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Ducommun Inc. (NYSE:DCO)

Q2 2008 Earnings Call

July 28, 2008 10:30 am ET

Executives

Joseph Berenato - Chairman and CEO

Analysts

Troy Lahr - Stifel Nicolaus

Michael Lewis - BB&T Capital Markets

Alex Hamilton - Jesup & Lamont

Edward Marshall - Sidoti & Company

Operator

Good day, ladies and gentlemen, and welcome to the Ducommun Second Quarter 2008 Earnings Call. My name is Silvana. I will be your coordinator for today. (Operator Instructions)

I would now like to turn the presentation over to your host for today's call, Mr. Joseph Berenato, Chairman and Chief Executive Officer. You may proceed, sir.

Joseph Berenato

Thank you, Silvana. Good morning. I am Joe Berenato, CEO of Ducommun and I want to welcome you to Ducommun's second quarter 2008 conference call. Actually, we had two press releases today. The first be the second quarter earnings release and the second was the press release initiating a quarterly cash dividend. I will cover the earnings report first, then the new quarterly dividend and then take questions on both.

As reported earlier today, Ducommun had sales in the second quarter of 2008 of $102.9 million, up 13% from the $91.1 million of the year ago quarter. Gross profit margin was 21.1% in '08 versus 21.7% in the second quarter of '07, which was a slight drop of 0.6%.

Operating income was $9.6 million versus $7.7 million in '07, an increase of 25%. Net income was $5.8 million versus $4.6 million in the year ago quarter or an increase of 28% and EPS came in at $0.55 per diluted share versus $0.44 per diluted share a year ago or an increase of 25%.

As a side note we have talked previously about our goal to try to get operating income as a percentage of sales back to double-digits over the next several years. In the second quarter of '08 our operating income has a percentage of sales was 9.4% versus 8.5% from the year ago period.

In terms of mix, we see a continuing slow shift to commercial, so that our mix was 58% military, 40% commercial and 2% space versus the year ago quarter of 61% military, 37% commercial and 2% space. Sales in both military and commercial were up, but commercial is growing at a faster rate in military sales. And out tax rate for the second quarter was 36.8% versus 33.7% in the second quarter of 2007.

For the six months period, sales were $201.5 million versus $179.2 million, an increase of 12%. Gross profit margin for the half was 21.1%, steady with the first quarter and compared to a year ago's first half of 21.4%, down slightly 0.3%.

Operating income at $18.1 million was 30% higher than the $13.9 million for last year. And net income of $11.1 million was 32% higher than the $8.4 million for the last year's first half.

Diluted EPS was $1.04 versus $0.80 for the prior period, which is an increase of 30%, and operating income as a percentage of sales for the first half was 9% even, versus 7.8% for the first half of last year.

The mix exactly the same as for the half as it was for the second quarter 58% military, 40% commercial, 2% space versus again 61% military, 37% commercial and 2% space.

The tax rate for the first half was 36.8%, versus 33% for the first half of '07. I should note that Congress has not yet passed the R&D tax credit for 2008, which was also the case a year ago. So, a year ago the R&D tax credit was passed in the fourth quarter and we saw the benefit in the fourth quarter of that and we hope that, we will see the R&D tax credit passed again this year. But, we are not counting on that in any of our financials. So we continue our solid performance in 2008.

As we look forward, commercial markets continue to look strong to us. Build rates remain high and occasionally growing. Our own backlog at the end of the second quarter was $382 million versus $353 million at year-end. So we continue to see our backlog increasing, and we expect to see it to continue to gradually increase as we go forward.

Military is at a high level of activity, but as I've talked before there is program risk within the budget. But we expect the military budget to stay in the $500 billion dollar range going forward, with winners and losers with respect to particular programs.

Our internal reorganization has now had six months of life to it, and we believe it's going very well, well received by our people. We really do believe it's unleashed a lot of creativity and effort. We look forward to continuing benefits from that reorganization as we go forward.

