Earnings Transcript for STCN - Q4 Fiscal Year 2011

Executives: Joseph C. Lawler - Executive Chairman, Chief Executive Officer, President, Chairman of Business Development Committee and Member of Technology Committee Steven G. Crane - Chief Financial Officer and Principal Accounting Officer

Operator: Ladies and gentlemen, thank you for standing by. Welcome to the 2011 Fourth Quarter and Fiscal Year Financial Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded, Tuesday, September 27, 2011. Your speakers for today are Joseph Lawler, Chairman, President and Chief Executive Officer; and Steven Crane, Chief Financial Officer. I would now like to turn the conference over to Steven Crane. Please go ahead, sir.

Steven G. Crane: Thank you, Siglyn. Good afternoon, everyone, and thank you for joining us for ModusLink Global Solutions Fiscal 2011 Fourth Quarter and Fiscal Year Conference Call. I'm Steve Crane, CFO, and I'm joined today by Joe Lawler, Chairman, President and CEO. In just a few moments, Joe will share his thoughts on the company's financial performance and the market environment over the past quarter and provide an update on our strategic initiatives. After Joe's comments, I'll review, in more detail, our fiscal 2011 fourth quarter results, which we released earlier today. Before we start, I want to remind you that this call is being broadcast as a live webcast from our website at www.moduslink.com. Please also note that the information we're about to discuss includes forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Such statements involve risks and uncertainties. The company's actual results could differ materially from those discussed herein. Factors that could contribute to such differences include but are not limited to those items noted and included in the company's SEC filings, including our annual report on Form 10-K and quarterly reports on Form 10-Q. The forward-looking information that is provided by the company in this call represents the company's outlook as of today, and we do not undertake any obligation to update forward-looking statements made by us. Subsequent events and developments may cause the company's outlook to change. During this call, we'll be referring to non-GAAP measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP measure can be found in our earnings release issued earlier today, a copy of which is posted in the Investor section of our website. I'd now like to turn this call over to Joe Lawler. After our formal remarks, we'll be happy to take your questions. Joe?

