Mine Safety Appliances Company. Q2 2008 Earnings Call Transcript

Jul.28.08 | About: MSA Safety (MSA)

Mine Safety Appliances Company. (NYSE:MSA)

Q2 2008 Earnings Call

July 28, 2008 10:00 am ET

Executives

Mark Deasy - Communications Director

Bill Lambert - President and COO

Dennis Zeitler - SVP and CFO

Joe Bigler - President of MSA North America

Rob Canizares - EVP and President of MSA International

Analysts

Brian Ruttenbur - Morgan Keegan

Edward Marshall - Sidoti & Company

Walt Liptak - Barrington

Brian Butler-FBR

Jim Hollister - Private Investor

Richard Eastman - Robert Baird

Greg Halter - Great Lakes Review

Gregory Macosko - Lord Abbett

Rick Ryan - Dougherty

Operator

Good morning, ladies and gentlemen and welcome to the MSA second quarter earnings conference call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session. Please note that this conference is being recorded. I would now like to turn the call over to Mr. Mark Deasy. Mr. Deasy, you may begin.

Mark Deasy

Thank you, Kim. Good morning everybody and welcome to our second quarter earnings conference call for 2008. As Kim said, I'm Mark Deasy, Communications Director and with me today are Bill Lambert, President and Chief Operating Officer, Dennis Zeitler, Senior Vice President and Chief Financial Officer, Joe Bigler, President of MSA North America, and joining us from Berlin Rob Canizares, Executive Vice President and President of MSA International.

Our second quarter earnings release was issued this morning at 8:30 and we hope everyone has had an opportunity to review it and release is also posted on the homepage of MSA's website. This morning, we'll begin with Bill Lambert, who will provide a commentary on our second quarter. Bill will be followed by Dennis, who will review our financials and after Dennis, we'll open up the call for questions and planned to adjourn by about 10:45 am.

Having said that, I would like to remind everyone that the matters discussed on this call with the exception of historical information are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. Forward-looking statements including, without limitation, all projections and anticipated levels of future performance, involve risks, uncertainties, and other factors that may cause our actual results to differ materially from those discussed here.

These risks, uncertainties and other factors are detailed from time-to-time in our filings with the Securities and Exchange Commission including our most recent Form 10-Q, which was filed on May 1, 2008. We strongly urge you to review all such filings for a more detailed discussion of such risks and uncertainties. Our SEC filings can be easily obtained at no charge at www.sec.gov, our own website and a number of other commercial websites. That concludes our forward-looking statement.

So, at this point, I'll turn the call over to Bill for his comments on our second quarter, Bill.

Bill Lambert

Thank you Mark, and good morning everyone. Let me began by saying thank you for joining us today on this conference call and for your continued interest in MSA. Presumably all of you have seen our second quarter earnings release and have our financial figures with all the comparisons being with you [put on period] in 2007. Overall I'm pleased with our second quarter performance. We saw meaningful sales growth in each of our three geographic segments and we saw improvements in the operational areas, we have been focusing on and discussing with you over the past several quarters.

Consolidated sales in the quarter increased $44 million over the second quarter 2007 or 18% with strong sales gains shown in Europe, which was up 37% and North America, which was up 13%. We saw more moderate sales gains in our international area, which was up 10%, but which also has a difficult comparison because the second quarter 2007 was so strong for MSA International.

Operating income prior to restructuring expense, interest expense and foreign currency exchange gains shows pretax profit from operations increasing 19% from a year-ago and reached an operating margin of a 11.9%. This is down slightly from the first quarter, but continues to show directional improvements from a year ago. Year-to-date, operating income X items is running at 12.3% of sales versus a 11.9% a year ago, a 40 basis point improvement and continuing evidence, I believe that are initiatives to improve operating margins have taken hold.

Reported net income increased 15% and our diluted earnings per share also increased 15%, as the number of shares outstanding stayed relatively flat to the number of outstanding shares a year ago. And gross profit increased 41 basis points from a year ago, as many of our factory saw a strong over absorption in a quarter with strong shipments. I'm additionally pleased by the improvement in gross margins considering that we and others have felt downward pressures on margins due to rising raw material costs and increasing freight expenses due to increases in oil and fuel prices. And I'm pleased with our success in being able to hold down other production costs then to effectively manage our pricing strategy and see the gross profit increases that we see.

Let me now move by discussion to each of our geographic segments with which we report. First up, I'll talk about North America, which accounted for 51% of our total sales during the quarter. As I stated earlier, North American sales for the second quarter showed a $16.9 million increase and we are 13% ahead of the year ago. The sales growth was fueled primarily by increases in SCBA shipments, which improved to $9.6 million on strong shipments to the U.S. Air Force.

North American sales were also fueled by strong gas detection instruments sales, which improved $3.4 million or 14% on strong sales of our new Altair 4 multigas detector to the oil and gas industry. And we also saw increased hardhat sales, which were up $2 million or 12% on strong sales to various segments of the construction market. Overall, military sales in North America showed a very strong gain up 28% from a year ago on strong shipments of SCBA under our multiyear U.S. Air Force contract and stronger sales of Advanced Combat Helmets and CG634 ballistic helmet to the U.S. Army and Canada National Defence Forces respectively.