We continue to drive our three major goals of operational excellence which is Six Sigma and Lean for us. We've already conducted over 100 Kaizen events in the first half of this year. Our second goal of profitable growth where we try to grow internally from capital expenditures and R&D expenditures and externally from acquisitions, over the last 18 months the acquisition landscape has been pretty tough.

In '07 the prices in the first half of the year were very high, and we wouldn't go there. In the second half of the year not much was available for sale. In the first half of '08 we've gradually seen better acquisition candidates at least for us starting to become available. For the first time really in 18 months, I think we're starting to see something's that could be a good fit for us. Now, of course, you always have the issue of whether you can find the deal acceptable to both sides.

Our third goal of Organizational Development, our CFO search continues. We've seen the number of good candidates. We haven't been ready to close the deal yet. We much prefer to wait to get the right person for us as oppose to trying to do something quickly. As a side light between myself, and our General Counsel, Jim Heiser, we have the CFO for 16 of the last 18 years in-house.

So while we want to find our CFO and move forward, we want to make sure it's a good fit and we don't feel pressure to do something super quickly. We are also looking to fill some other positions and we are seeing good candidates. We continue to make offers where we think it's a good fit for us.

In terms of the decision to initiate a quarterly cash dividend as I've said before, we always look at five uses of cash for us working capital, capital expenditures, pay down of debt, acquisitions and return to shareholders. We are always looking at our cash and try to apply it most efficiently and effectively in these areas.

Over the last 10 years, we have averaged 16 million a year of free cash flow. Now it varies year-to-year, but over the last 10 years which would encompass a couple of cycles. We've averaged 16 million of free cash flow. The dividend at $0.30 for the year or $700.05 per quarter will be about $3 million of cash to us. So, less than 20% of our free cash flow over the last 10 years and certainly less than 20% of our net income as we go forward.

We think the ratios are reasonable. We believe that future is very solid and we have the resources and when we look at how we use our cash. So, we thought this was a good time to provide some return to shareholders at $0.30 it's roughly a 1% dividend which is inline with most aerospace companies that do pay a dividend. We are confident in the future and I think the initiation of the dividend is a tangible example of that.

And so with that, Sylvania, I’m ready to take any questions that people might have.

Question-and-Answer Session

Operator

(Operator Instructions)

Our first question comes from the line of Troy Lahr from Stifel Nicolaus. You may proceed.

Troy Lahr - Stifel Nicolaus

Thanks. I wonder if you could kind of walk through what's being going on at the technologies business you had, sales were down again. Margins slowly starting to recover but can you just kind of walk through what you are seeing at that business and should we start seeing some revenue growth out of technology I assume?

Joseph Berenato

When you look at our technologies business it really falls into three buckets. We've got design engineered product and lighted product and microwave. We've got build the print segment where we do integrated electronic assemblies and we have our Miltec business where we do engineering services for the government. And our sense is that on the design engineered product which has got a substantial price of after-market in it. The growth there is slow because the military budget isn't growing but there is a significant after market, so it's have a high level for them, but not a lot of growth for them in terms of the military budget growing.

On the integrated assembly side, we think we will see a growth going forward in that piece of the business, again it's mostly military but they do have some commercial applications and I expect over the next year we will see some growth. In Miltec we've seen some good growth over the two years that we've owned it but as you know with respect to the military budget there has been some shifting of funds around. We still view that as a growth business and I think we’ll see a pickup in growth over the next year there.

So, generally speaking I think we'll see growth out of the technology side. But it is predominantly military, and military is growing at a slower rate than commercial both in our company and also in terms of the larger market. So, I’d expect to see the AeroStructure side of the business grow faster than the technology side.

Troy Lahr - Stifel Nicolaus

Okay. And then just Apache backlog, I think it was down pretty significantly quarter-over- quarter, such as lumpiness, and you expect some orders to come through to get that back up or?

Joseph Berenato

Yes. It’s true with any of our major programs, where it's a Apache C-17 or in the commercial side 737. What typically happens is, we get a significant order and then you just constantly working that down, and you get toward the end of that order and then you sign the renewal and then the backlog jumps up. So, the backlog there for Apache C-17 and 737 are all that functions up, as a gradual slight down until the next step function up and we would expect that there will be a step function up for Apache sometime this year.

