Valmont Industries, Inc. (VMI) Q1 2008 Earnings Report, Transcript and Summary

Good morning. My name is Vonda, and I will be your conference operator today. At this time, I would like to welcome everyone to the Valmont Industries First Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you. I would now like to turn the call over to Mr. Jeffrey S. Laudin, Manager Investor Relations. Please go ahead sir.

Thank you Vonda. Welcome to the Valmont Industries first quarter 2008 earnings conference call. With me today are; Mogens Bay, Chairman and Chief Executive Officer; Terry McClain, Senior Vice President and Chief Financial Officer; and Mark Jaksich, Vice President and Corporate Controller. Before we begin, please note, this discussion is subject to our disclosure on forward-looking statements which applies to today's talk and will be read in forth at the end of the call. The instructions for accessing a replay of the call can be found in our press release. I would now like to turn the floor over to Terry McClain, Senior Vice President and Chief Financial Officer. Mogens is here with a cold and has asked Terry to conduct the call.

The cold call.

Good morning and thank your for joining us. Let me begin with the first quarter highlights. First, we had record first quarter sales, operating income and net earnings. Second, operating income increased 51% and net earnings increased 59% on a 24% increase in sales. First quarter irrigation results were very strong with revenues up 41% and operating income increasing 83%. Sales in the Engineered Support Structures segment increased 19% and operating income rose 16%. Utility segment operating income increased 54% on a 26% increase in sales. And the Coatings segment sales increased 4% and operating income rose 26%. Overall, the first quarter was a very strong quarter in terms of operating income performance. Before I review the results by segment, I'd like to make a few general comments about three important aspects of our business; global infrastructure demand, the state of the agricultural market, and inflationary pressures. Infrastructure investment plays an important role in the economies development and health. Economies that invest heavily in infrastructure experienced sustained GDP growth. Many countries, we have... have long-terms plans to support infrastructure investment. We are fortunate that Valmont's exposure to infrastructure investment is broad and diversified. We manufacture poles for lighting, traffic and sign structures. We also manufacture steel and concrete structures for the utility industry. And we make wireless communication poles, towers and components. We have facilities in North America, Mexico, Western and Eastern Europe, North Africa, and China. This broad exposure reduces the impact of weakness in any one country or in any one market. We believe that over the long tem, solid infrastructure spending is necessary for economic growth, and a sustainable driver for our business. In agricultural markets, the supply and demand characteristics for basic feed grains are tight. While competition between feed grains for food and biofuels is having some impact on grain demand, the greater driver is the increased size of the middle class in countries, such as India and China. This new middle class is moving to a diet richer [ph] in meat based protein. To support this dietary improvement, more grains are fed to poultry and livestock and this has led to increased feed-grain demand. The long-term nature of this development has caused in the shift in the way we think about our irrigation business. The shift from a global farm economy governed by supply to one driven by demand is significantly altering the economics of agriculture. Traditionally, commodity prices increased, primarily because of supply interruptions. Today, the increased demand is driving down safety supplies or what's called carryover stocks, and this has been through for the last number of years. We believe that over time this change will lead to an increase in Valmont's irrigation revenue growth characteristics from its historically single-digit revenue growth profile. On the inflationary front, the price of hot rolled steel increased over 20% during the first quarter, and further significant increases have been announced. In 2004, we faced similar steel price inflation and we're able to successfully manage through it. The current environment, while similar in terms of speed and severity of the price increases, will have its own unique challenges. We are particularly concerned that the steel industry may not honor contractual agreements and pricing arrangements. Overall, we believe we are well positioned to manage the current inflationary environment. Sharp and rapid increases in steel that cause prices to inhabit demand or impact availability, along with further deterioration of the economy could alter our outlook. Let's now review the first quarter results by segments. I will begin with Engineered Support Structures. The driver of higher sales was strong performance in our structural sales in China and an increase in activity in Europe and in our North American wireless communication business. China's future needs and infrastructure will be significant. In North America, physical volumes were somewhat higher in our lighting and traffic business, and our investments in Tehomet in Finland and West Coast Engineering Group in Canada improved sales comparisons, since neither company's results were in last year's first quarter in numbers. The inauguration of West Coast Engineering Group is on track. This joint venture should prove to be a very good investment for Valmont, as well as a driver of the expansion and growth for West Coast Engineering Group. Recently, there has been interest from investors about Valmont's exposure to the housing sector, and the impact of related state tax revenue reductions. Our exposure to the house in sector is related to two areas. One is the sale