Norman Asbjornson - Chief Executive Officer Scott Asbjornson - Chief Financial Officer Gary Fields - President Rebecca Thompson - Chief Accounting Officer.

Jon Braatz - Kansas City Capital.

Good afternoon, ladies and gentlemen. Welcome to the AAON Third Quarter Sales and Earnings Call. There will be a question-and-answer period after management’s brief presentation. This call will last approximately 45 minutes to an hour. I would like to turn the meeting over to Mr. Asbjornson. Please go ahead, sir..

Good afternoon. Norman Asbjornson here. Before proceeding, I'd like to read a forward-looking disclaimer.

To the extent any statement presented herein deals with information that is not historical, including the outlook for the remainder of the year such statement is necessarily forward-looking and made pursuant to the Safe Harbor provisions of the Securities Litigation Reform Act of 1995.

As such, it is subject to the occurrences of many events outside AAON’s control that could cause AAON’s results to differ materially from those anticipated. Please see the risk factors contained in our most recent SEC filings, including the Annual Report on Form 10-K and the Quarterly Report on Form 10-Q. Before proceeding, I'd like to introduce Mr.

Gary Fields, who has just recently joined us as President and I shall remain as Chief Executive Officer. Greetings an at this point primarily is to try and help us in the managerial functions which have occurred with our growth and our expected future growth.

As many of you know, we are now bringing on water-source heat pumps and that's an additional burden and as you already know, last year we brought on three additional regional managers to try and help cover our sales activities and Gary is going to concentrate on all the sales activities whether the warranty or the sale of the product or anything else regarding customer service in that area and I shall pay more of my attention to the internal workings of the company so that we shall better serve our customer base.

I'd like to have Gary say a moment a little bit to you and give you his brief background so that you are more up to date..

Good afternoon. This is Gary Fields. Going back to the beginning of my career fourth-generation HVAC, I've been involved in the business for a very, very long time. 35 years ago I entered into the independent manufacturers' representative segment of the business which is essentially the sales agents for firms such as AAON.

Going back 32 years ago I joined a firm in Texas of which we when I joined it we had eight people. We grew the company to 200 people under my leadership. When I sold my interest in the company at the end of 2012 we had increased our revenue up to about $200 million. The company has continued to grow well. So our succession plan there was intact.

At that point in time, I began consulting work for AAON, consulting with the representatives across North America of which I've reached approximately half of all of our representatives and given them counsel and guidance on business development, particularly with how to build a strong independent rep organization which benefits AAON as we have stronger representatives in the field.

In May 2015, I was elected to the Board of Directors. I have continued to provide those consulting services, both to the outside representatives, but it's also given me an opportunity to work within the company on product development and refining existing product and sales technologies.

I've been quite involved in the development of the water-source heat pump for instance. And then as of Tuesday of this week the Board of Directors elected me President. As Norm told you, I will concentrate primarily on sales activities which also include product development. And we believe that we can now accelerate our growth beyond what it's been..

Thank you. Now I'd like to introduce Scott Asbjornson, our CFO, who will discuss our quarterly performance.

Scott?.

Welcome to our third quarter conference call. I'd like to begin by discussing the comparative results of the three months ended September 30, 2016 to September 30, 2015. Net sales were up 10.8% to $104.6 million from $94.4 million. Sales increased primarily due to increased volume as compared to the prior year offset by changes in product mix.

Our gross profit increased 9.6% to $33.1 million from $30.2 million. As a percentage of sales gross profit was 31.6% in the quarter just ended compared to 32.0% in 2015. Selling, general, and administrative expenses increased 3.4% to $10.4 million from $10.1 million in 2015.

As a percentage of sales SG&A decreased to 9.9% of total sales in the quarter just ended from 10.7% in 2015. The overall increase in SG&A was primarily due to increased compensation and profit sharing expenses to better results versus the same period last year.

The increase was partially offset by decreases in nonrecurring donations and warranty expenses. Income from operations increased 12.6% to $22.7 million or 21.7% of sales from $20.2 million or 21.4% of sales. Our effective tax rate decreased to 31.1% from 34.1%.

The Indian Employment Credit and Research and Development Credit were not extended until December of 2015 for the 2015 and 2016 tax years.

