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Gerber Scientific, Inc. (NYSE:GRB)

F4Q08 Earnings Call

June 19, 2008 10:00 am ET

Executives

Marc T. Giles – President and Chief Executive Officer

Michael R. Elia - Chief Financial Officer

John J. Krawczynski – Vice President and Chief Accounting Officer

Analysts

Casey Flavin - CJS Securities

Chuck Murphy – Sidoti & Company

Jim Ricchiuti – Needham & Company

Operator

Welcome to Gerber Scientific, Inc.'s fourth quarter and fiscal year-end 2008 earnings release conference call. (Operator Instructions)

I would like to remind everyone that some of today's remarks and the answers during the Q&A will include certain forward-looking statements as defined in the Federal Securities Laws. These include statements regarding Gerber's expected financial condition, results of operations, cash flows and business operations and strategy as well as other planned events and expectations.

For a discussion of important risks and uncertainties that could cause Gerber's actual results to differ from the results expressed or implied in these forward-looking statements, you should read Gerber's annual report on Form 10-K for the fiscal year ended April 30, 2007, which was filed with the SEC on July 9, 2007.

These risks include, but are not limited to, delays in the company's new product development and commercialization, intense competition in markets for each of the company's operating segments, rapid technological advances, availability and cost of raw materials, volatility in foreign currency exchange rates and fluctuations in interest rates.

At this time, for opening remarks and introductions, I would like to turn the conference over to the company's President and Chief Executive Officer, Marc Giles.

Marc T. Giles

Welcome to Gerber Scientific’s Fiscal Year 2008 Fourth Quarter and Full Year Conference Call. Joining me on the call today is our new Executive Vice President and Chief Financial Officer, Mike Elia, to whom I must say, I extend a very, very warm welcome. Thank you, Mike. And our Vice President and Chief Accounting Officer, John Krawczynski.

We are going to try something a little different for this and future conference calls. I am going to provide a high-level review of company performance, initiatives, and outlook, and stay out of the detailed financials, and instead, turn the call over to Mike and John for that. Something I’m sure you will appreciate greatly.

For this year we will not provide quarterly earnings guidance, rather we will provide full fiscal year guidance, which we may adjust during the year, as appropriate. I will provide this guidance following Mike’s commentary. After this, we will go directly to your questions.

Overall, Gerber delivered a solid fourth quarter and full year performance. We grew both our revenue and earnings, despite delays in some key new product launches, and particularly the Solara ion, not achieving all our targeted cost reductions through GBS, our lean initiative, and some challenging conditions in some of our markets, particularly the ophthalmic market.

Most importantly, fiscal 2008 was a transitional year during which we invested aggressively in several key new product programs and other initiatives that promise to take Gerber Scientific to the next level of operating performance. In fiscal 2009 we expect to deliver on that promise.

With regard to new product development, in fiscal 2008 we experienced some delays in our new product launch plans and, in fact, did not commercially launch any key new products during the year. Nevertheless, we increased our key new product sales ratio from about 14% of equipment and software sales to 17%, driven largely by the success of the XLC7000 apparel cutting system, which grew from just over $4 million in sales in fiscal year 2007 to over $12 million in sales in fiscal 2008.

Since the close of the fiscal year, we have now commercially launched three key new products that are fundamental to our growth plans for fiscal 2009 and beyond.

Just last week we announced the launch of Gerber Technology’s new Z7 cutting system. The Z7 is a platform evolution from our China-made XLC apparel cutter. This system delivers the speed, accuracy, and robust performance desired by our customers in the automotive, aerospace, and technical textiles markets. The response from our beta customers has been very favorable and we anticipate this new product to contribute between $3 million to $5 million in revenue at higher margin during the fiscal year.

Gerber Coburn has now successfully completed the field trials of its exciting new ELF system and this is in process of the commercial launch. The technology enables cut-to-polish and free-form lens processing, depending on the customer’s production requirements. It targets the needs of the medium-sized wholesale labs that are typical in the Americas and Asian markets. We expect this new product range could also generate between $3 million to $5 million in revenue at higher margins this fiscal year.

And last, but certainly not least, Gerber Scientific Products commercialized the new Solara ion last month. Clearly, this launch has been an exciting journey. We first exhibited this new product in October last year at the ISA show in Orlando, gathered just over 200 advance orders for this system, and after some delays, finally began commercial shipments last month. Currently we have ramped to a plan production rate of about 10 units per week, per shift, and plan to reach a capacity of about 20 units per week per shift once in final production, beginning this September.

The reception in our traditional core sign shop market for this truly unique, patent-pending inkjet printing technology has been outstanding. In addition, it seems as though we may have growth opportunities in new segments of the commercial printing market. New distribution channels have opened up for us based on the capabilities of the ion.

One new distributor in Europe brought the ion to the DRUPA exhibition in Düsseldorf last month. This is the largest commercial printing show in the world and one at which we have never participated, since it is focused on customers outside of our traditional core. And without any advanced marketing, the ion received substantial attention and our distributor was able to close several orders on the floor.

