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Blount International, Inc. (NYSE:BLT)

Q2 2008 Earnings Call Transcript

August 5, 2008 1:00 pm ET

Executives

Calvin Jenness – SVP & CFO

Jim Osterman – Chairman & CEO

Analysts

Alan Robinson – RBC Capital Markets

Jeff Gates – Gates Capital Management

Bob Franklin – Prudential Financial

Ryan McGaver – Capstone Investments

Operator

Good morning, and welcome to the Blount International, Incorporated teleconference with Chairman and Chief Executive Officer, Mr. James Osterman; and Mr. Calvin Jenness, Senior Vice President and Chief Financial Officer. My name is Andrew, and I will be your facilitator today.

The conference will begin with a brief overview of the second quarter followed by a question-and-answer session. (Operator instructions)

At this time, I'd like to turn the call over to Mr. Jenness. Mr. Jenness, you may begin.

Calvin Jenness

Thank you. Good morning everyone. This call is being broadcast live on the Internet and recorded for future transmission and use by Blount and third parties. Participants in the call, including the Q&A session, agree that their likeness and remarks may be stored and used as part of the earnings call.

Before Jim and I summarize the company's performance, I would like to remind everyone that the statements made in the course of this conference call regarding the company's or management's intentions, hopes, beliefs or expectations for the future are forward-looking statements as defined in the Securities Litigation Reform Act of 1995. Those statements involve risks and uncertainties that could cause actual results to differ materially.

Now I'd like to turn the call over to Jim Osterman, our Chairman and CEO.

Jim Osterman

Thank you, Cal. Good morning or afternoon everyone and thank you for joining us to review the results of the second quarter of 2008. In this year’s second quarter, the company posted solid revenue growth compared to last year. This growth reflects continued robust demand for our company’s products as well as the acquisition of Carlton which closed on May 2. Organic sales growth was nearly 7% and Carlton added another $10.3 million in revenues compared to last year’s second quarter. Our company’s strong international market presence where approximately 68% of revenue is generated was the major reason for the organic growth. Demand for our woodcutting products in these international markets remained strong due in part to a weaker dollar.

We also believe that share gains in certain international markets are driving increased sales volumes. Our order backlog at the end of the second quarter was an all-time high. So, we should see continued top line growth in the second half of this year. We are excited about our May acquisition of Carlton, which complements our operations nicely. The proximity of the Carlton Manufacturing Facility to our Portland facility provides synergistic opportunities in a more cost effective way to add additional manufacturing capacity in the near term.

Additionally, with the majority of Carlton’s sales outside the United States, the acquisition will enable to Blount expand further into the growing global markets. We have identified numerous operating synergies during the first two months of our ownership and will actively implement such actions over the balance of this year.

Let me now cover a few of the second quarter operating highlights for our core business, the outdoor product segment. The outdoor product segment sales increased by approximately 14% from last year’s second quarter. The Carlton acquisition accounted for eight points of this growth. Of the base segment growth of about six points, approximately one-third was the result of increased unit volume, one-third from selling price increases and one-third from changes in foreign currency exchange rate.

Base international sales were up 15% and domestic sales were down 10% from the second quarter of last year. Base unit volume sales growth was achieved primarily through the growth of woodcutting product sales and international markets. Sales of concrete cutting products declined by 13% from last year’s second quarter as we experienced weaker demand for construction related products. Contributing to our international sales growth were both volume gains driven by a weak US dollar and pricing actions we have taken this year.

Sales to OEMs were down in this year’s second quarter by 10% compared to last year. Weaker demand for chainsaws, particularly among North American consumer outdoor product users, served to reduce demand for our products on the part of our OEM customers. Sales to the replacement markets were up nearly 13% from the second quarter of 2007. As I mentioned earlier, Carlton contributed 10.3 million of sales in the second quarter for the approximately two months of Blount’s ownership.

