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Executives

Shaun Smith - Investor Relations

Joe Morgan, Jr. - President and Chief Executive Officer

Analysts

Charlie Strauzer - CJS Securities

Standard Register Co. (SR) Q3 2010 Earnings Call October 29, 2010 10:00 AM ET

Operator

Good day, everyone and welcome to Standard Register’s Third Quarter 2010 Conference Call. Today’s conference call is being recorded. As a reminder, the presentation slides for today’s conference are available by accessing the Investor Center section of the Standard Register website at www.standardregister.com/investorcenter.

I will now turn the conference over to Shaun Smith. Please go ahead.

Shaun Smith

Hi, good morning. And welcome to Standard Register’s Third Quarter 2010 Investor Call. Joining me today is Joe Morgan, Chief Executive Officer and Bob Ginnan, Chief Financial Officer. Before we get started, I’d like to remind you that today any forward-looking statements that we might make are covered by the Safe Harbor statement that can be found in the company’s earnings new release as well as accessing our website.

In addition, we will make references to financial measures that are not in accordance with Generally Accepted Accounting Principles or GAAP. Management believes that the use of those measures will enhance our audience's understanding of our financial performance and are not meant to be considered in isolation or a substitution of GAAP.

For today's call, Joe Morgan will have a couple of comments regarding the highlights for the quarter that will be followed by Bob Ginnan's overview of the financial statements, at which time Bob will turn the call over for questions that him and Mr. Morgan will answer.

So with that I turn the call over to Joe Morgan.

Joe Morgan, Jr.

Good morning. We're excited today to be talking about our earnings and performance for the last quarter. As you're probably well aware at this point, this is a key pivot point in our turnarounds leading to transformation.

And so I'm going to talk a little about that. One of the things that we're doing a little different today is that we've taken this investor call and a follow-up town hall with all of our employees to Boston. We have a great deal of business on the East coast and we have a fairly good size number of employees for our company there as well. So part of our transformation is to connect the performance of the business with employees throughout the country. So we're doing that just by way of reference, so a few a highlights for the month.

As Shaun pointed out, I'm going to provide some specific details to give a little bit clearer view of how we're performing against our strategy. First is around revenue. We came back to growth. It's been a long time since we've grown as a company and it's the sixth quarter in a row where we've demonstrated performance improvement. We're feeling more stable, of course, that the revenue level which is a key driver for the future of the business.

From a gross margin standpoint, we saw slight improvement on a percentage basis when you adjust for LIFO. On an SG&A basis we're controlling our expenses while we reinvest in the business, and the MyC3 plan that we announced last year has progressed quite well. And as we mentioned, we have reinvested a good portion of some of the earnings improvement opportunity that's come from that in the business, and that's a key factor in our transformation.

And then from a net income standpoint, $0.05 a share, 1.4 million positive for the year. Bob will get into more detail there. And then of course, on a cash basis it's very important for us to have positive cash flow. We achieved that in the quarter. We're still negative 3.2 million for the year, but we intend to be break-even by year-end, taking into consideration the level of investment that we've made thus far. So very excited on the financial performance. A lot of work yet to do, but I think, again, consistent progress towards what we ultimately wanted to do is to get back to profit, positive cash flow and grow as a company.

A few things that I'll point out, as Shaun said, the slides are available. When we announced the turn-around back in 2009 when I officially became CEO of the company we were focusing on a few things. We first wanted to stabilize revenue because that was the catalyst for the future and we wanted to begin the process of adjusting the portfolio.

With that would come an improved earnings, but we had to also catalyze that through a very aggressive process which we called MyC3. And then we have some unique attributes of our business, which are around the pension. And we obviously have to do our best to mitigate the risk there, but then make investments in the company and reward our shareholders through dividends.

So we had to manage that cash flow component very closely, and we've been successful in the midst of this turn-around in doing that. The key steps for us to be able to operate in the turn around, though, were first to have a very robust operational plan. I've talked about the five points of change several times on previous calls and that's the way we structure the business and align our objectives.

