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Spartan Motors (NASDAQ:SPAR)

Q1 2008 Earnings Call

April 24, 2008 10:00 am ET

Executives

Jeff Lambert - Lambert, Edwards & Associates

John Sztykiel - CEO

Jim Knapp - CFO

Karen Morrow - VP of Finance

Dave Reid - VP of Public Affairs and Brand Management.

Analysts

Joe Maxa - Dougherty & Company

Frank Magdlen - The Robins Group

Ned Borland - Next Generation Equity Research

Jamie Wilen - Wilen Management Company

Jeremy Hamblin - Seamark Capital

Operator

Good day and welcome to the Spartan Motors first quarter 2008 Earnings Call. Today's conference is being recorded. At this time I would like to turn the conference over to Jeff Lambert. Please go ahead.

Jeff Lambert

Good morning everyone and welcome to Spartan's first quarter 2008 conference call. I'm Jeff Lambert with Lambert, Edwards & Associates and I have with me today several members of the Spartan Motors management team, John Sztykiel, Chief Executive Officer, Jim Knapp, Chief Financial Officer, Karen Morrow, Vice President of Finance, and Dave Reid, Vice President of Public Affairs and Brand Management.

I assume all of you saw this morning's release in the Newswire and the internet. We want to take a few minutes to discuss the results for the quarter. However, before we do it is my responsibility to inform you that certain predictions and projections made on today's conference call regarding Spartan Motors and its operations may be considered forward-looking statements by the securities laws. As a result, I must caution you that as with any prediction or projection, there are a number of factors that could cause results that differ materially. These risk factors are identified in our Form 10-K filed with the SEC.

A quick word about today's call, John Sztykiel will begin the call with a brief overview of the quarter and then go over the operational results for each business segment and the outlook for the future. Jim Knapp will then discuss the financial results for the quarter. Karen and Dave are also here to help answer questions throughout the call. We'll conclude with a Q&A session at which time the operator will instruct you how to enter the queue.

With that, I'd like to turn the call over to John Sztykiel. John?

John Sztykiel

All right. First I want to thank all of you for being here, especially those of you on the West Coast. It's probably about, well, it's real early in the morning out there, so.

But first, just starting there was a slight change in the format of the earnings release and that's something which we're going to be fairly consistent on as we go forward. On every release the top five items are going to be noted. Net sales, quarterly earnings, consolidated backlog, return on invested capital, and gross margin. Because in the end and the beginning those are probably the five most important metrics you take a look at relative to Spartan or any other company.

But starting with our results, we reported net sales of $264 million, up 11% compared to Q4 of 2007. Quarterly earnings of $0.45 a share, up 80% compared to the fourth quarter of 2007. You know what's interesting, just $0.45 a share. If you think about 2007, that's 60% of all of what we did last year, which in a lot of respect illustrates the potential of the SMI diversified multi-market business model.

Return on invested capital 42%, up 55% compared to the fourth quarter. Gross margin of 15.4%, up 21% compared to Q4 of last year. And a consolidated backlog of $304 million, down 10% compared to Q4 of last year. And that consolidated backlog number is different as to what came out on the release. So I'm going to turn it over to Karen to explain the clarification.

Karen Morrow

Thanks, John. As you may recall in February we issued a press release related to a round of MRAP orders that Spartan Chassis received from BAE. And included in that release was about $67.3 million of orders related to some MRAP plus units. Now those orders were not included in the $237.3 million consolidated backlog numbers that you saw in our press release issued earlier this morning. And that's because at the end of the first quarter, the bills of material were still being finalized for those units with our customers, so the orders weren't entered at that time into the system. If we were to include these orders into the consolidated backlog, as John mentioned, the consolidated backlog number would be $304.6 million number, down just 10% from the end of the fourth quarter of 2007.

John Sztykiel

Thanks, Karen. You know the first quarter actually, it was a great first quarter in a lot of respects. I mean not -- let's set aside the earnings for a second. But one of the things which I think is really important to value and to look at relative to the SMI business model is just the illustration of our flexible manufacturing model which enabled us to take advantage of our multiple market strategy. The RV market is a tough market right now. It is one of our three core markets. Yet at the same time as we experienced lower demand for the motorhome chassis, we shifted our operations increasing production for our military and emergency rescue customers. The result was increased sales, improved efficiencies, a record quarter.

And I really want to thank all the associates at Spartan Motors for making this happen. But this is a key differentiation of SMI from other companies. We were able to shift and do it with speed to take advantage of opportunities, but also to adjust the weakness when that does happen.

As we shifted people, we improved profitability. We are maximizing the production capacity we added in 2007 and we're now starting to see the return on the investments we made last year. The shift in resources were accomplished without any cuts in R&D, and I'll talk about that a little bit later on, or layoffs of experienced workers. One of the cores of our business model is flexibility, speed, the ability to be able adapt to rapid changes quickly in many of our market niches. And that really came to fruition in Q1 of this year.

Another positive driver was our increased military volume in Q1 as it overset or offset the demand, or drop in demand, of RV. All of these factors contributed to what should be seen as near peak volume for the military units in Q1. We expect this volume will continue into the second quarter and then flatten or drop in a consistent pattern as we move to the second half of this year.

