Cooper-Standard Holdings Inc. (CPS) Q2 2012 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and welcome to the Cooper-Standard Holdings, Inc. Second Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded this morning and the webcast will be available for replay later today. I would now like to turn the call over to Glenn Dong, Treasurer of Cooper Standard. Please go ahead.

Thank you. Good morning and welcome. I am Glenn Dong, and I will be acting as the moderator for today's call. Speaking on behalf of the company are Jim McElya, our Chairman and Chief Executive Officer; Keith Stephenson, Chief Operating Officer; and Allen Campbell, Chief Financial Officer. As usual, we will conduct a question-and-answer session after providing an update on our business, reviewing our second quarter performance and discussing our outlook for 2012. The presentation we'll be using for this morning's call will be available after the call under Presentations section of our Investor Relations website on www.cooperstandard.com. Please note that certain information on this call may be forward-looking and contains statements based on current plans, expectations, events and market trends that may affect the company's future operating results and financial position. Such statements involve risks and uncertainties that cannot be predicted or quantified, and that may be -- that may cause future activities and results of operations to differ materially from those discussed. For additional information, we ask that you refer to the company's filings with the Securities and Exchange Commission. This call is also intended to be in compliance with Reg FD and is open to institutional investors, security analysts, media representatives and other interested parties. A reconciliation of certain non-GAAP financial measures used during this call can be found later in this presentation and in our press release dated August 9, 2012, which has been posted on our website and furnished on the Form 8-K with the SEC. At this time, I would like to turn the call over to Jim McElya, Cooper Standard's Chairman and Chief Executive Officer.

Thank you, Glenn, and good morning, everyone. I am pleased to provide an overview of the second quarter of 2012. Sales in the quarter were $734.5 million and adjusted EBITDA was $74.1 million or 10.1% of sales. These results illustrate the overall strength of the business despite the economic headwinds in the European market. The challenges facing Europe have a profound impact on automotive production in the region. The downturn in Europe is affecting all automakers in the region, however, the French and Italian automakers are being hit the hardest, and we will need to take actions to address the impact on us. Keith Stephenson will provide further insight on this situation as we outline Cooper-Standard's action plans to minimize the impact. The Asia Pacific region continues to grow, but it has slowed as demand in vehicles in China has softened relative to the peak years of 2010 and 2011. South America's economic slowdown continues, with vehicle production down 4.6% from a year ago. Despite this economic slowdown, Cooper-Standard's sales were up 8.3% from the year-ago levels, reflecting significant launches and excluding foreign currency movement. North America has experienced a strong first half of 2012. But volumes are now expected to level out in the second half coming in between 4.7 million and 4.9 million production units for the year. We are proactively adjusting to the changing volumes across all regions, and we'll manage through these fluctuations while continuing our strategic growth initiatives. Given the focus on Europe, I believe it's important to provide context in regards to the overcapacity and high fixed cost issues facing automakers in the region. The environment in Europe, currently, is much like the environment in North America in 2008 and 2009. Many automakers in the region are working to move production to Eastern Europe and rationalize production in Western Europe. But given political and regulatory environments in most European countries, this is a slow and complex process. Turning to Slide 6. In addition to investments in footprint expansions, we made considerable capital investments for manufacturing equipment, production tooling and testing capabilities to support our robust schedule of global launch activity, which includes over 33 launches across all major regions of the world. To further support our global growth, we have made investments in our operational and financial systems, converting them to SAP. And I am pleased to report that we have converted the majority of our facilities in Europe with minimal interruption to our operations, thanks to the hard work and excellent planning of our SAP team. Before turning the presentation over to Keith, I'd like to provide a brief update on raw materials. We are just now starting to see raw material prices stabilizing, but it will take up to 2 quarters for these changes to affect our business. As discussed in a previous quarter conference call, an explosion at the Evonik chemical plant in Germany shut down the facility indefinitely. The facility produced 35% of the global output of PA12 resin, which is used in automotive fuel and brake components. We put a global team in place immediately following the shutdown of Evonik to find solutions to ensure uninterrupted supply to our product to our customers. Our team was able to fast-track alternative materials, gain necessary approvals and bring these alternatives to market. We have been able to meet all of our customer needs, thanks to the tremendous efforts of our global team. Now, I'd like to turn the call over to Keith.