As such, the effective rate for the three months ended September 30, 2016 is reduced for the impact of these credits while the effective rate for the three months ended September 30, 2015 does not reflect these credits. The estimated annual 2016 effective tax rate, excluding discrete events is expected to be approximately 36.0%.

Additionally, the company early adopted ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, applying the changes for excess tax benefits and tax deficiencies prospectively.

As a result, excess tax benefits and deficiencies are reported as an income tax benefit or expense on the statement of income rather than as a component of additional paid-in capital on the statement of equity. Excess tax benefits and deficiencies are treated as discrete items to the income tax provision in the reporting period in which they occur.

For the three months ended September 30, 2016, the Company recorded $0.6 million in excess tax benefits as an income tax benefit. Net income increased to $15.7 million, or 15.0% of sales compared to $13.3 million or $14.0 percent of sales in 2015. Diluted earnings per share increased by 20.8% to $0.29 per share from $0.24 per share.

Diluted earnings per share were based on 53 million [indiscernible] [technical difficulty] shares in the same quarter a year ago. The results of the nine months ended September 30, 2016 to September 30, 2015 net sales were up 11.8% to $292.3 million from $261.4 million. Sales increase due to increased volume as compared to the same period in 2015.

Our gross profit increased 15.8% to $91.6 million from $79.1 million. As a percentage of sales gross profit was 31.3% in the nine months just ended compared to 30.3% in 2015. Selling, general and administrative expenses increased 0.3% to $29.9 million from $27.6 million in 2015.

As a percentage of sales, SG&A decreased to 10.2% of total sales in the nine months just ended from 10.6% in 2015. The overall increase in SG&A was primarily due to increased compensation costs and profiteering expenses due to better results versus the same period last year.

The increase was partially offset by a decrease in warranty expense related to continued improvement in quality control and other expenses which was higher in 2015 due to sales taxes to certain states. As a percentage of sales, SG&A decreased 0.4% due to effective cost management and efficiencies gained.

Income from operations increased 19.7% to $61.7 million or 21.1% of sales from $51.6 million or 19.7% of sales. Our effective tax rate decreased to 32.4% from 36.4%. The company's estimated annual 2016 effective tax rate excluding discrete events is expected to be approximately 36.0%.

The Indian Employment Credit and Research and Development Credit extended were not extended until December 2015 for the 2015 and 2016 tax years.

As such, the effective rate for the nine months ended September 30, 2016 is reduced for the impact of these credits while the effective rate for the nine months ended September 30, 2015 does not reflect these credits.

Additionally, the company early adopted ASU 2016 – 09 improvements to employees share-based payment accounting applying the changes for excess tax benefits and tax deficiencies prospectively.

As a result, excess tax benefits and deficiencies are reported as an income tax benefit or expense on the statement of income rather than as a component of additional paid in capital on the statement of equity. Excess tax benefits and deficiencies are treated as discrete items to the income tax provision in the reporting period in which they occur.

For the nine months ended September 30, 2016 the company recorded $1.8 million in excess tax benefits as an income tax benefit. Net income increased to $42.0 million or 14.4% of sales compared to $32.8 million or 12.5% of sales in 2015. Diluted earnings per share increased by 30.0% to $0.78 per share from $0.60 per share.

Diluted earnings per share were based on 53,467,000 shares versus 54,623,000 shares in the same period a year ago. At this time, I'll turn it over to our Chief Accounting Officer, Rebecca Thompson to discuss the balance sheet..

Thank you, Scott. We had a working capital balance of $98 million versus $80.8 million at December 31, 2015. Cash in investments totaled $41.3 million at September 30, 2016, the investments on maturities ranging from one month to 10 months. Our current ratio is approximately 3.3:1.

Our capital expenditures were $23.6 million for the nine months ended September 30, 2016. We expect capital expenditures for the year to be approximately $32.7 million. Shareholders' equity per diluted share is $3.84 at September 30, 2016 compared to $3.28 at December 31, 2015. We also continued to remain debt free.

I'd now like to turn the call back over to Norm who will discuss our results on further detail along with the new products and outlook for the remainder of the year..

