for Ann Duignan.

Tom Burke

Hi, Greg.

Greg Williams – JPMorgan Chase

Hi. You guys provided some nice color in the North America outlook for truck builds. Can you talk a little about the content per truck going forward? Talk about the pricing environment, especially given the 2010 engine emission standards.

Tom Burke

Well, it's – clearly, I guess, the fundamentals we truly have a large position in the commercial truck. We have large content with our modules and systems and components that we do supply. We don't quantify that on a per unit basis of what that is, but clearly we see that trend continuing as the needs for solutions to help customers near term on emissions, longer term and mid-term on fuel efficiency, drive for further opportunities that require adding content. So I guess, in general, we see the opportunity for gaining on a per unit basis growing in the right direction.

Greg Williams – JPMorgan Chase

Okay, thanks. And moving to foreign currency, you mentioned the weakening Euro. So what do you guys have baked into your EBITDA guidance today? A weakening Euro from this point?

Bob Kampstra

We really – when we look at our forecast, I mean we recognize that there is a lot of volatility, but we have no idea where the euro is headed and so what we are – what we've done here is we've been conservative and we've basically kept the spot to where it's at, at this point and as we look forward in our guidance.

Greg Williams – JPMorgan Chase

Okay. And your tax rate has been a little bit volatile. Can you talk about the tax rate in the fourth quarter and what we can expect going forward?

Bob Kampstra

Yes. The tax rates for the fourth quarter was 184% and for the full year was 94% of tax rates. Really, our tax rate is driven by a mix of where our earnings are being generated. So we have some foreign countries where we generate profits and therefore pay tax on those profits. And we have a number of jurisdictions like the United States and Germany in particular, where we've been generating tax losses and we have full valuation allowance in those jurisdictions. So we don't get any tax benefit in those jurisdictions.

So when we pay tax, we show that tax showing up on our tax line and what you've seen is our results – our pretax results are approaching breakeven, which gives you these high effective rates. So really, when you – from a projection standpoint, you really want to look at that income tax expense that we are paying you see was $9 million for the total fiscal year. That really represents the expense that we are paying in those foreign countries right now.

Greg Williams – JPMorgan Chase

Okay. So going forward, do you see the U.S. and Germany still being in a tax loss position?

Bob Kampstra

Really, it gets to our three to five-year kind of horizon and outlook and certainly our goal of returning the company to an 11% to 12% return on capital employed contemplates the company moving toward profits in all of our jurisdictions at some point in that, that mid-term planning horizon, at which point then you will see our tax rates kind of move back to more normal tax rate type situations.

Greg Williams – JPMorgan Chase

Okay. Thanks. guys.

Tom Burke

Thank you.

Susan Fisher

Thanks, Greg.

Operator

(Operator Instructions). And our next question comes from the line of Walt Liptak. Please proceed.

Walt Liptak – Barrington Research Associates, Inc.

Hi. Thanks. Good morning, everyone.

Tom Burke

Good morning, Walt.

Walt Liptak – Barrington Research Associates, Inc.

I wanted to ask about the pension expense. And I may have missed it, but have you quantified how much pension expense is going to be going up in millions of dollars?

Tom Burke

Well, we know that there is – we used the word significant. So if you kind of just frame that around the fact that we said $10 million to $15 million in SG&A and take a portion is kind of all we can guide right now with. But clearly with the discount rates going down, there is a direct impact on that that we are managing carefully.

Walt Liptak – Barrington Research Associates, Inc.

Okay. And I – I guess embedded in the guidance, given the headwind of the raw material cost, what sort of a gross margin are you – are you embedding in the guidance?

Tom Burke

No, we are not guiding right now. I'll let Bob kind of go into details of how we are managing it from a framework standpoint.

Bob Kampstra

Yes, I mean, we didn’t guide on the gross margin specifically, we guided down on the adjusted EBITDA level only at this point. We certainly guided higher SG&A of $10 million and $15 million and 10% to 12% – or I'm sorry, 8% to 12% growth in our sales. And so I think that the gross profits can be kind of imputed based off of that, and therefore the gross margin.

Walt Liptak – Barrington Research Associates, Inc.

Okay. Yes, understood, back-end. Okay. And then, I understand about the new program wins that you don't want to discuss, specific programs. But I wonder if you can give us some detail about within what sectors you are seeing program wins and/or losses and maybe geographic region as well?