In the U.S. Fire Service it was gratifying to see nearly 100% of the fiscal year 2007 Federal Assistance to Firefighter Grants released to the fire department, just as we had expected. And we were also pleased to see fiscal year 2008 AFG grants begin to flow during the first week of July, which is a little earlier than we expected, but it was very encouraging to see. The Federal AFG program continues to be a very meaningful driver of protective equipment sales like our SCBA. As fire departments across the country look to the AFG award program to fund their purchases.

Further, encouragement on this program is provided by the fact that the AFG program saw an increase in funding for fiscal year 2008 versus last year and that the current program has been approved by the U.S, Congress until 2010 with the 2010 program probably running from July 2010 to May 2011. So, the AFG program is something we look to for the future to continue to fund the sales of protective equipment to fire departments. We anticipate that the next Presidential administration will continue to budget and support this very popular Federal Grant program for fire departments across the country.

However, outside of the AFG program, it appears the challenges on municipal budgets associated with municipal tax revenue declines due to the housing crisis and rising operating costs within the fire department due to escalating fuel prices are combining to provide a fiscal pinch to many municipalities and fire departments. We and others predicated the inevitability of this happening. But it became very apparent in the second quarter, as SCBA after purchase decision was announced as being either delayed into the next fiscal year or cancelled entirely because the fire department did not receive AFG funding and the municipal budgets were getting pinched.

This developing trend raises some level of concern for us in the U.S. Fire Service. Since by our internal estimates, roughly 30% of equipment purchases are funded by municipal budgets, while we estimate 70% of purchases are funded by the AFG program and that seems to be working just fine, we are seeing a tightening on the balance. These estimates are only a rough estimate on our part and can certainly vary from year-to-year.

Now, I don't want over emphasize this developing trend because keep in mind in many cases life saving machine critical equipment like the firefighter self-contained breathing apparatus achieve high priority for purchase so the impact of municipal fiscal tightening is some what lessened. The point is we are seeing some headwinds develop on the U.S. Fire Service front and it's coming from the impact the municipal budgets are feeling from reduced tax revenues associated with the housing crisis and rising operating costs associated with rising fuel costs.

One last point on SCBA sales comparisons, when we review SCBA purchases by the fire services versus last year it's worth considering that the quarter comparable from a year ago is in fact a demanding comparison. Second quarter 2007 was our best quarter all year for fire service SCBA sales because last May we had strong shipments under our last call program for older addition SCBA. As you probably recall, our last call marketing program was a focused initiative, which laid the groundwork for introduction of our new FireHawk NFPA SCBA in the third quarter 2007.

Now early on I stated SCBA sales were up $9.6 million versus a year ago in North America and you might be asking, how can that be if we experienced a reduction in the U.S. Fire Service? Overall SCBA sales in North America increased almost 30% over year ago due to strong shipments against the U.S. Air Force contract for our FireHawk Responder SCBA. Therefore but we were comparatively down quarter-to-quarter in SCBA shipments to the U.S. Fire Service for the reasons noted earlier. We more than made up for in strong shipments to the Air Force for our newest generation SCBA, which supports the U.S. Air Force air bases across the country.

So, in summary for North America considering the overall business environment I'm pleased with our second quarter performance in North America, where sale showed an increase of 13%. And specifically noteworthy is the 10% increase in sales from our core commercial business that is let's exclude North America Military and the U.S. Fire Service. All the other parts of our business in North America were up a combined 10%. And the bright spots moving forward continue to be the energy market like the oil, gas and utility sectors and various segments of the construction market like infrastructure and industrial, medical and education building construction, which are all experiencing signs of growth. Certainly, there are signs emerging that the second half of this year and into 2009 may present business challenges for North America, but I'm confident we can successfully weather the storm with the keen focus on growth opportunities and overall expense discipline.

Let's turn our attention to Europe now. In Europe, we saw current quarter sales increase about $21 million showing a 37% increase versus the year ago. While the stronger Euro was the significant factor, taking out the currency translation effect yield is still a 13% increase in European sales for the second quarter. This was exceptional performance and showed good progress in our European factories ability to address certain supply chain issues and address a strong backlog of orders, which I discussed with you in our last conference call.

I was very pleased by our European team's ability to address these issues and the progress that they continue to show. As we indicated in the press release, the stronger European performance reflect strong sales of SCBA and air-purifying respirators in Germany and higher shipments of fire helmets to the European Fire Service and ballistic helmets to law enforcement agencies in France. The initiatives we have going on Europe to improve its contribution to MSA profitability are having an effect.

Net income in Europe, as a percent of sales improved nicely in the current quarter improving 210 basis points over a year ago and was related primarily to the strong increase in shipments, as we address supply chain issues, but also to the incremental improvements we are making across a broad range of issues throughout the European organization. I'm pleased by the progress we are making and the directional improvements we are beginning to see I'm confident in our team's ability to achieve the goals we have set for ourselves. But we must be mindful that we are also early into this complex and multiyear transformational effort in Europe and this will continue to require management focus in the quarters and years ahead.

Now, let me turn my attention to MSA International. In our International segment, current quarter sales increased $6 million or 10% over a year-ago, due to stronger sales in South Africa and Latin America particularly in the mining industries that we serve there. I'm pleased with this 10% increase and I don't believe this is any indication of moderating sales growth internationally. Because as I indicated earlier the comparison to quarter two last year is a challenging comparison because last year we had $4.8 million ballistic vests shipment to the Iraq Joint Contracting commend. Taking that single large order out, current quarter international sales would have shown a 20% increase.

