Good day, ladies and gentlemen, and welcome to the Second Quarter Drew Industries' Earnings Conference Call. My name is Bree, and I'll be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. At this time, I would like to turn the conference over to your host for today, Mr. Jeff Tryka, Drew's Investor Relations firm. Please proceed.

Thank you, Bree. Good morning, everyone and welcome to the Drew Industries' 2012 Second Quarter Earnings Conference Call. I'm Jeff Tryka, with Lambert, Edwards, Drew's Investor Relations firm. And I'm joined today on the call by members of Drew's management team, including Leigh Abrams, Chairman of the Board of Drew; Fred Zinn, President, CEO and the Director of Drew; Jason Lippert, Chairman and CEO of Lippert Components and Kinro and the Director of Drew; and Joe Giordano, CFO and Treasurer of Drew. We want to take a few minutes to discuss our second quarter results. However, before we do so, it is my responsibility to inform you that certain statements made in today's conference call regarding Drew Industries and its operations may be considered forward-looking statements under the securities laws. As a result, I must caution you that there are a number of factors, many of which are beyond the company's control which could cause actual results and events to differ materially from those described in the forward-looking statements. These factors are identified in our press releases and in our Form 10-K for the year ended 2011 and in our other filings with the SEC. With that, I would like to turn the call over to Fred Zinn. Fred?

Thank you, Jeff, and again, thank you all for joining us on the call today. Drew's sales growth during the second quarter and through July continued to substantially exceed industry-wide growth in our end markets. Our sales growth was primarily the result of our acquisitions, new product introductions and continued focus on new but similar markets, which we call adjacent markets. In our first quarter conference call, I said that achieving favorable returns on our acquisitions and other investments was among our top priorities for 2012. While the results of acquired businesses and other investments did improve in the second quarter, our consolidated profit margin, while good by many measures, did not meet our expectations. The reasons for these are addressed in the press release. As the RV selling season winded down over the balance of the year, our sales were slow and our excess overtime and related costs should naturally diminish. That's not the real issue, though. Our real goal is to implement plans so that we'll be prepared for that increased demand that we expect next selling season, the next spring, and even beyond that. And that's why we've done long-term strategic planning, resource planning and shorter-term operational planning. The exceptional increases we experienced in the demand for our products is obviously a very positive development and it gives us the opportunity to achieve significant future profit growth. Now we have to capitalize on that opportunity. I assure you that management continues to devote its attention to specific action plans that resulted from our strategic and resource planning to improve our results. These steps include increasing physical capacity, continuing to develop our pool of talented managers, investing in automation where appropriate and expanding the capabilities of our support systems. We're committed to continuing our long-term track record of…

Thank you, Fred. Before discussing our results, I want to point out that for greater clarity, we have reformatted our press release. Rather than including certain information in the body of the release, we have provided the same supplemental information in tabular format on an additional page of the release. Please let me know -- let us know your thoughts on this new design over the coming weeks. Turning back to the results. Net sales for the second quarter of 2012 reached a record $251 million, and sales for the 12 months ended June 2012 exceeded $800 million, also a record for any 12-month period. These strong results are the outcome of our customer first focus and our ability to execute our sales growth strategy of completing acquisitions, introducing new products and growing market share. Content growth and travel trailer and fifth-wheel RVs is one of our strategic goals. And for the 6 months ended June 2012, which included the full effect of the 2011 acquisitions, our content for travel trailer and fifth-wheel RV increased 19% to $2,676 per unit, as compared to nearly $2,250 per unit in the first 6 months of 2011. Approximately half of this content growth was due to acquisitions, with the balance of this increase in content resulting primarily from our increased product offerings over the last several years. During the past decade plus, we have consistently been able to grow sales through new product introductions. For one example, we introduced our RV entry doors in late 2009, and in just over 2.5 years, our market share is over 50% and we have annual sales in excess of $30 million. One of the latest in the long list of new products introductions is our new Solera awning product line, which we introduced in the latter…

Great. Thanks, Joe. And operator, you can now open it up for questions.

[Operator Instructions] Your first question comes from the line of Scott Stember with Sidoti & Company.