Our current orders backlog for the ion stands at about $10 million. We continue to expect sales of between 400-600 ions in the current fiscal year, which we estimate will generate between $25 million to $35 million of incremental revenue for the company.

More importantly, our product roadmap calls for extensions and additions to this platform technology over the next couple of years. Our goal is to transform Gerber into a leading supplier in the large and fast-growing wide-format, outdoor durable, inkjet printer market, based on our unique technology. We currently estimate this market size at about $750 million globally and growing at approximately 10% per year.

With regard to gross margin improvement, as I mentioned earlier, we did not achieve our cost reduction targets through our GBS, or lean, initiative in fiscal 2008. This and the relatively stronger growth of Spandex versus our higher gross margin manufacturing businesses led to a decline in our gross margins year-over-year of almost a full point.

We greatly strengthened our operations leadership when Joe Mele joined us in January. Joe brings years of successful experience in lean manufacturing and supply chain management to Gerber and since coming on board he has further strengthened his operations management team. As a result, we do expect to achieve our net cost reduction targets this fiscal year and between these targets and the anticipated success of our new product introductions, we expect to realize between 0.5%-1% of gross margin improvement in fiscal 2009, depending, of course, on actual product and geographic mix.

On the acquisitions front, the acquisition of Data Technology has proven to be a nice success for us. We delivered on our planned financial performance and actually grew sales by over 40% in the first year versus the pre-acquisition level. Acquisitions like Data Technology remain an important part of our growth plans for Gerber and we are currently in active discussion with several possibilities. We are interested in making acquisitions that compliment our existing business and that will be accretive to our earnings in the first year.

A few comments on our markets. Our Sign Making and specialty Graphics segment posted a very solid fourth quarter, largely driven by continued strong growth at Spandex. Gerber Scientific Products, net of the Data Technology acquisition and some patent revenue, continued to suffer declines in its legacy product lines. Looking ahead, with the launch of the Solara ion and a continued healthy European market for Spandex, we expect this segment to be the engine for significant growth in revenue and profitability for Gerber in fiscal 2009.

Gerber Technology again grew modestly in the fourth quarter when compared to the prior year. Segment profit was down for Gerber Technology due to an unfavorable product mix compared to the fourth quarter of fiscal 2007, when there was a very high volume of software sales. Sales for Gerber Technology in China were off 5% in the fourth quarter compared to a year ago, finishing up 8% for the full year. The fourth quarter decline in China sales were more than offset by growth in South America, Turkey, and Eastern Europe.

The apparel market has clearly softened over the past few quarters, even though Gerber Technology has continued to do well in this tougher environment. Looking ahead, while recognizing that the market for Gerber Technology products has softened, we yet anticipate year-over-year growth in fiscal 2009 due largely to new products, like the Z7 mentioned earlier.

The ophthalmic market remains weak for Gerber Coburn with overall lens production down in the United States. Revenue was down by 10% for the quarter and 7% for the year. Nevertheless, the team at Gerber Coburn has managed to improve their operating margin for the year by one full point, to 4.8%. For fiscal 2009 we expect modest growth overall, driven by the most recent new product introduction, the Advanced Lens Processing System and rapid expansion in the China market, which, by the way, grew from revenues of $288,000 to $1.8 million this year, as well as continued strong improvement and profitability.

At this point I will turn the call over to Mike and John for a more detailed review of the quarter and fiscal full year 2008.

Michael R. Elia

This is an exciting time to be joining Gerber. I am looking forward to building on the company’s past success and increasing the value of our shareholders’ investment in Gerber. To that end I will be working with you on furthering Gerber’s competitive advantages, plus I’ll be working with Joe Mele and the business unit managers and presidents on their lean initiatives to drive cost out of our operations and improve our cash flow performance through working capital reductions and operating profit improvements.

Before I get into the numbers I would like to point out that we are now providing a presentation summarizing the key financial information discussed on this call on our website. We hope you find the presentation to be a useful reference.

Now let me get into some of the additional insights of our fourth quarter segment performance. Sales for the fourth quarter were $173.7 million, up 14.3% from the third quarter, and 11.9% higher than a year ago.

Excluding the benefit of foreign currency fluctuations, sales increased 3.6% from the fourth quarter of 2007, driven by strong sales in our Sign Making and Specialty Graphics segment. Orders in the fourth quarter were $172.5 million, 13% higher than the third quarter, and 7.4% above last year’s fourth quarter. We finished the year with a $48.3 million backlog, which is up about $1 million from last year. Net income for the quarter was $6.1 million, or $0.26 per diluted share, compared to $5.6 million, or $0.24 per diluted share, in the fourth quarter of 2007.