Current quarter net income in International was about the same as a year ago and did not reflect improvement consistent with the sales growth we saw and this was primarily due to a warranty related charge on earnings in South Africa. I'm pleased during the quarter with the completion of our plant expansion effort and facilities modernizations project in some part of Brazil, as we invest in that area to serve the growing needs of Latin America. Additionally during the quarter, we continue to make good progress in bringing our newest plant and our Asian engineering centre online in Suzhou China. This new 130,000 square feet plant and office facility will become our headquarters for Asian operations and is due to be completed during the third quarter of this year. We'll begin ramp up of production activities at this site by the end of this year and into next year.

Both the Sao Paulo, Brazil and Suzhou China factory projects are part of our project Magellan initiative to modernize and optimize our global manufacturing capabilities and to provide low cost sourcing opportunities to meet the global demand for our products. I'm pleased by our progress on project Magellan and the milestones that we are hitting. I feel, we are in the early stages of realizing all of the improvements from these initiatives. But one and half years into this five year effort, I believe we are right on schedule.

So, in summary for MSA, I'm pleased with MSA's overall performance in the second quarter. We saw meaningful 18% growth in sales overall. We saw a meaningful sales growth in each of our three geographic segments and we saw a meaningful progress in the operational areas, we have been focusing on and discussing with you over the past several quarters. I was pleased with the improvements, we saw on our current quarter gross profits, which were 19% higher than a year ago on the stronger sales and up about 40 basis points, as we made progress in battling the pressures faced by increased raw material and energy related costs and we saw the benefit associated with the introduction of new products in our gas detection area, which have a lower cost basis.

There are challenges developing, which we are just beginning to see in the U.S. Fire Service. But we also continue to see above market sales growth in the oil and gas, in the construction markets, as our new products and marketing initiatives result in market share gains in these areas. Additionally, growth in sales to the U.S. military showing expected improvement, as we extend our product offerings to this important customer base. And while the U.S. has certain economic challenges that we and others face.

Our performance and opportunities in Europe and internationally have not yet seen the effects of the macroeconomic environment that we are seeing in the U.S. Though understandably GDP growth rates outside the U.S. are decelerating and inflation has taken a clear upward trend. We continue to invest in these markets outside of the U.S. and I’m cautiously optimistic, we can continue to show acceptable growth in these regions over the coming quarters.

At this point I’ll now turn the call over to Dennis Zeitler our CFO, who will provide a little more insight into our reported first quarter financial results. Dennis?

Dennis Zeitler

Thank you, Bill. Good morning everyone, I would like to give you some further insight into our second quarter performance and comment on the balance sheet and cash flow statement. Additional information will be available later today, when we file our Form 10-Q with the Securities and Exchange Commission. As Bill mentioned, sales in the second quarter of 2008 were a record $293 million compared to the second quarter of 2007 sales increased 18% with strong growth in both our North American and European segment and moderate growth in International.

North American sales are up 13% lead by a 70% increase in military sales, a 10% increase in industrial sales, but a decrease of 13% in fire service sales. The $15 million increase in military sales reflects $13 million of self-contained breathing apparatus shipped to the U.S. Air Force. The $5 million decrease in North American Fire Service sales compared to the second quarter of 2007 reflects a slowdown in municipal spending as well as the comparatively strong quarter in 2007, when we were shipping a last of the old addition of our SCBA product.

Our European, sales grew 37% this quarter in US dollar terms of which 24% was the impact of a stronger Euro. In terms of local currency, our European military sales are up 36%, fire service is up 22%, and our European industrial sales are flat with last year. Our backlog of product to be shipped to European customers over the remainder of this year increased slightly this quarter.

International segment sales grew 10% this quarter compared to the same quarter in 2007 of which 6% is due to appreciating currencies. This is composed of strong growth in Latin America, good growth in South Africa, but weaker performance in Asia and the Pacific Rim. This is the tougher comparison quarter for our international sales as we sold $5 million of ballistic vests to the Iraq military in the second quarter of last year.

Our global sales were also higher in each of our three market segments. The core industrial market, which is approximately 60% of our total sales, is up 15% this quarter. Fire service is up 2% and military is up 63%. The other view of our sales performance is to separate the two most volatile segments U.S. Fire Service and U.S. Military from everything else. Our U.S. Fire Service sales of $30 million is a decrease of 10% and our U.S. military sales of $31 million is an increase of 56%. Then when we look at all of our globally diversified sales they comprised 79% of our total sales this quarter, these sales grew 19%.

Our expectation for U.S. Fire Service, sales in the remainder of 2008 has been tampered by the apparent impact and the decrease in municipal funding is having on such purchases. Our military sales do look strong for the remainder of 2008. We also expect to make significant progress in reducing our European during the second half of 2008. The balance of our business continues to be strong, but they are certainly subject to global economic conditions.

Our gross profit rate for this quarter was 38% up slightly from last year. Our continuing efforts to reduction manufacturing costs were mostly offset by more comparative pricing in the fire service market and the lower margins on U.S. military sales. Selling and administrative costs in this quarter were 23% of sales down slightly from last year. Our R&D expenses are up $2 million this quarter as we continue to invest in new technology and products that will continue to grow our organic sales in the years to come. The resulting operating income excluding restructuring charges and currency gains is $35 million, an increase over the second quarter of 2007 of 19. As a percent of sales, this is 12% this quarter versus 12% in the second quarter of last year and 13% in the first quarter of 2008.