Could you guys talk about some of the costs that we have in the quarter and when we could likely see an abatement of these costs?

Sure. As we said and as I said in my prepared part of my speech, the costs were largely related to the unprecedented demand. Remember, in our RV segment, in particular, our sales were up 39% in the second quarter. We had 1,100 more employees in June 2012 than we had in June 2011. And think about the costs that are involved in training and supporting 1,100 more employees, the learning curve that those employees went through. We did what we had to do to meet the increase demand and maintain our commitments to our customers. We spent what we had to spend to make sure that our customers’ needs were satisfied. Certainly, the increase in demand is a very positive development, and you can't really accomplish the kind of profit growth we expect without increasing demand for your products. So that was the natural and very important first step. And you can't keep that kind of sales growth unless you meet the customers' needs. So we have to be on time with that delivery, we have to have quality products. And to do that this quarter, we spent some money because of the unprecedented increase in demand for our products. Now in terms of the timing, as I said in my prepared remarks, the RV selling season will wind down in the fall and by the end of the year, and our hiring will return to normal, so our overtime and related costs, hopefully, will diminish greatly, excess costs diminish greatly. But you should be aware that as our sales volumes decline over the balance of the year, as the season slows in the fall, our profit margins typically decline as well, so the improvement in our production efficiencies will be meshed to a certain extent anyway. But at this point, Scott, we do anticipate that will show margin improvement in Q3 compared to Q3 of last year. Jason, anything you want to add to that?

Just I think it's important to note that our industry typically doesn't do any kind of real high-level forecasting, as it's hard to know what's going to happen. So if the industry turns on a dime like it did this year and fires up and stays fired up as long as it did, we're kind of taking that week by week, so that was one of the difficult factors. But the season's winding down now, our labors are already coming down, so some of those comps are trying to come back in the check as we speak.

Okay. The second question on aluminum extrusion operations. You talk about how much or how self sufficient you are right now with these operations and how you plan to sell product outside of your our own operations?

Well, the extrusion operation is coming along. We're continuing to increase our output and supply a significant portion of our own demand, and we still see significant potential for selling to outsiders, for the RV industry and other industries in our shipping region. And Jason, anything you want to add to that, any specifics?

Yes, to answer Scott's question specifically, I mean, we're just supplying a fraction of our own needs right now, getting used to the equipment and gaining production on a regular basis. And it will be several months yet before we get really to the outside. We got to tackle 100% of our inside business first. But we get closer and closer every quarter.

That's great. My last question's just talking about the comments that you made about the July sales and that something about inventory shipments being up, that's being up 20% to 25%. Is that year-over-year gain or just a function of last year's sales heading off so much heading into the open house event?

Yes. Well, last year's July industry or travel trailer and fifth-wheel production was down about 9%.

9%, correct.

So it's certainly against the 20% to 25% increase is against easier comps, no doubt. And it wasn't as if the industry staged down for a couple months before that and a couple of months after those kind of a onetime thing last July, so it's easier comps.

Yes, I was just trying to get a sense of the cadence heading into July. What we're hearing is that there was similar dealer reluctance to take on inventory heading into the open house event in September.

Well, I think the orders for July or -- excuse me, for August are pretty good, so I don't see that now. Jason, do you see anything on the part of our customers to produce or dealers?

No, I think the fact that July is up so heavy and we talk about 50%, that's a signal that it's not letting up. So I'm sure there's certain dealers out there that are letting up a little bit and more as we get closer to the open house event. But like I said, August is looking really strong. We'll see a few weeks leading up to September, some people back often waiting to take product until they see what's new and exciting with the open house.

Your next question comes on the line of Daniel Moore, CJS Securities.

You mentioned you expect sequential or -- excuse me, year-over-year margin improvement by Q3 gross margin as well as the operating margin, is that correct?

I'd actually have to take a look at it. And Joe's shaking his head yes, so I'm sure it is, certainly, in terms of operating margins and income margin we do expect to improve.

Perfect. And the sell-through adjacent industries obviously continues to accelerate. You mentioned awning. Maybe talk a little bit more about some of the other products that are gaining traction and driving that growth?

