Mar 14, 2012
Operator
Good day, everyone. Welcome to the Federal Signal Corporation's Fourth Quarter 2011 Earnings Conference Call.
Today's event is being recorded. For opening remarks and introductions, I'll turn the call over to Mr.
Bill Barker, Senior Vice President and Chief Financial Officer.
William Barker
Thank you. Good morning, and welcome to Federal Signal's fourth quarter 2011 conference call.
I'm Bill Barker, Federal Signal's Chief Financial Officer. Joining me on the call today is Dennis Martin, President and Chief Executive Officer; and Jennifer Sherman, General Counsel and Chief Administrative Officer.
We'll be using some slides in the presentation. The slides can be found by going to our website, www.federalsignal.com, clicking on the Investor Call icon and selecting the webcast.
We'll also post the slide presentation to our website after the call.
William Barker
Before we get to the business review, I'd like to remind you that some of the comments made today may contain forward-looking statements that are subject to the Safe Harbor language found in today's news release and in Federal Signal's filings with the Securities and Exchange Commission. These documents are available on our website.
We expect to file our Form 10-K shortly. And now, I'd like to turn the call over to Dennis Martin.
Dennis Martin
Thank you, Bill. And thanks to those on the call for joining us today.
We continue to see good signs of progress in the fourth quarter. Our strong order trend continued and our backlog continued to build.
Each of our 4 business groups ended 2011 with an order backlog that was at least 40% higher than the prior year. ESG orders were extremely strong.
Its year-end backlog more than doubled and was $100 million higher than a year ago. Q4 revenue increased by 20% versus last year.
And our Q4 operating income, excluding impairment and restructuring charges in both years, increased by over $12 million versus last year. Earnings per share for the quarter, excluding charges, was $0.06.
We continue to see strong markets for our safety and security products and receive sizable orders from the nuclear industry, as well as strong international orders for our industrial warning systems.
Dennis Martin
We generated positive cash flow and reduced our net debt in the quarter. And as we recently announced, we completed the refinancing of our balance sheet a few weeks ago.
Each of these points has positioned the company well as we head into 2012. Bill will cover the financials in more detail in a few minutes, and I'll give you some thoughts on our future a bit later.
But first, I'd like to give you my perspective on the quarter.
Dennis Martin
Demand for the majority of our products remains robust. We continue to see very strong orders for each business in the ESG group.
Total ESG orders for the quarter were up 74%. And for the full year, orders were up 40%.
In the SSG group, Q4 orders increased 23%, led by our industrial systems and alerting and notification businesses.
Dennis Martin
Bronto Q4 orders remained solid despite the challenges in the European economy. And orders for the full year were ahead 36%.
FSTech won a large multiyear contract in Texas. Q4 orders exceeded $100 million, and the project pipeline remains strong.
Despite the strong orders for FSTech, we recognized a noncash impairment charge in the quarter as the profitability in 2011 was below expectations, and the expected timing of future revenue and profit has shifted somewhat from our forecast last year.
Dennis Martin
One other factor I'd like to touch on is refinancing of our balance sheet, which was completed a few weeks ago. Bill will talk through the details, but the key element of our new debt structure is the flexibility it gives us as we move forward.
We have the ability to repay the term loan at par with proceeds from the sale of certain assets this year. And we can refinance the term loan, paying a relatively modest premium at any time after one year.
Both of these provisions were very important to us. Lowering our debt level, combined with our expectations for improved results in 2012, should improve our credit profile and continue to create more attractive financing opportunities for us in early 2013.
Dennis Martin
So to sum it up, it was another quarter of improvement. We are excited about the direction we are heading and encouraged by our position as we begin 2012.
After Bill goes through the financials, I will be back with a few more thoughts before we take your questions.
Dennis Martin
And now, I'd like to turn the call back over to Bill for the financial review.
William Barker
Thanks, Dennis. I'll give a fairly brief review of our financial results for the quarter which are included in today's press release.
Looking at our P&L for the fourth quarter, sales of $223 million were up 20% versus last year. Gross margin was down a point, primarily due to product mix at Bronto.
However, our SG&A ratio was significantly reduced versus last year from 27% to 20% due to 3 factors: the absence of nonrecurring items we incurred last year, such as separation costs related to the former CEO and costs related to settlement of a portion of recurring loss litigation; lower ongoing corporate costs in 2011 due to the corporate restructuring actions; and strong Q4 top line revenue growth that enabled us to leverage our SG&A cost base. As Dennis mentioned, operating income before impairment and restructuring costs improved by $12.6 million.
Our reported EPS for the quarter was a loss of $0.27. But excluding this year's noncash impairment charge, Q4 EPS would have been $0.06.
William Barker
On Slide 4, we show the results by segment for the quarter. For purposes of comparability, I have excluded restructuring and impairment charges on both years.