Troy Lahr - Stifel Nicolaus

Okay. Is that third quarter or fourth quarter or just not sure?

Joseph Berenato

It depends when all the documentations done.

Troy Lahr - Stifel Nicolaus

Okay. And then one just one last question and I’ll jump back in the queue. Can you maybe again just walk through the rationale for paying the dividend, a company of your size, generally you don’t see dividends. I would think that there was a lot of program opportunities out there, where you could put that $3 million to work, rather than returning it back to shareholders.

Whether just a function of acquisitions and things, and then do you think you are kind of putting yourself in a box here, that if you do make a sizeable acquisition you might need to rethink that dividend's?

Joseph Berenato

No, the Board talked about all those issues a lot. When you look over our 10 year period, again we've thrown off a lot of cash over the 10 year period. It you know hops around a little bit, but on average it's been $16 million a year of free cash after CapEx, after R&D. And so when you look at that and you look at our balance sheet and again you look at it for the last 10 years, we've been under levered and the only time the leverage pops up is when we make an acquisition and then the cash pays it down.

So, we don't think we're limiting ourselves in any way. In fact I'd rather see a little bit more competition for cash internally. We've been able to fund any and everything that we thought was appropriate and that ever been a question of "Jeez, do we have the cash for it?"

So, given our history of under leverage, given our history of free cash flow, given the fact that we've been able to support all of our activities from internally generated cash and bank line of credit, when you look over the last 10 years we've never done a placement of debt. We've never done the secondary of stock because we haven't needed the money.

So, for all these reasons and the fact that we think the future looks solid and strong. We thought it was appropriate to reward the shareholders a little bit with some of the cash and we don't think it diminishes our ability to go forward in anyway.

Troy Lahr - Stifel Nicolaus

Do you agree to ever contemplating doing more of a share purchase program rather than a dividend?

Joseph Berenato

We look at that all the time and of course from 1998 to 2000, we thought that was the right time, to do a share repurchase, and we bought back 15% of the company, 1.9 million shares over that 2 year period for an average price of $13.18. So it made sense to us at that time to do a share repurchase. And at that time, the tax rates were such that it was more advantageous to shareholders to get money back in a share repurchase than it was to get it back in the form of a dividend.

Today the tax rate is such that the dividend or share repurchase are tax neutral. That may change in the future, but today its tax neutral. And we felt that a dividend was making the statement about what we thought our long-term prospects were. And again we don't think its putting us in the box at all.

Troy Lahr - Stifel Nicolaus

Okay, great. Thank you.

Operator

And the next question comes from the line of Michael Lewis from BB&T Capital Markets. You may proceed.

Michael Lewis - BB&T Capital Markets

Hey, good morning Joe. How are you?

Joseph Berenato

Good morning, Mike.

Michael Lewis - BB&T Capital Markets

Okay. Is Guaymas up and running right now, how is everything going down there in Mexico at this point?

Joseph Berenato

In the month of July, we shipped our first ship set to the customer and it was put on the aircraft. And now we're going in to low rate production where we will ramp up to full rate production over the second half of the year. So I'd say frankly, we're probably a month behind where we wanted to be when we started this whole process.

But that's not really that much and it had more to do with the scaling, the tooling in place and certified than anything else. So we're building the build rate there and we will through the second half of the year. And we think things are looking really good there.

Michael Lewis - BB&T Capital Markets

Alright. And let me just ask you that with regard to DTI, just come back to first question. In the second quarter was that with in your plan, your internal plan was it below, above, your plan?

Joseph Berenato

We really don't talk about against our plan, especially for segments. I'll just say that Ducommun is had a plan for 2008. But I wouldn't want to start going down and net picking individual locations or segments.

Michael Lewis - BB&T Capital Markets

Okay. Can I ask you, if I look back in the -- at the K, looking back into February, you had identified that 14% of sales would be allocated to CapEx or looks like -- I am sorry about 14 million would be allocated to CapEx, and now we're down to 11 million based on what I read this morning. What's different there, what has kind of come out of the expectation of the plan and with regard to CapEx over the last few months?