Yes, Jason, do you want to talk about other products, add color on...

I think we touched on the entry door product which isn't new, obviously, but we still continue to gain more there. Awnings, I'd say, we obviously started kind of toward the end of calendar 2011 and we took on a of couple of accounts early this year just to get the bugs worked out and get the customers somebody with the product and really listen to them to see what they thought we can improve before we want to mass market with the product. And now, we're starting to really ramp up volumes. So it's a good of a product launch as we've had. You compare it to entry doors or leveling or any of the other big launches we've had in the last couple of years. It's successful so far, it's being well received and we've got a lot of new and increased benefits over what our competition has, so we're happy. We're starting to get some aftermarket penetration, too, already, so we're feeling pretty good about it. Leveling is another big area, new product and it's, every quarter, we're seeing more and more dealers and retail customers trying to tug at the OEs to put more of that on their products. So that's a huge part of our content growth right now is leveling.

And those things that jumps out at me when I look at the numbers, it increased in our content per motorhomes. And I think a good portion of that is driven by the acceptance of new in wall slides. So that's another product that, as we've expected, it's not entirely new. I think it was January, February 2010 that was originally introduced, but it's really starting to gain momentum as well.

That's helpful. And lastly, maybe just talk a little more qualitative but talk about given all the acquisitions over the last 12 months and new product introductions, to what extent did all of that activity sort of exacerbate the challenge of handling an unexpected spike in demand over the last 2 quarters?

It's hard to quantify, but I would say, it certainly did exacerbate it. We took on a lot of new volume, we didn't expect the industry to grow at the levels that it has grown this year, so we didn't expect the kind of flow through our factories of all these new products. We didn't expect the level of customer acceptance of some of our own new products, so each of those was a piece to the puzzle. But you're right, it certainly did have an impact on issues we had this quarter.

[Operator Instructions] Your next question comes from the line of Jamie Wilen with Wilen Management.

A question about acquisitions. A lot of the acquisitions that you've made have been small companies, undercapitalized, with an interesting product line that you were then able to take and expand in the industry. How could these guys have handled that type of upsurge in business, and does that -- and do even more to the -- to your people you're selling your products to as you gain new product lines?

Well, if I understand your question right, I think it did probably -- well, we're obviously larger and better equipped to handle the surge in demand than a small company. There are at least several of them that are kind of focused on one product or one product area, so they didn't have the complexities of at the same time, introducing their own new products and the surges in demand on other products that they may have had. So I think ours is a little more complex. But I think that given all of that, we handled it well. And the bottom line and most important thing is that we kept our customers satisfied. We've met their needs. I'm not sure that companies we acquired, the operations we acquired could have or not.

As you expand your business and have hired all these people, what's the optimal level to run your plans? Do you try to run 2 shifts a day or, I mean, when you're hiring all these people, you're not just opening up multiple plants? But what's the most effective way to run your business?

Jason, do you want to address that?

Yes, typically we're running a one-shift operation or a one-shift operation at 45 or 50 hours. But we run some secondary shifts and even some third shifts that some of our plants with explosive growth we've had. So that's all has really helped us as we get into uncertain times, where growth might explode a little bit more than what we think. And we've got second and third shift capabilities ready to ramp up if we need to. But not typical plant run as one shift. And with the complexity of some of our products, it's easier to train the employees and just do one large per shift.

So that means, as business grows, you're going to have to open up more and more of the mothballed facilities as opposed to use the existing footprint?

We don't have too many mothballed facilities right now. But we just opened up one here the other way, just a couple of weeks ago, so we've also purchased a couple of facilities to here recently so -- because of the need for expanding capacity. But when the capacity needs arise and we typically got our eyes on building space and in the area that we think would be good, we know -- we kind of know what products are going to grow and what spaces we're going to grow out of and are planning well ahead where to move those, if volume does get too big to the point where we need to move out of one plant and expand into another.

Basically, were all your plans running at 100% capacity during this point in time was there's no real ability to shift from one plant that was not?