Our Environmental Solutions Group, or ESG, had a very strong quarter with continued strong growth in orders and revenue and a significant increase in operating profit and margin. Orders increased 74% versus last year with strong orders growth across all lines of business, Elgin street sweepers, Vactor sewer cleaners and hydro-excavators, Guzzler industrial vacuum trucks and Jetstream high-pressure waterblasters.
William Barker
Revenue was up 30% versus last year. And operating income more than tripled with operating margin increasing 2.8% last year to 7.2% this year.
ESG's continued strong orders increased its yearend backlog to $183 million, which is $100 million higher than a year ago and over $50 million higher than at the end of the third quarter. As Dennis said, we believe ESG is well positioned for a strong year in 2012.
William Barker
Bronto returned to a double-digit operating margin in Q4 as strong orders from earlier in the year were turned into shipments, and the business generated a 12% operating margin. As a reminder, Bronto was our longest lead-time business with an order to revenue cycle that averages about 9 months.
Bronto's orders in Q4 were about flat last year, as demand in Asian markets continued to offset weakness in Europe. For the year, Bronto's orders increased 36% to $138 million, and Bronto's yearend backlog increased to $80 million versus $57 million a year ago.
The first quarter is traditionally a low seasonal quarter for Bronto shipments. But given the high backlog and steady order trends, combined with the continued progress on the manufacturing efficiency initiatives, we expect Bronto to generate significant profit growth in 2012.
William Barker
Our Safety and Security Group, or SSG, generated strong order growth of 23% in the quarter with particular strength in our alerting and notification and industrial systems segment. However, due to some margin challenges in the public safety businesses, SSG's operating margin slipped below 10% in the quarter.
Our expectation is for the SSG group to return to a solid double-digit margin business in 2012. We're taking steps to address the margin challenges in the public safety businesses.
Q4 order growth pushed SSG's backlog up to $32 million versus $18 million a year ago. And we continue to see robust demand in the markets for safety and security systems, for industrial plants, nuclear facilities, campus environments and outdoor warning environments.
The increase in backlog is notable for SSG and an encouraging sign for 2012, as SSG tends to run a much lower backlog than our large truck businesses, and orders for SSG products turn into shipments much more quickly.
William Barker
FSTech orders were $109 million for the quarter, driven by a large multiyear contract in Texas signed at $68 million. Revenue increased 11%, and operating loss was reduced versus last year.
The FSTech business is in the process of ramping up to support several significant contracts and is incurring upfront costs to do so, which limited its profitability in 2011 and will likely do so in Q1 of 2012 as well.
William Barker
Corporate expenses in the fourth quarter were $6 million, which were significantly lower than last year, largely due to the absence of last year's costs associated with the hearing loss settlement and separation costs related to the former CEO, as well as savings recognized in 2011 related to the corporate restructuring we announced previously.
William Barker
Turning to the balance sheet. Our total debt at year end was $222 million, and our net debt after cash was just under $213 million.
I've highlighted the net debt line at the bottom of the page, which illustrates our trend through the year. We had a challenging first quarter of 2011 and also made some cash payments in Q1 for some of the charges we took in the fourth quarter of 2010 for the hearing loss settlement and the corporate restructuring.
As you can see on the slide, at the end of Q1, our net debt increased to $229 million, which we then steadily reduced to $213 million at year end. The pace of our debt reduction slowed a bit in Q4 as working capital increased due to a combination of strong sales, which increased our receivables, Q4 sales increased $29 million versus Q3, combined with maintaining inventory levels necessary to fulfill our growing order backlog.
William Barker
On Slide 6, we show our cash flow for Q4 and year-to-date, which illustrates the net debt trend I just highlighted. For the quarter, we generated $4.8 million of operating cash flow and just over $2 million of net cash flow, which was impacted by a significant increase in Q4 working capital.
The combination of the big Q4 sales increase and the high year end order backlog is very good news for the business. We've increased our investment in working capital to support the future revenue growth from our sizable backlog.
As Dennis mentioned, we refinanced our balance sheet last month with 2 debt facilities, a $100 million asset-based revolving credit facility and a $215 million term loan. The asset-based revolver has an interest rate equal to LIBOR plus a spread between 1.75% and 3.5% based on our usage of the facility.
Currently, we're paying about 2.5% spread over LIBOR. Revolver has a 5-year maturity and is secured by domestic inventories and receivables.
The asset base is updated monthly.
William Barker
Our current borrowing capacity under the revolver is about $76 million. The term loan has a 5-year term and an interest rate of LIBOR plus 10% with a 2% LIBOR floor.
We paid a 2% closing fee on the loan, and that fee is amortized over the life of the debt. As Dennis discussed, the loan is structured to give us the flexibility to pay down the loan balance this year at par with proceeds from certain asset sales.