Thank you, Jim, and good morning, everyone. First, turning to Slide 8. As Jim touched on, we are facing some global economic headwinds, which are negatively impacting vehicle production outside of the North American market. Cooper-Standard is committed to proactively meeting these challenges while continuing to responsibly invest for the future. Specifically in Europe, we have taken steps to match our capacity with current demand through a combination of eliminating temporary employees, utilizing government-sponsored short work programs in Italy and France, and making permanent headcount reductions throughout Western Europe. Since the global financial crisis in 2009, the company has been careful with adding additional permanent direct labor in Western Europe, choosing instead to flex our headcount primarily with temporary workers. In parallel, we've launched a formal process to transfer certain administrative functions, such as financial shared services, CAD, IT and purchasing, to lower cost countries, while opening a production facility in Craiova, Romania. The plant in Romania started production in late June, with initial outputs supporting Ford. Going forward, we are actively evaluating new sites in Eastern Europe for further expansion of our global footprint, which is now planned for 2013. This expansion will support the already committed growth of our business in Europe, while facilitating the transfer of current higher labor content activity. In South America, while the industry has faced some recent turbulence, we have continued forward with the ramping up of a new plant near São Paulo, Brazil. The plant is now fully operational and supplying complete sealing systems to customers such as Honda and Toyota. While it's added some near-term costs, the importance of this facility and other capacity additions will be fully realized later this year as our South American business launches several important new programs. Turning to Slide 9. We continued strong operational performance while meeting external and internal expectations. This includes our lean cost target savings, which is fundamental to maintaining our gross margins. We have, however, experienced extraordinary costs associated with specific issues, including the start up and program launches for our new plant in Brazil, the consolidation of our North American hose plants, as well as extraordinary costs associated with the start up of a new program in North America. In total, these specific items impacted second quarter results by approximately $15 million. These items are being responsibly addressed, and we expect that these variances will subside over the near-term. On Slide 10, we have a list of our top 5 commodity groups, which represent approximately 40% to 50% of the company's raw material purchases. Following many months of escalating raw material costs and sporadic availability issues, we have recently seen raw material inflation moderating and supply availability improving. Giving these trends, combined with the trailing nature of our material cost recovery from our customers, we do expect to realize a benefit for net material costs in the second half of 2012. In parallel with these events, the company has been proactively pursuing the development of alternative materials for all product lines, with the clear targets of reducing cost and weight. Cooper-Standard has a robust alternative material development program, which will provide further product differentiation, while reducing dependency on certain raw materials. On Slide 11, you see 5 of the 33 programs we launched in the second quarter. Our second quarter launches include the brake lines, fuel bundles, control valves and sealing systems for the new Dodge Dart in North America, as well as the transmission oil cooler and fluid lines for the new Ford Escape. In Asia Pacific, we launched the sealing system on the new Renault Duster, while in Europe, we launched sealing products on the BMW 1 Series and multiple fluid products on the Ford Fusion. As one of our key initiatives, Cooper-Standard continues to target global platforms, like the Ford Fusion, utilizing our global footprint and engineering capability while effectively supporting our OEM partners on regional programs as well. Turning to Slide 12. Jim mentioned our continued investment in areas other than our global footprint. The company is currently making a major investment in new product and process technologies for both our traditional product portfolio, as well as in the thermal management and emission space. This investment includes the addition of technical talent, as well as testing capabilities. While the increased spending has a negative near-term impact on SGA&E expenses, the company has already received confirmed orders for products such as valves, actuators, electric water pumps and EGR modules. To-date, approximately $140 million annualized new orders have been committed by OEMs for these products. Additionally, the company has made progress on the development of recently acquired EDC technology portfolio. Combined with the previously mentioned products, this will position Cooper-Standard as an important supply partner to the global OEMs for improved fuel efficiency and reduced emissions. Consistent with our strategy to grow our Asian business via increased localization, we started production in the second quarter of our first nylon tubing line in China. The company has taken a disciplined approach to localizing our complete product portfolio in Asia. Currently, we have the broadest sealing capability of any supplier in both China and India, while seeking to expand our fluid capability to improve our competitive position. It's been a productive quarter across our global business despite higher operating expenses associated with the heavy launch activity, new plant ramp up costs and manufacturing transfers. We continue to make progress on strengthening our value proposition and positioning the company for further growth in the face of some industry challenges. I would now like to talk turn the call over to Allen. Allen?

