Rob Mccarthy - Sr. Analyst, Robert W. Baird
Charlie Szews - President and CEO
Dave Sagehorn - EVP and CFO
Pat Davidson - VP and IR
Oshkosh Corporation (OSK) Baird 2011 Industrial Conference Call November 8, 2011 11:05 AM ET
Welcome, my name is Rob Mccarthy. I lead Baird's research team for machinery and diversified manufacturing. And we're very pleased to have Oshkosh Corporation back with us at Baird Industrial Conference.
As you're probably aware Oshkosh has built an impressive track record of market share expansion in the markets for military, fire and vocational trucks through leading product innovation and superior product support. And although pressure is building on the U.S. defense budget, Oshkosh have significant cyclical upside and secular growth potential in its construction driven access equipment business and is rapidly expanding its presence in international markets.
Bring us up to date on how Oshkosh is responding to its challenges, today we have President and CEO, Charlie Szews; Executive Vice President, Chief Financial Officer Dave Sagehorn; and Vice President and Investor Relations, Pat Davidson.
And I'll turn it over to Charlie.
Thank you, Baird, for inviting us to this conference. Oshkosh, as mentioned, is driven to perform for its shareholders and customers. From a great recession to now the slow economic recovery, and the defense downturn and markets haven't cooperated very well and we had chopped the equity markets as well. For as the performers we had historically here were the same strong company that outperformed the market for over a decade. And we have a new strategy we call it MOVE, to create a new legacy and growth for our shareholders and investors. So please read this at your leisure the forward-looking statements.
Here's a quick agenda of what we're going to talk about this morning is a brief business overview. We're going to talk about the current operating environment in every one of our markets. And then, we'll conclude with the MOVE strategy, as to adjust the marketing conditions that we face today, increased shareholder value.
So let's look at the overview of our businesses. Oshkosh safely, efficiently and cost effectively moves people and material that work around the globe and around the clock. We move our men, women safely through Afghanistan and Iraq. In the roughest terrain, we rescue people in crises. We rebuild America and we even pick up the trash.
Our portfolio business is certainly diverse customer base. So what that means is that from multiple segments, for example, we'll start with Department of Defense. We sell them telehandlers from our Access Equipment business. We sell them airport products and fire truck fro our Fire and Emergency segment. We sell concrete mixers from our Commercial segment to DOD. And of course we are the leading tactical wheeled vehicle manufacturer for the U.S. Department of Defense.
Everything we do virtually moves on wheel. So there's tremendous technology, distribution, purchasing in synergies. We do a lot of manufacturing in multiple segments for other segments. So some is varied in the parts and that's how we grow faster and make more money in our market than our competition.
We're a global leader in niche specialty vehicles with the leading brands in virtually every one of our markets as you see here. We generally maintained or increased our shares during the downturn, and well positioned with significant leverage when there is a recovery.
Just last week, we reported earnings for the fourth fiscal quarter although our focus is more on the year. Fiscal year '11 was a transition year for us and fiscal year '10, the year before, our operations were bullied by the M-ATV contract. The MRAP All-Terrain (inaudible) sales and we're really speeding vehicles into Afghanistan to save our men and women's lives in that environment.
So we had a transition year in 2011. We ended up hitting another roadblock with missile spending taking another downturn, slower economic recovery. And they've pushed out our recovery of our business really into 2012, which we expect to be another transition year. And this time we really do believe it's going to be a tough year.
Despite those headwinds, we delivered a year up of our revenues in fiscal 2011. They were top only by 2010, which was void by the M-ATV contract and we solidified our market leading positions across our business.
First talk briefly about the current environment. It's too much to go into today and try to debate what are the Defense budgets is going to be in United States. What we do know is that U.S. troops are pulling out of Iraq, big reductions are coming. We don't know if the reductions are $450 billion over 10 years or $1 trillion over 10 year. And obviously it's going to have a big impact for all defense contractors like ourselves.
Outside the U.S. and Europe, however there are several countries that are looking at major tactical wheeled vehicle wise. And even in the U.S. there remain opportunities to sustain a strong tactical wheeled vehicle business in this space.
And in fact we are in an new era of competition. We're actually bidding more new contracts in the next 4 months to 6 months, probably than anytime in our history. This table shows a few of the opportunities. There are some almost as large that are not listed.