In addition, we can repay the loan in part or in full at any time after one year with a 2.75% premium, provided we reduce our domestic debt below a certain level. We incurred about $1.9 million of nonrecurring expense in February of this year related to this refinancing.
This was a combination of make-hold payments for the early termination to our private placement noteholders and our recognition of deferred financing costs related to our prior bank debt agreement. The $1.9 million expense will impact our P&L by $0.03 per share in Q1.
We currently expect our Q1 EPS to be about breakeven, including this recent impact of the nonrecurring financing costs. As a final point, the company will not pay a dividend in the first quarter.
The company will review the dividend each quarter.
William Barker
That wraps up the financial summary. I'll now turn the call back over to Dennis.
Dennis Martin
Thanks, Bill. As we begin 2012, I feel good about the state for most of our businesses.
Our orders and backlog are in good shape, as our market-leading positions, our superior products and our reputation for quality have enabled us to benefit from the improving market conditions. In addition, we've been able to expand in some growing market segments for several of our businesses, including Jetstream waterblasters, Vactor hydro-excavators, Bronto Skylifts and our industrial safety and security business.
We are making good progress on margin improvements and efficiency in many of our businesses. The stronger level of demand have enabled us to implement 80/20 business simplification actions and focus on our more profitable products and customers.
And our working capital metrics, such as inventory turns, DPO and DSO, have all improved. As a result, we expect each business unit to generate improved levels of profitability in 2012.
However, at this point, we will not be providing guidance for 2012 beyond Q1. As we have discussed, our new debt agreement enables us to prepay the term loan, on which we are currently paying 12% interest at par with the proceeds of certain asset sales.
We are currently in the process of evaluating a variety of scenarios regarding the potential sale of assets. And the resolution of this process will have an impact on our earnings guidance for 2012 and beyond.
Once we've reached a resolution of our evaluation process, which we expect to be within the next several months, we will set up another call to discuss earnings guidance and our outlook for the company.
You'll recall in our Q4 2010 conference last year that I outlined that my sole objective is to improve shareholder value. In order to accomplish this, I said I would focus on 4 things
cash management, including reducing working capital; margin improvement in all the businesses; achieving financial results that we commit to; and transparency and cooperation with shareholders. And we are sticking to those plans.
We continue to focus on cash management with a particular focus on improving inventory turns and reducing inventory level. By effectively applying 80/20 tools, we are cutting out slow-moving and unprofitable part numbers.
Aggressive working capital targets are included in the bonus objective of each group president and down through each organization. And similarly, margin improvement is being achieved through operating improvements at every business.
And we're implementing our profitable growth strategy by customer, by product and by segment.
You'll recall in our Q4 2010 conference last year that I outlined that my sole objective is to improve shareholder value. In order to accomplish this, I said I would focus on 4 things
And at this point, I'd like to open up the call -- the line for questions.
Operator
[Operator Instructions] We'll go to Charles Brady of BMO Capital Markets.
Charles Brady
With regard to the backlog, how much of that backlog is the next 12 months? And I guess, specifically on FSTech and the large 3-year order, how is that going to be recognized to the revenue line over the 3 years?
Is it kind of evenly split?
William Barker
Charlie, it's Bill. If you look at the backlogs for Bronto, ESG and SSG, we would expect almost all of that to shift this year.
FSTech on the big order, the $68 million order, that's pretty evenly split over the next 3 years. In their backlog, there's a couple of other big orders.
So it's probably about, I would say if you take the $70 million to $80 million, that's going to be longer for that backlog. That will probably spread over 2 or 3 years.
But the other business, we should all shift this year.
Charles Brady
And then as you look to the margin that's in the current backlog or I guess, more particularly, the margins that you're getting on current bookings, how would that compare to margins you saw in Q4?
Dennis Martin
Last year, we mentioned to you Charlie that we were setting objectives on our margins, and we feel like we're still in line with our margins that we expected. So we feel good about it.
Charles Brady
Okay. And can you fill us in on FSTech?
It sounds like obviously the profitability has pushed out a little bit. Can you give us a timeline of when that ought to turn profitable, is it Q2?
William Barker
Charlie, as Dennis said, we're considering a lot of different scenarios here. We're not going to give guidance when we talk about for Q1.
We can talk about the backlog and the expectations but at this point, we're not going to talk much more about -- too much going on in the current quarter.
Charles Brady
Will all the startup costs that FSTEch is incurring for upcoming projects be expensed by the end of Q1?
Dennis Martin
I think by the end of the first half.
Operator
We'll go next to Deane Dray of Citi.
James Bank
James Bank filling in for Deane. Dennis, if I could, essentially just going back to those prior questions, the margin targets you're basically reaffirming with the exception of FSTech?
