Aug 3, 2012
Operator
Good day ladies and gentlemen and welcome to the First Quarter 2013 RBC Bearing Earnings Conference Call. My name is Stephanie and I’ll be your coordinator today.
[Operator Instructions] As a reminder this conference is being recorded for replay purposes. I would now like to turn the presentation over to the host for today Mr.
Adam Siegel, Vice President please proceed.
Adam Siegel
Good morning and thank you for joining us today for RBC Bearings fiscal 2013 first quarter earnings conference call. On the call today will be Dr.
Michael J. Hartnett, Chairman, President, and Chief Executive Officer and Daniel A.
Bergeron, Vice President and Chief Financial Officer.
Adam Siegel
Before beginning today’s call let me remind you that some of the statements made today will be forward-looking and are made under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected or implied due to a variety of factors.
We refer you to RBC Bearings recent filings with the SEC for a more detailed discussion of the risks that could impact the company’s future operating results and financial condition. These factors are also described in greater detail in the press release and on the company’s website.
Adam Siegel
In addition, reconciliation between GAAP and non-GAAP financial information is included as part of the release and is available on the company’s website.
Adam Siegel
Now, I would like to turn the call over to Dr. Hartnett.
Michael Hartnett
Thank you, Adam, and good morning. Net sales for the first quarter of fiscal 2013 were a $103.3 million, an increase of 10.7% over the same period last year.
Our industrial markets contributed 6.7% growth in sales on a year-over-year basis. The increase was driven principally by seller demand from both distribution and OEMs but the year to year growth rates of 11.1% and 5.0% respectively.
Sales of industrial products in the period represented 52% of our total revenues, aerospace and defense represented 48%.
Michael Hartnett
Demand for our products from industrial markets remained steady. The sectors of industrial distribution, mining, ground defense and oil and gas performed well during the period.
Although we are not seeing the double-digit expansion in revenues we saw last year, because much of that expansion was the result of new products introduced in years past, we are seeing solid demand from customers in this sector and expect the full year to show revenue expansion for industrial products to be in the mid- to high-single digit range.
Michael Hartnett
As a footnote, during the quarter we did see some reduction in demand from two of our mining customers, which was the result of their planning errors last year and as a result we were a few million dollars off per quarter from our sales plan. We expect the same situation in second quarter and this condition will be resolved by the end of September.
We do expect to see further expansion in our industrial sales volumes in the future years as a result of new products being introduced this year and next.
Michael Hartnett
Turning to the oil and gas market, as you know, this market remains strong. Backlog reports from major OEMs are extraordinary.
We expect another solid year of product sales in these markets. We will be introducing several new designs this year that should improve nicely to next year’s plan.
Michael Hartnett
OEM construction of large equipment for mining sector was strong. Build rates reported by the major producers have stepped up again.
Of course, this is all predicated on the outlook for continued oil demand from the world economy, but who can challenge Caterpillar’s recent bullish position on this matter? Not us, we are busy filling orders for the OEMs and expect this sector to be a continued solid performer throughout the year.
Michael Hartnett
In Europe, demand for our products remains good as well. Of course, much of our business is in the aerospace sector and continued expansion by the OEMs and subcontractors have had continued positive impact on our volumes.
Michael Hartnett
Then for our machine tool products it’s about the same as last year. These products are consumed by machine tool producers who export to countries such as Russia, China, United States as well as the European market.
Michael Hartnett
Relative to our aerospace and defense business, these markets grew 15.3% in the first quarter of fiscal 2013 compared to the same period last year. As you all know, demand for the aircraft worldwide remains at an all-time high.
Michael Hartnett
As a result of the Farnborough Airshow, Boeing has pulled ahead of Airbus. The number of planes ordered this year in aircraft manufacturing is certainly a bright spot in our revenue line up.