For the first half of 2008, including the non-Blount ownership period, Carlton sales were up 15% from the comparable period of 2007. International sales in the second quarter accounted for 72% of the segment's second quarter sales inclusive of Carlton sales. Segment backorder log was about $122 million at quarter end and includes nearly $25 million from Carlton. The second quarter segment back log is the highest in history even when the incremental Carlton amount is excluded.

Contribution to operating income from the outdoor product segment was nearly $25 million, down from last year’s second quarter result of close to $27 million. This year’s second quarter was negatively impacted by approximately $2 million in one-time acquisition related expenses.

Cal will provide you with some further detail on these expenses shortly. Foreign currency rates also continued to negatively impact year-over-year segment contribution although at a lesser extent than in the first quarter. In the second quarter, we implemented price increases to offset rising commodity cost. The selling price increase was approximately 4% on slightly over one-half of segment sales.

Additional increases are planned for the rest of the segment channels and will be implemented throughout the remainder of the year. These price increases are critical to segment profitability as year-over-year steel cost increases will be greater in the second half of 2008 than was experienced in the first half. As I have discussed in the past, we have increased our investment in new product development.

In the first six months of this year, we spent 600,000 on this initiative. The clear mission is to deliver superior innovation to our customers which we expect to enhance Blount's share and profitability. We anticipate that these efforts will make a positive contribution to our outdoor products market in 2009 and beyond. We currently have several prototypes or new products on end stage development. These products have been reviewed by senior marketing and operational management and we are taking the next step towards commercialization.

Now, I’d like to turn the call back to Cal Jenness, our CFO, for some additional financial highlights. Cal?

Calvin Jenness

Thanks, Jim. Let’s me first cover a few aspects of the Carlton acquisition. We closed the transaction on May 2 and utilized approximately $64 million in net funds for the purchase price and associated fees. The purchase was funded from cash on hand and by drawing on our $150 million revolving credit facility. As of June 30, we have $45 million drawn on this revolver. Carlton sales for the 12-month period ended March 31, 2008 were $57 million, EBIT was $4.9 million, with EBITDA being $7.1 million. Historically, Carlton's EBIT and EBITDA margins have been about half of Blount’s outdoor segment margins.

We have identified a fair number of synergies in the two companies, some which are currently being implemented. Consolidation of administrative functions, purchasing efficiencies, and capacity optimization should contribute to the closing the margin gap between the two entities within the next 12 to 18 months. James mentioned that we incurred $2 million in second quarter expenses related to the Carlton acquisition. This includes $1.4 million for the roll-through of stepped up inventory values, $300,000 for amortization related to order backlog as of the acquisition date, and approximately $100,000 for severance expense.

We estimate that the expense for these items for the remainder of 2008 will be $1.3 million and will be incurred in this year’s third and fourth quarters. These purchase accounting expenses are recorded in the outdoor product segment and results in a reduction to diluted earnings per share of approximately $0.03 per share in the second quarter.

Now, let me cover a few profit and loss items outside of the outdoor product segment. In the second quarter, we had other sales of $8.7 million compared to $7.5 million in last year’s second quarter, an increase of 16%. These sales represent our gear components business that has benefited from unit buying and selling price increases. The loss from other and corporate decreased by $1 million from last year’s second quarter. The decrease is due to higher profit from gear components as well as reduced administrative expenses. Outstanding debt was $340.4 million at the end of the second quarter. This was up by $43.4 million from the end of 2007 as we increased borrowing for the purchase of Carlton.

Cash on hand was $42.8 million at the end of the second quarter. EBITDA as defined by our credit agreement was $29.5 million in the second quarter. And last 12 months, EBITDA was $108.4 million. This yielded a total debt to EBITDA leverage ratio of 3.2 times and a net leverage ratio of 2.8 times. In the second quarter of 2008, we generated $22.1 million from operating investment activities from continuing operations in cash, including CapEx, but excluding the cost of acquiring Carlton. This compares to $9.2 million in last year’s second quarter.

The improvement in cash flow was primarily due to better performance in accounts receivable in this year’s second quarter of approximately $7.5 million compared to last year. Additionally, we funded our pension plans at $4.1 million in the second quarter of last year which was not repeated in this year’s second quarter.

