Standard Motor Products, Inc. (SMP) Q1 2012 Earnings Report, Transcript and Summary

Good day. And welcome to today’s Standard Motor Products First Quarter Earnings Conference Call. [Operator Instructions] Please note this call may be recorded. It is now my pleasure to turn the conference over to Mr. Jim Burke.

Okay. Thank you. Good morning. And welcome to Standard Motor Products first quarter 2012 conference call. In attendance from the company are Larry Sills, Chief Executive Officer; and myself, Jim Burke, Chief Financial Officer. As a preliminary note, I would like to point out that some of the material we will be discussing today may include forward-looking statements regarding our business and expected financial results. When we use words like anticipate, believe, estimate or expect these are generally forward-looking statements. Although, we believe that the expectations reflected in these forward-looking statements are reasonable, they are based on information currently available to us and certain assumptions made by us, and we cannot assure that they will prove correct. You should also read our filings with the Securities and Exchange Commission for a discussion of the risks and uncertainties that could cause our actual results to differ from our forward-looking statements. I’ll begin with the review with financial highlights and then turn it over to Larry followed by Q&A. Our sales were behind in the first quarter as we predicted in our last earnings call, primarily for 2 reasons. First Q1 ‘11 sales growth was up 23% due to customer pipeline orders in both engine management and temperature control, and second, a large temperature control customer elected to source some products direct from China. While discussing top line revenues, we are pleased to have completed our CompressorWorks acquisition earlier this week, which will add $60 million annualized volume to our temp business. Larry will discuss this acquisition in more detail and after I review the financial highlights. Consolidated net sales in Q1 ‘12 were $211.7 million. As a comparison against 2011, consolidated net sales were down $8.5 million or 3.9%. By segment, Engine Management net sales were $163 million, off $1.2 million or 0.7%. However, excluding 2012 sales from BLD and forecast trading, which occurred after Q1 last year, adjusted net sales were $151.7 million, off $12.5 million or 7.6%. Again, we believe this is the impact of very strong pipeline orders in Q1 ‘11 and expect the balance of the year to be favorable as our customers continued to report positive comparable same-store sales. Temperature Control net sales were $45.3 million, down $8.8 million or 16.3%. The reduction is primarily related to the single customer’s efforts to source direct from China. We estimate that 2012 impact roughly $20 million reduction. The CompressorWorks acquisition with roughly $60 million annualized sales, should add approximately $35 million sales to our 2012 revenues. Consolidated gross margin dollars in Q1 improved $1.4 million, up 1.7 points. By segment, Engine management gross margin was up $3 million or 2 points to 26.4%. Part of this improvement $1.3 million or 0.6 points resulted from costs classified in SG&A expense in the quarter. That previously impacted gross margins. The remaining 1.4-point improvement in gross margin reflect savings from purchase cost reductions and May 1st buy savings. Temperature Control gross margin was down $1.7 million or 0.1 points to 18.9%. The margin percent held up reasonably well against last year considering the sales reduction. We anticipate returning to our targeted margins in the low 20s and look for further synergies as we begin to rationalize our CompressorWorks and Four Seasons businesses. However, the bulk of any savings from this effort will be in 2013, as we already halfway into the air conditioning season this year. Consolidated SG&A expenses increased $4.1 million to $44.8 million versus $40.6 million last year. This increase was primarily related to Engine Management costs that benefited gross margin that we discussed of $1.3 million. Non-cash intangibles amortization from 2011 acquisitions of $0.6 million. Non-cash post-retirement amortization of $0.4 million. In essence more than half of the increase relates to a re-class and non-cash amortization totaling $2.3 million. The balance of the increase of $1.8 million relates to 2011 acquisition related SG&A expenses. In other words, our core SG&A expenses were flat. Consolidated operating profit before restructuring and integration expenses and other income net was $9.8 million or 4.6% of net sales versus Q1 2011 of $12.5 million or 5.7% of net sales. Operating profits for both Engine Management and Temperature Control were down $1.2 million each. We anticipate improvements as we head into the selling season from improving sales and further cost reductions. In addition, we look for incremental profits from our CompressorWorks acquisition. The net effect of our operating results is reported on our non-GAAP reconciliation was diluted earnings per share of $0.23 versus $0.31 last year. Again, we believe this short fall is temporary due to the prior year’s 23% sales growth and expect to improve against prior year results the balance of the year. Looking at the balance sheet, accounts receivable increased $18.3 million from December ‘11 levels, as sales are higher in Q1 versus Q4 last year. AR decreased $17.9 million against March ‘11 levels as sales were down $8.5 million this year. Inventories increased $11.8 million from year end and increased $19 million 1st March of last year. We will be working diligently to reduce inventory levels over the balance of the year. Accounts payable offset the bulk of the working capital increase and accounts receivable and inventory, as accounts payable increased $21.6 million from December ‘11 levels. Total debt at $79.3 million increased slightly $6 million from December ‘11 and only $6.6 million from March ‘11 levels. Over the last 12 months from April ‘11 to March ‘12, we’ve invested in the business and returned cash to investors by 2 acquisitions, BLD and Forecast in 2011 totaling $71 million given ends of $7 million, share repurchase of $4 million and capital expenditures over $11 million. This totaled the use of funds of $93 million over this period while our total debt only increased $6.6 million. As I mentioned earlier, this week we acquired CompressorWorks for roughly $37 million. On a pro forma basis, our debt level would have increased to approximately $116 million since March. This debt load is well below a 2:1 debt-to-EBITDA ratio. And we still retain roughly $75 million excess availability under our bank revolver. From our cash flow statement in the quarter, CapEx spending was $2.4 million and depreciation and amortization was $3.8 million. With that, I’ll turn it over to Larry Sills.

