Harman F4Q07 (Qtr End 6/30/07) Earnings Call Transcript

| About: Harman International (HAR)
Wall Street Breakfast

Harman International Industries, Inc. (NYSE:HAR)

F4Q07 Earnings Call

August 14, 2007, 4:30 PM ET


Dr. Sidney Harman - Executive Chairman

Dinesh Paliwal - President, CEO and Vice Chairman

Kevin L. Brown - EVP, CFO and Assistant Secretary



Ladies and gentlemen, thank you for standing by. Good afternoon and welcome to Harman International Industries Fourth Quarter Fiscal 2007 Earnings Release Conference Call. At this point, all of your phone lines are in a listen-only mode. Later during the conference, there will be an opportunity for questions, and instructions will be given at that time. As a reminder, today's conference is being recorded.

If I may have your attention, certain statements made by the company during this call are forward-looking statements. These statements include the company's beliefs and expectations as to future events and trends affecting the company's business and are subject to risks and uncertainties. Persons participating on the call today are advised to review the report filed by Harman International with the Securities and Exchange Commission regarding these risks and uncertainties.

With that being said, here with our opening remark is Harman International Industries' Executive Chairman, Dr. Sidney Harman. Please go ahead, Dr. Harman.

Dr. Sidney Harman - Executive Chairman

Good afternoon. Joining me in Northridge are Dinesh Paliwal, our Chief Executive Officer; Kevin Brown, our CFO; and Rob Ryan, our Treasurer and Principal Officer for Investor Relations.

Fiscal 2007 was a challenging but successful year, and we completed it with an exemplary balance sheet. Sales rose 9% to $3.551 billion. Earnings per share before restructuring, merger and unusual tax items were $4.14, a 10% increase over a year ago. Earnings including restructuring, merger and unusual tax benefits were $4.72 per share, earnings a year ago were $3.75 per share.

Our dominance in the automotive space were solidified through the past year where we had earlier confronted doubts about our ability to move effectively beyond the luxury car market for our infotainment systems, that doubt has been erased. The earlier awards to us from PSA, Audi and Chrysler, we established our leadership in the mid range and the entry levels with last year's major awards from BMW, we erased any remaining questions.

We are moving from an era in which each new infotainment system represented a virtually original effort with all new R&D to a new era in which the major automotive makers are committing to a common electronics platform applicable across the full range of car lines. That growing set of decisions represents a dramatic shift from the traditional emphasis by auto makers on multiple suppliers to a readiness to commit across the board to a single supplier. That dramatic decision is driven overwhelmingly by new technology and by the advantages in cost and performance, available from a common, scaleable electronics platform.

Moving into fiscal 2008, our position is further enhanced by our developing technology partnership with Intel and the exclusive opportunity that provides us to employ Intel's powerful new mobile processor in our new designs. Implicit in that application is greater speed, significant improvement in graphic realization and impressively useful extension of their functionality. We believe that we are in unique position to move quickly and impressively to build our order book for the second decade of the 21st century.

In the infotainment world, connectivity is king. The ability to seamlessly connect the best outside world of communications and entertainment through the car, the home, or the consumer on foot has been the Holy Grail and the work that we've been doing in partnership with Intel places us in position to truly accomplish it. This will be no modest development because it opens up enormous opportunities to the automaker for customer relations management, opportunities to sell revenue producing services of many kinds.

As I contemplate the possibilities implicit in connectivity and the additional possibility is in driver assist developments, I see rich opportunities for further growth. Although our Consumer Group had a difficult time in 2007, the sales for the year were $5 million higher than last year's $493 million. It was in the marginary... we are disappointed with operating margin of $14 million compared with margin of $53 million, a year earlier. That significant change reflects the tremendous crowding that developed in the multimedia portion of the business. Crowding that drove retail prices and margins to unacceptably low levels. The contrast is particularly dramatic, because 2006 was so robust a year in both multimedia revenues and multimedia margins.

We anticipate a substantial margin recovery, as the cell phone and MP3 player business is about to be transformed by the arrival of the stunning Apple iPhone and by a series of splendid music enabled cell phones from Nokia. We are working closely with of these key makers and their marketing confirms their own assessment. With a resurgent market for multifunctional music phones, we will be attracting higher priced buyers and with those purchases higher priced accessories.

It is worth noting by the way that our consumer International activities were quite rigorous this year. Sales increased in international, a strong 23% over sales a year ago.

Our professional business was again a source of growing ratification in fiscal 2007. Sales grew to $560 million, and increase of 8% over a year ago. Operating profit reached $81 million, an impressive 37% increase over the prior year. Co [ph] is penetrating from a confluence of good things, its new technology permits the design of complex systems operated, controlled and monitored in simplified, centralized fashion.

We have turned around the two units which were burdens a year ago. Our microphone maker AKG has swung from a nearly $6 million operating loss in 2006 to a $4.6 million operating profit in 2007 and our Soundcraft, Studer console division moved from a $1 million operating profit a year ago to a $7 million plus profit in 2007. With its command of the newly developed audio-video bridge technology, our professional group is in splendid posture for further advance.