Tom Burke

Yes. Well, clearly, we, in the vehicular side, very much targeted on the commercial vehicle and off-highway global customers and regional customers. In all cases, I can tell you, I'm very optimistic with the strategy we've taken on with the Four-Point Plan to hone our products down, focused on that, and we are seeing what – as I projected, as I mentioned, we are satisfied on expectation with the win rates going forward. So you can just kind of summarize on that that we feel very confident with the combination of the portfolio, our focus on the – on those market segments on a global look, we feel very, very confident with where we are going forward on.

On the commercial products group, the non-vehicular side, we are very high on expectation with the new product offerings we've launched recently, a dozen or so new products over the last 18 months and have in our portfolio new products coming out. We feel very positive about that above-market sales growth rate in the markets we serve and new markets that we are developing because of those products.

Walt Liptak – Barrington Research Associates, Inc.

Okay. I guess on a net basis over the next 12 months, do you have – and I understand that you are – you've been rationalizing some of the programs too that are not as profitable. But I wonder, on a net basis this year, if you've got more new programs that are rolling on than coming off?

Tom Burke

Yes. We have been public in that information, Walt. So obviously there's – there is a switching, as my comment mentioned and going on, but we – I would just say we are confident on our growth strategies and plans and targets that we are on track to hit the win rates and the order books are building in a fashion that satisfy our needs for our growth rate projections.

And I think you can sense that with where we are focused on coming through the crisis that we have, our second objective is making sure we are focused on that future growth in that three to five-year outlook. Again, we feel very positive about that.

Walt Liptak – Barrington Research Associates, Inc.

Okay. The new program wins, are those going to impact more this – I mean, is this something we should think about more for next year, 12 months out from now?

Tom Burke

Well, clearly, there is always a delay in our business on the OE sector from award to launch. So – but it – it is – there is a kind of a balanced amount as you look forward of things we've been working on. So you can kind of expect a trajectory of wins that roll with time.

Walt Liptak – Barrington Research Associates, Inc.

Okay. And have you said what the – you expect depreciation and amortization to be in 2011?

Bob Kampstra

We have not said that. But when you look at our capital spending and what it's done, you can kind of get a sense for our depreciation.

Walt Liptak – Barrington Research Associates, Inc.

Okay. Okay. Thanks, guys.

Tom Burke

Thanks, Walt.

Operator

And your next question comes from the line of Adam Brooks from Sidoti & Company. Please proceed.

Adam Brooks – Sidoti & Company

Yes. Good afternoon at this point. Looking at Asia can you maybe talk about how the ramp-ups have gone? I know you have a lot of new platform ramp-ups over there. And maybe talk about what level of revenue we need to see for EBIT to be breakeven?

Tom Burke

Well, I can tell you that the growth rates that we are seeing in Asia of both that we are launching now and the order book that's building, we are very, very positive on them. The Asia region, post the divestiture in Korea, has obviously become smaller, but it is a growing piece and you will see significant presence in the next couple of years in our three to five-year plans.

So we are more than exceeding our expectation with – again, focused on the off-highway and commercial truck business in those regions and quite frankly, look at opportunities in the commercial products group as well. So this is a very exciting region for us, one that I am very excited about personally along with many other segments of our business. But we have the right team in the place building confidence and the order book is building well.

Bob Kampstra

To your second question on what level of EBIT – what level of volumes we need to see EBIT at breakeven, if you turn back to slide eight, which was our – showed our fourth quarter fiscal 2010 results, EBIT or earnings before interest and tax, largely corresponds to our operating income and you can see that in the fourth quarter, we generated positive operating income of $1.3 million on our current volume levels. So as we talked, we are kind of at – we are right around that breakeven level at the current – at our current volumes.

Adam Brooks – Sidoti & Company

Let me clarify that. I actually meant within Asia.

Bob Kampstra

Oh, I'm sorry. I thought you meant the total company.

Adam Brooks – Sidoti & Company

Sorry. Yes, I guess – within Asia, I guess, around what revenue you need to break even?

Tom Burke

Yes, we are currently in the building mode, okay, with the investments we put down. So we are – we expect and have forecast and high confidence that we will see the return on performance bottom line in Asia occurring in time with what we are projecting and to satisfy those investments with a positive return. Right now, we have not projected it specifically by the Asia region, but we are confident we are on path to realize the benefit of those launches and growing top line opportunities.

Adam Brooks – Sidoti & Company

All right. Thank you very much.

Susan Fisher

Thanks.