Net sales were up 10.8% for the quarter. Sales increased due to increased volumes and no price increase was included in that. Potential for the Water-Source Heat Pump has not been realized as early as early as we had earlier thought.

It is now entered production stage which was a very interesting thing and as much as we did not copy an existing or known manufacturing format. We have gone to what we think is very, very advanced our manufacturing methodology. So the actually manufacturing of sheet metal, copper and insulation is all automated.

There are no individuals involved in the manufacturing of those components. Our operation is strictly facilitative between moving the things between those functions in the automated machinery and moving them to the production line, the only other people on the production line our the assemblers and the final test individuals.

So it is an extremely software driven operation which we had to create a lot of software that was not purchased off the shelf or not even close to off the shelf, it was strictly created in-house by our personnel.

In addition to the computerization provided by the manufacturers, finding this system that we're using, research [indiscernible] [technical difficulty] we bought equipment from six different countries around the world, if we found something that was unique and advanced and very serious. So, as we're bringing on line at a higher rate.

It is going to prove to be a very, very, productive environment in which we should cover the costs of producing the product considerably from a more conventional manner.

We are not running it at a high rate of speed yet, however, because it was a challenge to get the software cleaned up, debugged if you will, and have it now to the point like I say it is running, but we're running at a very low volume right, we're running down well, whereas the vine is designed to go up well over a 100 unit today, we're running it down about 10% of that rate because as we are running through a bug we don’t want a lot of personnel standing around waiting while we debug the software.

It is not a major debugging process. The major debugging has already been done. It is all minor nuisance debugging that is occurring which doesn't take very long, but we still don't want people standing around drawing money and not being able to produce because of some little minor software bug.

As the bugs less than which they do on a daily basis we gradually step up the amount of personnel that we're putting on the line and step up the production as far as the quality of dealers.

Because the way we are going and the way we are going to do this we are producing standardized units which is a substantial part of the marketplace as opposed to a unit with options on it.

So we are concentrating on standard units first and when we get those all done and all of our systems debugged for all unit sizes that we are building, then we will start adding the option packages to situation.

We will along the way put up some units into the manufacturing process with options so that we don't stop the line when we're running through the software problem with the options we'll just pull the unit off the line, get the debugging fixed out so we can put it back on the line and then stick it on the line and let it run through.

So we have a very organized methodology accelerating our productivity and not having to back up because of problems. We are debugging constantly and have done an extensive amount already and we are down so heading into the more minor amount of debugging.

This will allow us obviously to in sometime in the first part of next year we will be able to turn up the volume quite a bit and we will start having a noticeable effect on the P&L statement.

The balance of this quarter because of the fact that we're starting out with a given size and manufacturing a few hundred of each of those sizes, we are going to end up with a large number of units in stock which is all planned in our marketing plan, but along the way because most jobs require a mixture of different unit sizes, we don't necessarily have all the mixture raised yet because we're just stocking up, stocking our shelves so to speak.

And therefore we will not put a lot of dollars on the bottom line in this quarter. We will put inventory in stock. Our fourth quarter expectations is not up in the millions, it's in the hundreds of thousands as far as how much we will actually ship.

And it will depend upon finding the right mixture of potential orders against what we've already built and put in stock so that we can supply the equipment.

However that will rapidly change starting next year because by the end of this year we anticipate to have a substantial number of our standard units in stock ready to go and be ready to build units with options, so the world will change rather dramatically in the first quarter of next year for us.

We are very pleased with the way the product is being received. We are very pleased with the way the manufacturing is turning out. We have far fewer problems than we have anticipated. They've all been more nuisance problems than they have a significant problem that we haven’t taken care of.

So no significant problems has occurred to us, but we've had plenty of debugging to do on software and that has been the function that has really caused us to have a slow start up once the debugging of software. Let's talk a little bit now about the marketplace.

As you know the major share of our market is somewhere around 50% of it normally at this point is replacement market then about the same, about 50% new construction.

And for those of you who have been with us for a while you know that earlier in our lifecycle we were more heavily into new construction and not so much in replacement and then during the slowdown from 2008 up until recently the replacement market was assuming a larger percentage of our business and we got up to where we were running well up in the 57% on replacement and 47% in new construction and it has recently started balancing out at about 50:50.