This report would be incomplete without reviewing the merger agreement we announced in April. As you know, the transaction headed by KKR and Goldman Sachs cuts relatively new ground by providing an equity stub opportunity for all investors, an opportunity to exchange their holdings of Harman stock for a combination of cash and equity in the new Harman. The architecture of the transaction has received great deal of positive press attention and a number of major investors in Harman stock have spoken admiration for it.

We have advised our employees, our suppliers and our customers that in practical operating terms, nothing will have changed. We will in effect, exchange one set of world class investors for another. We intend to exploit every technological and market opportunity before us and we intend to continue to build an exemplary company. I will continue full time as the company's Executive Chairman and I am delighted that Dinesh Paliwal has joined us as President and Chief Executive Officer.

In the short time that he has been on Board, Dinesh has established his leadership, made clear his remarkable combination of enthusiasm, experience, intelligence and appetite for hard work and I work easily and well together and I look forward to a long partnership with him.

Here is Harman's Chief Executive Officer, Dinesh Paliwal.

Dinesh Paliwal - President, Chief Executive Officer and Vice Chairman

Thank you, Dr. Harman and good afternoon ladies and gentlemen. I joined Harman International 6 weeks ago and I thought it would be good to share my early thoughts with you. I have been welcomed and received very positively by Harman employees. Our employees are motivated and enthusiastic about the future of the company as well as the potential linkup with KKR and Goldman Sachs.

As you all know, Harman is a well run company with a track record of generating shareholder value year-after-year. Our technology base and new product pipeline clearly set us apart from competition. Harman enjoys strong strategic relationships with original equipment manufacturers in the automotive business and with other distribution in the professional and the consumer businesses, which allows us to do long term business planning in research and development, engineering and procurement.

As in any company, there are opportunities at Harman, which can be further exploited. I believe that we can do more and take better advantage of this globally networked economy. Particularly, in the areas of sourcing, manufacturing, engineering and most important in make or buy decision across our value chain. We will establish clear goals and accountability where it does not exist and effective immediately I will start monthly operational reviews with division presidents and functional heads. This discipline will help us manage our cost and capital tightly and enable us to focus on tactical and strategic business issues.

During the past few weeks, I visited several key Harman business locations and met with several hundred employees in Europe and North America. Although it is still relatively early to form opinions, several positive aspects of this company which were the basis of my decision to join Harman, have been validated.

I'm excited; actually I am excited about the opportunities in the premium automotive and professional sectors of our business. I am equally excited about the growth rates and growing market size of the mid-market segments in the developed world, and emerging markets in Eastern Europe and so called BRIC; Brazil, Russia, India and China countries.

Harman is a potent global brand and I am determined to penetrate these markets and I feel pretty strongly about it. Our product portfolio is robust and our R&D in close collaboration with leading customers will keep us ahead of competition. Converting these opportunities into profitable business will require a strong management team and clear accountability at all levels.

In summary, my first 6 weeks have been exciting and energizing and I look forward to helping Harman move forward and progress in the coming months and years. I am happy to tell you that I've found a terrific partner in our Chairman, Dr. Sydney Harman as we are working very well together.

With this, let me now hand it over to our Chief Financial Officer, Kevin Brown. After Kevin's commentary, we will be available for questions. Kevin?

Kevin L. Brown - Executive Vice President, Chief Financial Officer and Assistant Secretary

Thank you, Dinesh. Net sales for the fourth quarter were $911 million, an increase of 6.1% compared to the same quarter last year. Gross profit margin was 32.8% compared to 34.8% in the prior year. Operating income of $81.4 million was impacted by restructuring and transaction cost, which I will detail in a moment.

Net income for the fourth quarter was $104.9 million. In the quarter, we recorded a gain on foreign tax credits. Earnings per share as reported were $1.58 in the quarter, excluding non-recurring restructuring, transaction and tax items, which were a net gain of $0.60 in the quarter, earnings per share would have been $0.98. A reconciliation to U.S. GAAP reporting was included with the press release.

For the full 2007 fiscal year, sales were $3.55 billion, an increase of 9.3% over the prior year. Gross profit margin was 34.1% compared to 35.5% in the previous year. Operating income of $386 million was affected by restructuring and transaction costs.

For the full year the tax rate was 18.4%, reflecting the gain on foreign tax credits. Full year earnings per share as reported were $4.72. Excluding restructuring, transaction and tax items, which provided a net gain of $0.58 for the full year, earnings per share would have been $4.14.

In June 2006 and January 2007, we announced our intension to initiate restructuring to increase efficiency in our manufacturing, engineering and administrative organizations. Restructuring cost of $4.6 million in the fourth quarter and $7.1 million for the year reflect those actions. Restructuring cost reduced reported earnings per share by $0.05 in the fourth quarter and $0.07 in the full year.

In the fourth quarter, we incurred cost related to the merger of Harman International into a new company to be financed by KKR and Goldman Sachs. Transaction cost of $3.8 million were primarily legal fees. Transaction cost reduced reported earnings per share at $0.05 in the fourth quarter and full year.