The Canadian TAPV for example is a MRAP type vehicle that we're competing for in Canada that we submitted our bid in August. We also provided two vehicles for testing blast as well as security testing off road at our Aberdeen Test Center in Maryland going through their paces. It's 500 units plus and 20 years of service and support.
The MECV program, MECV is the Humvee recap program for the U.S. Army. That one is proceeding. The marine's look like they will not proceed with their Humvee recap program. This is a program for about 5,750 vehicles. They are looking for primarily increased survivability and to restore a little bit of mobility into this platform. We will be submitting our bid of the RP, it is supposed to come out any day now and hope we do in early January. We will be a tough competitor there as well.
And the joint light tactical vehicle competition, we're on our sixth generation of vehicle to compete for this program. And we watched it recently in October showed again to U.S.A (inaudible). It's giving good direction over their customer and we look forward to bidding this in the January, February timeframe.
In addition to these opportunities, obviously we're looking in the Middle East to sell our M-ATV and other opportunities. We are close to a bridge contract for bridge contract for family of heavy tactical vehicles. We're also looking at remanufacturing of opportunities as our vehicles and others come back from Iraq. The point is that we're aggressively perusing multiple opportunities around the world and that we will be a tough competitor.
So it's been quite of bit of interest in terms of our current operating environment with our FMTV program and the lack of profits on that program. So I'd like to show you a brief video here that's going to give you a sense of our capability here.
Now, what you saw in a brief video was a significant amount of robotic in our process, lean manufacturing principles and a very low cost structure, which is really what Oshkosh is actually all about, and what you're going to see as we continue to compete for new programs.
The FMTV was strategically important for us and represents still today a tremendous opportunity. The FMTV has the highest remaining requirements of any tactical wheeled vehicle program of record by the Department of Defense. We've competed for this as a time where our heavy contract was nearing its acquisition objective. So it's very important program.
We wanted to be the FMTV supplier. We did aggressively. It was necessary to move that business from Texas to our company. There have been some challenges. But we opted a very smart customer. They triple purchase for both the valuated quantity in the first year right in advance of scheduled price increases. So not only did we have to spend more money to ramp up production faster and hire 500 additional employees who we didn't give the benefit of the pricing either.
We also had numerous problems with bidding to another company's tactical data package, which often was that they were not building to. And we had some new contract requirements just for us. So they did cause those to loose money in fiscal 2011 on this program.
However, we've had 11 integrated project teams working on this. We're very close to profitability. We expect to be profitable in the second fiscal quarter of FY '12, which is the first calendar of next year. And we know it needs to be done, and we'll get it done. The contract does absorb a lot of overhead though and even at 1% margin it has a positive return on invest capital because of performance based payments.
So it was important, because it absorbed overhead in our factories. Provide the positive ROIC. Give us a launching pad for lots of parts and service over the life of the program. And it does demonstrate that we're low cost producer. But in the mean time, while we've had some struggles, the customer now has a record.
Let's go to next slide. Our second largest business is our Access Equipment segment. It showed some very solid year-over-year growth in last two quarters. Last quarter for example was up over 60%. We do think that growth will continue in this segment into fiscal 2012. Utilization rates have increased, rental rates are up and used equipment values are up. Those are all positive signs to date.
Most of the increasing buying for us has been replacement demand driven. We do need some improvement in terms of constructions, first to be sustained in a long-term, but certainly through 2012 we feel very good that this market is on a rebound. That's clearly evident in our quarter, just in September our backlog is up 270% over the prior year.
Sales were up over 60%. And sales were up even over 80% in Europe, which has lagged the U.S. by nine to 15 months. So Europe has started its come back. And of course, we're rapidly expanding globally particularly in the emerging markets as this product is accept around the world.
Turning to our municipal markets. We are facing headwinds that are encouraging us to go global for growth. The U.S. fire truck market is down about 40% from peak. This market was never down more than 10% and business for us was never down more than 2%, because we tended to gain market share through the cycle. So this 40% downturn has been pretty significant, especially when you look at the significant value add that we had in this product.