Joseph C. Lawler: Thank you, Steve. Good afternoon, and thank you for joining us today. While our fourth quarter results continued to be pressured by such factors as pricing, the use of fewer materials in clients' packaged products and lower volumes in certain client programs, we are pleased to have concluded fiscal 2011 with revenues from new programs 18% higher than the prior fiscal year. However, despite the improvement in revenues from new programs for the full fiscal year, more work is clearly needed to gain sufficient traction to overcome market challenges; effectively capitalize on opportunities we see in Supply Chain management, Aftermarket Services and e-Business; and improve our revenue trends to achieve top line growth. As presented on our last call, we began to make necessary investments in sales and marketing in the second half of fiscal 2011 to address those shortfalls while also focusing on cost reduction to position our business for renewed profitability. To that end, we are accelerating our investing plan as well as our cost-reduction plan, which includes restructuring of our business. The cost-reduction plans are expected to result in annualized cost savings of between $30 million and $40 million and will come from areas such as reduction in labor costs, restructuring of facilities, expansion of our shared service initiatives and strategic sourcing across our global network of facilities. These actions will be phased in as quickly as possible. We expect to begin to realize the financial benefits mainly in the second half of fiscal 2012 and estimate approximately $15 million to $20 million of benefit for the current fiscal year. Our plan also includes actions to further improve our balance sheet and cash flow. As Steve will outline in more detail later on today's call, we intend to reinvest most of the savings realized in fiscal 2012 into sales and marketing and one-time costs associated with the cost actions to create long-term cost savings and a more competitive platform. Before turning the call to Steve, I'd like to spend some time going through our investing and cost-reduction plan in more detail. The components of the plan fall into 4 categories. First is sales acceleration and increased market penetration. We're making changes to become a more market-driven company focused on the most attractive client programs. Second is cost alignment to enable significantly improved profitability as our sales and marketing initiatives gain traction. Third is working capital and free cash flow improvements. And fourth is strengthening our leadership team by putting the right leaders in place to drive improved results in all facets of our business. I want to review each of these, and will begin with sales acceleration. While we've seen macro trends that put pressure on our clients and ModusLink, we believe companies will outsource more key processes within their supply chain to reduce costs and manage the increasing complexity that global companies face to reach their customers. With a proven global capability, a solid client base and solutions that include other high-value services such as aftermarket and e-Business solutions, we believe we have a significant market opportunity and are investing in ourselves with confidence. Last quarter, we discussed the goal of growing our client-facing team to 30 quota-bearing salespeople by the end of the fiscal year. I'm pleased with the quality of the new people we've added, and we are seeing a very good increase in activity as we build our sales pipeline. This investment in new salespeople is necessary in order to restore new business revenue to annual levels of $150 million to $200 million. We believe that level of annual new business revenue is required to achieve consolidated net revenue growth for ModusLink. We have achieved that range of new business in the past, and we are aggressively working back toward those levels. We're also combining sales and marketing under common leadership and working to bring aboard a highly experienced person to lead our sales and marketing organization. Our search began early in the year, and we hope to complete it in the coming months. In addition to these organizational changes, several other important initiatives are underway to improve our operational and financial results. We are improving our price-optimization strategies to ensure better alignment of the cost goals of clients and prospects with our profitability requirements. Value-based selling is at the very core of these strategies, which means getting paid for the complexity we handle every time. We are improving sales targeting. We are working to better align our sales actions with the most compelling market opportunities. We continue to see significant market opportunities in our core markets of hardware, software, communication, storage, and consumer electronics markets. Our emphasis is shifting to research-based approaches to identify and position ourselves for compelling, high-growth subcategories within our target markets. Smartphones, tablets, accessories, digital software downloads are good examples of these attractive subcategories. We have stepped up our focus on sales force effectiveness and account planning to accelerate our ability to identify and close new programs from existing clients. Our client base is comprised mainly of Fortune 1000 technology and consumer electronics companies. Although many clients outsource significant programs to ModusLink, we only manage a small portion of their total value chain processes, providing more opportunities for program growth through upselling. We are also taking actions to improve our ability to cross-sell across our integrated set of solutions. Programs within our Aftermarket Solutions and e-Business have less susceptibility to pressures such as reductions in packaging materials and rapid new product introduction cycles as compared to our core Supply Chain business. As I'll describe in more detail later in the call, we have hired an experienced executive to help drive our overall integrated services capabilities which includes Aftermarket Solutions and e-Business. With the addition of skilled sales people and experienced leadership, we feel confident in our ability to fulfill our original vision of transforming our revenue, so that it reflects a much higher proportion of higher-margin services. We have demonstrated some good success with cross selling. One recent example is Advanced Micro Devices. For many years, we've been working with AMD, providing supply chain services such as planning, inventory management, kitting and distribution for certain chipsets that are consumed at retail or by white box assemblers and other end users. We've now grown the relationship to include our aftermarket solutions, where we perform returns management and testing services that closely integrate into AMD's internal processes for value recovery. Overall, we expect the investments and changes being made in sales and marketing to increase the quantity and quality of opportunities we have in our pipeline and further increase our conversion rates. I'll now move on to the second element in our plan, which is cost alignment. Last quarter, we said that we continue to analyze every aspect of our infrastructure and processes to identify opportunities for cost reduction. We will continue to improve direct and indirect labor costs in 2012. These actions follow previously announced and completed labor reductions of 14% at ModusLink PTS and more than 25% at Tech for Less in fiscal 2011. Our cost reduction actions also include restructuring some of our facilities, thereby increasing capacity utilization and reducing redundancy. We are currently working with affected clients to ensure a smooth transition to other facilities, so we cannot provide further details at this time, although Steve will talk about expected restructuring costs related to these actions in a moment. Other cost-reduction actions are focused on strategic sourcing. We are leveraging the purchasing power of our collective facilities across our global network for purchases of services and commodity materials. We expect significant cost benefit from strategic sourcing in the years ahead. We're expanding our shared services initiative. In recent years, we've accelerated our internal hubbing operations, and we have downsized certain cost centers by outsourcing those functions to experienced partners. We are moving forward with another phase of that strategy and plan to outsource more nonstrategic functions conducted across our organization. The third element in our plan is working capital improvements. Our balance sheet remains strong, and we continue to be focused on inventory management and reliable financial processes to effectively manage working capital. By further streamlining inventory levels, accelerating inventory turns, and negotiating improved accounts payables terms, we can continue to improve our cash -- our free cash flow. And finally, the fourth element of our plan focuses on strengthening our leadership team. To accelerate our progress, we are adding to our existing talented team with experienced leadership from outside ModusLink. As I noted a moment ago, we recently announced the appointment of Scott Crawley as President, Integrated Services. Scott comes to us from Dell, where he was most recently General Manager, Software and Peripherals, responsible for their consumer electronics, software, imaging, displays and accessories business, leading a team across 16 countries. Scott will focus on the development of ModusLink's e-Business and Aftermarket Services, including ModusLink PTS and TFL. Integrating these highly complementary services under common leadership is an important part of our plan to deliver an outstanding value-chain solution to our clients, while improving our own performance. In addition, and as I mentioned last quarter, we've added a dedicated senior-level Human Resources professional, Kathy Betts, to help us develop and leverage our existing leadership, improve efficiency across the organization and strengthen training and planning for talent needed for the future. The addition of top talent to lead Integrated Services and Human Resources and the future appointment of a sales and marketing leader substantially strengthens our dedicated management team. To sum up, market dynamics and our recent revenue results have led us to take a comprehensive look at our business, markets, customers and strategy. We are committed to taking the necessary actions to put ModusLink on a trajectory of profitable and sustainable growth. And as part of that commitment, earlier this year -- earlier this spring, we engaged a highly experienced business advisory firm to help accelerate our planning and execution of revenue growth and cost-alignment initiatives. The combination of our in-house experience plus our work with the advisory firm has -- have given us a fresh look at a wide range of sales, marketing and cost levers and is enabling us to accelerate the pace of change at ModusLink. I'm encouraged by all the actions underway. Now is the time to build on our global capabilities and our strong track record for executing complex supply chains for Fortune 1000 clients and to evolve our strategy so we can deliver substantial, long-term value to our shareholders. I'll now turn the call over to Steve, who'll give you more -- a more complete financial review.