of lighting instructors to electrical utilities for installation in new subdivisions. And the second is our commercial lighting business, where we provide lighting products for street malls, and shopping centers. So while we do so into these markets, these areas combine represent a small amount of total corporate revenues. We also supply structures for the transportation infrastructure industry. In North America, the principal source of funding for this market is the United States Federal Highway Bill. At federal level, gasoline taxes provide some of the funding for the bill. States are somewhat dependent on the Highway Bill funding, but also pay for highway projects from their general and other funds. Currently, some states are proposing reduced spending, which may lead to pockets of weakness. However, since we do business across North America, we have not experienced a decline in orders or quotations for our transportation business today. In the Utility Support Structures segment, sales increased 26% to $101.2 million. Increased volume, the additional sales from PennSummit, operating leverage and improved pricing led to operating income increases of 54% to $14.7 million or 14.5% of sales. Our utility business continues to deliver outstanding results. Throughout the decade of the 90s and during the first part of this decade, investment in the transmission grid did not keep pace with growth in the economy. Both regulators and utility industry recognize that there is a shortfall in transmission infrastructure that can impact the reliability of the system. As a result, there have been great strides made since the passing of the 2005 energy bill to narrow this gap. To further increase reliability and promote movement of electricity between states and utilities, additional transmission capacities still must be added. This is the dynamic, largely where sustaining the increased demand, we see in our utility business. In discussing the future with our utility customers, we believe the remaining substantial investment yet to be made. In the Coating segment, first quarter sales of $35.1 million were 4% higher than last year due to the strong demand from our internal customers and improved industrial demand. Higher activity in the agricultural machinery sector is also driving demand for our coating services. Operating income rose 26% to $6.6 million or 18.6% of sales, as a result of improved volumes and manufacturing efficiencies. In the Irrigation segment, sales were 41% higher at a $130.8 million. We had a good first quarter selling season in North America, following a very strong fourth quarter performance. Irrigation segment operating income increased 83% to $22.4 million and were 17.1% of sales. Our irrigation business is very robust, and higher farm income and need to increase farm productivity, all at the same time conserving water is leading to increase sales of our efficient irrigation equipment. Turning to other financial measures, increased inventories and accounts receivable largely reflect higher activity levels. Inflations impact on inventory valuation and currency translation. Additionally, the investment in PennSummit Tubular and West Coast Engineering Group led to higher inventory and accounts receivable. Depreciation and amortization for the quarter was $9.5 million, and capital expenditures were $10.9 million. In 2008, depreciation and amortization is expected to be between $35 million and $38 million, and we expect capital spending to be between $60 million and $70 million. In summary, our outlook for this year is quite positive. In our structures business increased investment in infrastructure around the world should provide solid support. In our utility business, we expect investment in the electrical transmission grid to continue to grow, and in our coatings business conditions in the industrial economy will largely dictate results. In the irrigation business, we are very optimistic based upon the need for farmers to improve the productivity of limited land for feed-grain production. Agriculture already uses two-thirds of the world's fresh water, and as production increases water consumption will become even more important. We believe that no other investment can have as great an impact on improving farmland productivity in the short term as mechanical new [ph] irrigations technology. Our challenge this year will be on managing capacity, labor availability, and inflation. While inflationary pressures and weakening economic conditions could temper short-term demand, the long-term trends in our business are firm. Valmont's position in the marketplace is unique. We are broadly diversified across both geographic regions and product lines. This diversification reduces our exposure to anyone segment of the economy. Our products are lined up well with strong global markets. The global agriculture economy is strong and supporting our irrigation business. Increased global roadway communication and utility spending on infrastructure is driving demand for our structural products. In summary, at this time these factors lead us to expect revenue growth in the high teens and we expect more than a 1 percentage point increase in operating income as a percentage of sales for the year. This concludes the prepared portion of our remarks. I would like to now take your questions. Question And Answer

[Operator Instructions]. Your first question comes from the line of Jon Braatz with Kansas City Capital.

Good morning, Terry.

Good morning, Jon.

Canwe get a little bit more on the revenue. Revenues were up 24%, and of course, there was some acquisition revenue in there, and by my guess, may be internal revenue or quarter organic revenue was up about 17%, 18%. But what can you tell us about the impact on price increases versus volume increases on that? Let's say I'm correct at about that 17%, 18% organic growth rate.

Well, the bulk of the increase is organic growth, Jon.

Volume growth.

Volume related.