We are booking well in this sector and continue to work the contract development side of our business help us define customer priorities; rationalize production strategies, plan capacity expansions. We feel we’re in the best position ever to execute our business strategies there today and expect to see continued revenue growth as increased requirements are released for step up in build rates on the 737 and the 787 planes, as well as the result of new products we are introducing into the mix.
Michael Hartnett
In summary, we’ve ended the first quarter of fiscal 2013 with $211.5 million of backlog compared to $206.4 million for the same period last year. Gross margin performance for the first quarter was 37.2% compared to 31.4% for the same period a year ago.
Michael Hartnett
Our internal target this year was to add 1% to 1.25% of gross margin points in fiscal 2013 over 2012, where we ended the year at 35.4%. To achieve this internal target, we will continue to focus on process improvements and cost reduction, which has benefited us well in the past.
Michael Hartnett
Looking ahead, we expect the second quarter of fiscal 2013 net sales to be north of the $100 million mark but lower than what we have achieved in the first quarter and mostly as a result of the vacation periods over the summer.
Michael Hartnett
I’ll now turn the call over to Dan, who can provide more color on the first quarter.
Daniel Bergeron
Thanks Mike. Since Mike has already covered sales and gross margin, I’ll move down to SG&A.
Daniel Bergeron
SG&A for the first quarter of fiscal 2013 increased $1.6 million to $16.1 million compared to $14.5 million for the same period last year. As a percentage of net sales, SG&A was 15.6% for the first quarter of fiscal 2013 and 15.6% for the same period last year.
The increase in SG&A year-over-year was mainly due to increase in personnel-related cost and professional fees.
Daniel Bergeron
Other net for the first quarter of fiscal 2013 was expense of $0.4 million compared to expense of $0.3 million for the same period last year. For the first quarter fiscal 2013 other net consisted of $0.4 million of amortization of intangibles.
Daniel Bergeron
We ended the quarter at operating income of $22 million for the first quarter; an increase of 29.3% compared to operation income of $17 million for the same period last year and fiscal 2012. As a percentage of net sales, operating income was 21.3% for the first quarter of fiscal 2013 compared to 18.2% for the same period last year.
Daniel Bergeron
Other non-operating income was $3.3 million for the first quarter of fiscal 2013 compared to $0.2 million of expense for the same period last year. This was mainly due to a receipt of $3.6 million in CDSOA payments in the first quarter of fiscal 2013, offset by $0.3 million of foreign exchange losses.
Daniel Bergeron
The income tax expense for the first quarter fiscal 2013 was $7.9 million compared to $5.6 million for the same period last year. Our effective income tax rate for the first quarter fiscal 2013 was 31.6% compared to 34.5% for the same period last year.
The effective income tax rate for the first quarter fiscal 2013 includes $0.9 million benefit due to the reversal of unrecognized tax benefits associated with conclusion of state income tax audits. The effective income tax rate without these discrete benefit items would have been 35% for first quarter fiscal 2013.
Daniel Bergeron
For the first quarter fiscal 2013, the company reported net income of $17.2 million compared to net income of $10.7 million for the same period last year. Excluding the after-tax impact of the CDSOA payment and the discrete tax benefit, net income would have been $13.9 million for the first quarter of fiscal 2013, an increase of 30.1% compared to $10.7 million for the same period last year.
Daniel Bergeron
Diluted earnings per share was $0.76 per share for the first quarter fiscal 2013 compared to $0.48 per share for the same period last year. Excluding the after-tax impact of the CDSOA payment and the discrete tax benefit, diluted earnings per share for the first quarter fiscal 2013 would have been $0.62 per share compared to $0.48 per share for the same period last year.
This is an increase of 29.2%.
Daniel Bergeron
Turning to cash flow, the company generated $26.5 million in cash from operating activities in the first quarter fiscal 2013 compared to $12 million for the same period last year. Capital expenditures were $6.1 million for the first quarter of fiscal 2013 compared to $2 million for the same period last year.
We expect our capital expenditures to be approximately $12 million to $15 million in fiscal 2013.