And the second thing which is really important, we've talked about culture on many calls before in terms of transitioning our go to market business from being very print centric to services and solutions, and we're making that move. But it's not just the go to market, it's the entire company. So we're making progress there.

And then thirdly is to develop a growth strategy that's not based on what we'd like to sell, but more in line with what our clients are interested in purchasing to help them achieve their goals long-term. And we've made progress on all three fronts, which I think is indicated here by our financial performance.

There's a slide in the deck that shows trend, and I think trend really starts to show the story more clearly. We've have six straight quarters of improvement at the top line. Our earnings per share brought us back into positive. We had two quarters where we've had positive earnings over the last six, but we've had three in a row where we've shown improvement. And then cash, of course, reversing the negative from the previous quarter and more in line with what our expectations are going forward.

Moving to transformation, really the first phase of my tenure as CEO has really been a turn around. We still have a lot of work to do to stabilize our business. We have a portfolio that has a tremendous legacy component to it. But with that legacy we have tremendous relationships with customers in our key markets that want us to extend ourselves into new areas and we're doing that. But we need to overcome some of the decline in the legacy portfolio by refreshing that on what will now become our core for the future.

So the first thing we needed to do in our transformation plan, it's actually quite straightforward. The first one is to gain share, but then to optimize the business we're in. So we're doing that. Our retention levels are better than they've been in historical measurements. We're being very successful in acquiring new accounts. I'm going to feature Healthcare, a couple of instances with Healthcare when I talk to you. We are extending ourselves into the market, so that we get a greater deal of greater coverage level, where it's not just a direct selling effort. We are being more successful with our telesales investments as well as our web capability, but also partnerships that can get us in touch with clients in our markets. Again, market focus is still the key issue there.

And then around our supply chain and manufacturing footprint, we're optimizing that to be relevant for the future and aligning ourselves with key partners that provide things that we need to provide to our customers, but really don't desire to invest in the manufacturing or operation capability to produce it ourselves.

And then the other part of the transformational plan, and we're not going to share much detail here in terms of new solutions for the future because we're evolving here. But I can tell you that over the course of the last six months, we've instituted a much more robust commercialization process and we've brought several new products out to market, a few in Healthcare, a few in our Commercial business. And you know from previous calls about our in-mold labeling solutions within the Industrial business. So we're bringing out a more robust portfolio than we have previously, which is very exciting.

Our goal in the markets is to establish a leadership position. I think that's happened in our Healthcare business. I know it's happened in our Healthcare business. I would say that we're moving rapidly in the Financial Services space. And in the Industrial business in the few areas that we've chosen to focus, it's evident that we're really beginning to establish ourselves there, as well.

So let me give you a little bit of detail within the three markets, and then I'll talk to you a little bit about the operations. In the Commercial business, we signed 6.8 million of new contradicts year-to-date, and combined 2010 and 2009 we've realized 9.3 million in revenue so far. Revenue continues to stabilize and profit trends are improving. We're accomplishing that by eliminating things from our portfolio that are not profitable to us, and then actually turning things that in the current state aren't profitable into profit by working more closely with our customers on ways to achieve that.

Our marketing solutions continue to grow at above market rates, double-digit. And that's part of our transition is to provide solutions, which include marketing prints but are not print-centered necessarily, software-related, professional services related. If we look at our Healthcare business, we've signed 12.7 million in new contracts year-to-date, and we've realized about the same as we have in the Commercial business so far. Novation, we've secured 12 million and we have a pipeline that's three times the size of what we've already secured.

Our growth in technology, which is a key part of our future, is up almost 50%, with one of the largest periods we've had historically at about 2.4 million in new installs. And then, we continue to make advances in our patient ID and safety area that we've talked about beyond the traditional document space, with GPO companies like Premier and Broadlane, but also as we look at Precision Dynamics, which is a partner, and then JL Group, we've moved to the U.K. with a partnership or relationship with that organization to bring some of our solutions into that marketplace.