Joseph Berenato

When you take a look at us historically and you go back 5, 7 or even 10 years and read that same paragraph every year, you'll see that it gradually comes down during the year. And the reason is, is that we start the year with a plan which includes winning a variety of programs. So the CapEx number is a kind of catch all which would include not only maintenance CapEx but CapEx required to put in place new programs. So as you go through the year, if programs either A or not 1 or B you get pushed out a little bit, the CapEx starts to slide down.

And so we start off with a purely theoretical number, if everything happens the way we put it in the plan, here is what we'll spend for CapEx. As we go through the year that number comes down because either as I said we didn’t win it or we won it, but we are not spending the CapEx as fast as we thought we would. And so it is a natural trend for us and you’ll see it every year, I think last year this number may not be right but I think we started at $18 million and I think we actually spend 10. So it's it is a trend that we always have.

Michael Lewis - BB&T Capital Markets

Okay so with regard to $3 million delta would that infer that possibly, what's the correct statement there were more contract opportunities pushed to the right or there are more contracts that you lost in the debt?

Joseph Berenato

Actually it was, in this case it was the third thing which is we have anticipated the need to put more capital equipment in place sooner but because of Lean Six Sigma activities we were able to increase the productivity with our existing equipment, so that equipment is and in fact we just approved that at the last board meeting the capital expenditure for that equipment and we’ll put it in service probably it’ll come in service next year. But we’ll spend some of the money this year. So at this, when we did our plan we felt we would spend all of those money and put that equipment in place this year.

Michael Lewis - BB&T Capital Markets

Interesting okay and then just a final question okay other way here with regard to the some of the bids outstanding on new contract opportunities a few contract -- a few opportunities in commercial and military. Where do these stand you think that you are close to possibly getting some word or whether you are successful here?

Joseph Berenato

What you find is that, even when “win the contract” you've got to negotiate all the terms and conditions. And you know sometimes that can really drag out and it's really a function of when the customer needs the product, because the customer will continue to negotiate with you as long as he can before you know actually closing the deal depending on lead times and material availability and what his internal capacity to produce the product is before bringing you online. So we are pretty happy right now with the flow of opportunities that we are seeing. And we are seeing an increasing amount of opportunity coming from overseas, probably related to the fact that the U.S. dollar is not strong right now. And so we are seeing a good flow of activity. We are working them all and we are closing them as we can. But we are pretty pleased with the flow.

Michael Lewis - BB&T Capital Markets

Alright. Thank you.

Operator

And the next question comes from the line of Alex Hamilton from Jesup & Lamont, you may proceed.

Alex Hamilton - Jesup & Lamont

Hi, Joe, how are you?

Joseph Berenato

Good, Alex how are you?

Alex Hamilton - Jesup & Lamont

Good, two quick questions I think one thing that keep surprising me quarter-after-quarter is kind of the benefits of the Lean Six Sigma efforts. Can you somehow quantify that I mean margin certainly did well where do we see margins going potentially this year or next year?

Joseph Berenato

Well you know what we said about margins was just the statement that I have been making for over a year now which is that we're trying to get operating income as a percentage of sales into double-digits and we've never been more specific than that.

The Lean Six Sigma, the improvement in the margins is really a byproduct of the activity, which is designed to raise quality and enhance efficiency. Lean takes waste of out your activities. Six Sigma enhances repeatability. So you get the quality pickup. And believe me; both of these things are helped by rising sales. So, in the declining sales environment, your benefit from Lean Six Sigma could be swamped from a financial sense just by the fact that your volumes are down and your overhead has been spread over a fewer product. So, the fact that our margins are improving is a combination of our Lean Six Sigma activities, our pricing activities on contracts and the fact that we're seeing rising sales.

Alex Hamilton - Jesup & Lamont

Great and then just lastly, you talked about commercial and if you mentioned it I apologize. You did talk about the commercial business seems to be growing faster than the other businesses. Was there any particular program that surprised you to the upside during the quarter?