The replacement market has for this year in total and still is seemingly a declining market a little bit. It is not a growing market.

The new construction as indicated by all kinds of various statistics from everything from the architect billing index telling how much is being designed by the architects in addition to the Census Bureau numbers on dollars being spent on these types of construction indicates that the report of the new construction is not a boom, but it is on a fairly consistent basis getting healthier after very substantial downturn and about two – bottomed out in about 2010 or 2011 and has been coming back and is doing a respectable job of recovery, but has not yet recovered to what it was in 2008.

The commercial and retail has been growing but it has to be affected by an excess of commercial retail establishments in many cities and many types of commercial retailing and retail type stores. So it has not been a boom, but it has been getting a little bigger than it was when we're down and that has continued.

Office buildings are doing respectively well. Medical and healthcare never did get taken down too badly and it's also doing respectably. Education, which did go down quite a bit has continued to grow a little better than anything.

Manufacturing has had a remarkable statistical improvement since its low point, but it is kind of misleading nomenclature because a lot of that manufacturing is in various types of real operations where they are refining something, so it is a refinery type, whether it be petroleum or be a chemical refinement for the medical industry or whatever.

And those types of facilities by and large do not have buildings associated with the proportion of their business and so even the manufacturing has looked extremely well coming out of the slowdown, it has backed off a little bit now, but again it doesn’t directly reflect into the amount of air-conditioning as do the preceding other types of buildings.

Lodging went way down. Lodging has come back very nicely. Other types of business are doing respectably well in new construction. So the big issue as I summarized in is that new construction has had a modest growth this year continuing from what it has had for the past few years.

Retail, I mean replacement has had a little bit of slow down and that's, the only thing that we can understand based upon the discrepancy between the Census Bureau's numbers on buildings being built and the heating and air-conditioning, refrigeration, industry statistics on the number of units being built.

The number of units being built has been fairly flat this year. It has been up and down and depending upon what part of the year you are talking about, but it has not had real pronounced growth and yet for the year. So our factor that we have gained market share in the year is a significant thing. We're quite proud of it.

We think we've done outstanding job of growing the company and at the same time growing our profit commensurate with our product flow and at the same time undergoing a huge number of changes that we've been having to manage as well, first and foremost being establishing us and putting in place the water-source sea pump manufacturing and the second thing, we do have our new laboratory well under construction.

We are doing a significant amount of work overseeing that construction, in addition to which we're doing a lot of energy saving things on our facilities. We are presently with the exception of our warehouse which only has intermittent lighting which is florescent.

We are probably somewhere around 90% point as far as changing over to LED lighting throughout our entire facility in Tulsa we have begun and our long view we are not as far along, but we have made a significant change in just a lot of time and a lot of effort through lot of money going to LED lights which those of you who know, know it is about 90% of efficient light and as opposed to and I supposed to an incandescent bulb which is about 10% efficient on light, 90% heat, this is just reverse.

It is 10% light and 90% light. So it has been a remarkable reduction of our use of electricity for our facility. We are very proud of having that done. During the next year we will be to the 99.99% of LED lift in our operation I'm very proud of that fact.

We also have changed the type of compressors we used to compress air and we have several hundred horsepower of those and we have upgraded that to a more energy-efficient methodology as well.

So there's a number of things going on of a minor nature which are improving overall operation of this corporation and preparing us for substantial growth which we hope to achieve and part of the way we're going to achieve it is more concentration on sales efforts.

Gary, whom I've got affiliated with, that I've known I don’t want to hear while I'm at it, but in my preceding experience in the industry he was a representative for us and so I've been aware of him since the very early 80s.

He came on as chief utility, [indiscernible] achieved my radar screen in the mid-80s when he was doing a spectacular job of creating sales and certifying customers and he has exactly the same attitude and concept that the customer is everything and satisfying the customer with an experience that he is proud to have he is very important to us and when we do stumble we try very hard to correct a problem rather quickly and with minimal [indiscernible] [technical difficulty].

In the past we have had great growth and we think we are organized right now that if the economy will cooperate at all. We're going to equal or exceed that growth going forwards. So we're very happy and optimistic about the company and where it is positioned. We are a little less happy with the economy.