Good morning. Jim has reviewed the numbers. I’m just going to cover a few key points and then we’ll open for questions. The first is sales. Now, I think the main thing to keep in mind is that in the short-run, our sales are impacted by customer buying patterns. Their plans for their inventory, do they want to increase or decrease it, or so on. It’s really a short run. But over the course of the year, it balances out and the main factor is how well the business as a whole is doing and how well our customers are doing. Last year, as Jim said we were up 23% in the first quarter. Though we wound up the year, 8% ahead basically in line with customer sales. Now this year, our customers continue to do well. Industry demographics are favorable. The average age of vehicles are now over 11 years. Customers are reporting sales increases in our lines. So we are confident that by the end of the year, our sales will mirror our customer’s sales. And we expect our industry to do well. So that’s the issue on sales. Now I’d like to talk about our recent news which is the acquisition of CompressorWorks. CompressorWorks is a relatively young company, roughly 10 years old. But they have been very successful. They sell to some of the top accounts in the industry. They are the unquestioned leader in the U.S. of the manufacturer of new compressors, which is the fastest growing part of the business. And we’ve been pleased to see they have some very talented people and we are happy to welcome them to our company. Now we see some substantial benefits in this merger. First of all, it’s going to give us a very strong product offering. Four Seasons is the leader and we build compressors. CompressorWorks is the leader in new compressors, put those together that’s a very strong combination. We also see the benefit for a significant savings, savings and purchasing, lower manufacturing costs, synergies and SG&A. But as Jim pointed out most of these we won’t see until the following year, but we do believe that they are there. So, overall, we are confident that CompressorWorks is going to turn out to be a very valuable addition to our company. Now, this marks our third acquisition in slightly over a year. And we are pleased with the results. First of them -- first of all rather, as Jim pointed out, we’ve been able to finance them essentially out of cash flow and at the end of this third acquisition, our debt-to-EBITDA ratio is still below 2:1. More important, they are integrated and doing well. BLD and Forecast are achieving their targets. And we are confident that CompressorWorks will do at least as well. What all 3 of these have in common, we believe is that they are what we call bolt-on acquisitions. In other words, they are closely related to existing credit lines. These are products that we know, markets that we know, customers that we know and we think that give these a very high chance of success. So the first quarter, the industry is doing well, our customers are doing well, we’re pleased with our acquisitions and we look forward to the balance of the year. And with that, we open to questions.

[Operator Instructions] We will take our first question from the line of Brian Sponheimer from Gabelli & Company.

Congratulations on the CompressorWorks acquisitions. It looks like a great one here. Speaking about acquisitions and just how active you’ve been over the course of the last year, what do you think has changed within the marketplace where you’re getting to prices that you find attractive? Have multiples compressed, have you guys decided to pay more. What’s going on?