We continue to see favorable growth trends in our Sign Making and Specialty Graphics segment, which develops and manufactures computerized sign-making and graphic-design equipment and software and provides after-market materials and related services for sign-printing shops. This segment represented 58% of total sales this quarter. In comparison to the fourth quarter of 2007, overall sales for this segment were up 21.8%, or $18.0 million, to $105.0 million in the current quarter. Excluding the benefit of foreign currency fluctuations, sales increased 9.9%. Sales were up in each of the three product categories within the segment, with equipment and software sales up 31.0%, after-market sales up 19.8%, and service revenues up 30.0%.

In May we announced the successful completion of manufacturing validation testing of our next generation UV printer, the Solara ion, and commenced shipment of production units to distributors and end users. Operating profit in the segment in the fourth quarter increased $1.7 million to $5.4 million compared to $3.7 million last year. The improvement was driven by continued improvement in our distribution business and revenue from two licensing deals, which were partially offset by ion’s start-up costs and declining legacy business.

Sales in our Apparel and Flexible Materials represented about 32.0% of total consolidated sales in the current quarter. Through this segment we develop and manufacture a broad line of computerized automated equipment and software that perform a variety of tasks for apparel and retail industrial fabrics and composites, transportation interiors, and furniture designers, and OEMs. These products are used to improve the efficiency of information management, product design development, and both pre-production and production processes. In the current quarter this segment recorded sales of $54.9 million, an increase of 4.8%, or $2.5 million from the fiscal fourth quarter of 2007. Sales were up in each of the three product categories within this segment, with equipment and software sales up 1.0%, after-market sales up 13.8%, and service revenues up 10.0%. Excluding the benefit of foreign currency fluctuations, total segment sales were basically flat.

This segment is beginning to get traction with our Fashion Lifestyle management software, which allows designers and stores to shrink their concept to cash cycle time. We believe this product has some solid, long-term growth prospects for us.

Operating profit for this segment in the current quarter was $7.6 million, down $2.2 million from a year ago. This decline was driven primarily by lower software sales, which Marc addressed earlier.

We continue to see market softness in our Ophthalmic Lens Processing segment, which develops and manufactures equipment, supplies, and software used by a variety of customers ranging from wholesale lens production laboratories to retail eyewear chains and independent eye care professionals to produce prescription spectacle eyewear. This segment represents about 10% of total consolidated sales in the current quarter.

For the fourth quarter of 2008 sales in this segment were down 9.7% to $18.3 million. Sales were up in one of the three product categories within this segment and down in the other two, with equipment and software sales down 13.4%, after-market sales down 9.4%. The service revenues were up 2.0%.

Operating profit for this segment in the current quarter was $1.3 million, down $400,000 from a year ago, due primarily to lower sales volume.

Finally, corporate operating expenses in the fourth quarter of 2008 were $400,000 lower than the same period in the prior year, driven by lower professional fees and pension-related expenses.

We conclude fiscal 2008 with sales of $640.0 million, operating profit of $24.1 million, and net income of $0.61 per diluted share, compared with revenue of $574.8 million, operating profit of $23.6 million, and net income of $0.58 per diluted share in fiscal 2007.

As Marc mentioned, we have made significant investments this year in new product development and geographic expansion. For example, we anticipate our investment in the ion to position us for solid growth in our Sign Making and Specialty Graphics segment, as well as margin improvement. In our apparel and Flexible materials business we have made substantial investments in new products and to expand our geographic coverage and look to these investments to provide additional growth in the future.

Consolidated cash flow from operations, net of capital expenditures, for fiscal 2008 was $1.6 million compared to a cash usage of $3.7 million a year ago. From a liquidity standpoint, as of April 30, 2008, our total liquidity was $95.3 million, which consists of $13.9 million in cash and $81.4 million in availability under our senior credit facility. We have $36.0 million drawn under our senior revolver, accruing interest at LIBOR plus 1.75% and had $7.6 million of undrawn letters of credit outstanding. In addition, we had outstanding $6.0 million in industrial revenue bonds accruing interest of 2.6%.

Two additional items to note. First, we entered into an interest rate swap to lock in a LIBOR rate at 3.145% on $20.0 million of debt for the next two years. Second, our leverage ratio at the end of the quarter fell below 1.5x, which will reduce our borrowing costs by 37.5 basis points and our commitment fees by 5 basis points in the first quarter of 2009. Total debt, net of cash, outstanding on April 30, 2008, was $28.1 million.

I will now turn the call over to John to review some additional details of our performance for the quarter and full year, as well as some selected cash flow and balance sheet details.

John J. Krawczynski

And now I would like to provide some additional detail on the financial results we just released.

On a consolidated basis, from a geographic perspective, in the fourth quarter 31.0% of our orders were North America, 50.7% in Europe, and 18.3% in the rest of the world, primarily the Asia Pacific region. During the year there was a modest shift in our sales from North America to Europe, reflecting both the continued strength of Spandex sales, as well as the favorable impact of foreign currency translation.

Equipment revenue for the quarter was $56.5 million, up 12.2% from the third quarter of fiscal 2008, and 5.8% higher than a year ago. For the full year equipment revenue was $205.2 million, increase of 6.8% from fiscal year 2007.