Another important positive that deserves attention is the up tick in orders for emergency rescue products in Q1 of this year. From a chassis perspective, our fire truck OEMs are adding customers. They're increasing capacity and they're moving forward in the right direction. In addition to the increase in capacity, many of the OEMs purchasing Spartan Fire Truck chassis are doing a tremendous job in improving their position in the marketplace, both from a product and a marketing perspective. Several of the larger competitors in the Fire Truck industry or Emergency Rescue industry are still on a point of distress and we're very focused on taking advantage of that. And we're seeing that in the growth in backlog. On the service, parts, and accessories side, that will continue to grow substantially in 2008 versus 2007 and we expect that to continue to grow in 2009 as well as more and more Spartan related vehicles show up in theater, both in Iraq, Afghanistan, and other parts of the world.

The EVTeam as a whole had a significant improvement as they improved their bottom line by 39.6% compared to Q1 of '07 and improved their bottom line by 75.5% versus Q4 of 2007. Are they profitable as a whole yet, absolutely not. Crimson Fire was profitable. I'll talk about that in a little bit. But they did make significant improvement in the right direction. I wish to compliment them. But I also wish to compliment the people at the Spartan corporate group as they are now working as a team to drive the results in the right direction.

Let's take a quick look at the segments. Spartan Chassis represented 93% of Spartan Motor sales in Q4 of this year while the EVTeam made up the other 7%. I already mentioned the military in the first quarter though I should also mention that we received another order for $45 million from General Dynamics Land Systems and Force Protection after the close of the first quarter, which is not reflected in this backlog number. So if you add that number to the number Karen previously just quoted, we're actually up over the 10% versus Q4 of 2007. You know and honestly that's fantastic.

As we look going forward, one of our core markets, RV is still slightly depressed, but at the same time, the multi-market strategy is not only driving value in the right direction, but we're optimistic about the balance of 2008 as we move into 2007.

In addition, from a military perspective, we're currently working on 15-plus additional military opportunities, some of them MRAP or hardened vehicle related, some of them not, some of them relates to the Middle East, Afghanistan, some are in other parts of the world. But we are now starting to increase our breadth of the hardened vehicle military market which we attempt to address as a company.

Service, parts and accessories increased 335% from a sales perspective to just over $17 million in Q1 of this year. That is a fantastic number versus Q7 of last year. Motor home chassis sales were down in the quarter slightly less than the market as a whole. We're taking a wait-and-see approach to motorhome chassis given factors outside of our control such as higher fuel prices, lower consumer confidence, talk of a recession. However, we have seen a slight up tick in the month of March.

What's also positive is we're also starting to see our OEMs reevaluate their product line offerings, make some changes to grow sales in the marketplace, taking advantage of our speed and flexibility. And I think it's important to people to remember that while the RV business is down, it is not going to disappear. Is it difficult? Absolutely, but we are very focused on utilizing our speed, our flexibility in tandem with our OEM partners to take advantage of the market opportunities that are out there.

We're also pleased to see Jayco purchase certain assets of one of our motorhome or I should say one of our past motorhome customers, Travel Supreme. We will be providing chassis to Jayco as they develop their position in the Class A marketplace. That was positive for us. Some of the production disruptions at Travel Supreme did impact our first quarter sales slightly. However, they have built a good product line with a great reputation and we expect to see this grow and prosper under the Jayco brand name.

Sales of Fire Truck chassis decreased by 3% in Q1 of this year versus Q1 of 2007. However, we expect production to ramp up in Q3 and Q4 based upon recent order rates. From an EVTeam perspective Crimson Fire, as I mentioned earlier was profitable in the quarter. They improved their earnings contribution. Crimson Fire South Dakota, the return on invested capital was just over 40%. Again, one time, it's not a trend, but at least it's a start in the right direction.

Road Rescue is increasing the attractiveness of their vehicles i.e., raising prices which they should do and need to do, reducing production costs, and driving results in the right direction. They had their highest quarter from a positive gross margin in the last four years. Do we have ways to go? Absolutely. Am I past cautiously optimistic? No, I am not. But we're moving the ball in the right direction.

Crimson Fire Aerials is focused on improving operations and increasing their orders. And what's nice is sales at Aerials increased 26% compared to the fourth quarter of 2007. Our operating loss at Aerials was reduced by 53% compared to the fourth quarter of 2007. Something I forgot to mention about Road Rescue, their operating loss was reduced by 68% compared to the fourth quarter of 2007. And the reason I just want to dwell on that for a second, as you take a look at our release and the top five lines, they're not from the first quarter of last year. They're relative to the fourth quarter of last year because one of the things, whether it's good or bad, we want to be very up front from an integrity perspective. Are the trends moving in the right direction or are the trends moving in the wrong direction?

As we look at the EVTeam as a whole, they're moving in the right direction. We do not expect them to be profitable or 100% as a group in 2008. However, we do believe they will make substantial improvement and improve their contribution to Spartan Motors as a whole.

Last, as we look at emergency rescue, it is a fantastic opportunity. When you have called for help once every 20 second in a growing population of 50 and above, it is a fantastic market to be in.

Looking forward to 2009 and 2010, we obviously have certain priorities in place. But as we look to 2009, we are currently entering with six new products, seven new market niches in 2008 which will drive sales in 2009. And let me just talk about that for a few minutes. Many of these new products were based or shown on the Furion chassis, one of the market niches. The Furion is a custom commercial chassis built by Spartan Chassis. They had six OEMs, different OEMs displaying vehicles on that chassis at the FDIC show.