Thanks, Keith. For the second quarter, Cooper-Standard reported sales of $734.5 million, down 3.4% from $760.5 million in the second quarter of last year. The turmoil surrounding the European debt crisis, softness in other regions and resulting volatility in foreign currencies have had a material effect on our numbers for the quarter. Adjusting for $59 million of unfavorable foreign currency movement, Cooper-Standard sales were up 4.3% from the previous year. In North America, we reported sales of $387.3 million, up 5.7% from $366.3 million in the previous year. Sales volume was up 8.3% from a year ago when adjusted for unfavorable foreign currency movements. IHS reported increased North America vehicle production at 24.6% in the quarter. Vehicle production was strong, a large part of this increase was driven by Asian OEs relative to last year's depressed production levels. This reflected our [ph] nonconsolidated joint ventures, which I will discuss later. Europe continues to be very challenging. Vehicle production is down almost 10% for the quarter. Our European operations reported sales of $264.2 million, down approximately $36 million from the same quarter last year. However, sales were relatively flat for the quarter when adjusted for approximately $38 million of unfavorable foreign exchange. Our Asia Pacific sales for the quarter were $48.8 million, down from the previous year of $55.2 million. This decline was attributed to both unfavorable customer and vehicle mix and negative foreign currency movement. Cooper-Standard Brazil generated $34.2 million in sales for the quarter as compared to $39 million a year ago. Vehicle production in South America was down 4.6%. However, our sales volume grew by 8.2% when excluding foreign currency impact. Gross profit for the second quarter was $114.4 million or 15.6% of sales compared to $123.7 million or 16.3% in the same quarter of previous year. Key drivers affecting gross profit in the quarter include unfavorable foreign currency movements, increased raw material prices, higher operating costs associated with our vehicle launches, manufacturing transfers and expansion activities. On the positive side, these factors were partially offset by increases in vehicle production volume, primarily in North America, and our lean initiative. For the quarter, we saw our SG&A costs increased to $69 million or 9.4% of sales as compared to $65.6 million or 8.6% in the previous year. Increased salary headcount in the areas of R&D and engineering customer support contributed to this increase. We generated $42.1 million in operating profit and $77.3 million net income in the quarter, which included a $53.4 million benefit relating to the reversal of the valuation allowance on the company's deferred income tax assets in the U.S. This benefit was booked in the second quarter, and as Cooper-Standard U.S. reached a 3-year cumulative profit position, which combined with our view of future earnings, enabled us to conclude that the valuation allowance on our deferred tax assets was no longer necessary. Fully diluted earnings per share was $3.28. The company generated $74.1 million in adjusted EBITDA for the quarter, which was impacted negatively by $9.6 million as a result of foreign exchange movements versus the same quarter last year and a $15 million of unfavorable operation variances that Keith mentioned earlier. Slide 15 is a comparison of our adjusted EBITDA for the 6 months of 2011 and 2012, showing customary adjustments from net income. Net income was $101.1 million for the first half of 2012. Adjusted EBITDA includes the add back for restructuring of $5.3 million, predominantly related to the closure of our North American facility and restructuring related to our European operations. Additionally, we have a $5 million add back related to the valuation of our emergence-related stock compensation. On an LTM basis, our adjusted EBITDA was $297.3 million or 10.2% of sales. A reconciliation of these figures are in the Appendix section of this presentation. On the next slide, we showed sales from our joint ventures in the quarter. Sales from consolidated joint ventures were up slightly, with volume offsetting unfavorable foreign exchange when compared to the same quarter last year. Our French JV reported a full quarter in 2012 versus 2 months from 2011, however, volume declines of French OEs were evident. As I previously mentioned, the increase in vehicle production among the Asian OEs in North America and Asia has been strong. This is apparent in the $100 million in sales generated in our nonconsolidated joint ventures, or a 44% increase when compared to the same quarter prior year. Our 4 strategic nonconsolidated joint ventures serve mostly the North American and Asian markets, providing products to Honda, Toyota, Indian OEs, key Chinese OEs and SAIC under joint venture company. Turning to Slide 17. For the quarter, the business generated $58.5 million in cash before changes in our operating assets and liabilities. We used $58.7 million to finance changes in operating assets and liabilities, which includes our working capital requirements and investments in tooling. The traditional seasonality of our cash flows was specially impacted this year by inventory and tooling. In the first 6 months, we have higher inventory levels related to the Evonik situation and strategic inventory bank builds. Tooling, as you may be aware, is normally a temporary use of cash in our industry, and the cost of tools are incurred upfront by the company and later reimbursed by the customer per agreement, usually around vehicle launch. Tooling is incurred to support the production of future programs which have been awarded to the company. To highlight the magnitude of our investments in tooling, for the first 6 months of the year, in process, the tooling accounted for $21 million of our cash usage. We're currently carrying approximately $115 million of tooling on our balance sheet. For the quarter, we invested approximately $29 million in capital expenditures, which is in line with our historical levels and 2012 guidance. In addition, we spent $13.6 million in voluntary repurchases of our common stock. Other cash items in the quarter included cash proceeds of a $4.1 million from the sale of real estate, the quarterly cash dividends paid on our 7% convertible preferred securities and debt repayments of approximately $3.2 million related to debt held outside the U.S. Overall, we ended the quarter with $252.1 million of cash on the balance sheet. We continue to maintain strong cash balances to ensure adequate liquidity to support our operations, finance planned expansion, restructuring and weather any softness in the region. For the quarter, we have approximately $350 million of liquidity with an undrawn ABL revolver, supporting approximately $28 million of letters of credit. Our financial metrics continued to remain strong, with a net leverage of $233.7 million, net leverage to adjusted EBITDA of 0.8, and an interest coverage ratio of 7.2x. Our debt structure remains pretty much unchanged from the previous quarter with no material maturity until 2018. Turning to Page 19. Our guidance for 2012 remains unchanged, with sales projected to be between $2.85 billion and $2.95 billion, capital expenditures between $110 million and $120 million, cash restructuring between $45 million and $55 million and cash taxes of between $25 million and $30 million. I would now like to turn the call back to Glenn.