I'm pleased to report that we had no foreign currency loss this quarter on our income statement although I'm disappointed that we do not record a gain for the period. Although, the Euro did weaken significantly up until mid May, but then strengthened at the same level versus a dollar at the end of June as it was at the end of March. Our consolidated tax rate in the second quarter is 37% versus 34% last year. Some of the issues involved here such as the failure of the US Congress to renew the R&D tax credit and a high effective tax rate in Europe should resolve themselves during the remainder of the year. Others such as our inability to tax effect our losses in China, Japan and Ireland will resolve themselves overtime as we return these affiliates to profitability.

The bottom line is net income of $20 million, $0.56 for basic share an increase of 14% over last year. Adjusting our earnings per share for restructuring charges and the tax issues that should be resolved by year end would increase our earnings per share to $0.60 this quarter. Some comments on the balance sheet and cash flow statement. Our cash position is unchanged this quarter at $67 million. Our net working capital adjusted for changes in exchange rates increased $40 million over the second quarter of 2007 just by a 16% increase in inventories and anticipation of shipments to be made during the third quarter. Our cash outflows this quarter were for manufacturing assets and dividend. Our capital expenditure plans for 2008 are higher than 2007 due to the new Chinese factory that has just been completed as well as major improvements that are underway at our Australian and Brazilian factories.

At this point Bill, Rob Canizares, Joe Bigler, and I’ll be more than glad to answer whatever questions you may have. Please remember that MSA does not give what is referred to as guidance and that precludes most discussions relating to our expectations for future sales and earnings. Having said that we'll now open the call to your questions?

Question-and-Answer Session

Operator

Thank you. We'll now begin the question-and-answer session (Operator Instructions). Our first question comes from Brian Ruttenbur from Morgan Keegan. Please go ahead.

Brian Ruttenbur - Morgan Keegan

Okay. Thank you very much. First question I had was on R&D, I thought that R&D was going to be essentially flat with first quarter levels and it appears to be up about a $1.8 million from first quarter levels. Can you tell us what's going on there and what your plans are for R&D going forward?

Bill Lambert

Brian, this is Bill. Good morning.

Brian Ruttenbur - Morgan Keegan

Good morning.

Bill Lambert

Yeah. Sure, I can a little bit about what we are doing there without getting into specific projects. We have got some fairly heavy investments that are going on in a couple of areas of our business. The gas detection instruments area of the business is an area, where we are making some fairly significant investment and also in our ballistics protection and fall protection areas. So, there are particular areas of continuing focus for us that we see a great future potential and so we are putting the necessary investments on the R&D side there to support that.

Brian Ruttenbur - Morgan Keegan

Do you expect these levels the $9 plus million going forward or was there some kind of one time event in R&D in the second quarter?

Bill Lambert

That was a little bit high Brian. I would not expect it to be at $9.2 million per quarter going forward that was a little bit high. But you'll see us continuing to be in that 3% of sales range as we are little bit above that I think for the second quarter and last year we are little bit below that something like 2.7% of sales a year ago. But you'll see us in that 3% range.

Brian Ruttenbur - Morgan Keegan

Okay. So, if revenue drops, R&D should drop down to the 3% range. So, if you had to drop off in the second half of the year from slowdown R&D would also drop off, is that right?

Bill Lambert

No. I won't necessarily say that. The two aren't really related as closely as that. I was just trying to provide you with some level of guidance to say that the 3.1% of R&D expense during the second quarter was just a little bit higher than what we would normally expect to see.

Brian Ruttenbur - Morgan Keegan

Okay. Next question I have is on the tax rate, it appeared to be a little bit higher than we anticipate was that because of the revenue mix of North America and Europe?

Dennis Zeitler

Well, the R&D tax credit is about 1% of it and we have a chunk of our European revenue is happens for whatever reason to be in all of the highest tax countries in Europe right now and we expect that the balance will drop off before the year is over. And there is about another 1% there.

Brian Ruttenbur - Morgan Keegan

Okay.

Dennis Zeitler

And the other one is the other big impact is the fact that we have got some losses that we can't take the tax effect for. Whether that will correct itself this year or next year I can't say.

Brian Ruttenbur - Morgan Keegan

Okay. So, modeling around the mid 30s would make sense on the year?

Bill Lambert

For the full year, yes.

Brian Ruttenbur - Morgan Keegan

Okay.

Bill Lambert

I mean, it should drop off. Hopefully the R&D tax credit will impact the fourth quarter significantly.

Brian Ruttenbur - Morgan Keegan

Okay. And then the diluted share count, can you tell us what that number is?

Dennis Zeitler

Yes. For the second quarter its $35,987,000 shares it's about $35,600 for the year-to-date.

Brian Ruttenbur - Morgan Keegan

Okay. And last question I have is trying to gauge what's going on internationally for you guys is very difficult, should we be looking to construction spending to. What are the biggest signs that you see out there, that you monitor from a macro standpoint on the international front.

Rob Canizares

This is well Rob Canizares from Berlin.

Brian Ruttenbur - Morgan Keegan

Okay. Thank you

Rob Canizares

Basically our mix of extraction industries is pretty significant since we have big presences in South Africa, Australia, and Latin America so that's the big driver of our business. OGP, which is Oil Gas Petrochemical with the all investment going into those industries with the demand for energy are also very positive factors. Other than that, of course, we have a very broad diversity and it's very difficult to associate any macroeconomic indicators with our growth. So, if you want to select a couple of specific ones, are these two but the rest of the industry is very diverse.