In the Industrial business, in the quarter, our revenue grew 12% over prior year, and year-to-date 20%. So a portion of that is the economic rebound, but honestly, we're taking share by being more focused in our go-to-market effort. We're very excited about the Mexico operation. We put that in place several years ago so that we could take advantage of some of our customers moving into that market. And year-to-date we've surpassed 2009 revenues in the first three quarters of this year; pretty exciting for the company.

In the Industrial business, we've signed 6.2 million of new contracts, with about 6 million realized. And then, in the In-Mold Labeling and this is very important, we've signed 3 million in revenue year-to-date, but we have a pipeline that's very robust, in line with the question that I've been asked, so how big is this potential. And I think you can start to see that now with the pipeline. In terms of Shared Services, we're on track with the savings that we had the earnings improvement, rather, that we had mentioned previously.

We talked about our SMARTworks platform transitioning to a new data center. That was completed last month. Our digital investment network refresh is essentially complete. And we use Net Promoter Score for client loyalty measurement. We just introduced that this year and it's progressing nicely for the business. So we're excited about those changes. I'm trying to demonstrate here that in every business segment we're making progress and it's very focused on the customer, revenue generation and improving profit.

I'm going to tie off on a couple of things. I mentioned some of these in the previous slides, is the MyC3 earning improvements on track. I'll call out that we've realized 19 million year-to-date. We've reinvested 12 million in the company. And some of that is reflected in the SG&A, the amount of SG&A we have in the organization, but it's an investment that we've made for the long-term improvement of the company. But we have had a net earnings impact of 7 million this year.

The digital print network refresh that we started in Q1 is essentially complete. We're in operations and have been for awhile, and we're seeing the impact, both in gross margin, but honestly, in the quality of the products, we're providing to our customers, and the associated capability.

The SMARTworks upgrade was announced in Q2 and we've successfully completed that in Q3. Very exciting, it's having a positive impact on our customers in terms of performance of our web-based applications. And as we go forward, we fully expect that even a higher percentage than today of our clients' transactions with our company will run through that SMARTworks platform. So we continue to make that investment.

The Precision Dynamics agreement, we talked about that in the previous call. In the Q3, we had $500,000 in incremental revenue as a result of that relationship. As I mentioned, we're making decisions now that will have immediate impact on the business, as opposed to long-term impact. So IML is having an impact, Precision Dynamics is having an impact.

The next one, of course, I just mentioned was Fusion Graphics. Since we've brought that into the company, it's been fully integrated. We have eight registered patents, four pending, and we of course, for film is a critical trademark, as we go forward. It was interesting, during the quarter, we actually spoke at a rotational molding conference in Canada, about in-mold, and we were the hottest product at the show. So, we're very excited to validate in the market, the opportunity that we have.

So just tying off on a few of those things. What I'd like to do now is transition into a focus. And I'm going to actually do this in subsequent investor calls where I want to talk about in a little bit more depth, some of the things we're doing in the markets.

Talk about Premier. We extended our position within Premier recently in a multi-year agreement, where we're providing document management. We secured a new contract for several solutions that we previously hadn't that involved in including our print shop management, electronic forms, et cetera, document imaging services.

The opportunity that's before us is 2400 hospitals and 70,000 locations. We project the revenue base allows us to protect the revenue base of 56 million, but more importantly gain access to 25 million in new revenue opportunity.

We're also the sole supplier to a subsegment of the Premier agreement, which is called ASCEND, which essentially requires all members to be compliant in a 100% way with the sole supplier, which would be us. And that gives us access to $8 to $10 million in more of our traditional products, but we hope to extend that beyond. So this is a very important opportunity for our company, especially as a sole supplier.

A new announcement, we haven't sent this out publicly, but we did extend, rather, our GPO contract with Broadlane. It's a three-year expansion through effective October 1. We had previously had a document management contract, but as you know, with our Healthcare business model, document management is one of the key pillars, patient identification and safety is the other. This contract expansion allows us to bring patient identification wristbands to that network of acute care hospitals which is approximately 1,100, and there are 50,000 other facilities that we also gain access to. The opportunity we project is in the $5 million to $6 million range.