What's interesting about FDIC and maybe you'd say why is that show so important? It is the largest emergency rescue show actually in the world. This year over 28,000 people attended the show, up 12% versus the 25,000 in 2007. And we have found attendance to be a very good forecaster relative to the next six to twelve months from a business perspective. And I know a lot of you have been concerned about the drop in the economy, the potential reduction in taxes, et cetera. And it appears one, the industry is moving forward past that. Second, Spartan and its group of companies are taking advantage of opportunities in the marketplace. But third, you are going to see an increase in emergency rescue because of emissions next year.

We're also developing new products for a developing emergency rescue market niche called First Response All Call. Today only 8% of all calls to first responders are related to a fire. This means emergency responders have a clear need for multi-purpose vehicles which can handle many types of emergency situations, improving their effectiveness in the field, and reducing the number of specialized vehicles. One of these products was displayed on a Furion. The OEM was Braun. It was a multi-purpose ambulance and rescue unit, tremendous response.

In July of this year Road Rescue and Crimson will be introducing a joint First Response All Call product which will be a combination unit. And it's not just an exciting product, but what's also exciting is this will be the first joint development project between Road Rescue and Crimson for the emergency rescue marketplace.

Now, let's switch over to military. As we look at the military market perspective, we will remain and believe we will remain a key supplier in the foreseeable future. As I mentioned earlier, we're currently working on 15 plus additional opportunities as we look to the future.

The US military is consistently demanding and funding MRAP vehicles. As Marine General Robert Magnus testified to Congress a few weeks ago, no Marine has yet been killed on an MRAP vehicle riding on a Spartan chassis. I tell you, when you think of a track record, the number of IED incidents et cetera, Spartan is about life and it is awesome that we're able to save lives.

In addition, we're starting to see some more international orders. The size of these orders may be small but to be quite blunt, whenever you develop a new market niche, the orders are always small. They have to be. And also, I've been with this company now over 20 years and whenever we've developed a large market niche with a lot of large orders passed, typically I've seen our service and warranty costs rise above our designated target of 1.5% of sales. And that's not good for customer loyalty. It's not good for the bottom line. So when we develop a niche, honestly I look forward to small sales. You do it right, you do it small. But you have to understand you're going to be in it for the long term, not just the short term. As we look to the future we saw some MRAP orders in April. We expect to see some MRAP orders in the near future as well, and as we look toward the rest of the year.

You know, in summary, as we look ahead to 2008 and 2009 we expect motorhome chassis to be down in 2008 based on tough industry conditions. We do expect an improvement in 2009. We are doing a lot of things to improve the opportunity as much as possible with our OEMs, but this is going to be a tough market. Military will be very good in the first half of 2008, less so in the second half of 2008 and into 2009. However, we are in the military business, the hardened vehicle business for the long haul and we expect this to be a significant market opportunity for Spartan Motors.

On the emergency rescue side of the business model, good in 2008, increasing in the second half of 2008. It should be very good in 2009. Why is that? Simply, there is a major engine emissions change in 2010. Those of you that are familiar with the Spartan Motors business model or some of our competitors understand and know that there was a large industry up tick for orders in 2006 prior to the 2007 engine emissions change. In reality, in 2006 industry orders were up year-over-year 25% to 40% for certain OEMs to beat the 2007 emissions change. We were one of those OEMs. We expect that to happen in 2009.

From a service, parts and accessories perspective, we expect a very good 2008 and a very good 2009, driven by the increasing number of vehicles where Spartan is a partner moving in to theater, whether it be Iraq, Afghanistan or other parts of the world.

Finally, as mentioned earlier, we will be introducing six new products in 2008 in emergency rescue and RV markets. While they will not have much of an impact to gross sales in 2008, they will be the drivers of growth into 2009.

And you know what's nice, what excites me, in closing? It's here while we have a very good quarter, really 60% of what we did in 2007, we're not one resting on our laurels. We're actually driving the business model in the right direction. Product development initiatives which we've worked on over the last couple of years are starting to flow into the marketplace. And so we've got a quiver of opportunities which should bring fruition growth in sales, growth in income in 2009 and beyond.

Jim?

Jim Knapp

Thank you, John, and good morning everyone. Operating cash flow decreased by $26.6 million in the first quarter. This reduction was driven mostly by working capital needed to support the increased sales. We reported $5.3 million in cash and cash equivalents at the end of the quarter, compared to $13.5 million at the end of last year.

We ended the quarter with $84.6 million of long-term debt, which includes financing for the facilities we added last year, as well as growth and working capital to support the sales increase. We expect debt to peak in the second quarter. We believe our improved production efficiencies along with our solid consolidated backlog will generate significant free cash flow in the second half of 2008. This will allow us to make substantial reductions in debt, grow the business and strengthen our balance sheet. Depreciation for the first quarter was $1.3 million. We expect depreciation to be about $5.5 million for the year. Our effective tax rate was 35.1% in the first quarter and we're expecting the tax rate for the year to be in a range of 34.5% to 35.5%.

Our consolidated ROIC for the quarter was 42.6% which exceeded our company ROIC target of 15% to 20% by a wide margin. This was our best ROIC in the company history. Although we don't expect to maintain this level of ROIC, we do expect to exceed the target for the year. Within Spartan Motors and each of our subsidiaries we use ROIC as a key measure of our progress. It is also related to our bonus program for management and associate which is based upon an economic value-added financial model. This week the Board declared a regular cash dividend of $0.10 per share for 2008. The Board will make a determination regarding a special dividend at a meeting in February 2009. We believe that dividend compensation is the key part of the Spartan stakeholder model.