Brian Ruttenbur - Morgan Keegan

Okay. Thank you very much.

Operator

Our next question comes from Edward Marshall from Sidoti & Company. Please go ahead.

Edward Marshall – Sidoti & Company

I'm sorry. All of my questions were answered, thanks.

Operator

Thank you. Our next question comes from Walt Liptak from Barrington. Please go ahead.

Walter Liptak - Barrington

Hi, thanks. Good morning guys.

Bill Lambert

Hi, Walt.

Walt Liptak - Barrington

Okay. So, the municipal spending aspect of that you have mentioned that we are at the early stages of what we thought was going to be slower SCBA sales is that correct?

Bill Lambert

Walt, what I said is that we are beginning to see now, we saw it in the second quarter a definite pinching of municipal budgets due to what we understand is two principal causes one the housing crisis is causing a reduction in municipal tax revenues. And secondly, just operating costs for fire departments principally fuel prices is making it more difficult for them. So, I think in general and across the board, what we are seeing is municipal fire departments that are being pinched in and what it is they can spend money on.

Walt Liptak - Barrington

Okay, right. But my understanding is that SCBA are one of you higher margin products and it sounds as if there is 10% decline or so in fire and safety and you mentioned pricing pressure. So, the market must be getting more competitive and some of your competitors dropping price, is this something that we think continues through 2009 with the slower SCBA spending?

Joe Bigler

Walt, this is Joe Bigler. Certainly through the second half and 2009 as Bill said about 70% and this is based on our internal numbers about 70% of the dollars that are being spent on items such as SCBA is really coming through the AFG program and that money started to flow the first week of July really started a bit early and as we track them, we really track every award over $50,000 in particular. We are doing very well in terms of our percentage gain and our gain share of program in that.

The other 30% of our sales really comes from municipal funding and what we are hearing is that I'll just giving you an example there was about 24 departments that we could identify just really over the last 60 day period that were departments that we were depending upon and out of those 24 departments, 22 really either cancelled their funding for this year or delayed and pushed their funding into the third or into the fourth quarter depending upon how these municipal budget go.

So, the municipal budgets were a key driver for us here certainly in the second quarter in terms of driving the decrease. We would expect that pressure to continue through the second half of this year. And as far as 2009, I would expect that they continue in 2009. The opportunities are still out there. The AFG funding is a little bit larger than it was in 2007 and that money is flowing. We are doing particularly well there. So, the key will be to grab market share and to really focus on those departments getting AFG.

Walt Liptak - Barrington

Okay. Would you mind commenting on some of those big jobs that are out there LA and Phoenix and was it a pricing issue? There is also a potential market share gains?

Bill Lambert

Right. In the case of the Phoenix Fire Department that went to Draeger if you are probably aware and that was primarily driven. There wasn't any AFG grant money that was primarily [UFE] grant money and some other grant money that Phoenix had that was primarily driven by the firefighter evaluation and a preference for various features that the Draeger unit had. There were other aspects to that evaluation, but that as we understand [it] on the preliminary information that we have that was the one of the key drivers. In LA it is very much a pricing decision and meeting the specification and you are probably aware of that award has not been made yet. There is at least two process that are going through in LA right now.

Walt Liptak - Barrington

Okay. Yeah, I wasn't aware of that, okay. Switching gears a little bit Europe I wonder if you could talk about the orders during the quarter we have heard about slowing from of our industrial world in Europe, April, May, June did you see any changes that were meaningful on the order trends?

Bill Lambert

Rob would you like to provide comment on that.

Rob Canizares

Sure. Actually our order pace remained relatively strong during the quarter as Dennis indicated our backlog increased a little bit during the quarter. So, we haven't really seen a slowdown in the order intake is just that our manufacturing capacity has lagged a little bit, so the sales are just ramping up to deliver that volume.

Walt Liptak - Barrington

Okay. And can you comment at all on the ballistics awards through the DoD?

Bill Lambert

Yeah, just a brief update on some of the key awards that are out there or the key contract that are pending. We clearly break them down to body armor as well as helmet. There is an OTV award coming from DSCP that is still pending it's for approximately $45,000 Outer Tactical Vests that was really issued both May 1st and that award decision is really expected within the next two weeks. We also heard that it could be awarded as early as August 1st. So, we are looking for an award over the next two weeks, as I said, that is out of DSCP for about 45,000 OTVs. There is than the large army IOTV the Improved Outer Tactical Vest contract that is spending. The award is expected sometime late third quarter perhaps even into October.

Of course these dates just seem to be changing, as we contact the contracting officers things obviously change, but that's the latest information that we have. And we do know that the DSCP is considering putting out, we don't have a date yet a request for proposal on sustainment buys for the IOTV. So, there is really three big vest contracts or two big vest contract the DSCP for 45,000 and the large army IOTV, which really is for about 25,000 per month and most slightly will go to two awardees at 12,500 per month and that's a very significant one as I mentioned that will probably be awarded, we are being told sometime late third quarter, beginning fourth quarter.

In terms of recent awards you are probably aware that there was a bridge buy on the IOTV that bridge buy was for a little over $80 million that represented about a 150,000 IOTVs that did go to Point Blank. There were only two bidders that were authorized to bid on that because those were holding contracts, that was BAE and Point Blank. We did not participate in that it was only held for those two. So, that was recently announced.

Walt Liptak - Barrington

Right, okay. OF the incremental R&D spend, how much was related to body armor and some of this military contracts?