One of the other objectives for each of our businesses is to really think about how we could be more global and international in our scope. And Brad Cates, the President of the Healthcare business, has established a relationship with JL Group where we're bringing our laser wristbands in patient marketed as PATIENTBAND, in that area to the $60 million, the 60 million people in the NHS in the UK. So that's exciting for us, too, because it's giving us access to a very different healthcare system, but also a whole different marketplace. And we expect to report out on that as we go forward.

I'd like to conclude my section before I hand it off to Bob with just a couple of key comments. We're very enthusiastic about the performance of this quarter. It's another step in our turn-around leading to transformation. But we also realized there's a lot more work to do. I mentioned we have a legacy portfolio that has solutions and products in it that are diminishing and expectation in the marketplace to some degree. But those customer relationships are incredibly important to us and they desire for us to expand from the legacy to a new set of core products, which we're doing. But we need to offset that legacy decline that's happening, and we're working very diligently to do that. But that's something that we're working hard on and it's a key concern going forward.

Price is stabilizing but we see that continuing to be an issue, especially as a manufacturer that uses raw materials in our processes, there are numerous instances where we're seeing price increases and we have to continue to manage that quite well. The pension is a critical issue for our business and Bob and I spent a lot of time with the Board looking at how to minimize the risk that's associated with that. But it still remains a very important part of our business.

And the other balancing act that we have is to continue to reinvest in the business for the transformation while remaining neutral to slightly positive in cash flow. We have to stay that's a critical component of our viability going forward.

Having said all of that, though, those are our responsibilities. Those are factors of our business that are all included in how we manage the company. We're extremely excited about where we are right now. We have a lot of work to do, but I think today we've an opportunity to share a critical point in our transformation.

And with that, I'll turn it over to Bob and he'll share more in depth about the financials.

Bob Ginnan, Vice President, Treasurer and Chief Financial Officer

Thank you, Joe. Turning to the operating statement for the quarter, 163.6 million versus 163.5 million, so growth first time in a long, long time. Last year at this point, we were down 13.5%. Gross margin, slightly under last year, 31.7% versus 32.5%. As Joe mentioned, we had a very favorable LIFO adjustment last year of about $2.3 million. If you factor that out, slight improvement on the gross margin line as well.

SG&A, we've talked about investments throughout the year and you'll see SG&A for the quarter actually came under last year by about 1.6 million. This is after we invested about 3.5 million in various investments and also absorbed another $1 million of pension amortization in that number as well, so good progress on the SG&A side.

One item of note in the section down below, Environmental Remediation, typically we have some pretty large expenses here in the last couple of years. We actually got a benefit this quarter. One of our landfill projects, we reduced our participation, so therefore we had a nice, favorable adjustment there.

Pretax income, 2.7 million versus a loss last year. The loss did contain the big restructuring charge we took as part of the MyC3 initiative, leaving us with a net profit of $0.05 or 1.4 million versus a $0.19 loss last year.

Turning over to the year with the growth in the quarter, that leaves us at a 2.6% decline. Last year we were looking at a 14% decline, so quite a nice progress there on the revenue side. Gross margin, dead even with last year.

LIFO on a year-to-date basis was about the same in both periods, so it's a pretty good comparison. You'll see that SG&A is actually up in the year as we've continued to invest quite a bit during the year offset by savings.

We're starting to see that turn here in the third quarter, leaving us with profit for the year. So we had enough profit in the quarter to bring us to the profit year-to-date, $1.1 million versus a $22 million loss last year.

Just some brief comments on the business units. As we turn and look to where the revenue came from, first of all, we had a very nice quarter in Healthcare, growth over last year. In the second quarter call, you remember we talked a little bit that we were not quite getting to where we wanted to be on healthcare, and we felt that progress was coming and it's evidenced here in the results of the quarter.