In the second quarter of this year, CapEx spending from continuing operations was $5.9 million compared to $4.09 million last year. For the full year, we expect to spend between $25 million and $27 million in CapEx. Of the forecast to CapEx spending, approximately one-third is for maintenance, with the remainder for capacity and cost reduction.

Our current view for 2008 is that sales will range between $600 million and $610 million, up from our previous estimate and primarily due to the Carlton acquisition. Carlton’s sales are expected to be approximately $4 million for the period of Blount ownership in 2008. Second half sales growth for the base operations is expected to be between 6% and 9 % compared to last year.

Our current estimate of operating income is between $79 million and $81 million. This is inclusive of approximately $3 million in nonrecurring charges related for the Carlton acquisition. The impact of year-over-year change in foreign currency should negatively impact results compared to last year by approximate $1.8 million in the second half. This represents a slowdown from the $4.7 million negative impact that we incurred in the first half of the year. We expect full year net interest to be approximately $26 million and our income tax rate to be between 34% and 36%. Both the interest expense and tax rate are higher than our previous estimates due to the Carlton acquisition. Cash flow available for debt repayment is estimated to be between $28 million and $33 million in 2008 excluding the fund used to acquire Carlton.

I believe that covers all the financial highlights for the second quarter of 2008. At this time, I would like to open up the line for any questions.

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from Alan Robinson of RBC. Please go ahead.

Alan Robinson – RBC Capital Markets

Good morning gentleman.

Calvin Jenness

Good morning Alan.

Jim Osterman

Good morning Alan.

Alan Robinson – RBC Capital Markets

Can you provide us with some color on the pricing of the orders in backlog? Do these orders have provisions whereby you can pass on the recent steel price increases or are you kind of locked to bear the lower margins that recent steel cost increases would imply?

Jim Osterman

It's sort of blended. There is some that didn’t go into effect until July 1, but for the period we’re in right now with few exceptions, all of the new price increases are effective.

Alan Robinson – RBC Capital Markets

Okay. And did you increase your steel raw material inventories during the quarter in anticipation of price increases?

Calvin Jenness

Somewhat, yes.

Alan Robinson – RBC Capital Markets

Okay. And I know you used the first in first out method, but you could give me an idea of what your inventory turn rate is?

Calvin Jenness

We’re probably turning, I would say at the end of the year, probably about three months of inventory supply.

Alan Robinson – RBC Capital Markets

Three months?

Calvin Jenness

Of steel inventory roughly.

Alan Robinson – RBC Capital Markets

Okay. And let me see, you mentioned, Cal, I think, that you intend to close the margin gap between Carlton and Blount’s legacy products over the next 12 to 18 months. Do you see the Carlton acquisition adding to operating margins by the end of this time period?

Calvin Jenness

I think, yes. And obviously in operating income relied enough for absolute basis, I think, on the margins, you can see in the table we have in the press release it was somewhat dilutive to those margins and our goal is to get that undiluted with a year and half of that.

Alan Robinson – RBC Capital Markets

Okay, good. And it appears you had a record quarter for geared products. And also the backlog that seems quite high too. I mean, was this a surprise and have your plans for this segment changed at all?

Calvin Jenness

I don’t think I was surprised. They’ve had a pretty good run. I mean, they had a weak start at the beginning in 2007 and things did pick up in the third and fourth quarter and carried into this year. So, I don’t think it is a surprise. We lost some pricing and they’re feeling the impact of steel probably sooner than the outdoor products group did. So, they got out in front of some of the pricing activity. So, I wouldn’t it's a surprise, but there’s more pricing in the outdoor products.

Alan Robinson – RBC Capital Markets

Any changes to your plans there, are you going to invest in this business?

Jim Osterman

We continue to invest in it in terms of capital and capacity, and we’ve picked up new customers as well. So, it’s a nice little business. Like I’ve always said, it’s not part of our core business but we’ll continue to invest and make it grow.