Daniel Bergeron
The company ended the first quarter of fiscal 2013 with $90.9 million of cash and $1 million of debt on the balance sheet.
Daniel Bergeron
I would like to now turn the call back to the operator to begin the Q&A session.
Operator
Ladies and gentlemen, we are ready to open the lines up for your questions. [Operator Instructions] Your first question comes from the line of Ed Marshall with Sidoti & Company.
Edward Marshall
So, looking at the business kind of -- in the guidance I guess you provided for the industrial business, I’m seeing what you put up in the first quarter in kind of your discussion surrounding the second quarter, it looks like you expect your industrial business to be much stronger in the back half of the year than it’s displaying in the first half. Is that the right characterization?
Michael Hartnett
No, I think the industrial business throughout the year is going to be pretty much the same. I mean, there’ll be perhaps a little bit of growth there, but I think it’s too early to tell.
I mean the world is still an uncertain place right now.
Edward Marshall
Did you say mid- to single-digits for the industrial or mid-to single-digits for the entire business?
Michael Hartnett
Mid-industrial.
Edward Marshall
Industrial. With all due respect -- I mean then I look at the second quarter, I mean do you expect the growth rate of the aerospace to come down a little bit?
Michael Hartnett
No. We expect what we’re going to see is sort of a shift in revenues leadership there from industrial to aerospace as the year goes on.
Edward Marshall
Okay. Oil and gas business, if I could touch on that for a second, I know it’s a new business for you, so it’s probably less of an impact.
Before other companies discuss -- as we shift from gas rigs to oil rigs, refer two things. One, restocking from the conversion and the parts used for the rigs and how they differ, and then secondly we’ve also heard a temporary loss, some of the - cannibalization of some parts are used from say oil rigs; I mean gas rigs going to rigs.
Have you see any of those two dynamics where there is a restocking or more of a cannibalization of the material?
Michael Hartnett
Well, I think for the most part we haven't seen it; it’s not that we would see it. Most of our oil and gas businesses is direct to the OEM and we’re not in that aftermarket sector.
So I think the people that are servicing that aftermarket sector would feel that more than us. I mean we sort of are tied to these OEMs and look at their build rates and try to support their build rates, and that's what our business is all about right now.
Edward Marshall
How has the traction been in that business? Is it still improving at the same rate that it was?
Michael Hartnett
Well I think it’s a matter of mix, and for us we have had a small product offering relative to that marketplace and so we’re sort of fully consumed there in terms of what we do offer to marketplace. We’re bringing through new products through the balance of this year which expand our offering and make us more relevant to the aftermarket as well.
So, I think as we expand the number of sizes that we offer to the marketplace our revenues will -- as a result of that and so we’re having some very positive discussions with our OEM customers relative to those issues right now.
Edward Marshall
Okay. And Dan what do you expect for the tax rate to be in the quarter.
It was little higher than I anticipated?
Daniel Bergeron
35% we should be looking at for the year.
Edward Marshall
For the balance of the year? Okay.
Daniel Bergeron
Yes. But just keep in mind that we mentioned in the 10-K and the 10-Q, I am sure there is a chance this year we’ll have additional tax benefits that will be coming back to the P&L due to closing of certain statutory audits.
Edward Marshall
And if there is an adjustment on the R&D tax credit, will you pick up as well or?
Daniel Bergeron
We would so that kind of pushed our number up a little higher this first quarter because that R&D credit doesn’t exist right now.
Operator
The next question comes from the line of Walt Liptak with Barrington.
Walter Liptak
I wondered if you could talk about, and I apologize, I got onto the call little bit late, but the mix and what’s helping with that gross margin?
Daniel Bergeron
Well, I think one of the things that’s helping is that the mix that we have is under long-term contract. So we can justify capitalizing it correctly and we can justify putting engineering talent into working the process improvement side of the business, so that the product is made more and more efficiently than it was four or five years ago, and that efficiency is sort of accruing to our profitability and we expect to see that efficiency accrue profitability throughout the year.