Bill Lambert

I don't have that breakout handy here.

Dennis Zeitler

We wouldn't disclose that kind of number any how, Walt.

Walt Liptak - Barrington

Okay. Thanks, guys.

Unidentified Company Representative

Excuse me for just a second I want to correct the first half diluted share account I gave that correct number is 36,263,000 shares.

Rob Canizares

Excuse me for just a second I wanted to correct the first half diluted share count I gave you the correct number is $36,263,000 shares.

Joe Bigler

Yeah, Walt if I can this is Joe Bigler again just one other clarification on the fire service this 30% on the municipal funding that we are really seeing a tightening on its not certainly all doom and gloom. We have not seen the effect of all of the upgrade kits. Keep in mind upgrade kits for those departments that perhaps don't take grant money or they do get grant money and they just really want to upgrade their existing manufacturers devise. Those upgrade kits they are really just going through approval and would be hitting the market here sometime in the third quarter.

So, together with the on time release of the AFG money the upgrading kits and certainly the progress that we are seeing in our gain share program and the bulk, as I mentioned and Bill mentioned nearly 70% based on our internal statistics of our sales coming for AFG grades. There are some positive things that we are looking forward to, is that 30% of the [site] that we are most concerned with for the rest of this year and going into 2009.

Operator

Thank you. Our next question comes from Brian Butler with FBR. Please go ahead.

Brian Butler-FBR

Good morning guys.

Bill Lambert

Hi, Brian.

Dennis Zeitler

Good morning, Brian.

Brian Butler-FBR

All right. A kind of a cautions tone for the second half and I was thinking just, what kind are some of the opportunities I guess in the near term that you guys are excited about that could have an impact if you might just talk about for a minute?

Bill Lambert

Sure. Yeah I think that Joe mentioned quite a few in the ballistics protection area that we are working toward that we get excited about. I think that the core industrial part of our business so even if the U.S. Fire Service is a bit volatile, even if the U.S. military is a bit volatile let's take that out. And as Dennis reported just overall our ability to penetrate markets are core global area, globally diversified sales, I think is what Dennis referred to it as was up 19% in the quarter. So, you take all of our sales, take out the U.S. Fire Service, take out the U.S. military because those have some volatility that we are trying to deal with. Our second quarter sales globally diversified were up 19% versus the year ago. And so, our success in penetrating some of these international markets the successes that we are seeing in Europe that's we feel really good about and continue to feel good about and execute our plans.

Brian Butler-FBR

Okay. And then just kind of follow through on the ballistic question one time. It sounds like, you do have the opportunities on the vest side, are there still any opportunities that you are pursuing or I think you have a good possibility on the plate armor?

Joe Bigler

This is Joe again. On the ESAPI and XSAPI unfortunately within the last couple of weeks we were notified that our technical proposal, which includes our preliminary design models, which are referred to as PDMs did not meet the current contract requirements that the U.S. military was looking for. So, consequently, we'll not be participating in the two depending ESAPI and XSAPI contracts that really hasn't feel awarded yet. They are just really going through the testing protocol. However based on that, we certainly continue our R&D efforts to take advantage of some future U.S. military business. There are certainly some international opportunities for plates as well as the utilizing plates into our vests going into the law enforcement market that really we are looking forward to the new NIJ standard.

Brian Butler-FBR

Okay. And last follow up, I think Bill you mentioned that you are looking for acceptable growth in Europe. Can you put that in a little bit different clear context in the sense of, I think you guys in the past talk about your non-fire and non-military business growing kind of in that 10% is acceptable growth that number or is it higher or lower?

Bill Lambert

Well. Let me first say as you well know we don't provide guidance in the form of sense. And we have talk in the past about what we expect out of our international segment. What we expect out of European segment. And what we can do in this globally diversified portion, which doesn't include those areas that you talked about and how do we achieve that 10% growth which yes that gets us into that acceptable range of what our expectations for our ability to penetrate the markets that we see and as they grow.

Brian Butler-FBR

All right, thanks a lot.

Bill Lambert

Okay.

Dennis Zeitler

Thanks, Brian.

Operator

Our next question comes from [Jim Hollister], who is a private investor. Please go ahead.

Jim Hollister - Private Investor

Good morning, gentlemen. I just had one question left. We have seen as we have discussed the accounting translation effects of currency fluctuations operationally do we have any advantage from the weak dollar?

Bill Lambert

Actually we don't have a tremendous benefit there Jim and the reason is that some of our products that are produced in the U.S. are for U.S. or North American Safety Standards. And those safety standards change, as you move around the world. The U.S. Safety Standards, whether they be for The National Institute for Occupational Safety and Health or whether they be The National Fire Protection Association Standards. They just don't translate well into international markets. So, Europe has its own safety standards and requirements for products. Australia the same. China the same. South Africa the same. They all have a different variance.

And so our ability to take and translate products here from North America and export those and see the sales gains because of the weak dollar. We just don't see that benefit. What we do have is our factories in those parts of the world in Berlin, Germany and Chatillon France; and Johannesburg, South Africa; and Sydney, Australia; and Wuxi, China that produce products for those local markets. So, the amount that we see in increased export sales because of a fluctuation in the strength or weakness of the dollar is very minimal.

Unidentified Analyst

Jim Hollister - Private Investor

Thank you very much.

Operator

Our next question comes from Richard Eastman from Robert Baird. Please go ahead.

