Rogers Corporation (ROG) Q3 2012 Earnings Report, Transcript and Summary

Good morning. My name is Alisha and I will be your conference operator today. At this time, I would like to welcome everyone to Rogers Corporation Third Quarter 2012 Conference Call. [Operator Instructions] Thank you. Mr. Bruce Hoechner, President and CEO of Rogers Corporation, you may begin your conference.

Thank you, Alisha. Good morning, ladies and gentlemen. Thank you for joining us and for being flexible in the wake of Hurricane Sandy that caused us to delay our earnings announcement and call previously scheduled for last week. Our thoughts are with the many people of the eastern United States who were impacted by the storm. With me today are Dennis Loughran, Vice President of Finance and Chief Financial Officer; and Robert Daigle, Senior Vice President, Power Electronics Solutions and Chief Technology Officer. Slides for today's call can be found in our website's Investor section along with the news release that was issued earlier today. Dennis will dispense with the formalities and then we will get down to business.

Thank you, Bruce. I would like to point out to all our listeners that statements in this conference call that are not strictly historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. It should be considered as subject to the many uncertainties that exist in Rogers' operations and environment. These uncertainties include economic conditions, market demands and competitive factors. Such factors could cause actual results to differ materially from those of any forward-looking statements. Also, the discussions during this conference call will include certain financial measures that were not prepared in accordance with Generally Accepted Accounting Principles. Reconciliation of those non-GAAP financial measures to the most directly comparable GAAP financial measures can be found in the press release furnished with the current report on Form 8-K dated November 5th, which is also available on Rogers' website in the Investors section. I will now turn it back over to Bruce.

Thanks, Dennis. On Slide 4, you will find an overview of our performance by market and megatrend. As the pie chart demonstrates we continue to be well diversified by market. We expect our commitment to the megatrend focus areas of clean technology, Internet and mass transit to help accelerate the company's growth over the next few years. However, economic and market dynamics have impacted results in the third quarter. Megatrends accounted for 53% of net sales in the quarter down from 60% in Q3 of 2011. Hardest hit was our clean technology megatrend category where the ongoing slowdown in capital and infrastructure spending continues to impact demand for our Power Electronic Solutions for industrial motor drive and wind energy applications. On the positive side we have seen a significant increase in demand for our Power Distribution Systems into several projects in the automotive market. In Mass Transit, we have not yet seen the rebound in rail investment in Europe and China that we expect will drive demand for our Power Distribution Systems' products. As per the Internet megatrend, in mobile Internet devices, our high performance phones business continues to be a market leader in cushioning and sealing for tablet computer applications. But the drawdown of inventory and the supply chain due to the timing of tablet model changes affected our third quarter sales, and prevented it from being a stronger quarter. Sales were strong for our PORON XRD cushioning materials for mobile device cases also used in sports and pack apparel. In Internet infrastructure, our Printed Circuit Materials business showed strong growth in products that enabled the latest smart antenna technologies. Sales for base station power amplifier applications were up versus last quarter, a sign we believe indicates that the highly anticipated wireless infrastructure build is beginning to ramp. On the Wired Network side, our recent launched Theta high speed digital product has won several qualifications, but development of demand has been slower than previously anticipated. We have put our capacity expansion for that product on hold for now, as we work to align capacity with our latest view of market timing. Strong sales growth has continued for printed circuit materials used in automotive blind spot detection applications. These products continue to build momentum as more automotive platforms continue to adopt this new safety feature. Moving to Slide 5, we continue to build a robust pipeline of design opportunities as we partner closely with customers to develop solutions to their materials technology challenges. At the end of the third quarter, we were working on 793 design opportunities, up from 765 opportunities in Q2. In addition, we had a significant number of opportunities go into production during the quarter. We believe that our growing design pipeline is a key positive indicator of future revenue growth. Turning to Slide 6, let's look at the business segment performance results. For the third quarter of 2012, our businesses generated net sales of $130.2 million, a decrease of 11.6% from last year's third quarter. The majority of the decline was in our Power Electronics segment reporting a 35% decline. This segment was hard hit due to markets it serves, such as industrial motor controls driven by capital investment, and renewable energy markets that rely on governmental infrastructure investment. We believe these markets have bottomed out and we will begin to see improvements in demand by the second half of 2013. In comparison with the results for Q3 2011, High Performance Foams was down 3.5%, while Printed Circuit Materials achieved a 1% increase for the quarter. Sequentially, however, we achieved an overall 3% net sales improvement versus the second quarter of 2012, with both High Performance Foams and Printed Circuit Materials reporting strong growth at 10.9% and 7.2% respectively. Power Electronic Solutions declined 11.4% versus last quarter. Despite the difficulties we face in the global economy, we exit the third quarter with strong growth quarter on quarter in 2 of our largest businesses, and we believe that all of our businesses have strong growth prospects as we look towards the future. I'll now turn it over to Dennis to report our financial highlights.