After-market revenue as $98.4 million in Q4, 18.2% above the prior quarter, and 15.9% higher than a year ago. For the full year after-market revenue was $360.8 million, 13.8% above fiscal 2007 levels.

Service revenue was $18.7 million for the quarter and $74.1 million for the full year, an increase of 11.8% for the quarter and 12.8% for the full year, as compared with the same periods of fiscal 2007.

Our gross profit for the quarter was $51.2 million, or 29.5% of revenue. Our gross margin performance was up at 1% for the third quarter, but was down about 1% for the fourth quarter of the prior year. The primary drivers for the lower gross margin performance in the comparable prior year period were business unit and product mix. As we have discussed in prior earnings calls, Spandex, which has a distribution business and has traditionally lower gross margin contribution rates than our manufacturing operation, continues to experience revenue growth that has been outpacing our manufacturing businesses, with year-over-year revenue growth of over 20.0%. This increase of the Spandex gross margin continues to be a significant contributing factor of the overall decline.

Additionally, although our manufacturing operations gross margin was up from the prior quarter, it was down from the comparable quarter of fiscal 2007, due primarily to product mix and manufacturing cost increases. We expect that our manufacturing gross margin will improve in fiscal 2009 through our focus of lean initiatives and targeted reductions in raw material costs.

R&D expenditures were $6.7 million in the quarter and $26.2 million for the full year. These numbers are up from both comparable periods of fiscal 2007, due primarily to investments made for the Solara ion, which as Marc and Mike have mentioned, was commercially launched last month.

SG&A expenses for the quarter were $36.3 million and for the full year were $136.2 million, as compared with $32.2 million and $124.5 million for the similar periods of fiscal 2007. The declining exchange rates of the U.S. dollar to other currencies accounted for over 50% in the increase in SG&A costs for both periods as compared with fiscal 2007.

Additionally, higher selling, marketing, and commissions expenses also contributed to the increase in the quarter and full year as compared to the same periods of the prior year. As a percentage of revenue, SG&A expense was substantially unchanged in the fourth quarter as compared with the same quarter of fiscal 2007 and was slightly lower on a full year comparable basis.

Our operating profit for the quarter and full year was $8.2 million and $24.1 million respectively. This was a decrease of $500,000 from the fourth quarter of fiscal 2007 and an increase of $500,000 on the year-over-year basis. Our increased operating performance for the full year as compared with fiscal 2007 was primarily the result of the increased gross profit contribution from our higher revenue. This was mostly offset by increased investments in R&D and sales and marketing related to the planned launches of new products and increased commission expenses associated with higher business volume.

The company generated $0.9 million of other income in the quarter, which was primarily the result of the realization of gain associated with the sale of a parcel land of $1.3 million, partially offset by bank service fees and foreign exchange transaction levels.

In the fourth quarter of fiscal 2007 the company had other income of $0.5 million, which was primarily the result of a realization of a gain from sales of investments related to the company’s supplemental pension plan, partially offset by bank service fees.

Interest expense in the quarter was approximately $0.7 million, down about $100,000 from the same quarter of fiscal 2007. For the full year interest expense was $4.2 million, about $0.6 million higher than last year and included a non-cash charge of $0.3 million related to the write off of an unamortized deferred financing cost associated with the refinancing of our credit facility in the third quarter. The remainder of the year-over-year increase was the result of higher average outstanding debt [inaudible] during the year.

Our effective tax rate was 27.8% in the fourth quarter, which compared favorably with a 34% rate for the same quarter of fiscal 2007. On a full year basis our effective tax rate was 30.1%, down from 34.5% for the previous year. The lower effective tax rate in fiscal 2008, as compared with the same periods of fiscal 2007, and with the U.S. statutory rate of 35%, was primarily due to benefits from foreign tax rate differentials and the reversal of certain tax contingencies.

Now let me provide some additional detail on our cash flows and balance sheet. At the end of the year our cash balance was $13.9 million compared with $8.1 million at the end of fiscal 2007. We generated $11.3 million and $10.2 million of cash flows from operating activities for the quarter and full year respectively. Although we are continuing to focus on driving further improvements in our cash flows from operating activities through working capital management, this does represent a significant improvement from the comparable prior year period.

Capital expenditures were $2.2 million in the quarter and $8.6 million for the full year. On a full year basis cap spending was up significantly from $3.9 million in fiscal 2007. This increase is primarily driven by IT-related investments for the implementation of a customer relationship management software tool and investments in machinery, equipment, and tooling.

Depreciation and amortization was $2.5 million for the quarter and $9.5 million for the year, up slightly from fiscal 2007 levels.

Our debt balance at the end of the year was $42.0 million, compared to $33.4 million at the end of the prior fiscal year.

Customer receivables at the year end were $120.8 million, an increase of $15.1 million from the third quarter, and $14.3 million from the prior year end. The increase was entirely due to higher sales volume in the quarter.