We have been successful in conquest sales. Over 30% of our customers have last at least two years, they've been conquest sales. So we've done relatively well relative to the marketplace. We've also expanded internationally from virtually no international sales a few years ago, 16% of our sales last year were international. We've gained a lot of success in airport products, particularly in Asia and Africa. And then with our fire apparatus business, we now have a very robust business in China selling high rise pumpers, industrial pumpers, aerials and command vehicles.
In our Commercial segment, our refuse collection market is down 40% from peak as well. So again, a pretty steep cycle, much steeper than at least two times any previous cycle that we've seen. The other half of this segment is our concrete mixture business. This does have steep cycles. Historically, we go down 60% in the downturn. This time we are down 95% in downturn.
Don't see that really changing much for refuse, excluding for concrete next year. Although in our refuse part, we do see some rebounding particularly in the first six months of the year, primarily driven by some favorable tax rules. But also it seems like the large rate case (inaudible) buying a little bit more next year. We've continued to battle in this segment, primarily through aggressive cost reductions.
So I'm going to go briefly through our MOVE strategy. In January to June 2011, when we took a comprehensive strategic review of every part of our business with business and outside consulting firm, we did a deep drive, looked at every assumption underlying every market every way. We go to market. We looked at strategic alternatives and then we came up with our MOVE plan.
What the MOVE plan essentially does is it works to help us to drive acceptable returns in all markets in the worst of times, which we are somewhat facing right now. Market is down 40% to 95%. We need to have acceptable returns in even those downturns. Now we're doing that by aggressive cost reduction and organic growth, while preserving our cash flow until the economies recover.
Our next slide shows really where we seek to go, which is to move from a U.S. focused industrial company incurred in defense to a more balanced industrial integrated company globally. And that's when we created a new mission statement, which essentially can be capitalized in just a few words. We're mission driven to move the world to work, meaning that when you pursue servicing your customers with the mission, that creates an additional emphasis and desire to serve them well.
These are four core elements to the MOVE strategy. It's wrapped in this mission driven culture that I mentioned, describing among the succeeding slides. The first is market recovery in the non-defense markets that are down 40% to 95%. That's probably remained our operating income opportunity just to go back to peak. This should sort of go at the end of the slides I understand within the strategy, because our real core is the next three slides just sort of comes at the end.
We really don't want to just capture our share of the recovery though. So we're working and processing to improve our sales inventory, operations, planning and conquest sales activities and the like that we gain more than our share of recovery.
The next slide is really the guts of our plan optimized our cost and capital structure. Until that we have marked recovery, we need to continue to drive aggressive cost reduction. We have integrated project teams at every business looking at product cost improvements as well as process improvements. We are continuing to reduce our manufacturing footprint. We closed about 12 facilities in fiscal 2011 and we have plan to do more in 2012.
We also launched the Oshkosh Operating System, which was our methodology to help serve our customers better in part by lowering our cost structure. We are now building up our lean manufacturing talent and we expect that to have more benefit in '12 and '13.
Next step of our strategy is to value innovation in all of our markets. And this has really been the core of Oshkosh for 15 years. Innovation drive share gains, drives margin enhancement. That's how we're growing faster than our competitors over the last 15 years. So I don't have time to talk about it all today, but from the multiple defense programs I talked about earlier as well as in our other segments, we have next big things developing in every market.
Then our last element of our strategy is emerging market expansion primarily targeted at the BRIC. We see substantial opportunities for product adoption and penetration in emerging markets across all the product lines. These are countries where the growth really is. So we quietly forward deploy across the BRIC during the latest recession.
So we have still the service operations in all BRIC countries. We've got manufacturing now in China as well as Brazil. And we're quite moving forward and building businesses in those markets.
In 2010, we had only 10% sales outside the U.S. In fiscal '11, that was about 15%. We're targeting 30% international in the near term, again, really through organic initiatives.
We're facing some difficult near-term market forces that I described. We are a proven performer however with great assets, leading market shares, great people, terrific products, strong distribution and industry leading technology. Our balance sheet is strong and getting stronger. We reduced the cost structure and we're going to do more in that range. We're going to be driven by our MOVE strategy to serve U.S. shareholders and our customers.
So it's that. We actually have some time for questions.