Okay.

Yes.

Okay. But if that's going to change a little bit going forward?

Well, at this point, I think somewhat depends on what happens to steel prices in terms of pricing changes. But, I would say it's going to continue forward with volume as we see it right now.

Okay, okay. And I was looking at the couple of earning releases, other earning releases today, and sort of the common thread is how we are going to deal with these steel prices. At this moment, given what you see, do you envision any issues with regards to availability?

We haven't seen availability issues to date. There is concern that is the steel industry moves around with the pricing and some of their... particularly issues related to mills been down, and some of the raw material availability that they have for input into their products. There is a little concern about availability. Right now, I wouldn't say it's a high concern, but there is a nervousness.

Okay, okay. One... go ahead.

Go ahead... while you have seen that in some of the releases from the steel companies where they have talked about availability of their raw materials.

Okay, okay. One last question and I'll get off. Interest expense this quarter was $4.4 million versus $4.2 million, yet debt was up and you made a couple of acquisitions. Why in view of that was interest expense only up modestly?

Well, the interest rates haven't changed. We did have acquisitions and we did tick-up our debt slightly. The interest rates really haven't changed a lot and actually are down somewhat from last year.

Okay. So, it's an interest rate factor.

Yes, yes.

Okay.Alright. Thank you much.

Your next question comes from the line of Arnie Ursaner with CJS Capital.

Good morning, Arnie.

Hi. How are you?

Fine. How are you?

First question I have relates to the Irrigation segment. Can you give us a break down of these percent of revenues from international versus domestic and the growth rate on international versus domestic?

We don't break down those percentages specifically, but the growth rates were substantial in both side, and actually it's higher in the international side.

Okay. Second question I have relates to the Engineered Support segment, last... the margin in the quarter was pretty disappointing particularly on a year-over-year basis, last year you had several facilities shut for days, you also had problems with specialty structures. So trying to get a little better understanding of the margin issue you have cited [ph] Canadians... Chinese steel and the timing of that.

The biggest difference Arnie was in China and it related to the steel price increases and in fact that they had a lot of fixed price contracts. That was the biggest change. The rest of the margin improvement, and margin improvement was a across the board except in China.

Can you attempt to quantify how much that harms your margin?

I won't right now.

Okay. My final question is sort of a follow on related to your revenue growth guidance. I don't think you have given specific revenue numbers for either PennSummit Tubular or West Coast, but our sense is they had roughly $90 million or so of revenue.

That's roughly correct.

And if look at your high teens growth rate excluding acquisitions you are implying something like 10%, 11% organic revenue growth for the upcoming year.

That's probably appropriate, yes.

And my final question is, as you said it before that very well running industrial companies can approach 15% operating income margins, you obviously continue to make a 100 basis points or so improvement, and seasonally Q2, Q3 and Q4 are usually your better seasons for margin. Are we getting closer towards your willingness to speak to a 15% operating income margin goal?

Well Arnie, I think we said in the last call that we aren't really going to talk about like a 15% operating income percentage, because so much of the discussion on percentages also relates to the capital that you put into a business. We may not want to just drive everything to 15% if we can get very, very good returns on capital with businesses, let's say I use as an example, our 11% operating income. So one of the reasons we don't firmly talk about, we will continue to improve and push for improvement in all of our margins across the company. But to go to a 15% goal could actually be counterproductive long term for the shareholder.

Okay.Very quick financial question, Terry, you had a $1.3 million charge, what was that?

Yes Arnie, I'll cover that. This is Mark Jaksich. We have a non-qualified deferred cap plan for people who get maxed out on the 401(K) because of IRS regulations, and there is corresponding asset at gross selling [ph] liability on the balance sheet that relates to that plan, because those assets belong to the company. And in the first quarter, we had about a $1 million of investment losses, because those funds were invested in mutual funds and things like that. So the drop in the market had a loss. Corresponding reduction in the deferred compensation liability goes to the SG&A line, but the loss... the investment losses go below the line. So that's why that other expense is high there is no impact on net earnings but pre tax earnings is just geographically how it's presented in the P&L.

So it's not going to impact the SG&A or the operating trends at all?

Well it does in this case it did reduce SG&A spending and above by about $900,000 or so. So that was average reduction in SG&A spending or corresponding increase and miscellaneous expense.

Okay, thank you.

[Operator Instructions]. Your next question comes from the line of Ned Borland with Next Generation Equity.