One thing I haven’t changed Brian, our target -- as we sell products we buy and sell. There’s many businesses that are for sale. Our point at sweet spot to what we look for, as Larry said our bolt-on acquisitions and the last 3 that we did are right in our engine management temperature control programs what we believe to be fairly priced. And again, products we sell to the customers we know and we look to get the combined sourcing and leverage on new products, so we can bring the market with it. So no change, the health of our balance sheet force us the ability to do these types of acquisitions and we’re very pleased to be able to grow the top line.

Okay. So that’s the good news. The bad news is it looks like, you said you lost a temperature control customer to some direct sourcing. Can you talk about that for a second, what were the circumstances that led to that decision for the customer to leave and maybe how big that was?

Okay. We really talked about that at the previous call, but what led the customer to make that decision, we believe or what they told us is they saw the opportunity to buy cheaper. So our response to that has to be that we have to minimize the price differential between buying from us and buying from China and we are working very diligently to do that. We are confident that we can do that. The acquisition of CompressorWorks, because that’s the big one as new compressors, will help us do that. And we believe that as long, as we can remain price competitive with China, all the benefits that we offer, the quality, the customer service, returns, sales support, et cetera will help us keep that business and the proof of that is that no one has followed them. So that’s the story there.

Okay. Great. And if I can ask just one more, we’ve seen a pretty strong shift at some of the after-market manufacturers towards value-added products, which you guys have obviously talked about for a while now. What does a new compressor itself or relative to a reman one?

Well, that’s a very good question. As the gap is narrowing, which is why new compressors are rising and rebuilt compressors are flowing. The sort of a rule of some in the industry is that rebuilt needs to be least 30% below the price of the new otherwise people are going to go to the new. That is diminishing now. It’s 15% to 20%. I guess it varies by part obviously, but the gap is narrowing, which means the ratio of new to rebuilt is switching in favor of the new. This is an area where CompressorWorks will help us, because they are the leader in that. They have very low cost manufacturing. And as the market tends to switch to new away from the rebuilt is going to put us in a much stronger position that we would have been. Does that answer your question?

And we’ll take our next question from the side of Robert Smith from the Center for Performance Investing.

What are the opportunities for expansion of CompressorWorks? Are they geographically limited the opportunities or….?

Well, they happen to be very conveniently located. They are about a half hour from Four Seasons. So we anticipate a lot of help as we go back and forth with each other, and again, we have very high hopes for this combination.

What’s going to be approximately growth rate, Larry, over the last few years?

I don’t know it’s been the last few years.

It has been significant. As Larry had said, they are a young company. They started from scratch only about 10 years ago.

Where are they coming from?

$60 million now.

Growth from zero to 60?

That’s the use of car phrase. They’ve gone from zero to 60 pretty fast.

All right. Okay. I guess, when you look at the dividend, what will you have to see to kick the dividend level?

Well, we just raised it from $0.07 to $0.09 and we will continue to look at it with our Board of Directors.

All right. So you have a target of about a third of a payout, a third payout. So what will you have to see this be comfortable to say go to a $0.40 annual rate.

Well, actually we hope to continue to grow the earnings and we will and as I say we will continue to monitor that with our Board. Yes, that remains our target, one third. We’ve been under that. We like being a little under that but yes, that is our stated target.

Thank you and our next question comes from the side of Adam Brooks from Sidoti & Company.

Just a few quick questions here. With CompressorWorks, can you talk about the margins maybe comparing it to your Temperature Control segment right now?

Yes, you can look at the margins, gross margin, SG&A that it will be mirroring our existing Temperature Control business.

Okay. And then if we look at SG&A as a whole, is it fair to assume that core SG&A remain flattish year-over-year for the remaining 3 quarters or is it something that could cause that to pick up?

The only thing we’ve pointed out in our earnings call at the end of the year was that there were 2 items that were increased in there.

Right.

One was a onetime curtailment of $3.2 million in post-retirement expense and then the other amortization costs were going up about $2 million on an annual basis. So you need to adjust for those 2 facts when you look at the SG&A. And then the volume related, as we have factoring fees with our customers that is charged in SG&A. Other than that, we continuously work on the core expenses with them. We will get increase for the acquisition related expenses that we did again. Forecast trading didn’t happen till the end of October last year. So that’s incremental for this year and now CompressorWorks will be incremental.