Thank you, Bruce, and good morning again to everyone. Following on with the new slide presentation format, we've prepared several summary financial indicator slides, corresponding to the segments of my presentation. I will mention the slide number in advance of the respective comments. As reported in the press release, we reported a large third quarter GAAP earning result of $3.46 per diluted share, with the majority of that result related to benefits from net one-time discrete tax items that will be explained more fully later in my comments. Our underlying non-GAAP result of $0.69 per diluted share is what I would like to discuss as it represents a strong improvement in profitability in excess of what our original expectations would have been at the midrange sales level of our guidance. Turning to Slide 8, you will see there are streamlining activities contributed substantially to the results, with $4.5 million in quarterly cost benefit, compared to the $3.0 million we had built into our guidance projections. Of that total, $2.5 million benefited manufacturing margin, and $2.0 million represented lower SG&A expenses. That increase in the benefit is related to excellent results in labor, product yield, procurement savings, and efficiency projects implemented during the year. We expect these benefits to increase slightly to $5.0 million in the fourth quarter of 2012, and then provide that continued quarterly benefit in 2013 and beyond. Our gross margins are depicted on Slide number 9, with the third quarter of 2012 at 33%, as compared to the 34.4% reported in the third quarter of 2011. Approximately 30 basis points of the decline was due to one-time charges booked in this year's third quarter related primarily to the Bremen closure. The remainder of the decline was attributable to several factors. Loss contribution on our year-over-year reduction in sales contributed approximately 150 basis points of the decline, and negative absorption on lower production levels due to inventory reduction efforts accounted for approximately 160 basis points in reduced margin. Those factors were partially offset by 190 basis point improvement related to the $2.5 million in streamlining benefits to our manufacturing margin for the quarter. Turning to expenses on Slide number 10, selling and administrative expenses for the third quarter of 2012 and 2011 were $26.3 million and $27.5 million respectively. Third quarter 2012 includes $2 million of one-time expenses related to pension settlement accounting. The net improvement of $3.2 million quarter-over-quarter reflects streamlining improvements of $2.0 million in the 2012 third quarter, and $1.2 million net in lower compensation and other overhead costs, primarily related to reduced performance assumptions for annual and long-term incentive programs. With the benefit of our streamlining efforts, we expect our SG&A to be approximately $23 million during the fourth quarter of 2012. However, as reported previously, and in our current press release, we do anticipate severance and restructuring expenses during the fourth quarter of 2012 related to the relocation to Hungary of inspection operations of our Curamik Electronic Solutions business. Anticipated charges cannot be reasonably estimated at this time and, as such, no anticipated costs have been accrued to-date, and our guidance for the fourth quarter does not include any costs related to the project. Research and development expenses were $4.8 million or 3.7% of sales in the third quarter of 2012, as compared to $5.4 million or 3.6% of sales in the third quarter of 2011. In the near term, we expect our R&D spending rate to be in the range of 3.5% to 4.0% of sales. Tax impact. There is no slide. However, the third quarter rate is worthy of some additional explanatory comments. During the quarter, we had net discrete favorable tax adjustments totaling $50 million related primarily to the reversal of a reserve, originally taken in 2009 against our U.S. deferred tax assets. That reserve resulted from the assessment at that time that our ability to utilize the deferred tax assets was questionable, largely due to historical losses in our U.S. operating results. The reserve was reversed in Q3 due to the improvement in our U.S. operating income during the past 3 years, and projections for future sustained operating income. We project that our effective tax rate for the fourth quarter of 2012 will be approximately 25%. Turning to Slide number 11. Rogers ended the third quarter with a cash and cash equivalents position of $91.1 million, as compared to $95.8 million at June 30, 2012. As represented in the slide, we've continued to manage cash in a manner to maintain sufficient liquidity reserves for our current and future needs, despite the overall depressed economic conditions in our markets. For the third quarter of 2012, the net decline in cash was primarily attributable to capital expenditures of $5.7 million, a one-time pension settlement payment of $6 million, and long-term debt repayments totaling $14 million, of which $11.5 million represented a discretionary repayment against our credit revolver, and $2.5 million was scheduled repayment against our term loan facility. These uses of cash were partially offset by strong cash flow generated from our operations. Our combined debt payments of $14 million resulted in a quarter-end balance of $106 million on our outstanding long-term debt. That balance, offset by our cash balance of $91.1 million, resulted in a value of net debt in excess of cash equal to $14.9 million, a value that has improved $43.5 million in the past 4 quarters. During the quarter, we also achieved a significant inventory reduction of $4.6 million improving our tracking metric to 10.4 weeks of supply from last quarter's level of 10.8 weeks. Year-to-date, we have lowered inventories by $8.3 million or 10.5% from the end of 2011, and as quarterly sales have increased, improving our metric from a peak of 12.5 weeks. Other metrics remained comparable to our prior quarter. This concludes my remarks and I'll now turn it back over to Bruce.