Our DSO was 63 days as of year end, unchanged from the end of Q3 and was 62 days a year ago.

Our year end inventory was $76.9 million, down slightly from Q3, and $11.6 million higher than the year ago. For the fiscal year of 2008 inventory turns were 6.4x compared with 6.7x in fiscal year 2007. We continue to focus on inventory management as a key objective, and as Marc and Mike have already commented, we expect that our focus on lean manufacturing this year with our new leadership team will create improvements in fiscal 2009.

Now, I will turn the call back to Marc to provide some insights into fiscal 2009 expectations.

Marc T. Giles

Now looking ahead to our fiscal year 2009, in developing our estimate for performance, we have attempted to balance the growth opportunity that our new products present with the current soft conditions in some of our markets. We currently project revenue growth of between 8%-11%, half of which is anticipated for the new ion. This estimate does not contemplate the potential impact of possible acquisitions. Further, you should know that given approximately ¾ of our business is outside the United States, changes in currency exchange rates could have a significant impact on the reported revenue.

As I mentioned earlier, we are expecting an improvement in our consolidated gross margin of between 0.5% and 1.0%. With this, operating profits should be between $30 million and $35 million for the year and we are estimating our fiscal 2009 tax rate at the statutory of about 35%. As a result, we are projecting earnings at between $0.72 and $0.82 per share, or an improvement in earnings of between 18% and 34%.

Now I will open up the call to questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Casey Flavin with CJS Securities.

Casey Flavin - CJS Securities

Question on the ion. Obviously big news a couple of weeks ago. Can you just update us with where you are in the final review phase and has their been any sort of significant feedback to note from customers that you’re currently working on?

Marc T. Giles

Well, there hasn’t been, I wouldn’t say, any dramatic news. I mean, from the field the reports back from the customers who are using the machine is extremely favorable. So we’re very, very pleased about that. I think at this point, or at least the last time I was updated, the machines that were operating at customer sites in the field, were producing somewhere between 20,000-30,000 s.f. of product sold for a variety of applications and the commentaries that we’ve gotten back from our customers has been positive. I think we posted one customer testimonial on our Solara ion website. And we’ve had others, obviously, from them.

On the production side, we continue to ramp up process pretty much according to plan. We continue to find and address ramp-up issues that we want to get nailed down before we go to final production mode, but that’s to be expected.

Casey Flavin - CJS Securities

And can you just give us an update on where you are in terms of your pre-order trends? I know you were at right around 200 at sort of last count. And how many orders do you expect to come out of DRUPA, if you’re willing to let us know sort of what the response was? It sounds like that show was very favorable. And have you had any success in firming up some of the soft orders that you had in hand?

Marc T. Giles

I’ll give you what I can here as of the latest. Right now we have approximately, shipped about 20 units, out into the field. We have another 15 units that are in backlog that are demo units that have yet to go out into the field, in Europe, for our Spandex business unit, so we don’t really count those in the dollar value of our backlog. And then we have, in firm backlog, right now to make up those 10 units, about 148 units.

No since we announced the launch, we have lost about 25 of our soft orders, for time purposes. Customers who couldn’t wait any longer to see their demonstrations, so we’ve lost some of that business. And we’re not accepting any more soft orders any longer. So we still have a backlog of soft orders. I don’t have the exact number but somewhere in the range of between 50-75 that are customers who are waiting to see the machine and demonstration before doing final commitment.

You also asked about the DRUPA show in Germany. It was very exciting. I think we ended up taking firming orders on the floor for, I can’t remember whether it was 4 or 5 units. And I was over there for a couple of days. Which was really amazing. I mean, the machine ran extremely well and even though we hadn’t done any pre-marketing or there hadn’t been any advertising because it was all put together, the distributor put it all together very late, or any notification, word started to get around. So we had a pretty good flood of prospects coming through our booth during the show and just that is what led to the orders.

So, we got an awful lot of leads and our distributor is actually very excited about the prospect of the ion in that kind of customer segment, which is kind of outside of our norm. So overall I would say it was extremely exciting.

Casey Flavin - CJS Securities

And just so I can clarify and make sure I understand, you say you have about 175 firm orders and somewhere in the ballpark of 50-75 soft, at current count?

Marc T. Giles

I have right around 150 firm orders in backlog that I count as dollar backlog. I have about 15 machines that are technically in our backlog but we don’t count them in the dollar valuation of our backlog because we sell them to our sister company, Spandex, who use them for demonstration and then sell them through, but we don’t technically include them in our dollar backlog. So that’s another 15 units. I’ve got about 20 units that have already been shipped out and installed in the field. And I don’t have the number in front of me, but roughly we have lost about 25 of the soft orders and I think that leaves us with somewhere between 50-75 soft orders that are still awaiting demonstration before final confirmation.

Casey Flavin - CJS Securities

You also mentioned a licensing deal during the quarter. Can you just let us know where that falls in terms of the financials? And what other opportunities do you see for future deals and how are they typically going to be structured? And what is the spend that you’ve put toward this initiative?