Steven G. Crane: Thank you, Joe. For the fourth quarter fiscal 2011, ModusLink Global Solutions reported net revenue of $198.8 million, a decrease of $29.3 million or 12.9% compared to net revenue of $228.1 million for the same period one year ago. Revenue from new programs was $15.4 million, a decrease of $10.6 million when compared to $26 million in the fourth quarter of last year. It is worth noting though that for the full year, our new business revenues grew by 18% when compared to fiscal year 2010. Our investment in sales and marketing are directly aimed at achieving much higher levels of revenue from new programs. As Joe mentioned in his remarks, we are aiming to get our annual new business revenues in the range of $150 million to $250 million per annum, which we achieved in fiscal year 2009. Base business revenue was $183.4 million, a decrease of $18.7 million or 9.3% compared to the fourth quarter of last year. The decline in revenue from base business, primarily reflects lower volumes from certain client programs and the use of fewer materials in clients' packaged products that we have talked about in recent quarters as affecting our results. Geographically, revenue in the Americas decreased 13.6% to $69 million compared to $79.8 million in the same quarter of fiscal 2010. Revenue in Europe decreased 15.1% to $57 million compared to $67.1 million in the same quarter last year. Revenue in Asia decreased 7.1% to $57.2 million from $61.5 million in the fourth quarter of fiscal 2010. Revenue performance in each region was primarily due to lower volumes and the effects of clients using fewer materials in their packaged products. ModusLink's gross margin decreased to $17.7 million or 8.9% of revenue in the fourth quarter of fiscal 2011 from $24.4 million or 10.7% of revenue in the fourth quarter of fiscal 2010. The decrease in gross margin as a percentage of revenue was primarily due to lower volumes from certain client programs and a less profitable revenue mix. Also contributing to the decrease were higher inventory charges and severance costs, which had a 100 basis point unfavorable impact when comparing the fourth quarter of fiscal 2011 to the year-ago period. The inventory charges related to the lower rate of sales at PTS and TFL, which we experienced in fiscal 2011. Total selling, general and administrative costs for the fourth quarter of fiscal 2011 was $21.4 million, a 13% improvement compared to $24.6 million in the fourth quarter of the previous year. The lower SG&A expenses were primarily due to lower employee-related costs. Restructuring expenses for the fourth quarter of fiscal 2011 were a credit of $0.4 million compared to a credit of $1.9 million in the fourth quarter of fiscal 2010. The credit in the fourth quarter of 2011 was primarily due to a recovery of costs related to a facility that had been restructured in a previous year, and the credit in the 2010 period was primarily driven by the reversal of restructuring charges accrued in previous years. For the fourth quarter fiscal 2011, and as a result of the factors I just discussed, the company recorded an operating loss of $4.4 million dollars compared to an operating loss of $25.8 million in the fourth quarter of fiscal 2010, which included goodwill impairment charges of $25.8 million. Excluding net charges related to depreciation, amortization of intangible assets, share-based compensation, impairment of goodwill and restructuring, the company reported non-GAAP operating income of $1.6 million for the fourth quarter of fiscal 2011 compared to $4.9 million for the same period in fiscal 2010. Other expense for the fourth quarter of fiscal 2011 was $3.7 million compared to income of $0.4 million in the fourth quarter of fiscal 2010. The $4.1 million change was driven primarily by losses and write-downs associated with the company's @Ventures portfolio with unfavorable impact from foreign currency transactions. The company recorded a tax expense of $0.8 million the quarter compared to $0.2 million in the fourth quarter fiscal 2011. We continue to evolve and drive our tax strategy to both support our business strategy and to maximize the use of our U.S. NOLs. With all the above factors impacting the fourth quarter of fiscal 2011, ModusLink recorded a net loss of $8.9 million or $0.21 per share compared to a net loss of $25.5 million or $0.58 per share in the fourth quarter of fiscal 2010. We concluded the year with a very strong balance sheet. As of July 31, 2011, the company had working capital of $184.2 million compared to $222.6 million at July 31, 2010. Included in working capital as of July 31, 2011, were cash, cash equivalents and marketable securities totaling $111.4 million compared to $161.6 million at July 31, 2010. In the third quarter of fiscal 2011, ModusLink paid a special cash dividend of $40 million in aggregate, which is funded by cash on the company's balance sheet. The special dividend was paid to ModusLink stockholders on March 31, 2011. The company concluded the quarter with no outstanding bank debt. ModusLink also announced favorable tax treatment of the special cash dividend of $40 million that