Thanks, Dennis. This concludes our prepared remarks and we'll now open up the call for questions. Alisha?

[Operator Instructions] And your first question comes from the line of Daniel Moore from CJS Securities.

First the -- just a clarification that the you're up to $5 million quarterly benefit from the cost savings and restructuring and all of the strong moves that you have taken over the last several quarters. Does that number include the benefit of moving the Curamik operations to Hungary?

No, it does not. It actually doesn’t include 2 benefits. The Bremen closure is being enacted and will be finalized early in the first quarter. So, the quarterly benefit from the Bremen closure, which is -- would be one quarter of that $1.4 million operating estimate that we've given out would start probably in the second quarter. And then the Curamik move of finishing operations would be starting late in the fourth quarter of next year once we've had that whole operation moved and then completely closed down in Eschenbach.

You obviously don’t have an estimate for the costs for Curamik; I assume you don’t have a estimate for the cost savings yet either?

Correct, and that mainly relates to the union negotiations and actual determination of the number of people and the final operation size in Hungary.

Perhaps you elaborate a little bit more around the Theta, around the issues that are, sort of hampering the development of the opportunities there and whether or not the delayed CapEx is for the quarter to quarter or more of a we'll be revaluated in 6 to 12 months time frame?

So, first, we are still seeing some good wins in the smaller applications, in the smaller programs with our Theta, but what we found was that the qualification cycle particularly for the larger opportunities was taking 12 to 18 months. And so, we hadn’t hit our sales targets, our sales goals that we had anticipated, and so we took the opportunity to decide to delay the installation of the press in Arizona. Now, what this does for us, it give us some flexibility because we are also considering utilizing that press to cover some other demand that we see growing, particularly in RO-4000 world. As we look into 2013 and 2014 for demand capacity balance there is an opportunity to redirect that press for those products. So, what we are doing is looking at that capacity situation and saying okay, let’s make sure that we have got enough to cover demand that we know is coming or we are very sure that’s coming, and then also looking at how we are progressing in our market as we do the development work with the Theta products.

And lastly, just switching gears, R&D you've obviously been able to manage extremely well down in the 20%-plus range. Do you expect as you look out to 2013 to start to tick back towards a more normalized 4% to 5% of revenue?

Absolutely. I think we're at a stage now where we're doing a lot of work in the market doing our technology and market roadmapping to understand specifics needs and longer term needs that require that R&D and the development activity. As we look forward into 2013, we're looking at bolstering our core R&D organization to start to work through the identified targets and opportunities as we've gone through this roadmapping exercise. So, this is, I would say, a low point right now for our R&D and frankly not a place I want to stay. I think our company is a technology company, I know it is, and we need to make sure that we're making the right investments. And I think as I said previously, we will only make the right investments when we fully understand the customer market needs and that we've got clear projects, and that’s what we're working on defining right now.

And your next question comes from the line of Avinash Kant from Davidson & Company.

So first question on the Theta product. In the past you've kind of projected not huge revenues from this one in this year at least maybe roughly $2 million to $5 million or so, and you had kind of anticipated maybe roughly $10 million or so could come in, in 2013. Now, with the moderation in -- or basically the extension of the timeline that you've seen, what's your expectation of revenues from the Theta product this year and next year?

Well, we never really stated specifically what our revenues would be in the shorter term. We had always said that we were looking for about a 15% market share in 2017. And so, we're still looking at that as the target. As I pointed out earlier, the cycle time for approvals and spec-ins is longer than we anticipated. So, longer term, we believe the market is still a great opportunity for us. It's a question of timing right now that has really put us on hold on the capital.

But you would not expect the revenues to reach double digits in 2013?

At this point, no, again because of the cycle time extensions that we've discovered here.