Operator

And your next question comes from the line of David Leiker. Please proceed.

David Leiker – Robert W. Baird & Co.

Good morning.

Tom Burke

Good morning, David.

Susan Fisher

Hi, David.

David Leiker – Robert W. Baird & Co.

So I confirm – follow up on a couple of items here first. So your guidance assumption of 8% to 12% revenue growth, you are using a $1.22/euro in there?

Bob Kampstra

We are using basically close to the current spot rate, yes.

David Leiker – Robert W. Baird & Co.

So $1.22? Or $1.25 – it's – I mean, the euro is moving all other the place, so when you did your spot rate it could have been $1.30. I don't know.

Bob Kampstra

We put the $1.23 in here with the May 28th as a demonstration point.

David Leiker – Robert W. Baird & Co.

Okay.

Bob Kampstra

This is relatively consistent with what we are doing from a forecasting perspective.

David Leiker – Robert W. Baird & Co.

Great, thanks. And then given that you've got a large amount of revenue gain from Brazil, what are you throwing in there? What do you have assumed in there, because you've had a pretty significant revenue gain there in the quarter from Brazil as well?

Bob Kampstra

Are you saying from a currency perspective?

David Leiker – Robert W. Baird & Co.

Yes, South America. I think, if I did my math right, it's about $8 million that you got out of South America from currency.

Bob Kampstra

What periods are you comparing that to?

David Leiker – Robert W. Baird & Co.

Q4. It's off of your slide eight – no, sorry, slide –

Bob Kampstra

Slide 10, we show that South America was up $2.5 million and currency was actually down $1.2 million.

David Leiker – Robert W. Baird & Co.

No, I'm looking on the slide eight, where you show South America up 61%, but up 25% ex currency. So $8 million of that $13 million, if I did my math correctly, is currency?

Bob Kampstra

I see what you were saying. Yes, for the total year, your – that, that's – no, that's for fourth quarter versus the fourth quarter of the prior year. We've seen the reais. It's been very volatile over the past several years, but as of late, we haven't seen that sort of volatility, and we really are using kind of the forward curves that are out there right now for the reais in our planning assumption.

David Leiker – Robert W. Baird & Co.

Okay. And is the – the profit impact of the currency going through South America any different than the example you gave for Europe?

Bob Kampstra

Different from the standpoint that South America is a lot smaller of a segment than Europe is?

David Leiker – Robert W. Baird & Co.

Yes, the $40 million in revenues, $2 million in profit. Is that rough relationship consistent with South America as well?

Bob Kampstra

Roughly. I mean, right now, our European gross profits are a little bit lower than our Brazilian gross profits.

David Leiker – Robert W. Baird & Co.

Okay. And then another item and try and – on the pension. What was your pension – actual pension expense for 2010, assuming we have a base to work off of here?

Bob Kampstra

Yes. Approximately $2 million.

David Leiker – Robert W. Baird & Co.

Okay. And then where do you anticipate going as it relates to your discount rate, your 7.73% a year ago, I think?

Bob Kampstra

Yes. We are seeing the discount rate environment dropping to just south of 6%.

David Leiker – Robert W. Baird & Co.

Okay. And then any change in our return on asset assumptions?

Bob Kampstra

No.

David Leiker – Robert W. Baird & Co.

– a year ago?

Bob Kampstra

No change. Our – no change in our return on asset assumptions.

David Leiker – Robert W. Baird & Co.

Okay. And then – sorry to go through this detailed numbers, but I mean, you are giving your guidance on EBITDA that adjusted EBITDA would be consistent year-over-year? And your adjusted EBITDA for 2010 was $86.2 million.

Bob Kampstra

Yes.

David Leiker – Robert W. Baird & Co.

That included $10.5 million of adjustments. How would that $10.5 million number compare to what you are giving – with your qualitative comment as it relates to 2011? I'm trying to work into an EBIT – into a GAAP EBITDA number because –

Tom Burke

I guess that information is really – it's not public information right now, right, if I understand it. So we just need to be careful with that.

David Leiker – Robert W. Baird & Co.

Well, I understand. But you've got a $10.5 million adjustment to GAAP EBITDA, which is over 10% of your adjusted EBITDA number. I'm just trying to get a handle on what you think those restructuring costs and non-cash charges might be in 2011? It’s – I mean, it's a pretty big number.

Bob Kampstra

Yes, that's not – it's just something that we are not capable or prepared to be able to share with you at this point.