So the backlog now has gone to $62.2 million at the end of September. We were $60.4 million a year ago. And the outlook for the remainder of the year this is 06/2016 is pretty much as I said, it has had - this month has had a softening effect in the order department and it seems like there's a decisiveness factor occurring in our economy.

We have a lot of our representatives most all of them tell us we've got plenty of business we're working on. They work on it from the time the building first has begun and the design stages and they actually work with owners before that. So it's a long process that they are involved with a job not just when they run out and sell it.

They'll be involved in some jobs several years before they actually sell it.

And they tell us they are busy and all of them exhibit the – with the one exception the closure on orders that they have in the submittal stage or they have in the contract stage has been kind of put it a little bit slower gear and they are not closing as fast as they would expect and they are not entering orders as fast as they would expect to.

So it will. It is causing us a little bit of concern, but we anticipate once the results of next week and selection of consumed and everybody understands more of what's going to happen that the possible open on orders and will start coming our way. We don't anticipate that is going to have a huge effect on us at all.

We do expect we will have a very minor effect on our fourth quarter and we're too early to talk about it, I think for next year because we are about two months of back log for whatever level of business we are at and as you see is at we're in the $60 billion area now.

So we got a little bit over too much which is the balance of this year in our backlog and we don't have very much mixture. So speaking of mixture, as far as we can see it's continuation of the slow growth that we've been experiencing past several years, but it's not for certainty and the trend line is not as absolute next year.

I want to thank you and open it for questions..

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

Good afternoon, Norm..

Hi Jon..

What can you tell me about as you look forward, about incoming orders for the new heat pump, are you seeing them at a level where you'd like to see them and are you taking orders for the for sort of the custom heat pump with options?.

Well we are.

We've asked the representatives to give us one order for one unit they would buy for display from each one of our roughly 100 offices and with whatever they think is a popular option for their marketplace that will give us somewhere around 100 units with options which represent what they individually think they have to have for their markets.

So that's going to give us an indication because a lot of them will be repeating the same option from a lot of offices and other options won't repeat. And so we'll get a sense of what the ratio is of the options that they are going to wanting from us.

And we will be building those while we're building the stock of units that we're going to have standardized units with no options on there, we'll be stocking those.

Because of the fact that we are not building all the different sizes, and currently we decided we would look at what the market says, what the HRI [ph] says the market is about the size of the particular unit. For instance, the 3 ton horizontal is statistically the biggest sailor in the industry.

So that's what we're going to build and we're going to build the most of those. We have enough storage space to store approximately 2300 units, which if you wanted to put a dollar figure to that is probably going to be an average of let's say $1500 a unit, and you can see what we can put into stock if we get it fully stocked.

And since we're doing it just one year to the size in time, we could sell a lot of whatever we're building right away early, but we don’t even have some of the ones that we're going to build later in the fall. And consequently doing a new job which may have a variety of sizes just doesn’t work at this point.

So basically what we're doing is selling into the replacement market and a lot of the reps we have that have another product line do stocking job on their own and so they can order some stocked units of any given size that they choose in putting stock to service the customer on the ones and twos he orders which there's a lot of in this industry and the Water-Source Heat Pump industry.

And they've set up to do that right on their own stock. So that's really what we're supplying as replacement market units right now and we're just starting to build because we're just now really getting into production. So we don't have many orders and we don’t have – haven’t done much shipments yet.

We've done two very small shipments to two different ends of the country, one down out West and one out East and we're just in the infancy and starting t ship product and take orders.

But as we've said, before half of our reps already have another line and then they indicated that they will be doing a lot of business with us and they are already in the business.

So they are the ones who are buying some stocked units or going to buy some stocked units and net result is at this point we're just getting started in all [indiscernible]..

Okay, all right Norm. Thank you very much..

[Operator Instructions] There are no further questions at this time. I will turn the call back over to the presenters..

Okay, well thank you very much for joining us for this conference call. We, like I said are largely optimistic with a little bump in the road here which we attribute to election and once that has passed we think we'll be back on a very smooth roll again, optimistic about where we're going to go.

Thank you very much for tuning in and we'll talk to you next quarter..

This concludes today's conference call. You may now disconnect..