Marc T. Giles

It’s a little too early and too complex to get into too deeply, but let me put it this way. In the quarter we did license revenue of about $2 million-$2.5 million by signing up some additional licensees. We do expect going forward that there’s going to be additional licensees who will sign up. We also feel very strongly about our IT position and very strongly about our current litigation that we have against an infringer.

The arrangement that we’re using in this is that we’ve arranged a contingent fee with a very strong patent litigation firm, who also believes in the strength of our patent value. So they get a cut of the revenue, the amount of which I won’t disclose. But they get a cut of the revenue that we bring in, so it really minimizes dramatically any expenses that we have to cover.

But because it’s still early going and because of the lumpiness, we’re not including any of that in our estimates going forward. So we’re just putting that sort of in the upside bucket for right now.

Casey Flavin - CJS Securities

On the SG&A line, obviously it has fluctuated quite a bit in the last couple of quarters, due largely to your new product development spending. How should we think about that looking out over 2009 and what are the trends that you see there?

Marc T. Giles

I would expect that you will see our SG&A, well, make that R&D. R&D you should expect to see some slight declines because we just launched three key new products that consumed, especially the ion, a lot of expense going forward. And on the SG&A line, of course, you should expect to see a decline in SG&A as a percent of sales, in any case.

Michael R. Elia

The other thing that I would add to Marc’s comment is, bear in mind there’s a lot of foreign currency fluctuation in that SG&A line, too. So I would encourage you to look at that as a percent of revenue.

Casey Flavin - CJS Securities

And can you just give us an update around the trends you’re seeing in customer demand in both the GT and the Coburn segment, and are there any sort of specific pockets of strength or slow down that you’re seeing internationally or in any of the markets?

Marc T. Giles

Well, in Gerber Coburn I mentioned, is predominantly, it’s business is a U.S. business and there has been a decline in eyeglass lens manufacturing in the U.S., almost for the past year, so Gerber Coburn sales and orders and revenues have reflected that over the past year.

The growth opportunities for Gerber Coburn, one has been China, which I mentioned earlier. We have developed and introduced some products that are particularly well suited for not only the market here in the U.S. but also a growth market in China. And that has really expanded rather dramatically over the past year or two and we expect that to continue at a very aggressive rate. So we’re very optimistic about that growth prospect.

As far as the overall market for Gerber Coburn, we really haven’t seen, on the balance, any further decline or any further increases. It’s just kind of been soft and for the last several quarters just kind of stayed that way, outside of the normal lumpiness.

When I look at Gerber Technology, overall it has done extremely well in a soft market, which we started to see in the second quarter, I think I commented on it in my last conference call, really by grabbing share. But the market, you know, is clearly soft and it’s been particularly soft in China, which I mentioned was down. And that was more than offset by our growth in other areas, but China has been particularly soft. And even though, if you look at the first clothing exports from China, globally we’re up about 10%-11% in the first few months of this quarter, so the amount of clothing being produced really isn’t slacking off.

But there’s some apprehension in the market. I think the disaster in China clearly had some kind of an impact to the industry over the last few months. Uncertainty about the way the U.S. economy is going to go clearly has an impact on the mind set of some Chinese operations owners. So, they’re a little bit hesitant.

Now, on the other hand, that helps places like Viet Nam, which has grown dramatically both in terms of exports and our revenues over the past year.

So, you know, it’s just a little bit shaky out there right now. It’s hard to say where it will go. Our folks seem to think it’s going to be kind of this way, as it is currently, and then maybe for another quarter. But then we should start to see a turn around. But that’s just based on conversations in fields with customers. That’s about the best perspective I can give you on that.

Operator

Your next question comes from Chuck Murphy with Sidoti & Company.

Chuck Murphy – Sidoti & Company

Can you kind of give us the rough geographic split for GT sales?

Marc T. Giles

I don’t have it in front of me, Chuck. I would be glad to give that to you separately.

Chuck Murphy – Sidoti & Company

I mean, is it heavily tilted towards Asia or is it kind of split between Asia and Europe?

Marc T. Giles

By the way we designate the geographies, it’s heavily split into, a good chunk is Eastern Europe, a good chunk is Asia, you lump that together, and then a smaller portion is the U.S. and Western Europe.

Chuck Murphy – Sidoti & Company

And what are you kind of seeing as the general order trend for GT these days? I mean, obviously you had Lectra come out and reported some not-so-great numbers and just kind of wondering what it’s looking like for you guys.

Marc T. Giles

Right now and the past few months, our quarterly overall for the business have been hanging in there pretty well as they have. You see a shift in mix. You know, our profitable software business, an awful lot of our software business comes out of the developing world, so you see in the fourth quarter a mix shift there at GT, which was skewed more toward the equipment side and industrial side and less away from the software side. But generally, overall, it’s held well.