Then on charges, last quarter when you talked about the charges, and I'm not talking about the one that you have for taxes. But if those tax numbers and that you are kind of talking about roughly $0.15 or so in charges, looks like you have $0.17 or so in the charges. So could you just give us the slight differential that you saw $0.15 to $0.17 where did that come from?

It was -- there weren’t any new activities, it was really just the level of severance and shutdown cost related to Bremen and the settlement accounting. So the 2 activities that we have mentioned were the same, just slightly different levels of expense, probably some equipment obsolescence of the part of that estimate will probably is the 2 biggest things that might have changed a little bit, Avinash.

And then on that front of course going forward for 2013, how should we think of the tax rate going forward? And also if you could give us some idea about what's your expectation of gross margins and operating margins in the Q4 guidance that you have given us?

In the go forward Q4 guidance, we are looking at a slightly improved at the mid-range of our guidance would be about 34% gross margin and when you look going forward, as we have always said, and we mentioned in our comments, we believe our go forward contribution on increase in sales can be in that 40% to 60% range depending on business. So, contribution level of 50% will improve our gross margins next year on whatever we end up coming at with growth in sales. I haven't calculated that yet, but we are expecting that kind of incremental benefit, and that would improve our gross margins going forward. Tax rates we have always maintained at the thing of probably between 25% and 30% depending on the mix of where our earnings are and these certain discrete tax items that seem to impact us going forward. We certainly -- that the kind of numbers at 25% is still at the low end of that range just because of the way things are hitting this year, but for your model or models or whatever in the mid 27% to 28% is probably the best way to go right now.

And just any operating margin assumptions for Q4 and what was the depreciation and amortization for the current quarter?

In the current quarter we had 6.0% of depreciation and 1.1% of amortization.

Million right. Total $7.1 million?

$7.1 million, yes.

And in Q4 you talked a little bit about the gross margin assumption for the mid-point at 34%, what should we think of operating margin roughly in the order?

Well, we're looking at the SG&A of $23 million is our guidance and R&D probably in the pretty close to what it was last, about 3.8%.

[Operator Instructions] Your next question comes from the line Jiwon Lee from Sidoti & Company.

Just wanted to circle go back on the fourth quarter guidance, if you could talk a little bit about the revenue assumptions for the key operating segments first please.

Jiwon, when we look at our projections, Bruce had mentioned that we believe the Power Electronics, which is power distribution and Curamik holding fairly steady and with the other businesses -- and Bruce had mentioned sequentially growing fairly strong in the third quarter over the second. I believe we're looking at about a 3% average growth between Printed Circuit Materials and our High Performance Phones.

So overall, the whole Curamik side, you are expecting that business to be sequentially rather flat?

Yes, if I can find it.

Yes, it's kind of bottom down here, and that's kind of what you're seeing European side as well as your export market right now?

I'll let Bob comment.

Yes, so Jiwon, I think you got to think of that market on a global basis. So a lot of it is, in terms of a slowdown as Europe and lot of it is frankly China as well. So as the economy in China has softened, that has been a headwind frankly for the -- in the power electronics business because a lot of it is tied to CapEx and infrastructure. So, the question is going to be as the new government steps in China and they start to ramp up. Hopefully they start to ramp up investments, how that flows through to the industrial guide market.

And then just the inventory comments, I may have missed it. Is that sort of kind of where you want to be? Were there some specific product lines or areas that you wanted to drive a little bit further down?

We were -- when you looked at what we we've been doing this year, trying to get to 9.5 to 10 weeks of supply in overall metrics, so we think as we grow, we'll probably try to hold the line on dollar value [ph] of inventory and let that metric improve with growth. Certainly as we started this year, our Printed Circuit Materials inventories were the highest in terms of our metric because this was the year that we were -- had dual supplies and we were ramping up our laminate facility in China. So we had to make sure we had enough backdrop materials around the world in case the qualifications were longer term, which they ended up being. So that's the one that I believe we've brought down most significantly this year from probably in the mid teens weeks of supply down to closer to our average.

Terrific. And lastly for me, you mentioned some model changes in the tablet and the smartphones inventory pool is not enough. So, in the fourth quarter you're expecting that market at least to be I guess, up a little bit, correct?

Yes. Actually it was some of the model changeovers in the table computer side that dipped down our demand in Q3 and that's fully a move through the system now. And we are anticipating a very nice rebound in Q4.

And your next question comes from the line of Shawn Severson from JMP.

Bruce, I was wondering if you could give a little more color on how you think China plays out, and obviously you've had a lot of experience over there and you have environment [ph] change coming. But what's your estimate as far as what's going to happen and how that will flow through and impact Rogers throughout 2013?