We are forecasting CapEx to be in the range of $15 million to $20 million for the year, which includes some rollover from the facilities expansion launched in 2007. We're expecting a lower CapEx in 2009 and 2010.

With that, I'm going to turn the call over to the operator to begin Q&A.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) We'll go first to Joe Maxa, Dougherty & Company.

Joe Maxa - Dougherty & Company

Thank you. Nice quarter, gentlemen. John, a question on the last comment you made on growth and income increasing, I thought you said in '09. Are you looking for '09 to be above '08 numbers currently?

John Sztykiel

From a sales perspective, right now Joe, honestly it's a bit too early to tell, again for two reasons. One, honestly we don't have enough clarity from an RV perspective. And that's still a very significant driver of our business model. And second, the MRAP business or the hardened vehicle military business has been very, very good for us. And I think as the year goes on I think that will be, I should say we'll have better clarity relative to that on the July conference call when we announce Q2 earnings. But right now it's a bit too early to tell.

The opportunity is there but honestly a couple things have to happen in the right direction. One, RV sales have to grow and pick back up and second, we have to continue to receive orders whether it is service, parts, and accessories or for vehicles in the military sector. I feel very, very good about emergency rescue. I think emergency rescue will be extremely strong for us as a company in 2009, but we need the two other market segments to move in the right direction as well.

Joe Maxa - Dougherty & Company

Okay. And then the military opportunities that you were talking about, what kind of volumes are the potential, I guess domestic because you mentioned the international could be small to start with, but do you have larger potential volume opportunities domestically?

John Sztykiel

Well, I think the opportunities definitely are there. One, just on the same side, while the US is making great progress in Iraq and Afghanistan, it is still a very, very violent place. So I think the opportunities are there as long as we're still committed and involved within that combat situation. So the large volume opportunities are not disappearing. Am I guaranteeing they're going to come to fruition? No, but as you look at the data, as you watch TV, as you read the press, what you see clearly is both those areas are still very, very violent places.

Joe Maxa - Dougherty & Company

And are you looking at...

John Sztykiel

And they are still a large part of the business model over there.

Joe Maxa - Dougherty & Company

Are these vehicles looking at maybe a little bit smaller than current MRAP and different OEMs potentially or can you give us a little color on (inaudible).

John Sztykiel

You know, I think the vehicles, well, one, the vehicle variations will continue to grow. As I look at the 15 plus opportunities, I mean, if there's something I want to compliment and that is the people at Spartan Chassis, their ability to react to request for needs in the marketplace, whether it be ambulances, tow and recovery, ILAV.

I mean the number of part numbers we're doing today continues to grow or the number of vehicle model numbers continue to grow. Are we seeing smaller vehicles? Yes. Are we seeing a greater differentiation of vehicles? That number is absolutely less. So I can't say they are always smaller. But as you enter or people understand that in order to solve the conflict you need to become a larger and larger part of the culture and the society you're in, the vehicles have to change. And a company or an organization that can react with speed and produce a high quality product is very attractive. And honestly that's something Spartan Chassis is noted for.

Joe Maxa - Dougherty & Company

Let me just ask a question on the RV side and then I'll move on, let someone else talk. But the market certainly is very weak. You've talked in the past about the potential of adding another OEM. I know that certainly Travel Supreme, they're gone, but you're either picking up from the new company, but is there another opportunity out there this year, or is that kind of going away given the market?

John Sztykiel

No, just the opposite. I think -- I've been in the RV business 21 years and whenever market conditions get tough, it's actually a better opportunity to increase your number of OEM partners or increase your number of model platforms. Why? Because the market niches become smaller and therefore you have to move quickly and the stronger companies understand that in order to survive. Because honestly, it's not just the RV market, but when any market is very, very good people are focused on producing whatever they can because the backlogs are great. So they're really not quite that interested in talking to a company or switching suppliers. So actually our time is right now. So I'm very, very confident that over the next six to twelve months we will either increase the number of OEM partners we have or we will add a significant number of model lineups that are on a Spartan motorhome chassis.

Joe Maxa - Dougherty & Company

All right. Thanks, John.

John Sztykiel

Thank you, Joe.

Operator

We'll take our next question from Frank Magdlen, Robins Group.

Frank Magdlen - The Robins Group

Good morning and congratulations on the quarter. Jim, can you tell us what the maintenance CapEx is?

Jim Knapp

Oh, the maintenance CapEx? Out of the -- I'd say maintenance CapEx is probably going to run for the year around $5 million to $6 million which will be close to our depreciation going forward.

Frank Magdlen - The Robins Group

Okay. And then the RV side was just answered, but I guess are getting, John, in the backlog numbers, are you saying it's $304.6 million plus the $45 million, or is it $304.6 million?

John Sztykiel

I mean, as we sit here today and I'll let Karen talk about that just to provide clarity to everybody, but you're right. Karen?

Karen Morrow

Sure. As of 33, the $45 million wouldn't be in there. That is an order, that's an April event, but you would include the $45 million looking at kind of the outlook as of today.

Frank Magdlen - The Robins Group

On top of the $304 million?

Karen Morrow

That's correct.

Frank Magdlen - The Robins Group

Okay on that. And is that also to be shipped by January '09?

Karen Morrow

Yes.

Frank Magdlen - The Robins Group

So that all falls in there?

Karen Morrow

Yes.