Gross profit which declined two points to 32.8% of sales in the fourth quarter was adversely reflected or affected by three matters. First, the rare review change in the iPod multimedia business from last year's vigorous sales and healthy margins to the fourth quarter's enormously competitive margin compromised market. That is off course the nature of the consumer electronics business and we are hopeful that with a long awaited and finally realized new iPhone from Apple and new offerings from Nokia, a robust new market will develop. We are well positioned to reassert our dominance in this area.

The second factor was the impact of the delayed Mercedes C Class system, scheduled to be fully ramped in the fourth quarter. It was substantially delayed until the start of the new fiscal year and it is now in full production. Our C Class sales in the quarter were about half of those in the prior year.

The third factor which had a substantial and again one-time effect on gross profit in the quarter, with the manufacturing ramp up required to ready our automotive operations for the surge of production in the New Year. Compared to a year ago, fourth quarter factory costs were up over 9%. Even as margins were affected in the fourth quarter, operating expenses were up $23 million or 1.3 points, quarter-to-quarter. Approximately half of this increase is in the R&D bulge; we have reviewed in previous conference calls.

Total Harman International R&D spending was $94 million or 10.3% of sales in the quarter. That bulge was primarily generated by the need to process the engineering for the $14 billion backlog, of which a significant $1billion plus had been unanticipated. Furthermore, fourth quarter operating expenses reflect the cost associated with our determination to pursue vigorously a significant market share in the PND business in Europe. We spend in the fourth quarter which was necessary to cultivate that field for our engagement in the New Year.

Fourth quarter and full year net income were impacted by non-recurring tax items, including a significant tax gain resulting from our recent court decision that allows certain tax payers to recognize foreign tax credits. The tax items resulted in a net gain of $47 million, which improved fourth quarter and full year earnings per share by $0.70. For the full year the tax rate of 18% would have been 30%, excluding the one-time items.

Foreign currency translation affected our results in the quarter and the full year as the euro strengthened approximately 7% versus the U.S. dollar in both periods compared to the prior year. For the fourth quarter, the euro average to $1.35 compared to $1.26 in the fourth quarter of fiscal '06. For the full year, the euro averaged $1.31 versus $1.22 in fiscal '06. For the quarter, currency translation had a positive impact on sales of about $37 million and improved earnings per share by $0.08. For the full year, currency translation affected sales by approximately $144 million and earnings per share by $0.25.

The weakening U.S. dollar negatively impacts our results, when sales of European luxury cars are adversely affected as manufacturers raised prices to offset currency change. As their sales decline, our sales and profit are impacted. Furthermore, as the manufacturers feel the pinch of currency, they pushed harder on suppliers for relief in terms of pricing. While it is not possible to precisely quantify the sales and profit impact, it represents an offset to the reporting gains and profit revenue, driven by foreign currency translation.

All three of our operating segments reported higher sales for the fourth quarter, compared to the prior year. Automotive sales were $635 million, an increase 6%. Consumer sales grew 2% to $124 million; professional sales were $153 million, 12% higher than last year's quarter. Prior to restructuring, transaction and tax items, automotive operating income for the fourth quarter was $69.6 million, or 11% of sales. Automotive operating income was impacted by a lower volume on the Mercedes C Class, higher manufacturing cost, higher R&D spending and increased marketing and promotion activities associated with product introductions.

Consumer operating income was $1.8 million, or 1.5% of the sales in the quarter. As Sydney mentioned, consumer margins have been depressed by increased competition in the multimedia space. Professional operating income was $25.1 million, equal to 16.4% of sales, as we continue to benefit from the turnaround at AKG and Soundcraft Studer as well as the increasing penetration of HiQnet enabled products, sales of which have more than doubled this year.

Our balance sheet at June 30th was strong, inventory was $453 million, accounts receivable were $487 million and accounts payable were $357 million. Cash at June 30th was $106 million, despite share repurchases of $129 million in the year and a $121 million reduction in debt. Total debt at June 30th was $76 million and cash and cash equivalents exceeded debt by $13 million.

Fourth quarter depreciation and amortization was $34 million, and capital expenditures were $90 million. We expensed $3.6 million for stock options during the quarter. We will now take your questions.

Question And Answer


Thank you. [Operator Instructions].

Dr. Sidney Harman - Executive Chairman

If there are no questions, and we will wait another minute, then we will close this call. Would you check one more time?


Yes please. [Operator Instructions].

Dr. Sidney Harman - Executive Chairman

Well, thank you very much.


Okay, thank you Dr. Harman. Ladies and gentleman, your host is making today's conference available by digitized replay for one week and by web replay for 7 days. The digitized replay is available starting at 8:00 PM today through midnight Tuesday, August 21st. Simply dial 1800-475-6701 and at the voice prompt enter today's conference access code 882301. Alternatively, you may go to www.harman.com to listen to the web replay. You will need to enter the access code 882301. That does conclude our press release call for this quarter. Thank you very much for your participation as well as for using AT&T Executive Teleconference Service. You may now disconnect.

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