Once you have this business secured and under contract, you can easily justify improving your methods and that’s what we’re doing.
Walter Liptak
Okay. Is this level of gross margin then sustainable throughout the year?
Daniel Bergeron
I think it’s going to improve.
Walter Liptak
Okay, because you’re running ahead I think of what you talked about last quarter with -- I think it was a 50 or 100 basis points improvement.
Daniel Bergeron
Yes, it’s a little hard to predict how much margin improvement you’re going to see. I mean you work like hell and then you get a pleasant surprise once the numbers on the plan gets closed out, and you kind of see the results of your efforts, and so the improvement in gross margin is a little bit of a more pleasant surprise to us too.
Walter Liptak
Okay, but you think it’s sustainable?
Daniel Bergeron
Yes.
Walter Liptak
Okay. I wondered how we could - when we look at your backlog it looks sequentially flat for the last couple of quarters and I look at growth rate in backlog which has been decelerating a little bit.
I wonder if you can talk a little bit about the backlog and how much of that backlog ships in say the next quarter and how we should think about revenue growth compared to that backlog?
Michael Hartnett
I would be happy to. First of all I think the first quarter -- currently particularly in the aerospace world for us, and probably for most people, because of the timing of contracts there is a lot of contracts that are being renewed, renegotiated, redirected and so on, during, I’d say the first six months of our year here it’s fairly consuming.
As a result of that once the contract is under negotiation and you have three or four or five or six months left on the contract, normally the P.O. period stops and so no new P.O.s are issued and acknowledged until the new contract is finalized.
And so, there is some timing with contracts going on that are affecting the backlog in the first quarter and I think that should be resolved and there should be a pleasant surprise in the second quarter.
Operator
Your next question comes from the line of Peter Lisnic with Robert W. Baird.
Peter Lisnic
I guess if I can start with the second quarter commentary you gave. I mean if I do the math it looks like 2% to 5% top line growth for the second quarter year-over-year.
And I guess that suggests something is slowing or perhaps negative. Can you give us a little feel for kind of where that which comparison is actually slowing and to what degree?
Michael Hartnett
Yes, I don’t know if it’s slowing as much as it’s steady. It’s not growing at the rate that it was growing.
And so I think in the commentary I said that there is a couple of customers who over bought product last year because they sort of missed forecast or MRO demand. And so they end up with more product than they need and so that product is bleeding off in their system for our first two quarters.
So I’d say that much of what you are looking at is being affected by that situation.
Peter Lisnic
So is it safe to assume, maybe it’s not, but should we think about industrial as being flat or down in the second quarter?
Michael Hartnett
No. It won't be down.
It will be more flat.
Peter Lisnic
Okay. So around flat-ish.
Okay. All right that helps.
And then the on the gross margin expansion I mean the comments were a 100 to 125 bps of expansion for the year. Clearly the first quarter was well ahead of that and sounds like it’s sustainable.
So why the conservatism on the target for this year just a function of global macroeconomic uncertainty or is there something in the gross margin mix that may be you are uncertain of and not willing to kind of raise the bar if you will on that target?
Michael Hartnett
Yeah. Pete that’s our internal target and I think for the last few years we have shared that internal target with you guys on the conference call and been able to exceed that internal target each year.
So that’s what we are targeting towards this year. One to one and a half on 35.4% last year.
So I think we are on track to do that. Q4 and Q1 are always our strongest quarters from a performance standpoint, top line standpoint.
And Q2 and Q3 are slower quarters because of the amount of production days, holiday season and things of that nature. So we are comfortable with that forecast and as Mike said we hope to exceed it.
Peter Lisnic
Okay. Got it.
And then last question. Just on the defense business I know the uncertainty was sequestration out there, sort of a primary topic.
Do you have any feel for what that might mean if indeed it comes through the way it -- presumably could come through, what that might mean for the business and may be the back half of this year or in the fiscal 2014?