You can see the impact of the LIFO down below there in the margin. And the other point on the operating profit is we broke through to profit on the Industrial business unit as well, so a couple of nice stories on the profit there.

For the year, pretty much follows in line with the comments from the consolidated company. I will point out, though, as you think about the fourth quarter, remember last year, we run a fiscal calendar. Last year is the year we had an extra week, a 53rd-week in the year. So that's worth about 8.5 million as you think about the fourth quarter here.

On the gross margin we see improvements in Healthcare and we also see improvements in Industrial. So making some nice progress there.

Turning to the balance sheet, for the quarter we had our net debt change by about 7.5 million, so we have positive cash flow of about a little over 7 million. Good progress there after the second quarter. Second quarter we had both the acquisition and some increases in working capital that drove the negative cash flow, came back in line as we expected. We are expecting to approach breakeven, plus or minus a little bit, in the fourth quarter. So we expect another strong cash flow quarter.

Turning now to the cash flow statement, just a couple of items to point out beyond the net cash flow. You'll see capital expenditures, 6.5 million. If you recall back in the second quarter we talked about the 6.5 the capital expenditures, but we also leased a little over $6 million of equipment this year, and we expect to spend another $2 million to $3 million as we finish out the year here, ending slightly less than what we had initially projected at the beginning of the year. You'll see the $2.5 million for the acquisition and through the third quarter we made almost $18 million of contribution to the pension plan. We're headed towards about 25 million for the year there on the contribution side.

So with that, that completes the summary of the quarter, nice progress. And with that, I'd like to turn it back to Laurie for questions.

Question-and-Answer Session

Operator

Thank you. At this time, we are ready to begin the question-and-answer session. (Operator Instructions)

I would like to introduce the first question as Charlie Strauzer with CJS Securities.

Charlie Strauzer - CJS Securities

Let's just talk a little bit about, if we can, about the return to growth year and, obviously very modest growth, obviously, but still growth nonetheless. And your thoughts on kind of where this kind of takes us from here for not only this year, but maybe into next year. Obviously, Q4 you've got moving parts with various changes in the number of weeks. But try and give us some directional sense as to what you're seeing kind of early on in the quarter already.

Joe Morgan, Jr.

Well, we've had this conversation pretty often, Charlie. As you know, we're in this turnaround. We feel that we're getting to stabilization as we've noted. You can look at the trend that's dictated on the slide that we've shown and you can see the progress. I wouldn't draw that line into the future and suggest that that sloped line is going to be the answer.

But I will tell you that the investments we're making and the approach we're taking we feel more positive about the business than we've felt in a really long time. We're not yet in a position to declare victory. We have a lot of work to do yet. So we're really not in a position to give the kind of guidance that I think you're looking for. But you can see through the trends, stability and underneath that stability is a lot of really, really good work in the business.

Charlie Strauzer - CJS Securities

Is it safe to say, though, that things have not gotten worse, though. I mean, it seems like you've seen a modest pickup a little bit here and you've picked up some new wins, but it feels like it hasn't gotten worse at least, right?

Joe Morgan, Jr.

No, I think it's getting better. I mean, I would say that we're in a stronger position. We lost essentially $100 million in the economic downturn period and it's very difficult to get that back, obviously, because of that adjustment. But I would tell you that through that period the investments that we've made have made us a stronger company. The insight that we have in the market is incredibly precise.

And the pipeline that we have is very market focused and it's grown. I can give you some factors on that. Our pipeline in our commercial business and our healthcare business is up 20% quarter-on-quarter and I'm talking about late stage. And our industrial business is a little bit less than that in terms of growth, but some of that is just due to the in-mold labeling. It's taking us a little longer to get adoption of IML than we thought because of the nature of the technology.

That's not to say that the opportunity is any less than we thought, it's just that it's taking a little bit longer due to the technical challenges. But I feel very good about it, but I'm just not in a position yet to state what the next number is going to be. But we're not going to be talking about our goal is not to be talking about degrees of decline as being a positive comment about our company.