Good morning guys. Following up on the previous question on the engineered support margins, the China Steel issue I mean is that, are we going to see margins I guess in the segment rebounded the more traditional levels, given that you had improvements everywhere else in that segment?

We would expect overtime yes, Ned.

Okay so this is just kind of a temporary issue that...

Yes.

Okay all right. And then on the utilities, I guess the pole plant in China that comes in line in the second half of the year is that are you still getting like $50 million to $60 million of revenue out of those plants, the other two plants that you have over there?

Yes. Those facilities you can think about it as $50 million to $60 million each.

Okay and I suspected the demand for the... is strong enough for this plant to fill up pretty quickly once it's up and running?

That's what we are planning. It takes time to fill these plants even in China with the growth.

Okay. And then final question on coatings looks like the margins, improved year-over-year, is pricing held up in coatings given a drop that we've seen in zinc?

Pricing in general has held up pretty well in that business and buying of help to get some operating efficiencies.

Okay. To your outside customers, have you seen any slippage in demand in that business?

We have not yet seen slippage in demand, and as you know that business though is not a backlog business.

Right.

Literally it's a month-by-month business.

Okay, but things are still pretty steady there.

Things are looking pretty steady.

Okay. That's great, that's all I have.

Okay.

Your next question comes from the line of James Bank with Sidoti & Company. James Bank - Sidoti & Company: Good morning.

Good morning. James Bank - Sidoti & Company: I apologies, I actually stealing with another release so I might have missed your earlier comments Terry... yes but I think I got you are not going to break down your irrigation sales in terms of mix?

That's correct. James Bank - Sidoti & Company: Okay, and then... okay forget it then. The debt looks like it was $42 million increase in between the quarters, what precisely was that?

We had two acquisitions, if you remember James. James Bank - Sidoti & Company: Yes.

During this period related to those. James Bank - Sidoti & Company: Okay. And if you could give me the net sales for each segment versus gross, that was on the press release?

Offline.

Yes, we'll have that offline for you. James Bank - Sidoti & Company: Okay. And that is all I have.

Okay. James Bank - Sidoti & Company: Good quarter thank you.

Thank you.

Your next question comes from the line of John Braatz with Kansas City Capital.

Terry, just a follow up, obviously the agricultural business they always say the best the cure for high prices is high prices and what do you see as an opportunity in long term in China, as these grain prices continue to rise. I would assume there is a greater incentive for, let's say China to continue to produce more and more at home. And obviously that's going to require large scale agricultural and presumably, irrigation. Are we seeing some movement on that front. And secondly, do you envision an irrigation facility, for example in China someday or. Can you use your pole facilities to make your irrigation equipment, if you can touch on that I am subsidiary a little bit?

Two things, John. You are right... I think that the demand for grains in China is increasing there, so have substantial water issues that need to addressed overtime. And as you know as we look at the marketplaces overtime, we have put facilities in place in these growth markets. When it was appropriate, the answer to your question can we us the pole facilities to do irrigation manufacture. Probably on a very-very limited basis, we would probably... a longer term say that there would be an individual irrigation plant. But we'll assess that based upon what's going on the market place and what's going on with our ability to supply from some of our other plants.

At this time, would you say that an irrigation facility is not appropriate yet. Are we three years away, five years away?

Well its not appropriate yet, probably and probably three to five years is the timeframe where we would look at this.

Okay.

We've been in China for many, many years, and China has got great agricultural potential but the reality is they haven't really yet taken the next step into the agricultural base to really allow what I call the conditions for large scale agriculture with mechanical irrigation. That may be changing.

Yes. Okay. Thank you Terry.

[Operator Instructions]. We do have a follow up question from Arnie Ursaner with CJS Securities.

Arnie.

I am sorry I had my phone used. Going back to the utility support structure segment. In the past there have been problems when rising steel costs have impacted contracted work you have with utilities. In the sense as I had is you had kind of realized that two or three years ago and when you structured your contracts. Had the ability to pass through dramatically higher steel costs in your contracted work. Since it's relatively a long cycle. Can you update us on sort of how your contracts reflect the higher steel prices and are you in fact able to pass them through your customers?

Okay. In general we really haven't had that much problem in utility side. Arnie it was more on the transportation side where the Department of Transportation are lighting [ph] would not allow escalators in the contract and that has not changed. In the utility business we in general were pretty well positioned to pass on increases in the contracts as well as by general agreement and that continues on. The Departments of Transportation for lighting and traffic was an area where we got some squeeze in '04. And that really hasn't changed a lot except I think where everybody is more aware when they are bidding what's going on with the steel situation. And if you remember in 2004 the steel industry actually re-nagged on some of their re-defined pricing not that, that won't happen again but that was also a significant factor in '04.