Alan Robinson – RBC Capital Markets

Good, okay. And then just finally, a point of clarification, your 6% to 9% revenue growth projection for the second half, can I just clarify that is just for the organic outdoor products and not for geared products, is that right?

Calvin Jenness

No, that’s got everybody in.

Alan Robinson – RBC Capital Markets

That’s got everything apart from Carlton?

Calvin Jenness

Right, exactly, excluding the Carlton.

Alan Robinson – RBC Capital Markets

Got you. And one other thing, Cal, you mentioned cash flow for operations during the quarter. Was that $22 million, did I get that right?

Calvin Jenness

Yes.

Alan Robinson – RBC Capital Markets

Alright, thank you. That’s all. Thank you.

Operator

(Operation instructions) The next question comes from Dax Vlassis of Gates Capital Management. Please go ahead.

Jeff Gates – Gates Capital Management

It’s actually Jeff Gates. A couple of questions, first of all, the Carlton backlog of about $25 million, what would that number have been a year ago and why has Carlton’s backlog so much higher as a percent of their annualized sales than it is for Blount’s?

Jim Osterman

I think there’s a very good demand in our industry right now for saw chain and replacement parts. I think it’s driven by the price of steel which has generated a lot more charcoal cutting. I think the price of oil has generated a lot more wood burning. We see that out here. I just came back from a trip to Houston, Oregon and there’s numerous trucks headed down the highway full of cut logs. And you particularly see that in the developing countries where wood is replacing oil for heating and then I also believe that smart businessmen seeing the increase of the price of steel knowing that there are additional price increases coming. So, we’re seeing that in both our companies.

Jeff Gates – Gates Capital Management

But why would Carlton’s backlog be so much higher as a percent of their annualized sales than Blount’s?

Calvin Jenness

They are single product line too. Essentially, they only make – produce chain which is the strongest demand product right now, I mean, in our base business also. So it is really our chain business there where our businesses also include as you know normal blade [ph] and other sectors which are somewhat weak in the US right now.

Jim Osterman

And the other thing is they do build to order and they have a longer backlog and they quote their deliveries in terms of weeks. And so, if people want to get into cue, they order well ahead while we tend to be more flexible in the other units.

Jeff Gates – Gates Capital Management

Secondly with regards to the Carlton synergies and closing the margin gap I think basically is an additional 5 or 6 or 7 or 9 of EBITDA, if I did the math right?

Calvin Jenness

That’s about right.

Jeff Gates – Gates Capital Management

I am wondering, is the additional $1.3 million of restructuring charges in the second half of this year, does that get you where you need to be on margins at Carlton?

Calvin Jenness

A lot of it – some of it's severance in there. That’s a small piece of it. It’s really just a short term amortization of mechanics for the intangible, so the rest of the backlog rolls out and the rest of the inventory rolls out in the third and fourth quarter. But, this business that we bought was a small family run business. Not a lot of the infrastructure, most of the actions we are planning will happen this year.

Jeff Gates – Gates Capital Management

Okay. What do you expect D&A to be for the year?

Calvin Jenness

It was about – phase operations were about – you’re talking about the total business?

Jeff Gates – Gates Capital Management

The total business for ’08 and what would the quarterly run rate be exciting the year?

Calvin Jenness

It would be about $20 million issued [ph] total company. Carlton just going forward will add about a $0.5 million a year in amortization. So, it would be run rate spend of about $5 million for base operation.

Jeff Gates – Gates Capital Management

Okay and then lastly, if the dollar continues to be weak which would – I mean where do you stand with the migration of your manufacturing away from the high dollar cost regions, and I guess where do you stand and if the dollar got weaker, would you consider further migration away from those areas?

Jim Osterman

We would certainly consider further migration away from the Canadian one which should be the easiest for us and we’d move in to China and the United States.

Jeff Gates – Gates Capital Management

And how much of your capacity is left in Canada and where are you going with that under your current plans?