David Leiker – Robert W. Baird & Co.

Let me ask the question a different way. If you gave your guidance on GAAP EBITDA, would your qualitative comment be comparable, consistent GAAP EBITDA?

Bob Kampstra

It's – it’s really the same question basically. It's just not something that we have the details that we are willing to share at this time as to – we are not projecting for the – we are not projecting out for the call what our restructuring costs are going be as we look at fiscal 2011.

David Leiker – Robert W. Baird & Co.

Okay, got it. Okay. The $4.7 million non-cash charge in Q4, can you explain that please?

Bob Kampstra

Yes. So during the fourth quarter, we had impairment charges of $1.4 million that we are adding back.

David Leiker – Robert W. Baird & Co.

Right.

Bob Kampstra

We had some exchange – we had some exchange losses, foreign currency exchange losses at some intercompany loans. So we got some intercompany loans between our business segments and there was approximately $1.9 million of losses that we add back – that we are allowed to add back for our bank covenant purposes.

And then from a restructuring and repositioning charges – charges related to the closures of our plants. We completed the closure of our Pemberville facility during the fourth quarter and we have the upcoming closure of Logansport and Harrodsburg that we are working on here being completed in the first quarter. That was another $1 million. So that basically that comprises that – those pieces.

David Leiker – Robert W. Baird & Co.

Okay. And then one last item here on the working capital. It seems like you have a pretty significant jump in receivables, you are up 37% from last year on a 28% sales increase, and sequentially the receivable number is actually up higher than the revenue increase.

Bob Kampstra

Yes. When we looked at our increase in receivables consistent with our – we view that relatively consistent with our sales increase. We actually look at our day sales outstanding and our day sales outstanding have actually decreased just slightly on a year-over-year basis.

David Leiker – Robert W. Baird & Co.

Okay, great. Thank you.

Bob Kampstra

Yes.

Tom Burke

Hey, David. David, before you leave, just sitting here thinking about your question on the restructuring charges this year, and qualitatively I guess is we can say that we are probably looking at equal level of restructuring charges going forward.

David Leiker – Robert W. Baird & Co.

The restructuring and non-cash? That total combined number of $10.5 million?

Tom Burke

Yes. Yes, I mean –

David Leiker – Robert W. Baird & Co.

I'm trying to get to the number that reconciles.

Tom Burke

I know where you are trying to go. And I guess you kind of had a good question, but roughly I would say that's on track. That's something you could take forward.

David Leiker – Robert W. Baird & Co.

Okay, thank you.

Operator

And your next question comes from the line of Brian Sponheimer. Please proceed.

Brian Sponheimer – Gabelli & Company, Inc.

Hi, good morning.

Tom Burke

Good morning.

Brian Sponheimer – Gabelli & Company, Inc.

Good afternoon.

Tom Burke

Good afternoon. How are you doing, Brian?

Brian Sponheimer – Gabelli & Company, Inc.

Very good. I wanted to discuss North America really on slide 10. I think you did a good job of laying out your adjusted profit as sales have increased. And as profit has gone from $6 million in the second quarter to basically breakeven in the fourth quarter despite sales increasing, is that all commodity there or is there anything – is there anything from an operational standpoint that's getting in the way of getting to positive contribution margin in the North American market?

Bob Kampstra

Brian, that largely is the commodity related impact we started seeing in the third quarter and then as we anticipated, additional impact in the fourth quarter. And that's basically what that is.

Brian Sponheimer – Gabelli & Company, Inc.

Okay. And as we are looking at your operating segments and your geographic exposure, how should we think about that relative to commodity exposures? Is there more aluminum in the automotive markets relative to copper?

Bob Kampstra

Yes. I mean, our spend on aluminum on a global annual basis is about six to eight times the spend on copper. So we are quite a bit more impacted by movements in aluminum prices versus copper prices.

Brian Sponheimer – Gabelli & Company, Inc.

All right. And then I suppose that that leads into the next question, which goes back to working capital. Expecting a pretty significant ramp in North American trucking with Asia continuing to grow and Europe bottoming out, how should we think about the requirements for working capital and free cash flow as we are going through your 2011 fiscal year?

Tom Burke

We anticipate that the working capital demand from – as we build up those volumes at 8% to 12% are going to require the buildup of working capital inventory, but – so I think it's all factored into the plans. We feel very appropriate that we are managing that appropriately.

Brian Sponheimer – Gabelli & Company, Inc.