was distributed to ModusLink stockholders in March 2011. ModusLink, in conjunction with outside tax advisors, has completed a review and analysis of the company's current and accumulative earnings and profits as of the year ended fiscal 2011 to determine the tax treatment of the special dividend. ModusLink has concluded that the entire portion of the special dividend will be treated as a return of capital for U.S. federal income tax purposes. Each taxpayer should seek advice based on the taxpayer's particular circumstances from an independent tax advisor. Turning to cash flow. For the fourth quarter fiscal 2011, net cash used for operating activities was $3.5 million compared to positive cash flow of $7.4 million in the same period in 2010. Cash used for operating activities in the fourth quarter fiscal 2011, primarily reflected the net loss reported during the period. Looking forward, we are cautious with regard to the broader macroeconomic environment and its effect on consumer spending and on our clients. However, we have a solid financial foundation in place, including a strong, debt-free balance sheet and a significant market opportunity in front of us. We believe we are well positioned to restructure our operations and invest in key areas of our business to put ModusLink on a trajectory of long-term growth and value-creation for our stockholders. In the meantime, we would like to provide some near-term visibility for revenue. For the first quarter of fiscal 2012, the company expects a sequential increase in revenue compared to the fourth quarter of fiscal 2011 at a rate that is similar to the seasonal increase the company has experienced in recent years. Now let's talk about our investing and cost-reduction plans. We estimate that our cost-reduction plans, including restructuring actions, will result in approximately $30 million to $40 million in annualized cost savings. Given the time it takes to implement the changes we are making, we expect to begin to realize the benefits of our cost-reduction initiatives mainly in the second half of 2012 and estimate approximately $15 million to $20 million of benefit for the fiscal year, with full year savings expected in fiscal 2013. The majority of these savings are the result of strategic sourcing initiatives, reduced labor costs, and facility restructurings. We expect approximately 3 quarters of the benefit to be in cost of goods sold with the remainder of the benefit in SG&A. In the near term, these benefits will help support our planned investments. In total, we are planning to reinvest and add approximately $15 million to fiscal 2012 operating expenses to support our initiatives. These investments will be concentrated in the areas of sales and marketing, with the balance in consulting and some onetime projects associated with the market penetration and cost-reduction activities. The consulting expenses reflect the use of an outside firm to help us drive top line growth as well as cost efficiencies. We're planning to reduce these expenses by $6 million in fiscal 2013, as the short duration of the elements of these investments conclude. In addition, we expect to incur in the range of $10 million to $15 million of restructuring and other onetime expenses associated with the cost-reduction plan in fiscal 2012. With the actions we're taking now, we firmly believe that we can achieve top line revenue growth and can expect to see meaningful improvement in operating profitability starting in fiscal 2013. Thank you. And I'll now turn it back to Joe.

Joseph C. Lawler: Thank you, Steve. Fiscal 2012 will be a year of restructuring and investment for ModusLink, as we execute our transformational plan. We are moving forward with a series of interconnected initiatives to drive improvement in our medium- and long-term performance. Through these actions, we expect our plan to enable ModusLink to become a more sales- and market-driven company, develop and strengthen our leadership team in order to achieve improved results in all facets of our business, to reduce costs to enable improved profitability as our sales and marketing initiatives gain traction and to improve cash flow through work selection, capacity utilization and improved management of working capital. We're taking aggressive action to improve ModusLink's performance, and we expect to see the benefits from these actions in the second half of fiscal 2012, as our programs take hold with much greater benefit in fiscal 2013. We have a lot of work ahead of us, and we look forward to providing you with updates on our progress over the coming quarters. Now Steve and I are happy to answer any questions you may have. So Siglyn, if you would open up to questions.

Operator: [Operator Instructions]

Joseph C. Lawler: Very good, Siglyn, that is fine. We appreciate everyone's participation today both on the webcast and on the live call. We look forward to providing you updates, as we indicated, and look forward to executing the plans that we've laid out with all of you today. So Siglyn, you can conclude the call for today. Thanks very much.

Operator: Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.