Jim Osterman

Right now, what is our capacity, roughly 35%.

Calvin Jenness

Canada?

Jim Osterman

Yes.

Calvin Jenness

It is roughly 35% and we’re doing a lot of cost cutting activities up there right now to bring cost down. Our thoughts are that the Canadian dollar is not going to stay that strong forever as well.

Jeff Gates – Gates Capital Management

Okay. And as far as your revolver and your bank deal, I know it's up for kind of couple of years and I am just wondering where you – would you anticipate funding out part of your capital structure at some point here? I mean where are you going with that?

Calvin Jenness

Yes, I mean the bank loan expires two years from August here. (inaudible) expires a year earlier so we will work on that trying to get those wind up in the short-term year.

Jeff Gates – Gates Capital Management

And I guess to (inaudible) one last question, but the – what are you seeing on the acquisition front and how long before you kind of have Carlton integrated on your – and off to your place per se to be able to consider another deal?

Jim Osterman

We’re working on Carlton. That is probably going to take through the third quarter of this year. We’re out kicking tiers and looking at companies. I would not anticipate anything before 2009.

Jeff Gates – Gates Capital Management

Okay. Thanks a lot.

Operator

The next question comes from Bob Franklin of Prudential Financial. Please go ahead.

Bob Franklin – Prudential Financial

Couple of clarification type questions, when you say cash flow available for debt reduction is going to be $28 million to $30 million excluding funds for Carlton, am I looking at that as negative $30 million or so for the year then?

Calvin Jenness

Yes, that is correct.

Bob Franklin – Prudential Financial

And the question on depreciation amortization, now I think you said Carlton adds $.5million, is that per quarter of per year?

Calvin Jenness

Well, that’s the incremental amount of the amortization of intangibles, so I'm trying to figure what their base appreciation was on top of that. I will get back – we’re trying to get good number here for you Bob. Do you have another question?

Bob Franklin – Prudential Financial

Yes. You mentioned how much was drawn on the revolver, what is the availability on it?

Calvin Jenness

It’s 150 less 45, less 5 in LC s, it is less than 100.

Bob Franklin – Prudential Financial

Okay. I guess that takes care of me for now, thank you.

Operator

(Operator instructions) The next question comes from Alan Robinson of RBC. Please go ahead.

Alan Robinson – RBC Capital Markets

Hi, just a follow-up. Now that you have Carlton under your wing, can you give us an idea of what proportion of your sales are denominated in euros?

Calvin Jenness

It really hasn't changed that much (inaudible) Carlton right now is based in dollars.

Jim Osterman

Carlton is all dollars.

Alan Robinson – RBC Capital Markets

Okay, I got you. Although over 80% of its sales are overseas?

Jim Osterman

Right, but everything is sold in US dollars.

Alan Robinson – RBC Capital Markets

Got you. Okay. All right, thank you.

Operator

(Operator instructions) We have a question from Ryan McGaver of Capstone Investments. Please go ahead.

Ryan McGaver – Capstone Investments

Hey guys. I missed the EBITDA and EBIT for Carlton?

Calvin Jenness

EBIT was 4.9, I believe. These are historical ones, Ryan. And 7.1 on EBITDA.

Ryan McGaver – Capstone Investments

Okay, that’s all. Thank you.

Calvin Jenness

That reflects a historical depreciation of 2.2 for Carlton. Some one asked a question earlier and then $0.5 million on top of that for the amortization. So about 2.7, 2.8 would be the go forward depreciation and amortization after 2008 for Carlton.

Ryan McGaver – Capstone Investments

Thanks.

Operator

Seeing that there are no further questions, I would like to turn the call back over to James Osterman and Calvin Jenness for any closing comments.

Jim Osterman

First, we would like to thank you for your interest. I think that we had a second good quarter and we’re feeling relatively optimistic about the rest of the year and look forward to talking to you next time. Thank you.

Calvin Jenness

Thank you.

Operator

This concludes Blount International's second quarter results 2008 conference call. You may now disconnect your lines. Thank you.

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