And, you know, in the face of all that, about half our business at GT is service and after-markets and that’s continued to grow steadily and provides a real strong profit base for that business.

Chuck Murphy – Sidoti & Company

So it’s servicing after-market of the equipment?

Marc T. Giles

Of the equipment and software; it’s ongoing service contracts and support contracts and spare parts. It’s about 50% of that business’ volume and that provides a huge chunk to the profitability of that business.

Chuck Murphy – Sidoti & Company

Do you expect to see material revenue from the ion in the first quarter?

Marc T. Giles

Yes. We expect to see material revenue in the first quarter and it’s going to be ramping up, continue to ramp up in the second quarter very aggressively, so it will be even more so in the second quarter, and then we’ll be at full production rates in the third and fourth quarter obviously.

Chuck Murphy – Sidoti & Company

Just to clarify, you said you got about 4 or 5 orders at DRUPA, is that correct?

Marc T. Giles

Yes, I can’t remember exactly, but we sold firm orders of between 4 and 5 units at the DRUPA show.

Chuck Murphy – Sidoti & Company

Is that kind of in line with your expectations?

Marc T. Giles

I didn’t really have any expectations, Chuck, because basically we showed up at the last minute and you know, it’s a market segment that we don’t know very well. Our distributor, some of the new channels are excited about this product, in that segment. So, that’s great. And they want to buy ions and sell them, so that’s great. They’ve never been interested in us before, sold any of our products before, so that’s great. So that’ all encouraging, but you know, it’s really an incremental opportunity to our core business, so we’ll see how it develops. I’m excited about the prospect.

I’ve got to say I was excited to actually have people who had never looked at the machine, heard about the machine, knew that the machine was going to be there, who actually showed up and put money down and placed orders at the show. It’s encouraging but it’s still too early to talk about the potential expansion above and beyond our current expectations.

Chuck Murphy – Sidoti & Company

Do you think it had anything to do with the new distributor showing off the ion?

Marc T. Giles

I’m sorry?

Chuck Murphy – Sidoti & Company

You had a new distributor showing the ion at DRUPA, right?

Marc T. Giles

Right.

Chuck Murphy – Sidoti & Company

Do you think that them demonstrating at the show made any difference as opposed to Spandex doing it or GSP themselves doing it?

Marc T. Giles

No, I don’t think so. I mean, they know that customer base extremely well and they know what’s going to work there. Spandex obviously has never shown at that show because again, it’s outside of our core market. So I felt good about the new distributor. And we had a couple of our people from GSP there at the show. I was there at the show but I must say I was no help in the demonstration process. I was just excited to watch.

Chuck Murphy – Sidoti & Company

I guess maybe it’s a little bit different type of trade show but correct me if I’m wrong, but you’ve had more orders at the SGIA or the ISA several months ago, right?

Marc T. Giles

Oh, yes, absolutely. Both. I mean, that’s our core market. We did a lot of promotion. They have been expecting to see it. People came specifically to the show just to see the new ion and learn about it.

And, as I said, we just weren’t able to get any word out in advance of DRUPA to this new market segment so it was kind of catch-as-catch-can.

Chuck Murphy – Sidoti & Company

When you say that you weren’t really targeting this market, do you mean like they had different types of customers or just that it’s a different geography than you typically serve?

Marc T. Giles

Different customer segment, really. That DRUPA show serves the kind of higher production end, higher print quality end of the market segment, so from there all the way up through Heidelberg printing presses. That’s kind of the range of that show. It’s really not a show focused on the small, outdoor-durable sign shop. So some of the qualities and attributes of that ion brings to the table have apparently pushed its attractiveness up into this segment.

But it’s really something we’re not trying to estimate how big this additional incremental opportunity will be at this point because it’s just too early, but clearly its speed, functionality, print quality, and price point have at least enough attraction that we have some new distributors who are anxious to get it in front of these new kinds of customers.

Operator

Your next question comes from Jim Ricchiuti with Needham & Company.

Jim Ricchiuti – Needham & Company

I guess you would probably be among more of the lower ticket items at DRUPA. That’s more of a big high commercial printing equipment show, isn’t it, Marc?

Marc T. Giles

That’s exactly right. I wouldn’t hesitate to guess that there was another single piece of equipment that would be less capital cost than ours.

Jim Ricchiuti – Needham & Company

I joined the call a few minutes late and you may have addressed this but I just wanted to understand a little better the decision to go with just full year guidance relative to the quarterly guidance you used to provide. Is some of that just the difficulty in seeing the ramp on the newer products and the reception to the newer products? Is it just a reflection of the overall end markets being a little tougher to call, at this point with the economy?

Marc T. Giles

I think it’s more just reducing my stress level. We do have an awful lot going on. I think you’ve hit it on the head. You know, we’ve got [audio drowned out] moment of impact they’re to have is very difficult. We’ve got a very aggressive and energized cost reduction programs in our supply chain and the lumpiness of those hitting makes it unpredictable as to where they will kind of go and all that kind of stuff just makes our whole [audio drowned out] little bit [audio drowned out] on a quarterly basis since people then, [audio drowned out] based on coverage to our business, such as yourself, and people who have been following the company have a good idea of the cyclicality of our business anyway, we opted to go for an annual guidance.