Well, again, if you consider capacity, multiple shifts and we expanded to 2 shifts at some plants and 3 shifts at 1 or 2, we still had quite a bit of capacity but the problem becomes as quick as the business comes on, our ability to handle that and train -- we hired 1,000 employees in the last 6 months. So the ability to hire, get good employees and train them in a short period of time, that's really the bottleneck. It's not having the space so much. We can get at that pretty quick, if that answers your question.

And lastly, with hiring of 1,000 employees, you've been through this routine many times over the last decade. Higher unemployment rates, were we able to hire employees at lower rates than we have in the past?

Before -- let me just tease out there, Jason. I think the issue is it's not only us that's hiring, so the whole RV industry, which is centered in the North Indiana is hiring, too. There's competition. So Jason, do you want to give a specific?

Yes, I've often told people the same thing, it's just it's heavily concentrated in the RV and housing business. The county is, Elkhart County area is where we work and everybody goes to the well at the same time. I mean, it really taps out the people there in the community looking for work. And as you probably know, just because there's 8% unemployment or whatever the number is, it doesn't mean that you got that many people that are looking for work. There's a lot of people that are sitting home, really not motivated to work -- they come to work and people maybe make $100 or $150 more a week than what they're earning on an unemployment. It doesn't necessarily motivate them to come to work 40 hours a week.

Your next question comes from the line of Kevin Leary with Spitfire Capital.

Quick question on gross margins. So gross margin declined about 400 basis points year-over-year, and in the press release, it's disclosed that production inefficiencies was about a $3 million cost, which looks like it accounts for about 1/4 of the decline in gross margin. Could you just expand a bit on what else is impacting your gross margin this quarter other than production inefficiencies?

Let me get that into apples-to-apples for you. The $3 million is a net income number. So if you take that on a pretax basis, you're probably closer to what, let's just say, $5 million or $6 million impact on your gross margin numbers. And now when you put that over the $250 million, you're at 2.5% to 3%.

And some of the shifts between the gross margin and below the line too in terms of our incentive compensation plan, so correct.

Correct. So you're probably about 3% is really what's explained in the efficiencies and stuff we talked about.

Okay. Are new products and adjacent markets, I assume those are starting out a lower gross profit margin? Would that explain maybe the rest of it? And is there a roadmap -- or can you talk about the roadmap for the rest of the new products to reach sort of company gross profit margin levels?

Yes, I think it's kind of a rolling forecast. You're right, some of the rest of the difference is due to the newer products. And we will, as we grow in those areas, initially we'll have lower margins. And as products mature, whether it's the aftermarket products or awnings or other products, we'll hopefully recover some of those margins because we'll be more efficient. So it's hard. I can't give you an exact picture, but I think there's a significant impact on margins because of the strengths of the growth in these new markets and new products. And some of the balance of the margin deterioration is because of all the scrap and even maybe more importantly, or as importantly, the outsourcing we had to do because of the increased demand in certain product lines where we often supply some of our own, let's say, components, but we weren't able to do that because we were at capacity of those components of raw materials that we create ourselves. So those are the 3 pieces. Most of it is in labor undoubtedly. And even part of this other stuff is caused by those same issues, the fact that we were pumping so much product through the facilities that we had to go outside for some sources of supply...

And to add, when we're looking at adjacent markets or a product like awnings, leveling systems that are relatively new, I mean, it takes us a couple of years to generate the volume to really be able to command the raw materials prices we end up once we generate that kind of volume. So we always start out with a product like awnings or new products in adjacent markets with heavier raw materials and what we end up with a couple of years down the road after we really generate the volume in those product lines.

Okay. So then it's fair to say that most of these new products are completely capable of reaching Drew's core gross margin. It's just a matter of time that there aren't any structurally lower industries that you're entering?

Yes, I don't know whether they want us to be a couple of points higher, a couple of points lower, whether it's the aftermarket or trailers or buses. But it should be in that general range, yes, I would accept we have that expectations.

There are no further questions at this time.

Very good. Well, I appreciate the time that you've all devoted to Drew and your interest in our business. And we look forward to speaking with you again next quarter when we report our third quarter results. And thank you all again.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation and have a wonderful day.