Joseph Berenato

Nothing that surprised us, but we're not only are we seeing strong build rates from Boeing. But we've been successful in wining business on regional aircraft and very light jet type aircraft. So, the commercial side right now is just growing faster than the military. The military side of the business is like a 3% to 5% long-term growth rate and its doing that now and the commercial side we're in that part of cycle, where we're seeing 10% or more growth.

Alex Hamilton - Jesup & Lamont

Okay. Thanks Joe.

Operator

And the next question comes from the line of Edward Marshall from Sidoti & Company. You may proceed.

Edward Marshall - Sidoti & Company

Hey, Joe.

Joseph Berenato

Hi. How you’re doing?

Edward Marshall - Sidoti & Company

Not bad, not bad. Was there any benefit in SG&A this quarter, seeing that it was pretty much a $300,000 less than this year and a $100,000 less than last year?

Joseph Berenato

Yes. There is nothing really specific about that. When you’re seeing the SG&A number, there is a lot of stuff that goes on underneath the surface of SG&A. So, there is never a typical quarter. You always have ups and downs for a variety of reasons, but this quarter was no more [proxies] than usual. The only thing that you could point to and it doesn’t make much difference to the number is we have a few SG&A slots like the CFO, which were vacant right now.

And so we are spending a little less on salaries and benefits than if we were fully staffed, but, you know, you have to say that, that always exists. It's just that we've got a couple of high profile jobs, so they are open right now. Then when you go and look at the other elements of SG&A, don’t really see anything that jumps right out to say, oh this is unusually higher, unusually low, you just always have a lot of stuff going on and sometimes in a given quarter it hits you all at once and some times just for timing it slides into another quarter. But there is nothing by itself that stands down.

Edward Marshall - Sidoti & Company

Okay. The Carson Helicopter revenue in this quarter was there any benefit last year or was that -- that was a zero revenue in Q2 of '07, do you know?

Joseph Berenato

I don't think there was any revenue last year for Carson because, when you're building to deliver first articles.

Edward Marshall - Sidoti & Company

Alright.

Joseph Berenato

Everything else kind of sits in inventory until the first articles delivered.

Edward Marshall - Sidoti & Company

Okay. And then, looking at gross margins here, seasonality would speak that the second and third quarter usually you're strongest from gross margin standpoint.

Joseph Berenato

Yeah.

Edward Marshall - Sidoti & Company

And I was surprise to see a tick down as a percent of sales this quarter. One of my question is, is the Carson Helicopter as it's kind of new to the learning curve here, kind of eroding your margin or your gross margin slightly as you tick up in sales?

Joseph Berenato

Well, that's not in particular, but new programs generally have lower margins. And we have several new programs coming online. 21.1 isn't great, but for us and I'm glad to be able to say that 21.7 which was last year’s quarter was also the highest for the year last year. So from my sense I'd like to see the gross profit margin higher. But the percentage we really focus on is operating income as a percentage of sales.

So that's the one that we put to target out on. And from our perspective all costs are important, whether they are in cost of good sold or SG&A. So we're trying to drive that operating income as a percentage of sales, percentage of.

Edward Marshall - Sidoti & Company

Alright. And this 737 when that gets up and running in Guaymas are we expected to see that be neutral to the gross margins or we should see a benefit?

Joseph Berenato

I think it'll be pretty neutral. I mean we were able to get an eight-year contract from Boeing and there commitment to help us certify the plant because we gave them pricing benefits. And so what we'll see is that pricing from on that contract will slide gradually down over the life of the contract. So we are sharing the benefit that we are getting out of Guaymas with Boeing, and having said that, we've put a facility in place which we're marketing to other bids and other proposals.

And so we would expect to put additional work down there as we win new programs, and as always on the build-to-print side, we'll share us some of the benefit with our customers as we do that. So we view this as a competitive weapon to get new business. But I don't think we would say that we would expect it to have a materially positive effect on margins in terms of pricing per unit.

Edward Marshall - Sidoti & Company

Okay. And I missed what you said about tax rate, I understand outside of the tax rate benefit from the government on the R&D tax credits. Outside of that currently you're modeling 36% it looks like the last two quarters you were nearing 37% is that kind of what we should be modeling going forward or?