But it’s something, you know, if we are way off course either one way or the other [audio drowned out] at the end of any specific [audio drowned out]

Jim Ricchiuti – Needham & Company

Marc, also just a question on the Gerber Technology business. I think even with the softening in the markets, you’re still suggesting that this is going to be up this year. Can you give us any sense the type of growth? Is it kind of mid- to high-single-digit growth? I don’t mean to pin you down, I’m just trying to get a sense of how you’re thinking about it.

Marc T. Giles

Yes, I would say it’s mid- to upper-single digit kind of growth expectation for Gerber Technology. Really built on what we’re seeing in some of our non-China growth markets and some of the new products that we’ve brought to bear that will kind of drive that improvement in revenue and profitability.

Jim Ricchiuti – Needham & Company

And just a question on Spandex. You had a very strong year, it appears with Spandex. And I’m wondering how we should think about that business. We’re starting to hear more rumblings about a slowing in the UK economy. What’s your sense, is Spandex going to be able to maintain the kind of momentum they have in the past year?

Marc T. Giles

I’m not in a good position to forecast the European economy and its trends so well much out in the future. I will say this, now, that certainly Spandex has done extremely well in terms of its growth and so we’re being a little bit more conservative in our estimates for its growth going [forward] just because of [audio drowned out] to maintain that kind of growth. And some uncertainty as to what will happen. So we want to be conservative in our outlook there.

But the two things that it does have going for it, one is the ion is going to have a significant impact, or an incremental impact, on Spandex’s revenue and the actions and the activities that we have been engaged in that have been driving improvements in gross margins and operating profit, not only from volume but from operational improvements, we expect to continue in essence. So, we’re expecting another good year out of Spandex.

Jim Ricchiuti – Needham & Company

And with respect to ion, as you get these machines into the field, is it more second-half weighted as we really start seeing the consumables flow with these machines?

Marc T. Giles

Clearly that will be the case. As the install base builds, you have a trailing increase in consumable [inaudible], so you will see the bulk of that activity growing more toward the end of the year.

Operator

We have a follow up question from Chuck Murphy with Sidoti & Company.

Chuck Murphy – Sidoti & Company

What were Data Technology sales for the year?

Marc T. Giles

Data Technology sales I think were just over $14 million.

Chuck Murphy – Sidoti & Company

Do you guys have a share repurchase program in place?

Marc T. Giles

Yes, we do have an existing old program.

Chuck Murphy – Sidoti & Company

And am I correct in thinking that the share count decreases sequentially this quarter?

Marc T. Giles

No, I don’t believe so. I think the share count is not substantially changed from the third quarter. I can ask John here.

John J. Krawczynski

Do you mean from a diluted share calculation basis?

Chuck Murphy – Sidoti & Company

Basic. I’ll have to go back and double check my numbers.

Marc T. Giles

Not from a basic. From a diluted it came down a little bit because of the lower margins during the quarter.

Operator

We have another follow-up questions from Casey Flavin with CJS Securities.

Casey Flavin – CJS Securities

Can I ask you guys to run through real quick, by segment, the revenues and operating income numbers again?

John J. Krawczynski

For the fourth quarter?

Casey Flavin – CJS Securities

Yes.

Michael R. Elia

The Sign Making and Specialty Graphics for the fourth quarter, overall sales were up 21.8%, so for the quarter it was $100.5 million, and operating profit for the fourth quarter increased $1.7 million to $5.4 million.

And on the Apparel side of the business, in the current quarter we recorded sales of $54.9 million, that’s up about 4.8% percent, and operating profit was $7.6 million.

And on the Lens side of the business sales were $18.3 million and operating profit was $1.3 million.

Marc T. Giles

Casey, and for others who are on the call, this is the first time and you may have missed it earlier on, but you will find that data and other data specific that’s posted on our website, too. So, for this call, if you want to go back and look at that data broken out, you are free to do that. And we will be trying to do that routinely so that you don’t have to scribble quite so many notes.

Casey Flavin – CJS Securities

Do you actually break out the Sign Making into Spandex and GSP or are you just providing the $105 million number, consolidated?

Michael R. Elia

We’re just providing the consolidated number on that.

John J. Krawczynski

We’ll be breaking that out in our 10-K.

Operator

We have another follow-up from Chuck Murphy with Sidoti & Co.

Operator

With no further questions I will turn it back over for any closing remarks.

Marc T. Giles

Thanks everyone for joining us on the conference call today. I think we have a pretty exciting year ahead of us and I’ll look forward to our conference calls coming up in fiscal year 2009.

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Source: Gerber Scientific, Inc. F4Q08 (Qtr End 04/30/08) Earnings Call Transcript
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