Frank Magdlen - The Robins Group

And then, Jim, a little bit on the R&D side, particularly as the part sales ramp up a little bit. Is that going to continue to drop a little bit as a percent of sales or should we expect that to stabilize?

Jim Knapp

I think it's probably going to -- I think it's going to stabilize and maybe even could go back a little bit as the year, could increase a bit as the year goes on. So I think we've done a very good job of leveraging our SG&A and the R&D based upon the sales. The dollars are relatively the same compared to the fourth quarter and so therefore we had a decline in the percentage related to sales.

Frank Magdlen - The Robins Group

Okay. And John, if you get back to the EVTeam, what really has to happen there now? You've changed management and is it more volume related now or are you still working on the process?

John Sztykiel

Well, I think it's a combination of really all three, being people, process, and products. Are the people perfect? No. But I think we've improved the quality of the people and the people are working more effectively together as a team. Do I believe in each one of the business units, we do need a few more of what I would call highly qualified people. That answer is yes. Second, in each one of the business units, are there changes or improvements in the processes whether it be in the office or the shop to improve the effectiveness of the organization? Absolutely. And it starts with not -- it starts just with quoting the product. So I think we've got improvement there.

Third, well in the product area there are definite improvements that need to take place in the products both to improve the attractiveness, but also to reduce the cost base. I think something which we're all very, very concerned about is the rise in bill of material costs. And while I think right now we've done a very good job managing that and I feel confident we're not going to have a huge exposure to that in 2008, all four of our business units, whether it be Spartan Chassis, Crimson Fire, Crimson Fire Aerials and Road Rescue are very focused on reducing their bill of material costs content, yet improving the attractiveness of the vehicle to insure that they can improve their profitability as time goes on. And I think it's sort of exciting, just from a Road Rescue perspective, they will probably have at least three price increases in calendar year 2008 because the product quality is higher, the delivery times are much lower, but they're reliable relative to when they're being quoted. And third, the customers perceive the product of the value to spend the money for.

So Frank, there's a lot of work to do on all three fronts, on the people, the process, and the product area, but it's sort of like a football team. While you've had a good game, it doesn't mean you've won the Super Bowl. All you have done is won one game. Well, this quarter was a step in the right direction and we have a lot of work to do to get to where we want to be.

Frank Magdlen - The Robins Group

Where are you on a production basis for the Road Rescue?

John Sztykiel

You mean from a capacity perspective, how many vehicles a month? Is that what you're asking?

Frank Magdlen - The Robins Group

Yes, or how many are you producing a month versus capacity?

John Sztykiel

Well I think from a month perspective, they're averaging anywhere from 19 to 24 vehicles a month, depending upon vehicle complexity. They're probably from a planned capacity perspective, they're in the range of maybe 40% to 60% of capacity, depending upon the models which they run.

Frank Magdlen - The Robins Group

And do you make money at 60% and lose it at say 50%?

John Sztykiel

Well that's part of it. The other part of it is also the product line mix. So that's why in our business we focus not so much on the number of units as we focus on the type of units and the total gross dollar or gross margin contribution per unit. So that's why I have provided the ranges. I think from Road Rescue's perspective, do they -- must they reduce their labor hours per vehicle? That answer is yes. Must they reduce their building material cost per vehicle? That answer is yes. Do they necessarily need to increase production past 24 units a month or past 20 units a month to make money? I don't think so. I think they've got opportunities to reduce the cost front being the areas are within their control and their opportunity to improve their profitability at 20 to 21 units a month.

Dave Reid

Frank, this is Dave Reid. They also at Road Rescue introduced a new ambulance at the FDIC. They had three units there and you'll be starting to read about them in the trade press. But they were really very well received. It was a completely redesigned interior that was really centered around the patient and then kind of built from the inside out and heard a lot of great comments, not only from our customers but our competitors as well.

Frank Magdlen - The Robins Group

And then whose chassis is that on?

John Sztykiel

Actually that chassis, the ones that were shown at the show run on Ford chassis.

Frank Magdlen - The Robins Group

All right. Thank you very much.

Dave Reid

Thanks, Frank.

John Sztykiel

You are welcome.

Operator

(Operator Instructions). We'll go next to Ned Borland, Next Generation Equity.

Ned Borland - Next Generation Equity Research

Good morning, guys. Great quarter.

John Sztykiel

Thank you, Ned.

Ned Borland - Next Generation Equity Research

Got a question on the RV side of the business. Generally your customers on the RV side have outperformed the market overall, yet this quarter was in line. Now is that all explained by Travel Supreme or I guess what else is happening there?

John Sztykiel

Well I think part of it would be explained by Travel Supreme. I do think though part of it, Ned, is that the premium, I should say the high end of the premium part of a luxury part of the RV market, was probably hit a little bit harder than honestly what I've seen in past recessions or difficult economic times.

You've seen a few other manufacturers report their earnings in their high to premium end. Diesel motorhome products has been hit very, very hard and I think in this particular environment which we're going through, the high to premium part of the market has a little bit more exposure than what it's had over the last several what I -- I don't want to use the term recession, let's say difficult economic times.

Karen Morrow

And had Travel Supreme had equivalent units, even with an equivalent downturn we would not have dropped as much as the market.

Ned Borland - Next Generation Equity Research

Okay. That's helpful. And just switching over to military and just production rates, it sounds like you're going to stay elevated in the second quarter as long as, comparable to the first quarter third quarter comes down a little bit. What kind of impact is that going to have on your gross margin? I mean, can you sustain a 15% plus gross margin with lower production rates in the second half?