William Barker
Yes, I think that's right, James. It's Bill.
The targets we put out before were basically sort of 10% loss for ESG and Bronto. It's more in the mid-teens, and we feel we got a pretty good line of sight there.
FSTech is still a little bit of an open question for us.
James Bank
Right. So if I could maybe even go to FSTech or potential divestiture candidates, would this be something in terms of a whole segment or business, pieces of a segment?
I guess, what I'm asking is what's the criteria here, something that's salable or an underperforming piece or maybe a high-value piece?
Dennis Martin
We really can't go there. There are many things being considered.
James Bank
Okay, fair enough. And if you could just help me, what was the FX impact in the quarter?
William Barker
Yes. It's very minimal in the quarter actually, virtually nothing on orders revenue or income.
If you look at the average exchange rate from quarter-over-quarter, not much there. For the full year, it was about a 1% benefit or for across-the-board orders revenue and income but in Q4, really, no impact.
James Bank
So almost all of the 19-plus percent was organic?
Dennis Martin
I'm sorry, the 19-plus percent?
James Bank
So year-over-year sales growth is organic?
Dennis Martin
Yes.
James Bank
All right. And while I know you won't comment beyond the first quarter, but I was wondering if you could maybe help us, given the fact that the first quarter is practically over here and maybe just give a little more color on the trends that you're seeing in municipal markets, both here as well as in Europe?
Dennis Martin
The municipal market in Europe is still very flat. In the U.S., we've seen good activity on the ESG municipal side.
The police side is still -- it's moving some but it's not really exploding or expanding rapidly. The Bronto business, which has impacted us obviously by municipals in Europe is slow, but they're seeing good activity on a global basis.
So we've seen an uptick generally in that market other than police and fire, domestic.
William Barker
And we continue to see strong demand but more on the commercial side than on the industrial side particularly for the safety and security products as we talked about. So we really haven't seen much change with the dynamics that we talked about in the fourth quarter in terms of market and demand.
And we expect to see good revenue growth in the quarter and continued good orders strength.
Operator
We'll go next to Walt Liptak with Barrington Research.
Walter Liptak
Okay, so I just want to make sure I understand this. So you're in discussions right now for asset sales, but we don't get a view on what segments are maybe coming out of -- or how much cash flow you may be taking in?
Dennis Martin
If you look at our public announcement, Walt, we announced that we have a financial plan that allows us to sell certain assets. And if you go back to our third quarter last year -- conference call, we said we'd evaluate businesses, and businesses that do not meet our criteria for advancing shareholder value beyond this year will be considered.
So we have a lot of things we're looking at but we, really, at this point can't get into much detail on what those pieces are.
Walter Liptak
Okay. It sounds as if you may be fairly far along.
Do you expect during the first half that you would have an asset sale done?
William Barker
I'm sorry, what did you say, the first half?
Walter Liptak
Yes, the first half.
William Barker
We certainly hope that we would have our process concluded about what we're going to do, whether or not if we do decide to go down that path, what the closing schedule will be is still open. But as Dennis said, we do expect to be back to the -- and set up another call in the next several months to talk about the decisions we've made and what that looks like going forward.
But in terms of actually getting a deal done, if there is one, we can't really talk about that yet.
Walter Liptak
Okay. In the environmental group, the order pickup, it looked like largely U.S.-based.
Can you give us some color on -- is this replacement demand? Are these part sales that are coming in stronger than expected?
Dennis Martin
Actually, it's all of the above. It is domestic.
We have some going into Canada, but it is -- it's part sales and it also is new equipment and on the industrial side especially. Industrial side is very active right now.
So anything that's surrounding the ore refining, the refracturing they're doing in mining, I mean, all those things are really driving demand. Our vac business is doing well.
Jetstream is doing well, so just a good, heavy industrial mix with a good lift in the municipal.
Walter Liptak
Okay. And kind of going back to the full year, I guess, the guidance that you can provide.
How about revenue for the first quarter? You said breakeven on EPS, but would you expect revenue to be about flat with where it is at the end of the fourth quarter?
William Barker
Yes, I think that's a pretty good call, Walt. It's probably flat with Q4.
And if we stayed there, that would be up about 20% to 25% versus last year in the first quarter. So I think that's a pretty reasonable number.
Walter Liptak
Okay. And then other items for 2012, what kind of tax rate are you expecting?
William Barker
I think 25% is a reasonable proxy to use.
Operator
[Operator Instructions] At this time, I'll turn the conference over to Dennis Martin for any additional remarks.
Dennis Martin
Well, thank you for joining our call and for your questions, and we'll talk with you as soon as we can. Thank you.
Have a good day.
Operator
That does conclude today's conference. Thank you for your participation.