Michael Hartnett
Yeah, well, I think certainly congress took summer leave and left that situation unresolved, and sort of put the ball back in Obama’s court. It probably won't get resolved -- sequestration won't get resolved until after the election.
We’ve looked at our programs and -- first of all I doubt that DOD will be able to defer maintenance of their core systems much longer. They’ve already deferred the maintenance, the systems are critically under maintained, and so looking at our back log and the kind of product that we produce and where those products are consumed, these are on core -- really the core military programs that allow the defense system to even operate.
Michael Hartnett
So I think for the balance of our year -- fiscal year there won't be much of an effect. Now, defense is now less than 10% of our revenues.
I think the growth in the aircraft aerospace commercial sector given the step up in production rates that people are talking about will certainly offset some of that or most of that this year if there is any. I think the game; the issue will really show up next year if the democrats win the election and cut the defense budget.
And I think that’s what we are waiting to see.
Peter Lisnic
Okay. All right.
Have you -- you broke up a little bit there maybe it was my phone or yours, but just to kind of close the loop, have you seen any trends in defense backlog that give you a feel for kind of what the impact might be. It sounds like you are not saying anything yet.
Sounds like things might actually be better because there is under spending of critical systems as you put it versus not getting orders.
Michael Hartnett
No we are seeing the opposite Pete. We are seeing a lot of defense contracts being negotiated right now that actually are a little unusual in terms of their size and the level of activity that we are seeing.
So we are kind of scratching our head and saying," what is this all about?" And so I’d say it’s business as usual with the defense agencies, but the contracts that we are seeing are for these core systems, and not for the man on the moon shot.
It’s really how do you get from soldiers from A to B.
Operator
Your next question comes from the line of Samuel Eisner with William Blair.
Samuel Eisner
I had a couple of questions on the margin. Can you talk a little bit about pricing and price risk cost in the quarter and how you anticipate that playing out throughout the remainder of fiscal 2013?
Daniel Bergeron
Yes. Pricing?
Yes. Favorable.
Samuel Eisner
How favorable?
Daniel Bergeron
You analysts always want a metric on this stuff. It’s a good environment right now.
So I’d like to leave it at that.
Samuel Eisner
Fair enough. You know, the commentary regarding orders in the quarter, obviously it seems as though you had national declining orders year-on-year.
Is there a way to kind of quantify how much of kind of the orders were pushed out into the second quarter or kind of through that process?
Michael Hartnett
There really isn’t. I mean, we are talking about $10 million kind of swing one way or the other, right, I mean it’s a number like that.
Samuel Eisner
All right. Then with your almost $90 million in net cash, obviously the question comes up what are you guys doing with that.
So maybe if you can put some kind of qualifiers in more what you guys are looking to do kind of cash priorities and everything to that effect?
Michael Hartnett
Well, we are trying to -- we are very active at looking at acquisitions as one of the uses of our cash, and we would like those acquisitions to enhance our market position. We would like those acquisitions to come at a price that is affordable and justifiable.
And so there are many in the first category and few in the second. And so I would expect that we are probably going to spend some of that, half of that this year given the programs that we are working on, but I can't guarantee we will.
Samuel Eisner
All right. That’s great.
And then just lastly, the commentary regarding the mining industry, can you just -- I missed some of those comments. They said there were two customers that changed the production schedules or maybe you can just give a little bit more color?
That would be great.
Michael Hartnett
Well, you know the difficulty that these OEMs have is that -- and if you look at the build cycles for all of these OEMs they all intend to build one heck of a lot more equipment this year than they built last year. Whether, you know, they often get the right thing to do, so who am I to criticize.
But on top of the OEM build is MRO demand, right? And the MRO demand is significant and as the population of this equipment increases year-to-year it’s hard to predict the MRO demand year-to-year.
So we had two customers who over predicted the MRO requirements last year to the point where they ordered too may bearings, we delivered too many bearings, and now they are sitting on a pile of bearings that are being more slowly absorbed into their system.