Joseph Berenato

Well it depends what congress does with the R&D tax credit.

Edward Marshall - Sidoti & Company

Sure.

Joseph Berenato

And it also depends on the timing of when other year's tax credits either expire or there has been an audit and we finish the audit. Because what happens is, when we do our tax return, we take credit for -- in our tax return for a variety of R&D tax credits and it's not just money that you spend to develop a new product, some of our Lean Six Sigma activities qualify for R&D tax credits, because of the definition of what an R&D tax credit is. So I mean the government is encouraging you to develop new techniques and processes to make you more efficient. So, we spend the money in the cost-of-goods sold line.

The government is giving you some of that back as an inducement to go after those activities, but they don’t give it back to you in the-cost-of-goods sold line, they give it back to you in a tax-line. So in essence, programs like this are a little bit of a depression upfront on the gross profit margin, but you are getting kind of a partial rebate, but it comes in through the tax line. And when you fill that out your tax return, let's say, you decide that there is a dollar of tax credit that you should get, well you have to make a decision as to how much of that is reasonable to expect that you’ll actually collect from the government.

So, in essence, you have a deferred tax credit that you put on your balance sheet because you are not quite sure that you are going to get credit for it. If you never get examined by the government, then all -- the whole dollar is yours. If you get examined then you come to a resolution with the government and let's say it's at $0.90 but you only took $0.50 in the income earlier, then you are going to get another $0.40 benefit. So when either a tax year ends or whether an audit is completed you could get an adjustment to tax rates because of this [truly enough] if you will of how much of the tax credit was actually taken.

We like to believe that we are pretty conservative when we book these things, in the sense that we don't apply for a tax credit unless we've really earned it, so we have a very good success rate in what we get to keep and so in the third and fourth quarter of the year we could have a tax benefit because either a year closes down or an audit has been completed but an audit could be completed in any part of the year. That could happen in Q1 or Q2. We didn't have any of those this year in Q1 or Q2 but we could in Q3 or Q4. So all this is to say that we try to make a best estimate of what the tax rate is going to be for the year but there are some things that can happen which would modestly change it, not by a lot, anywhere from 2 to 4 percentage points depending on the timing of the tax benefits.

Edward Marshall - Sidoti & Company

Understood, and not to jump back to my earlier question but I think I need to, the Carson helicopter, when did you guys start shipping that program? Do you have an idea?

Joseph Berenato

The Carson helicopter blade, the original blade we actually started delivering a couple of years ago.

Edward Marshall - Sidoti & Company

Okay

Joseph Berenato

At very low rate.

Edward Marshall - Sidoti & Company

Right

Joseph Berenato

But the development money we're spending today is because we're developing the blade for the presidential helicopter. It's not exactly the same blade.

Edward Marshall - Sidoti & Company

Right.

Joseph Berenato

And so we're having development and start-up cost and first article costs for that blade. And so that…

Edward Marshall - Sidoti & Company

You booked $3.3 million in the quarter and I'm curious for the caution helicopter blade and I'm curious to when that comp begins, I mean is this the first quarter of the new shipments of the new blades or it did start somewhere in the third and fourth quarter last year?

Joseph Berenato

Well, if it’s started earlier wouldn’t have been inconsequential.

Edward Marshall - Sidoti & Company

Okay.

Joseph Berenato

So, it would really of the new blade. It would really start up this quarter and again low rate and it will build from here.

Edward Marshall - Sidoti & Company

My understanding is kind of six months to a year out, we should see that somewhat accelerate or…

Joseph Berenato

Yes, probably sooner than that.

Edward Marshall - Sidoti & Company

Thank you very much.

Operator

And the next question comes from the line of Troy Lahr from Stifel Nicolaus. You may proceed.

Troy Lahr - Stifel Nicolaus

Thanks. Could you just run through that the C-17 program? Was there any pull forward in the quarter here, I guess 24% growth on that program?