Thank you, Allen. The purpose of this conference call is to also answer questions from our stakeholders. We would ask that media inquiries be handled separately from this call. Such calls should be directed to our Corporate Communications Group, whose contact information is available on our website and on the earnings press release. This concludes the formal portion of our conference call. We will now open the call for questions.

[Operator Instructions] Our first question comes from the line of Kirk Ludtke with CRT Capital Group.

I just have a couple of quick ones. I noticed in the quarter that you bought some of your common stock back, and I'm curious if you could maybe expand on the circumstances and what the criteria is for stock repurchases, both common and preferred, going forward?

Sure. We purchased common stock in the second quarter and preferred in the first. We were authorized by the board to make a certain level of purchases, and we were in the market, when we felt it was appropriate, taking advantage of that.

And can you expand on what the thought process was?

The thought process was, obviously, we felt like it was value at the prices that we purchased. We thought that our cash position was strong, and the stock was lower than we thought it should be, and we made those purchases.

And how about going forward, do you continue?

We still have a remaining balance that's been authorized by the board.

We'll just be opportunistic in this, Kirk. Take a look at it as the opportunities come up.

Okay. And can you talk about how much you can buy within your credit facilities and other whatever contractual limitations you have?

We're still reviewing on what level the board would like to continue these type purchases. We have significant room under our restricted payment basket. We believe we have in excess of $100 million of availability in restricted payments to do these types of transactions, but we're in no way authorized at that level.

Okay. And is there any update on how -- any plans to create some more liquidity in these shares?

Nothing official. We're continuing to evaluate several options, and we have not landed on a specific one to follow at this point.

[Operator Instructions] There appears to be no further questions at this time.

Okay. Well, that's the last question. I'd like to take a moment to summarize today's call. We're pleased again to achieve double-digit EBITDA margin despite a challenging business environment in Europe. We continued to make significant investments in new technology and manufacturing capabilities to enhance our product portfolio and expand our global footprint. As we look forward to the second half of 2012, we continue to closely monitor production volumes, and we'll flex our operations accordingly. Our highly capable global team, combined with our strategic investments, positions Cooper-Standard for continued growth. And thank you for your participation in today's call. Thank you.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.