Richard Eastman - Robert Baird

Hi. Just a couple of questions. On the U.S. Fire Service business that business obviously was down year-over-year and I'm trying to get a sense of how much of that is price. Joe you talked to the share gains program but that's not all that obvious having not won in Phoenix or LA at this point. So, can you give us a sense of the fire service revenue decline, how much is volume share and price?

Bill Lambert

Well. Let me teed it up for Joe and then he can join in here. The U.S. Fire Service, as I think we indicated is off about $3.3 million from a year ago and which is about a 10% decline in sales quarter-over-quarter. And as there are couple of factors that we need to consider. First of all the quarter comparison is the challenging one because of our last call program for SCBA last year. So, we can't get over the top here and seeing this bit of decline.

Secondly, I think it's also worth noting that if you look at our U.S. Fire Service sales through six months; our sales are up 16% from first six months in 2007. So, SCBA sales are up 17% through the first six months this year versus last year six months. So, Rick, I think there are some caution and that's why I tried to indicate in my comments early on that we shouldn't, I don't want to overemphasize what we are seeing happening other than just to alert that market to what we see happening with municipal budgets, but it has been off. Now, I look for Joe to provide any kind of commentary on what he might see from a pricing perspective. Joe.

Joe Bigler

Yeah. I'll say that pricing effect is very minimal. I would say the volume is really 90% to 100% of it because if you are comparing quarter-to-quarter if you look at the second quarter of 2007, I mean we were really selling our older version unit, the newer version unit obviously has some price increase into it. So, if you are looking for this decline that we saw in the second quarter, it really is all driven by volume, which we believe again based on our internal analysis is driven by that 30% of the funding that the municipalities are just really tightening up on.

Richard Eastman - Robert Baird

Well to be fair the first quarter year-over-year was a ridiculously easy comparison. So…

Joe Bigler

Yes.

Richard Eastman - Robert Baird

Well trying to average the two isn't entirely helpful.

Joe Bigler

Right.

Richard Eastman - Robert Baird

And let me ask another question on the gross profit margin line, where in fact, were we disappointed given the volumes we put up it seems to me the gross margins should have been meaningfully higher if you look at it from an incremental margin standpoint? Are the raw materials a significant variance from your plan?

Bill Lambert

This is Bill. Rick I think that the raw materials as I indicated in my comments are a downward pressure on margins. There is no doubt about it. The plastics that we use, the thermoplastics, the raw pellets that go into our helmets and into our products all of that has cost pressure I should say. And we are seeing our suppliers trying to pass along the price increases as best they can. And so then we have to focus within our factories to find offsets to that. Secondly, from a product mix standpoint a large percentage of those SCBA sales, which has you or one of the other caller has rightfully noted it is one of our higher margin product areas.

But a large portion of those sales in the quarter were to the U.S. military to the U.S. Air Force, which has thinner gross margins, gross profitability associated with it on that basis. So, the areas of disappointment from a gross profit, gross margin standpoint, I don't think I have any strong areas of disappointment and in fact, I was encouraged that we were able to see a 40 basis point improvement in gross profit quarter-over-quarter even considering the downward pressure on margins from the external costs from rising fuel prices on expenses and freight expense and the mix issue.

Richard Eastman - Robert Baird

Okay. And going forward given the cautionary comments on the munis spending, I know industrial was strong but there is others out here that seem to feel Europe is going to slowdown, is there going to be an attempt to manage your operating expenses in line with the reduced sales growth number?

Bill Lambert

Yes there is.

Dennis Zeitler

And just to [jack] up on some of your thoughts Rick. We still have a really strong incoming and backorder situation in Europe. So, I don't think we are indicating a significant slowdown in our European business.

Richard Eastman - Robert Baird

No. I mean, I understand what you are saying, but that's not the tradeoff that's all are favorable profit. You are trading US dollar growth for Euro growth that's not all that favorable?

Dennis Zeitler

Okay. And then the other comment will be the comparison for the U.S. Fire Service, the next two quarters is going to look a lot like the comparison was in the first quarter.

Richard Eastman - Robert Baird

Okay.

Dennis Zeitler

So, we do have some easy comps coming up.

Richard Eastman - Robert Baird

Okay. Thank you.

Dennis Zeitler

Yeah.

Operator

Our next question comes from Greg Halter from Great Lakes Review. Please go ahead.

Greg Halter - Great Lakes Review

Yes, good morning.

Bill Lambert

Good morning Greg.

Greg Halter - Great Lakes Review

I wonder, if you could comment on the competitive field out there currently both in the US and internationally whether or not it's the new or you are seeing the same people, whether there has been some new entrance and what they are doing relative to price given their own raw material input costs?

Bill Lambert

Yeah from a new entrant standpoint I don't think there are new entrance per se that are worth mentioning on this call. There have been changes within the competitive environment though over the last six to eight months, big move by 3M to make an acquisition that was announced late last year and closed I believe in the late first quarter of this year and a move by Honeywell to acquire another fairly large competitor of ours during the quarter. So, there is movement within our industry from some fairly big players. But I think that what we are seeing from their behaviors from a pricing perspective is fairly consistent with what we see and our ability to increase pricing in strategic areas, in the right areas and offset some of the increases in cost that have been passed along to us from our suppliers.

Greg Halter - Great Lakes Review

Okay. And Dennis you talked about the cash flow from operations, but I didn't hear if you gave any number either for the six months or for the quarter?