Joseph Berenato

A lot of it had to do with if we've been asked to build new tooling and you could just because of the way the calendar works get some additional shipments inside the calendar quarter, which really don’t represent the pull forward, it just the timing of one things for. As we've talked about the C-17 program in the past, it’s a great program for us.

Our expectation is that will end somewhere between and 2010 and 2012. Boeing has come forward now and said they are going to build 30 White Tails and the White Tail is an aircraft for which they have no committed buyer. Boeing of course is smarter than that. They're not just building these things in the hope that somebody will come.

I’m sure, they've identified, who the buyer of each of these aircraft ought to be and so the contracts just haven’t firmed up, but it's a question of keeping the line running as long as you have a reasonable expectation that you're going to sell it. There is a transportation study being done inside the Defense Department, which will come out next year.

And I think C-17 advocates believe that it’s going to show that the Air Force needs to buy more C-17s. There are other people of course, who think it will reaffirm that they don't need more. But as things stand right now, it would seen like, if the shutdown will be closure to 2012 and 2010, but again contracts haven’t been absolutely firmed up. We continue to run that roughly 15 aircraft a year rate.

I just noticed that, that Boeing just sold two more C-17s to outside the United States, which is always good news. So, we like the program. Obviously, we'd love to see it continue forever. I spoke at a C-17 Supplier Conference a couple of years earlier and I made the comment that I was looking forward to see C-17s produced until my kids graduate the college. And so, everybody looked at me and said, “Well jeez, when is that next year?

And at the time I had a kindergartner. So, I’m hoping for a long run for the program, but we plan for 2010 to 2012 shutdown and what we’ve said is, we need to find three material programs, which for us means $10 million a year in sales or more. And we feel that we've got two of those under our belt in terms of the Eclipse very light jet, and the Carson Helicopter Blade and we're pursing several other programs, any one of which would be the third program that we're looking for. And hopefully we'll get off three of them.

Troy Lahr - Stifel Nicolaus

And when do you think you might come to -- when do you think you might find that third program, is that like a 2008 or early 2009 timeframe?

Joseph Berenato

Well it has to happen in 2009 if it's going to be up and running in that 2010, 2012 time period at $10 million a year run rate. So we got to get it between now and the end of '09.

Troy Lahr - Stifel Nicolaus

And are you pretty confident in that, that you'll get that?

Joseph Berenato

Yeah.

Troy Lahr - Stifel Nicolaus

Okay. And then the commercial after-market business was strong, I mean what percentage of your 40%, 39% that's commercial? How much of that is OE versus after-market?

Joseph Berenato

On the build-to-print side it's almost all OE. On the design product side we have some after-market, commercial microwaves switches, stepper horsepower motors and resolvers. So there is some of that. But we are not a company yet with a strong after-market presence and one of the things that we look at when we look at acquisitions is can we get some design engineered product that has significant after-market exposure to it. So it's an area that we would like to increase. But you're not going to see it out of the build-to-print side and that's where a lot of our commercial sales are today.

Troy Lahr - Stifel Nicolaus

Okay. But in the quarter I mean commercial after-market was one of the reasons for the high growth on the commercial business, is that right, did I read that correctly?

Joseph Berenato

Yeah, I mean there was some. But it's not a big piece of the pie it just happened into have a nice increase.

Troy Lahr - Stifel Nicolaus

Okay. But there's no way to frame the Commercial Aerospace, its 20% of your commercial businesses after-market maybe?

Joseph Berenato

I'd say as a company, maybe 10% to 15% of the company is after-market and a lot of that's military.

Troy Lahr - Stifel Nicolaus

Okay, perfect. That's helpful. And then lastly on, can you kind of walk us through or maybe just update us on 787 where your production is, I assume you're still producing some. But as Boeing just told you to stop on other programs, and then are you still bidding on additional work there?

Joseph Berenato

Yeah, all of the above. What we see going on, well first of all, we do very little Boeing, most of our 787 work is for other people like Hamilton Sundstrand or Nordam or Fuji, etcetera. So it's all over allotted to other first year type guys. And what we see is that most of those guys have us on hold. Some of them have us producing, and it's all a function where they are with their assemblies of Boeing, as to whether they have us producing or whether they are on hold, or whether they are putting us on hold. So most of our 787 is on hold right now, and we're hopeful in the second half of the year that we'll be turned back on.