Michael Hartnett
So we are looking at the absorption rate of those products and talking to these customers to understand when things will be back to normal and that will affect to the extent of the industrial business. A few million dollars of our revenues for the first two quarters - in each quarter for the first two quarters of the year.
Samuel Eisner
That’s great. Then just one last one on the same point.
You think that this issue is specific to those two customers or is this more of an industry wide issue?
Michael Hartnett
Oh, industry wide, I think all of these people have difficult planning their MRO requirements. Either they order too much, too soon, which is unusual.
They usually don’t order enough and quickly have emergency situations needing bearings and that’s more normal course.
Operator
Your next question comes from the line Steve Barger with KeyBanc Capital Markets.
Steve Barger
I’m going to try another price question. If you are looking for mid- to high-single digit on the industrial side, can you break out what’s your thinking about in terms of volume versus price?
Michael Hartnett
I don’t do it that way and I actually don’t know how to do it that way.
Steve Barger
Well, okay. If -- do you expect… as you moderate from double digit to single digit on the industrial side, do you expect that the price increases that you realized last year will be different or the same that you realized this year and it’s more on the volume side, or are you seeing industrial come down in both metrics?
Michael Hartnett
Well, I think the pricing will hold on the industrial side. There may be some expansion of pricing in some markets and some customers, but it’s certainly not universal.
I think the more - the other side of that is that the cost of the commodities to produce the products is going to be lower this year than it was last year, and so that ought to create some benefit by itself.
Steve Barger
And you don’t expect to really give much back, right?
Michael Hartnett
Well, I - we get as much back as we can, but not as much back as we -- as we are asked to.
Steve Barger
We’ve heard some other companies talk about - as they’re seeing moderation in some industrial product demand, they’ve slowed production a little bit to avoid an inventory build. Other than those mining customers that you mentioned, are you seeing any product lines where you feel like that is appropriate or is that not really applicable to you.
Michael Hartnett
We’re not slowing any production. I think we’re not stepping production up to the extent that we had to in the last few years, so we’re kind of keeping production levels steady and looking at inventory positions and adjusting accordingly.
Steve Barger
Got it. And one other -- sorry if I missed this earlier, but you talked about new products in the industrial side, are they targeted to getting more content on existing applications where you content, or you’re trying to get into areas where you currently don’t have content at all.
Michael Hartnett
It’s both. It’s product improvement with existing customer to solve the problems that existing customers have with bearing applications, and it’s new accounts with completely new products.
Steve Barger
Typically are you seeing - is the sales force going out to find those new accounts or are you having increased that or is that happening both ways?
Michael Hartnett
Well, we look at the sectors. The nice thing about making bearings is every industrial sector needs them.
And so, we look at the sectors that we feel offer growth for us and we might have some ideas and some offering for them. And then based on that, we’ll do a down sort on who the most successful OEMs are in those sectors, and then with what we know about those particular OEMs, we’ll create a strategy of how do we approach those particular OEMs and with which products is the most applicable for them.
And so we’ll do that often and we’re doing it now more than we used to and we’re doing it very effectively in some cases.
Operator
Your follow-up question will come from the line Ed Marshall with Sidoti & Company.
Edward Marshall
A quick follow-up with all the cash and I know you see acquisitions we have hearing for a while, you’re generating a lot of cash too, it looks like. Any chance that you guys have kicked the idea around and you will probably laugh at me, but kicked the idea of initiating a dividend of any sort, even if it’s a modest dividend.
Michael Hartnett
We’ve discussed it, Ed, let's leave it at that.
Operator
With no further questions in queue, I would now like to turn the conference call over to Dr. Michael Hartnett for any closing remarks.
Please proceed.
Michael Hartnett
Okay. Well, in closing, I’d like to thank everyone for their interest on today’s call and their interest in RBC Bearings and for participating in this session and I look forward to another session in October.
Operator
Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the presentation.
You may now disconnect. Have a great day.