Well, I think first of all, we'll be looking at first and second quarter of 2013 for some of the stimulus programs to roll through. I believe the difference this time versus the 2008/2009 stimulus is, it is going to be very, very well directed. I don't believe that the government wants to have a broad approach. And I think if you look at their 5 year plan, those industries that they've targeted in there for growth will continue to get the funding. So, how that reduces to practice for Rogers is in a couple of areas. I would say the rail infrastructure, we have seen investment starting to go. Most of that right now is in the rails itself, the infrastructure of the rail and track and so forth. What we anticipate is in the first half of next year we'll start seeing that demand grow for locomotives and so on. So we'll see some of that flow through from that part. We also continue to see the build-out in 3G and the beginnings of 4G infrastructure in China. And so, we've seen the ramping of that. And while that is not necessarily directly part of some of the stimulus, it's certainly is related to the growth of the economy that the government wants to pursue. So, that's another very positive sign for us at Rogers.

And if I recall correctly, I believe you're about 30% off of your peak China revenue, is that correct, is that still the case I guess?

35% I believe.

About 35%

In Power Electronics?

Just in general. If you look at your business in China and the impact the slowdown has had over there versus kind of the ramp you had a couple of years ago you've seen 35% across the business units. So is that representative just of Power Electronics?

Yes, Shawn, it's Bob Daigle. That would be specific to Power Electronics that we're off, and if you look at the rest of our business, we're actually up in circuit materials and up in the foams area. So most of this decline has been specific to Power Electronics because so much of it is tied to infrastructure spend, which was being driven by a large degree by investment in China.

Yes. And just on the 4G in China the 90% design in metrics still holds right. So I mean you still haven't seen Rogers to rollout in China for 4G you've had in other parts of the world?

Right. So -- so the 4G they in China -- first of all, yes. We're about 90% market share in those base stations and that is still a small scale test program in about 10 or 15 cities I believe that they're putting in the 4G. So they'll continue to build-out the 3G, switch over to the 4G, and we think that will happen may be in a accelerated basis towards the second half of next year that the 4G will start ramping.

Okay. And then just last question from me going back to the U.S. and LTE spend, it looks like it's picking up a touch, but what is your -- I guess the lead times that you would see and what are you hearing through the channel as far as new chatter that might you would be an indicator that it really is picking up and when it does, is it like a 4 week, 6 week, 8 week type lead time for you, I'm just trying to figure out how far in front of an actual build-out it will be?

You're talking about for infrastructure in 3G and 4G, Shawn?

4G specifically in the U.S. with LTE. I want to say everybody's invaded 4 [ph] for the year, kind of curious just obviously I needed CapEx?

Yes, there is we're starting to see some increase in demand there, certainly in the fourth quarter we anticipate some. We believe that the inventory has been run down quite a bit through the supply chain. So we are starting to look at making sure that we are producing in anticipation of the demand coming forward in Q4 and into Q1.

So there is anticipation in other words there is some signal throughout the channel that there are going to be some those stations installed over the next 6 months then. It will require you to obviously start producing more.

Yes. That's we've seen a broad base from a number of our customers demand forecasts moving up.

And your final question comes from the line of Daniel Moore from CJS Securities.

You saw a nice improvement in the high performance phones in JV. You alluded to that being a bit of a seasonal uplift or are you seeing little bit more sustained strength in those businesses?

Well, our view is that it is seasonal build for Christmas Holiday Season. We've seen I would say an uptick in general, but certainly the bounce that that we saw in Q3 was in anticipation of that -- of a bigger holiday season for those products. But our belief, we had seen over the last year or so a real sort of bottoming out of that market and we're seeing it start to climb back even beyond this bump that we're anticipating for the holidays.

Appreciate it and look forward to seeing you in the conference in January.

And we have no further questions in queue at this time. I now turn the call back over to Mr. Bruce Hoechner for closing remarks.

Thanks, Alisha. For the fourth quarter of 2012, we forecast net sales between $129 million to $135 million, and earnings from continuing operations on a non-GAAP basis excluding any special charges between $0.69 a share to $0.79 per diluted share. Rogers remains focused on improving our execution, identifying new growth opportunities, and managing the areas that are within our control. As technology leaders in our key markets, we are seeing positive indicators of continued growth in our high-performance phones and printed circuit materials businesses. In Power Electronic Solutions, we are not seeing a rebound yet. But we are aligning our cost structure so that Rogers will be in a strong position to deliver even greater value to our customers and shareholders in the years to come. Thank you for joining us today on the call. Have a good day.

And with that ladies and gentlemen, this concludes today's conference call. You may now disconnect.