Okay. And I suppose the last question on the commercial products group. Given the sequential decline in the fourth quarter attributed mostly to seasonality, have you seen that seasonality reverse itself during the first – I suppose, the first two months of the 2011 fiscal year where you are looking at gains for really 2Q and 3Q here?

Tom Burke

Brian, it's right on track where we expected. As we anticipated, we have the up and down seasonal effect. So we see no reason to think that that's going to be any different for market. That's why we made you the comment that we think it's a relatively flat market, that we are still going to have the upside in sales. So that's anticipating that typical forecast uptick that we see every year at a – at the current economic level.

Brian Sponheimer – Gabelli & Company, Inc.

Okay. And then – well, just finally one more, if I may, just from a strategic standpoint. You are clearly trying to decrease your capacity in certain areas. Are you seeing any opportunities to grow from an acquisitive standpoint, certainly given your liquidity now and where might we think about areas where you could pick up technology and perhaps provide scale?

Tom Burke

Well, I think first up, just to clarify one thing. We are not giving up basic manufacturing capacity, we are building scale. So we are keeping the same capacity just and less overhead from a standpoint of fewer plants. It would be larger on a scale basis. So I wanted to make sure that that's sure that we are not giving up the capacity. We are utilizing that capacity to a more efficient level.

As far as – the second part of your question was what now? Oh, the acquisition side?

Brian Sponheimer – Gabelli & Company, Inc.

Correct.

Tom Burke

We are – right now, we have – we've reenacted – re-supplemented our business development opportunities and we are looking both through organic and inorganic opportunities. That's something that we are going to continue to do as we look for opportunities coming forward in the future with our opportunity now to be more aggressive potentially in that area.

Brian Sponheimer – Gabelli & Company, Inc.

Okay, thank you.

Tom Burke

Thank you, Brian.

Operator

And your next question is a follow-up from the line of David Leiker from Robert W. Baird. Please proceed.

David Leiker – Robert W. Baird & Co.

Just one additional item here. I think it was a year ago, maybe it was nine months ago, I'm not sure exactly, but you made a comment – I think it was right after first quarter earnings that – $250 million in revenue, your guidance as we hold that and we'd have $100 million in incremental revenue from new business. Did – how much of that $100 million did you actually end up realizing do you think here in 2010?

Tom Burke

That's a good question and I'm not prepared to answer it, but I can tell you that – I can tell you qualitatively that we've – all of our pursuits that that were right on track with our growth rate. So I mean as – go I'll go back through that. I – we did – I'll make that statement that we had opportunities, but we are – there is no reason – there has been no indication of why we have not achieved that $100 million that we defined earlier. I can tell you from our win rate, our order book is building.

David Leiker – Robert W. Baird & Co.

Okay. And then –

Tom Burke

I don't have that quantified, David, to that data point you are talking about, the time where we talked about the growth opportunities. But yes we are on track with the growth opportunity objectives, clearly.

David Leiker – Robert W. Baird & Co.

So the things you expected to start up have started up? They're on track with what you have expected?

Tom Burke

The only – I've mentioned that there have been some customer delays, namely in Asia, specifically in India with a couple of the program launches there. They have not been on our part, they have been on customers actually delaying some of the programs with the emission changes and things over there. But other than that, we are right on track with where we thought we would be.

David Leiker – Robert W. Baird & Co.

Can I – would I be successful if I ask you to give us the number for 2011?

Tom Burke

No, you won't

David Leiker – Robert W. Baird & Co.

Do you think it's bigger or smaller than that?

Tom Burke

Let me put it this way. My confidence is growing on our future opportunities, okay? As we've come through this thing and positioned ourselves, the level of confidence that we see in the marketplace from our customers, the opportunities we are being engaged in to grow those relationships and thus the order books.

So I can tell you from – if I could – I can definitely quantify this, okay? My confidence, where it was last time we talked about this versus now, is a 100% higher, okay? So our opportunity is moving forward.

David Leiker – Robert W. Baird & Co.

Great. Thank you.

Operator

And we have no further questions in queue. And I'd like to turn the call back over for closing remarks.

Susan Fisher

Thanks, everyone for joining us for our call. We look forward to apprising you of our progress.

Tom Burke

Thank you.

Operator

Thank you for your participation in today's conference. This concludes the presentation, you may now disconnect. Good day.

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Source: Modine Manufacturing Company F4Q10 (Qtr End 03/31/10) Earnings Call Transcript
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