Charlie Strauzer - CJS Securities

Excellent. And if you look at some of the areas where you are seeing that pickup, how much, if you can maybe kind of help us out here in terms of how much of that is pure organic, just your sales force driving the growth versus end-user, kind of already established customer growth and demand?

Joe Morgan, Jr.

Okay. So that's a good question. I would say the growth in healthcare is predominantly our sales efforts. I would say our industrial business and again, this is rough, would probably be a third of the growth is industry rebound and the balance is market share gain. And then in our Financial and Emerging sectors the Financial market is a little we're recovering there but it's still not where we want it to be. As you can tell by the performance versus prior year, it's still a little bit down.

Our Emerging business is also a little bit down. That's a different discussion. But I'd say Healthcare and Industrial, the majority of the growth that we're seeing is related to our go-to-market effort and organic activity.

The one thing that is interesting, though, is we are participating more and more outside of our normal portfolio and the professional services and more solution technology opportunities for us are expanding as well, which is an exciting point for us.

Charlie Strauzer - CJS Securities

And Joe, when you kind of look at the current competitive environment that's out there, obviously, your large cross-town rival has dipped into a prepackaged bankruptcy. I mean, what are you seeing there in terms of potential customer win pickups there or share gains? And also, too if you can talk a little bit more about the overall competitive environment and maybe some potential acquisition opportunities that may be coming out. Because obviously there are some distressed properties out there that have been surfacing given the current environment.

Joe Morgan, Jr.

I'll start with the easiest one which is the acquisition. We're not interested in buying print assets that are not focused in the market segments that we're involved in. So that would kind of be the only interest that we might have.

Our acquisition opportunities that we see on the horizon are more around technologies and solutions that are helping us advance our position in key markets like Healthcare and Financial Services. So you're right, though, there is a lot of activity there. And the interest in having us participate in those types of things has grown with our market focus.

So I think as time goes on, especially with cash flow hopefully improving, we'll be in a better position to take advantage of some of those changes than we may have been over the last few years. But that will become an increasingly important part of the strategy, although I'm not announcing anything at this point.

In terms of the competitive environment, you're right, we do have a company in the same zip code that's had some challenges. We compete in our Healthcare business probably with them more than we do in other segments. As we get to the enterprise level, especially in the Emerging business and Financial Services, we have another large more traditional printing competitor that we compete with.

But more and more what we're finding especially as we've reshaped our business to be market focused, the competitive landscape has changed a lot. A lot of the competitors that we're in with now are not they're not print providers, they're solution providers, technology providers. And sometimes it's creating a partnership opportunity for us. Other times it is in fact a competitive situation. But I fully expect in the next probably a year to 18 months as we talk about competition as it relates to Standard Register, it will be very different than the competition that we've traditionally talked about.

Charlie Strauzer - CJS Securities

Got it. And then just, obviously, you still think that you kind get to break even cash flow for the year. You've got $25 million estimated payments on the pension. Any thoughts as you're looking into next year about the pension that any changes that we should bake into our models here?

Bob Ginnan

Charlie, this is Bob. We're in that range of 25 million next year. We don't know exactly where it's going to hit, but we've kind of talked about it before that it's probably going to increase a little bit, maybe up to 30. But I think that changes every day. So...

Charlie Strauzer - CJS Securities

Of course. And you do a reval on the pension usually in January, is that correct?

Bob Ginnan

It’s part of the year-end closing, but yeah, it occurs in January, yes.

Operator

Thank you. (Operator Instructions) So at this time there are no further questions, and I would like to turn the call back over to Shaun Smith for closing remarks.

Shaun Smith

Okay. Thank you, Laurie. That concludes our call for the third quarter of 2010. We look forward to giving you our annual results in February. Thank you and have a great day.

Operator

Thank you everyone for participating on today’s conference. The conference has concluded. You may disconnect at this time.

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