John Sztykiel

You know, Karen why don't you jump in, but it's a good question and I think we've got the right answer for you.

Karen Morrow

Yes. We're projecting that we think we can stay in that range. We're running a lot of temporaries, so we have a lot of flexibility in terms of our variable cost structures. And also overtime we're utilizing overtime to try to fill the gap for now until we see what the military run rates stabilize at. So at this time we don't see any reason why we won't be able to sustain that margin layer.

John Sztykiel

I think one of the things which is starting to show up in the earnings which is fantastic is, if you look at last year and you look at how much we increased capacity, especially at Spartan Chassis, and you take a look at not just military, but we also brought on a $14 million facility for fire trucks relative to cap, paint, trim out, et cetera. And what you're starting to see now is, okay when you basically slow down on the building and expansion and focus on process reengineering, process redevelopment, et cetera relative to people and the processes that take advantage of the facilities, effectiveness and efficiency improves.

And I don't think that's unique for Spartan. That's probably unique for most businesses as a whole, whether you're manufacturing or whatever. From an Emergency Vehicle Team perspective what's nice is when you look at the leadership team, the last couple of quarters we basically had the same leadership teams in place, whether it be Crimson Fire, Crimson Fire Aerials, and Road Rescue. So while we haven't expanded facilities, we've had stability in the leadership and management teams and we've improved effectiveness and efficiency. So it's amazing what happens to an organization once you actually stabilize and slow down and become very, very focused on the tasks at hand. Typically the results move in the right direction. And we were very, very pleased with our progress and I think we can continue to at least stay or improve as we look over the next two or three quarters.

Ned Borland - Next Generation Equity Research

Okay. And then I guess you made some good progress on bill and materials in the past. You've got some raw material cost increases out there. Just wondering how you're going to deal with that or can you continue to deal with that with steel escalating like it is?

John Sztykiel

Well one, we're going to be more aggressive on the price increase part of the front than what we were in 2004. For those of you that maybe new to the business model, we totally misjudged increases in steel et cetera in 2004 and it hurt our earnings immensely. I mentioned earlier Road Rescue will have probably -- well they will definitely have two, probably three price increases in 2008. Spartan Chassis and Crimson from an emergency vehicle perspective will have at least one. Well Crimson I know will have at least two price increases in 2008. From a motorhome perspective, we're actually now going through the motorhome model year, 2009 motorhome model pricing right now as we speak.

So what's nice is I think we've got clarity relative to where maybe some of those increases will be. So as a whole we feel pretty confident this year that we will limit our downside risk relative to unexpected material price increases affecting our bottom line.

Ned Borland - Next Generation Equity Research

Okay. And then final question, I may have missed it, but were there any share repurchases in the quarter?

John Sztykiel

No, there were not.

Ned Borland - Next Generation Equity Research

Okay. That's it. Thanks.

Operator

(Operator Instructions.) We'll go next to Jamie Wilen, Wilen Management.

Jamie Wilen - Wilen Management Company

Hi, fellows. Nice quarter. Three quick questions. The spare parts business, could you talk numbers about what it was last year, what you expect this year and next year?

Jim Knapp

What it was in the first quarter last year, Jamie, it was $4 million and in this quarter it was $17 million. And last year in total it was $33 million, so we expect it to be at a higher level this year. I think there's a good opportunity to sustain that $16 million to $17 million level throughout the year.

Jamie Wilen - Wilen Management Company

Okay and you said next year should be even higher than this year?

Jim Knapp

I would think next year should be higher, yes, because we'll have more units out in the field.

Jamie Wilen - Wilen Management Company

Obviously that's a help on gross margin since…

Jim Knapp

Absolutely.

Jamie Wilen - Wilen Management Company

Okay.

Jim Knapp

They carry a higher margin than our other product lines.

Jamie Wilen - Wilen Management Company

Okay. On the military side you said 15 new opportunities. And I believe somebody asked the question earlier but didn't get an answer, beyond BAE, Force Protection and General Dynamics, are there other people who you are attempting to partner with as you extract these new opportunities?

John Sztykiel

Jamie, it's John Sztykiel. The answer is yes. However, we can't divulge names or the product. It's no different than any of our other business markets. But we are focused on increasing the number of strategic OEM partners we will be working with in the military hardened vehicle marketplace.

Karen Morrow

And I think the nice thing is that our success is really has attracted attention where we're getting called to us versus us having to force our product on other individuals. We've gained some interest in the industry.

Jamie Wilen - Wilen Management Company

As the military business evolves, you seem to have a ton more kind of product lines that you're on as opposed to just one standard thing. Does that help you being a custom guy?

John Sztykiel

Oh, definitely. I think it gets back, I think that we're starting to move away from the term custom but over to flexible design, flexible manufacturing. But what's interesting is the military business model, not just for our products, but really for a lot of products, is significantly different than five years ago. Jamie, you know our company very well and you know we're noted for speed and flexibility. And those two things are becoming very, very attractive in the military marketplace, speed and flexibility. So as Karen mentioned a few moments ago, as people recognize that and then they look at Spartan Chassis's demonstrated performance, phone calls and inquiries are coming to us, not necessarily we're having to go out there and beat the marketplace to develop these opportunities. So it's positive.