Dennis Zeitler

The actual cash flow number?

Greg Halter - Great Lakes Review

Yes.

Dennis Zeitler

Second here, cash flow from operations for the six months was $8.5 million.

Greg Halter - Great Lakes Review

Okay. And where there any shares repurchased in the quarter?

Dennis Zeitler

No, there were not.

Greg Halter - Great Lakes Review

And what are your thoughts regarding the share repurchase currently?

Dennis Zeitler

At today's stock price, I'll be thinking real hard about it before the week is over.

Greg Halter - Great Lakes Review

Okay. And finally on capital spending plans, I think we had been assuming that you would spend around $40 million this year, that's still in the ballpark?

Dennis Zeitler

Yes, you got it.

Greg Halter - Great Lakes Review

And what are the outlook in '09 should that come down with these plans being completed in Australia and China and so forth?

Dennis Zeitler

Yeah. There would be some spillover. But we ought to be down in the high 20s next year.

Greg Halter - Great Lakes Review

Okay, great. Thank you.

Operator

Our next question comes from Gregory Macosko from Lord Abbett. Please go ahead.

Gregory Macosko - Lord Abbett

Yes. Thank you.

Bill Lambert

How are you, Greg?

Gregory Macosko - Lord Abbett

I'm fine. Maybe I could follow-up on Rick's questions about the costs and the SG&A line rose about the same rate as the revenues. Are those SG&A costs pretty aligned with international and U.S. and North American growth?

Dennis Zeitler

More or less the biggest single item actually in our SG&A expense is in the administrative costs. Everybody in North America is on a profit sharing program. Last year, we were so far of our plan that there was no accrual for that profit sharing last year as supposed to this year, where we are reasonably close to our plan and therefore we do have an expense accrued this year that we didn't have last year for North American profit sharing actually.

Gregory Macosko - Lord Abbett

So that implies if profits are weaker in the second half that the SG&A line would be under greater control is that basically the means by which you would expect to control it given weaker top line in North America?

Dennis Zeitler

Well that's one automatic piece because we don't make our budget and that profit sharing will be decreased or eliminated. And certainly other cost saving efforts underway right now in North America and in Europe.

Gregory Macosko - Lord Abbett

Okay. And then with regard to foreign exchange, there was no I think, you are implying that international and Europe the profit margins were not helped or hurt as a result of foreign exchange or are they?

Bill Lambert

Yeah. The actual profit margin rates will not be affected, Greg.

Gregory Macosko - Lord Abbett

Okay. So, then why did international go down so much?

Dennis Zeitler

The biggest item was that warranty expense we have in South Africa. We have about $1 million dollar charge in South Africa for a mining product that needs to be recalled.

Gregory Macosko - Lord Abbett

Okay. Thank you.

Operator

Our next question comes from Rick Ryan from Dougherty. Please go ahead.

Rick Ryan - Dougherty

Good morning.

Bill Lambert

Hi, Rick.

Rick Ryan - Dougherty

Bill, you had a nice run through on the ballistic awards that are upcoming anything on the helmet side?

Bill Lambert

Let me look to Joe for that. I think Joe has some information on the helmets.

Joe Bigler

There are really three big contracts here that you could really break into four or five and just very quickly there is a pending contract. This is the five year ID/IQ Indefinite Delivery and Quantity coming from Natick. There is about 96,000 helmets that DSCP will be ordering but they are purchasing it half of Natick's five year contract that will just about wrap up the Natick contract. We expect that award hopefully within the next five to seven days.

The next big contract is with DSCP. They really have a sustainment buy, fairly significant it's for an ACH similar to the current ACH that manufacturers are making, but this does have some modification to it for improved ballistics. They have just issued their last amendment here on July 22nd the bid is due August 13th and DSCP is expected to make an award on that contract at the end of September that could be $40, $60, $70 million over a couple of year period. I'm not sure of the specific quantities. But that will be decided as, I said the bid is due August 13th and that award is expected to be made in September.

And then finally you have the thermoplastic pending contracts that are out there. We do expect probably within the next 30 days to 45 days there will be a requirement from special forces or a lightweight ACH, there is also some work that's being done and we would expect a large bid to be put out sometime perhaps by the end of this year going into next year or either a lightweight ACH the special forces will use or there is the same weight ACH that affords higher ballistic protection and then there is a heavier ACH that affords maximum ballistic protection. Specifications are all being worked out by the big army so to speak, as to which way they will be going and that could be a potential replacement for all of the ACH helmets that are out there over the next four or five year period. So, those are the big pending helmet contract.

Rick Ryan - Dougherty

Okay. Joe, how about on the law enforcement side you mentioned the NIJ. What's the current timeline for that?

Joe Bigler

Yeah. We hope the timeline would be again within the next 30 to 60 days we would expect to see and we expect to be among them. Some of the first manufacturers getting their approval NIJ approval on the new requirement that are to be issued here very shortly. I would expect by no later than the end of September, we'll say call it October 1st that we hope to have NIJ approved products out there and the standard issued and that certainly creates an opportunity for us.

Rick Ryan - Dougherty

Great, thank you.

Operator

There are no further questions at this time.

Mark Deasy

Okay. Thank you, Kim. And again as Bill said earlier we want to thank everybody for joining us today. We do appreciate your interest in the company. So, on behalf of Bill, Dennis, Joe and Rob we'll look forward to talking with you again soon and hope everybody has a great day. Thanks again.

Operator

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may all disconnect.

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