Troy Lahr - Stifel Nicolaus

And other opportunities that you are still, their proposal activity going on in the of or is that [shaking on]?

Joseph Berenato

There is some but I would expect more later because since people are on hold they are not busy putting work out for them what they are trying to do is to get their engineering solidified so that when they do put it out they'll have to make fewer changes to it. One of things that was true and we've experienced it when you win work early in a program so some of the 787 stuff we've already won, we are constantly having to make engineering changes to it and so that's very disruptive and expensive but it's part of the price that you pay when you hook on to a new program so what you try to do is to make sure that if your getting in early on the new program it's a program that has size and legs to it because that makes up for the early pain.

Troy Lahr - Stifel Nicolaus

Right, okay, okay thanks.

Operator

And our next question is a follow-up question from the line of Mr. Michael Lewis from BB&T Capital Markets. You may proceed.

Michael Lewis - BB&T Capital Markets

Hey, Joe. Just a two quick follow-ups, one on the tax legislation. Have you been able to quantify what you think you could get back in EPS from the past such of R&D tax legislation before the governments fiscal year-end?

Joseph Berenato

You know I don't know a specific number. Maybe it would impact our tax rate a couple of percent.

Michael Lewis - BB&T Capital Markets

Okay

Joseph Berenato

For the year.

Michael Lewis - BB&T Capital Markets

Okay, but it would be beneficial prior, I mean based on the numbers I just crunched up seemed like 7 to 9 pennies. Does that sound about right? For '08 alone.

Joseph Berenato

You are ahead of me in terms of crunching numbers.

Michael Lewis - BB&T Capital Markets

Okay.

Joseph Berenato

I think it would impact the tax rate, you know, maybe a couple of percentage points.

Michael Lewis - BB&T Capital Markets

Alright and [just go] past on Eclipse. Any information there with regard to backlog or can you help us kind of understand whether you have been shipping any of that products out and what opportunities looking like in near term?

Joseph Berenato

Yeah, I mean they continue to produce; they would like to produce more than they are. They originally said for instance, in ‘08 they want to deliver over 200 aircrafts and that number has been coming down a little bit. I think it's probably because of delays from suppliers. But if they get to about a 180 aircraft this year, that would be good and if they do better than that, that would be even better. And then next year I'm sure they are thinking more like 400 aircrafts. So we continue to produce and my sense is that the demand is greater than their ability to deliver. But we are watching to see how does DayJet and Florida does, because I think its kind of harbinger for the air taxi market.

Michael Lewis - BB&T Capital Markets

Interesting. What-- okay that’s good. I might circle back with you later. Okay, thank you.

Operator

And at this time we don’t have any further questions in the queue. I will pass the call over to Mr. Berenato for closing remarks.

Joseph Berenato

Well, I’d like to thank everybody for participating in the call and all the great questions here, you have kept me scrambling all morning. The last thing I would say is we had a good quarter. We are looking for a good year. Our markets are positive. We continue to look to grow through the implementation of capital expenditure, R&D activities and of course acquisitions and all of this, is driven by our ability to stay through to and drive Lean Six Sigma to achieve operational excellence.

It is the corner stone and bedrock of everything that we've been doing and we've been using the policy deployment system in order to sell our goals and measure ourselves as we go forward. And Tony Reardon our President has been driving that aggressively across the entire company. So the reorganization is only six months old as we go along, we think we are going to continue to get benefits from it. And I think as we make acquisitions, we'll find the integration of the acquisitions become, I don't want to use the word easier but more productive because of our adherence to policy deployment and the Lean Six Sigma effort.

So, with that I'd like to thank everybody for participating and we look forward to talking to you about the third quarter in [Ghali], that not too distant future. Silvana, thank you very much.

Operator

No problem. Ladies and gentlemen, this concludes the presentation for today. You may now disconnect.

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Source: Ducommun Inc. Second Quarter 2008 Earnings Call Transcript
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