Charlie, could you talk about how you're going to wrestle with the downsizing of the defense business? You've talked about a sustainable revenue level of $2 billion to $2.5 billion. What kind of implications does that facility is planning and what should we be looking for you to do over the next two or three years to deal with that?
We're doing multiple things. First of all, you see that all programs are actively competing. One part of our strategy certainly will be to continue to pursue value-adding tactical vehicle programs that can fill our factories. Having said that, we will do what we need to do. Depending on the depth of how the is trend spending downturn, we will close facilities. We will do whatever it takes. You've seen us in the last three year through the downturn in other segments. If that we face in defense, we'll do the same.
We are also looking at different ways to compete. We're more active in research and development type programs to keep our engineering staff busy through whatever kind of U.S. defense spending downturn we have. So we created an office in Warren, Michigan, which is basically Detroit across more customers taking automotive command where we have engineers working and competing for development programs that will continue to build to absorb our talent and keep them until the next upturn.
What's you outlook for the recovery in the fire and mixer side?
Question is what's the outlook for the recovery in fire and mixer side. I think we won't see much of recovery in fire until 2013, and it's probably similar for the mixer business. We're going to need some improved municipal spending, and these are actually higher tax receipts. Until we've the higher municipal spending, I don't think we're going to see much change in the environment for fire in 2012. And frankly, I don't see much change in housing starts for 2012 either. So I think a concrete mixer business and fire and emergency business largely from an industry demand will be flattish in fiscal '12. That's what leads us to cost reduction. It leads us to conquest sales. It leads us to emerging markets for growth and innovation.
On the earlier slide, what you saw was average age of the fleet is 52 months to 56 months between Booms and Scissor Lifts, et cetera. And those are really high average ages for the industry generally. You typically would see in the mid-40s for an average life. At certain points of cycle, they have actually been in the high-30s.
So I would say we are on the high end of that life. But that shows that there is plenty of room for replacement demand to continue for 12 months or longer. And I do think that that will happen.
So the average age across the cycle is in the mid-40s months. So let's say it's 45 months. So the life would be 90 months generally. So less than 10 years, eight years, nine years. That would be kind of typical. But you can see some (inaudible) obviously in this point of cycle. Eventually, that equipment gets sold and might be then used in an industrial application or something, used by someone that doesn't use it everyday versus in a rental application where it's going to be 70%-plus utilization.
The question is, is there a $2 billion to $2.5 billion defense target based upon the $450 billion cuts in defense or is it based upon the $1 trillion and what are the number. We certainly developed the $2 billion to $2.5 billion target when the $450 billion was a number that was being vented about. I don't think our customers, the Department of Defense, really knows how to adjust $1 trillion cut.
You can see very heavy politic against that by the administration, by Secretary of Defense, by the Chairs of the House Social Security, by Chair of the Senate Armed Services Committee. I don't think that's untenable. It could be there initially such as Supercommitte, but I don't think that ultimately where the Department of Defense will head to. So certainly our estimate was developed at that time.
Could have the number to be lower if we're faced with $1 trillion? Absolutely. That's also a risk, because more and more where that $1 trillion will come from. And I don't think that the Department of Defense knows that right now. And I think that's what they're trying to tell our Congress as they don't know how to get that much.
Now, how much of our business is from new programs? Over time, everything becomes a new program. It has to come for a new program. I think everything that we have, we will be re-competing. The FMTV contract, the date expires in 2015. In 2015, we will have to re-compete the FMTV.
So ultimately with all those, I think that we're in the strong position of basically being the owner of all programs of record except for the Humvee, which is discontinuing production. So I think we're in as good shape as anyone to win on those competitions. And we'll see who's around in two to three years to compete with us.
Charlie, you were talking about conquest sales before. You were talking about the fire business. Company has a history of market share expansion in the wake of large acquisitions. Could you talk about what you're seeing in the access equipment business now that you've owned it for a couple of years?
I think globally we've gain a significant amount of share. It's been a lot of hard work. And can't guarantee it going forward, but I can tell you this, is that we're tough competitor. We're going to work very hard on the things that we're strong at. We've got perfect distribution, perfect build on our distribution. We're going to continue to work on innovation, work on creating a more competitive cost structure and any other front that will help us gain any market penetration. We have tough competition as well, but we're up to it.
Thank you, Charlie.
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