And if we talk about the value-line products for a second, I know you made a recent acquisition to kind of expand its outline. There is another aftermarket competitor that talked about a negative product mix being more value lines hurting them on the margin side. You guys talked of being pretty similar. Did it really break down to different product lines, there is a different margin differential from the premium to the value for you guys is a pretty much net neutral, whether it’s be the value line or the premium line?

Well, the trend is there, there is no question. The trend is there, as I believe the car population continues to get older, so you’re driving a 13-year-old car, you want to save money on your parts. So that trend will continue we believe and yes, we think that this 2 of our most recent acquisitions are helping us in that field. Our forecast in the Engine Management and compressive works for Temp are both proving successful and competing in this economy line lower margin area. So, a lower price area I should say. So yes, the trend is there and that is really one of our motivations for these acquisitions, it’s going to be there, we want to do well with it. And these 2 acquisitions will help us.

And just, if I guess need one more before I hop in the queue. Can you maybe give us a sense for what year-over-year revenue comp would look like in 2Q maybe by segment?

Yes. We -- Adam, we don’t put out specific guidance on that. Again, I think what we’re looking to hopefully improve the balance of the year, mirror our customers and then it’s just adjusting to the acquisitions that we had.

Okay. So, 2Q will look more on a normalized basis versus the negative impact from the kind of inventory build last year?

Yes.

Our next question comes from the side of Aditya Oberoi from Goldman Sachs.

I just had a follow-up question on the CompressorWorks acquisition. You guys said that you guys will benefit from lower manufacturing cost after the -- after you fully integrate the businesses. Is it primarily like just achieving synergies in the business or you will probably think of manufacturing footprint change as well and making it more in sync with your footprint of shifting stuff towards low cost countries?

Well, we really have not formalized our plans as yet. We’re just getting started with these people. But what we see immediately is that they are more basic than we are in new compressor manufacture and that is going to be a help. And how much of that help will be achieved in the year 2012, as Jim says, the seasons here up already, so I think there are some important benefits and from the cost side. But we will not -- we will see them but we’ll see them in 2013.

Got it. And I just wanted to go down little bit on the mix shift towards more value products. I know part of your SG&A is tied to the revenue of -- the revenue that your distributors or your selling associates generate. Is it somehow to tie to the mix of the product to sell or no?

In our SG&A expenses?

Yes. Yes.

No. No. Virtually a very little. Again, a large part of our SG&A I would understand is sales and marketing. So there will be a little bit of variable expense and there are distribution costs, which is in different as the part sales at the center 20% premium or discount and then our G&A costs.

[Operator Instructions] And we will take a follow-up question from the side of Adam Brooks.

Yes. Real quick, I think last quarter you talked about $15 million to $20 million impact from that customer leaving for direct source. And can you tell us how much of that hit in 1Q?

You can figure out roughly half of the -- we are figuring in targeting $20 million now and figure half of it. And Adam, I just want to point out, I was going to call you afterwards, you asked me on the SG&A expenses, the incremental I pointed out was the post retirement.

Right.

The other item that I want to mention that came back to me will be the intangibles amortization from our acquisitions, so well have an increase in that area also within SG&A expenses. Both being non-cash.

Right. And just to kind of summarize. What was the -- what will be the quarterly run rate for those non-amortization charges?

There’re probably somewhere with the latest acquisition will probably be in the $500,000 range per quarter.

Okay.

I think a little on the high side.

[Operator Instructions] And we have another follow-up from the side of Adam Brooks.

I guess could you talk maybe about possible international expansion long-term, the aftermarket seems to be very tough in Europe because of the scrappage programs. Is there any opportunity to maybe pick up an asset on the cheap end of the market or was that not something that you’ve considered?

Well, we look at everything and we will continue to look at everything. We’ve been in Europe, we have a company called Intermotor and we were there for I guess 10 years. We did well for a while, but then we sold it and we think that we do best in markets that we really know and understand. And that’s more important to us than the fact that the initial purchase price is low. It’s what really matters is how well you do with it. But I don’t want to say no to anything at this point. We will continue to look.

[Operator Instructions] And it appears gentlemen we have no further questions at this time.

Okay. With that, I’d like to thank everyone for joining our call today. Good bye.

This does indeed conclude today’s teleconference. Thank you for your participation. You may now…