Jamie Wilen - Wilen Management Company

Got you. And lastly on the fire truck side, could you talk a little bit about the dynamics of the market and as some of the OEMs are somewhat exiting the business and who's picking up share and how that should affect us near term and longer term?

John Sztykiel

Well I really -- other than saying there's some large OEMs that are having some significant issues in the marketplace, which is about 15% of the market, I really don't want to go too far there, because I think it would be inappropriate. But as we look at not just Crimson Fire, Road Rescue, or Spartan Chassis, all three of those companies are picking up market share. But also, when we look at Spartan Chassis and some of their strategic partners from a fire truck OEM perspective, they have numerous OEMs that are definitely picking up market share.

And how are they doing that? One through flexible designed products. Second, through high quality products with very, very good customer service, but also speed in both bringing new flexible designed products to the marketplace, but also delivering products in some of the shortest time frames possible within the industry.

I don't like to see anybody have trouble, but if it's going to be somebody I'd rather have it be a competitor than us. But I won't say this, the dealers -- I've been in this emergency rescue business now 22 years -- I have never seen dealers so focused on taking advantage of a competitor's troubles as what I've seen in the last three to six months. And I think this focus, or this effectiveness is how they are targeting either cities or townships or locations, is working out extremely well for Spartan and the related companies which we partner with.

Karen Morrow

And due to the length of the bid process, I think it's fair to say that we feel we haven't seen the full impact of what's going on in that market yet.

John Sztykiel

Kevin what Karen said, and for those of you again that are still new, I think you've heard me use the comment that we expect emergency to be very good in 2009. There is a major emissions change in 2010, so you will see a large part of the industry driven by the dealer networks driving sales to happen in 2009 in the right direction. Now that means 2010 could be a concern, and I agree with that. We could have a definite fall off in 2010, but that's why we're also very focused on bringing new products to the marketplace, developing new digits, so we honestly don't have that fall off.

Jamie Wilen - Wilen Management Company

Okay, great. Thanks fellows.

John Sztykiel

Thank you.

Operator

We'll go next to Jeremy Hamblin, Seamark Capital.

Jeremy Hamblin - Seamark Capital

Hey guys, congratulations on terrific results. I wanted to actually just follow-up on a couple of questions on the military business and just confirm a couple of -- your return on invested capital number for the quarter you said was -- ?

Jim Knapp

42.6%.

Jeremy Hamblin - Seamark Capital

Okay. And then in terms of the total units that you produced, the total MRAP units that were produced during the quarter, was how much?

Jim Knapp

We don't normally disclose that.

Jeremy Hamblin - Seamark Capital

Okay. Is it about in the 1500 range

Jim Knapp

I can't comment on that.

Jeremy Hamblin - Seamark Capital

Okay.

John Sztykiel

Hamblin, one of the reason we can't -- this is John Sztykiel, because I mean we have both competitors and customers, based upon segments and a variety of individuals that listen on these particular calls. And it's appropriate base for us to develop and grow a sustainable business model to report the way we do.

Jeremy Hamblin - Seamark Capital

Okay. I just want to confirm because there is definitely some confusion on my end in terms of the business segment information and the changes in the backlog numbers. It's very hard to reconcile what the actual numbers should be going forward. And if you include the additional $45 million in the backlog and the additional backlog that wasn't included due to, I guess the accounting. If the other product backlog in the range of about $150 million instead of this $53 million that's reported on the supplementary information?

Karen Morrow

Well the other product was around the $99.2 million. If you add that $67.3 million that brings you to the $166.5 million roughly, and then you'd add the $45 million on top of that.

Jeremy Hamblin - Seamark Capital

That's just for other?

Karen Morrow

That's correct.

Jeremy Hamblin - Seamark Capital

Okay.

Karen Morrow

So the other becomes around $211 million, I believe.

Jeremy Hamblin - Seamark Capital

Okay. Given what -- given the slowing from the DOD and the orders for MRAP, how do you plan to handle the, I suppose, the shift in shipments and the lower production rates that are expected in the industry, is that just again making use of the various facilities and shifting around production schedules? Do you go to one day less a week or how do you handle -- ?

John Sztykiel

Well actually, I mean, we look at a variety of things. I mean, one, we look at moving product lines around based upon market segments, etcetera. You could see RV or emergency rescue product move into a military facility or vice versa. We do look at the opportunities either through natural attrition, where people leave and then we don't replace. We will look at possibly four-day work weeks, et cetera, if necessary. I will say this, though. Right now, you know, nothing like that is on the short-term horizon. And so in the past we've done a variety of things, I think, to insure that we maximize the shareholder and stakeholder value as much as possible.

But we've got just a couple of facilities carved out specifically for military and we've got some additional lines in our other facilities with a combination either of emergency rescue and military or RV and military. People that have been in the facility, were in they current like they comment is like why do you have facilities when you could build almost anything in each facility? And we really do move things around and we can do it in less than 48 hours. So that's why I spoke earlier, while I expect the RV business to be very, very difficult this year, and believe me I'm not happy to see sales down 30 plus percent.

At the same time too, I'm excited that I see some of our OEM partners making product line changes, bringing different models in the marketplace to try to take advantage of the opportunities out there. But we do foresee a lower production pace of military units in Q2 versus Q1, then a little bit lower in Q3 versus Q4. But at the same time too, we also expect to build more emergency rescue units in the second half of this year than what we will in the first half of this year. And I'm cautiously optimistic that we've seen the worst from an RV perspective. And that each quarter this year will drive the ball in the right direction versus where we were in Q1.