So as you bid on these multi-year much more sizable contracts. Have you in fact bid to reflect the higher prices?

You put in for the utilities particularly you put an escalator causes that are based upon steel prices of a certain type.

So you should be able to recover costs there without too much difficulty?

That's correct.

Okay.And shifting back to irrigation, I think it had to be spoken some time in mid year or even towards the end of the year. I think your question then was whether ethanol will be in bubble [ph] and how long that could impact the longer term demand for irrigation. And yet in your prepared remarks you indicate your view is more optimistic about 2008 and beyond. Are you shifting your view about sort of whether ethanol created a bubble or may be you could expand on why you are now a more optimistic long-term about irrigation?

I do know that we shifted our view a lot. If we said that ethanol could be a bubble, but it's not the primary driver for the demand that we are seeing long-term. Primary driver is increased population and changes in eating habits. And ethanol obviously supports the farm economy and probably will continue whether it's not, or whether it's the most economic or whether it will be the big driver in agriculture. We don't really think that it is the change that happened. It is the piece of it in the short run particularly for the corn farmer.

Can you also expand a little bit on the irrigation side about the normal seasonal patterns you are seeing in the business my sense to it is that farmers really go to the showroom and place orders more in the February... mid-February timeframe. Can you give us a sense of typically how many of those have delivered in March and how many of those might move into April and sort of what trends are you seeing post the end of the March period?

Well typically... if you go back typically Arnie, the demand and particularly in North America starts in the fall after the crop is in and the farmer has an idea what their income situation is and then it builds depending on weather and conditions... it builds through the April timeframe and you're limited really on the other end by the fact that they have to put the crops in the field and after a point in time you can't put on anymore irrigation. So the reality is the, season comes to and end sometime in May or very early June and then there is really not much farmers can do except in very rare applications where they'll try to put in a piece of equipment after that. The thing that has been uncertain over the last number of years. Is when do the farmers as you say come to the showroom, is it going to be in November or is it going to be in January or February and that got moved around a little but in typically just think of it as the crop is in, they know what their income is, they start planning for the next year in very, very late fall and that's when the selling season starts. And then they will buy their equipment based upon what their conditions are in their individual area. They may delay a year but if it's really wet, they may delay a year because they can't get a permit to put in the well or whatever it may be but generally speaking that's the same pattern.

So can you... again can you try to give us a little better feel for whether the majority of what you had in backlog shipped in March or is there likely to continue to be pretty strong activity?

That is going to continue... there will be continued strong through it... through the first or the second quarter. And keep in mind... keep in mind that the bulk of the business still is in North America. There is also other demands outside the U.S. that can change the seasonal patterns somewhat.

And very specifically, Australia has got has gotten a lot of press having its greatest route I guess in its history, did you see a noticeable pickup in our activity in Australia?

Yes we've seen good improvement.

Okay. And similar trends in Latin America, Brazil and markets like that?

I think those markets are also improving, yes.

Okay, thank you very much.

At this time there are no further questions.

Well thank you Vonda this concludes our call. We thank you for joining us today this message will be available for playback on the internet or by phone through the next week. And we look forward to speaking to you again next quarter. At this time Vonda will read our disclosure or forward-looking statements.

Including in this discussion, our forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on assumptions that management has made in light of experience in the industry in which Valmont operates. As well as management's perceptions of historical trends, current conditions, expected future developments and other factors believe to be appropriate under this circumstances. As you listen to and consider these comments you should understand that these statements are not guarantees of performance or results. They involve risk, uncertainties some of which are beyond Valmont's control and assumptions. Although management believes that these forward-looking statements are based on reasonable assumptions, you should be aware that many factors could affect Valmont's actual financial results and cause them to differ materially from those anticipated in the forward-looking statements. These factors include among other things, risk factors, described from time-to-time in Valmont's report to the Securities and Exchange Commission as well as future economic and market circumstances, industry's condition, company's performance and financial result, operating efficiencies, availability and price of raw material, availability and market acceptance of new products, product pricing, domestic and international competitive environment and actions and policy changes of domestic and foreign government. Te company cautions that any forward-looking statements included in this discussion is made as per date of this discussion and the company dose not undertake to update any forward-looking statement. This concludes today's conference call you may now disconnect.