Jim Knapp

We should probably mention to John that the parts business that we have the kidding busy that we're doing for the in Q2 versus Q1. Now a little bit lower in Q3 versus Q4 but at the same time too to too, we also wish to build morew bersis reseJohn, that the parts business that we have and the kitting business that we're doing for the military require additional space as time goes on as the business grows over the next year to two. And also some new opportunities we're currently working on, I will require some additional capacity which we'll redeploy from the military over time.

Jeremy Hamblin - Seamark Capital

And the additional space is just needed to hold inventory and warehousing and so forth?

Jim Knapp

Well also we need space to kit. When you put some of the parts that are used in these air conditioning units, as an example, they have to take the air conditioning units and put on the hoses, all the connectors, the brackets. They ship it as a unit.

Jeremy Hamblin - Seamark

I got you.

John Sztykiel

You know, one particular project which we're very excited on relative to the RV business is the chassis up-fit which we're doing with Fleetwood on their Liberty project. Instead of being just the chassis, we're now doing a lot more relative to the product, which increases the value-added Spartan, provides a lower cost structure for Fleetwood but it does take more space.

Jeremy Hamblin - Seamark

Okay. One last military question. I think it's generally perceived based on some of the public comments that maybe we may have seen the last of our larger MRAP orders. Are you hearing anything different on your end that maybe this program will actually continue a little bit further into the future?

John Sztykiel

It really depends who you talk to. I mean, there are individuals that will agree exactly with what you just said, that okay, the largest is behind us. The military or the MRAP business model will not disappear but it will be smaller. And then you talk to other people and they say, well don't assume that quite so yet. We're not necessarily out of the two largest areas of combat, being Afghanistan and Iraq, so don't be presumptuous in your statements. So we as a company are listening to both. What we're doing is try to improve upon our ability to be both flexible, but also to move quickly with speed, whether it's service, parts, or vehicle-slash-related products. So I think it's a little bit too early Joe Maxa asked, it's the first part of the Q&A session, I think that would be a better answer in Q2 of this year than where we're at today.

Jeremy Hamblin - Seamark

Okay. Thank you, guys.

John Sztykiel

Thanks.

Jim Knapp

Thank you.

Operator

Follow-up question from Frank Magdlen, Robins Group.

Frank Magdlen - The Robins Group

John, could you give us an estimate of what you think the emission standards are going to add to the cost of a vehicle in '10 or 2010 -- and whether cost this last time?

John Sztykiel

It will be between $10,000 to $15,000. I mean, it will be very, very high. It's also going to be much larger, okay, which makes the packaging extremely difficult. Whereas in the past go-around it could be -- it was anywhere from $5,000 to $7,000 and the packaging issues was not quite as difficult as what we have today. I think while the price increase is high, Frank, the biggest thing I'm concerned about from a marketplace perspective is the packaging. There is a lot to do on this particular emissions change. And that's where a huge opportunity is though for Spartan Chassis. If we can take advantage of some of the opportunities to package the new emissions, yet still maintain or improve upon the room, the ease of entrance, and egress from the cab, then we will have accomplished a home run.

So while the price is high -- actually what I hear people talking about the most is they don't want to lose the room or interior in the cab, or they don't want to sacrifice their mobility because you can maintain the room in the cab by stretching everything out, but then you reduce the maneuverability of the product. So the price is going to be high, but I think what people are more concerned about is the duty cycle, or how do we maintaining or improve the functionality of the unit.

Frank Magdlen - The Robins Group

What's the base price on that? If I have a $10,000 to $15,000 increase, what are you selling that product at, ballpark number, today?

John Sztykiel

Oh, you know I really can't comment on that. But let's just say, been in the business 22 years, it's the largest price increase I will have seen from an emissions perspective in 22 years.

Frank Magdlen - The Robins Group

Well, how about a percentage of increase then?

Jim Knapp

I just don't want to get into that a -- what I can say again and I repeated the data point earlier in 2006, selected OEM saw their sales and Spartan CHassis Frank. (technical difficulty).

John Sztykiel

You know, I just don't want to get into it. What I can say again, and I repeated the data point earlier -- in 2006 selected OEMs saw their sales, and Spartan Chassis was one of them, go up 25% to 40% in 2006 as people pre-bought 2006 engines so they would not have to pay the 2007 emissions change.

Frank Magdlen - The Robins Group

Okay. Thank you.

John Sztykiel

To me, that's a pretty telling number.

Frank Magdlen - The Robins Group

All right. Thank you.

Operator

And there are no further questions. Mr. Sztykiel, I would like to turn the call back over to you for any additional or closing remarks.

John Sztykiel

I'd just want to say thanks. And as we look forward, it is a very, very difficult economy for one of our core markets, and that's the RV business. While we had a great quarter, it will be very, very difficult for us to both exceed and sustain this as we look out into Q2, Q3, and Q4. As we mentioned earlier to somebody, both opportunities and challenges relative to the military -- we've got very good opportunities in emergency rescue and RV is difficult. However, as a company we are still very excited about our prospects that 2008 will be another record year. We're in another very, very good year from a Spartan Motors perspective. But we have a lot of work ahead of us. And we're committed to working not just hard but, more importantly, working smart. Thank you very much.

Operator

And this does conclude today's conference. Thank you for your participation. You may now disconnect.

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Source: Spartan Motors. Q1 2008 Earnings Call Transcript
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