Christopher Moulton - Head of Corporate Development and IR August Vlak - President and CEO John Sullivan - VP and CFO.

Analysts:.

Good day, everyone and welcome to The Eastern Company's Third Quarter 2018 Earnings Conference Call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Chris Moulton, Head of Corporate Development and Investor Relations for Eastern. Please go ahead, Chris..

Thank you and good morning all. Speaking first today will be Eastern's President and CEO, Gus Vlak; and then our CFO, John Sullivan. After that, we will open the call for a Q&A.

Please note that some of the information you will hear today will consist of forward-looking statements about the company's future financial performance and business prospects, including statements regarding revenue, gross margin, operating expenses, other income and expenses, taxes and the business outlook.

These forward-looking statements are subject to risks and uncertainties that could cause actual results or trends to differ significantly from those projected in these forward-looking statements.

For more information regarding these risks and uncertainties, please refer to risk factors discussed in our Form 10-Q that we filed last night and our most recent 10-K. Eastern assumes no obligation to update any forward-looking statements or information, which speak as of their respective dates.

I'd now like to turn the call over to Gus for opening remarks..

Thank you, Chris, and good morning to those joining us on the phone and by the web. This morning, we will review our sales and earnings for the third quarter and the first nine months of 2018. Our businesses generated strong results in the third quarter.

Net sales in the quarter were $57.4 million, which represents the highest level of third quarter sales in the 160 year history of The Eastern Company. We generated quarterly earnings of $3.8 million or $0.60 per diluted share, respectively. That also represents the highest level of third quarter earnings per share in the history of Eastern.

Results in the quarter and, indeed, in the first three quarters of 2018 demonstrate considerable progress on our three-part strategy of improving execution across our businesses, optimizing our portfolio and building a strong balance sheet. We’re improving execution.

Several of our businesses, including Eberhard and Velvac, have continued to build scale and deepen their relationships in key transportation markets and are well positioned to take advantage of strength in the Class 8 truck market.

At the same time, together, all our businesses are well diversified across a range of transportation, vehicular and other industrial end markets. Our acquisition of Load N Lock bolstered our position in the booming truck accessories aftermarket. We are very pleased with the rapid and complete integration of Load N Lock into Illinois Lock.

The product and the operations are now nearly seamless part of Eastern, while we maintain the Load N Lock distinctive positioning and the unique engineering capabilities. As Load N Lock demonstrates, we’re investing in our best businesses. We continue to invest in new product development, where we can innovate and create unique solutions.

At Eberhard, we are working with a school bus manufacturer on two innovative door closing systems that bring additional safety and security to passengers. In addition, we are creating new -- in addition to creating new hardware, we are also integrating electronic systems as part of the solution.

At the same time, we’ve dialed back certain R&D investments in other large programs such as Road-iQ as those programs transition towards commercialization. Finally, we continue to build our balance sheet.

In the third quarter of 2018, we repatriated approximately $5.5 million in cash from our overseas subsidiaries, and we used these funds to repay our outstanding revolving line of credit.

This quarter, we reduced our pension liability in part by contributing $2.5 million into our pension plans, which, by the way, allowed us to take advantage of the higher tax deduction on our 2017 returns. We also repurchased approximately 11,000 shares of Eastern stock in the third quarter.

As you know, we buy back shares in order to return value to our shareholders and minimize dilution from potential stock issuances that are related to long-term incentive plans. In short, we are paying down our debt, reducing our pension obligations and minimizing shareholder solutions -- dilution, while maintaining ample liquidity.

John will give you additional detail on the quarter and talk us through the results..

Thank you, Gus. On a consolidated basis, sales increased to $57 million in the third quarter of 2018 from $56 million during the same period in 2017. That's an increase of approximately $1 million or 2%. The third quarter of 2018 was favorably impacted by the introduction of new products, which increased sales 1%.

Sales increased to $178 million in the first nine months of 2018 or $28 million from $150 million in the same period in 2017. That’s an increase of 18%. Sales volume of this existing products increased by 14% in the first nine months of 2018 compared to the first nine months of 2017.

The increase in sales in the first nine months of 2018 when compared to the respective corresponding prior year period reflect a full nine months of sales from Velvac acquisition in the 2018 versus only 6 months of sales in 2017. The first nine months of 2018 were favorably impacted by the introduction of new products, which increased sales by 3%.

Sales of new products included paddle latches, rods, strikers, hinges, center brackets, door kit with rotary locks, vents with detent covers, hinges, primarily in Class 8 truck accessory and off highway vehicles end markets, and tubular mini locks, cam locks, switch lock, and T handles in the commercial lock market.

On a segment level basis, net sales in the Industrial Hardware segment increased 4% in the third quarter of 2018 and 28% in the first nine months of 2018 as compared to the same period in 2017.

The increase in net sales for the first nine months of 2018 compared to the corresponding prior year period reflects a full nine months of sales from the Velvac acquisition in 2018 and approximately -- and only 6 months of sales from the Velvac acquisition in 2017.

Sales of new products include -- new product line that includes paddle latches, rods, strikers, hinges, center brackets, door kits with rotary locks, vents with detent covers, hinges, again, for the Class 8 truck accessory, off-highway vehicle and end markets.

Net sales in the Security Products segment increased 5% in the third quarter of 2018 and 8% in the first nine months of 2018 compared to the respective corresponding period of 2017. The increase in sales for the third quarter of 2018 resulted from a 3% increase in sales volume of existing products when compared to the third quarter of 2017.

The acquisition of Load N Lock accounted for 7% of that increase. The increase in sales for the first nine months of 2018 resulted from an increase of 4% of sales volume and 2% for new products. New product sales included mini tubular locks, cam [ph] locks, switch locks and T handles in the commercial lock market.

Net sales in the Metals segment decreased 10% in the third quarter of 2018 and increased 4% in the first nine months of 2018 as compared to the respective corresponding periods in 2017.

The decrease in the third quarter sales was in mining products, offset by increased sales of industrial products as the company continues its efforts to diversify away from traditional mining products. New product sales contributed 10% in the third quarter of 2018 and were industrial casting markets.

For the nine months ended September 2018, gross margin as a percent of the sales was 25% as compared to 21% in the same period in 2017. Gross margin as a percentage of sales for the first nine months of 2018 was 25% compared to 24% for the same period last year.

Product development expenses increased $0.2 million or 8% for the third quarter 2018 and increased $1.1 million or 27% for the first nine months of 2018 as compared to the corresponding prior year period in 2017.

The increase for the first nine months of 2018 was a result of a full nine months of Velvac-related expenses compared with only six months of such expenses in 2017. Selling and administrative costs increased $0.9 million or 15% for the third quarter of 2018 compared to the same prior year period.

Selling and administrative costs increased $1.7 million or 7% for the first nine months of 2018 compared to the same prior year period in 2017. These increases were primarily a result of payroll and payroll related costs associated with increased employment.

In addition, the increase in 2018 reflects a full nine months of Velvac expenses compared to six months of expenses in 2017. The Company generated approximately $7.1 million of cash from its operations during the first nine months of 2018 compared to approximately $10.2 million during the same period in 2017.

The decrease in the cash flow for the first nine months of 2018 compared to the corresponding prior year period in 2017 was primarily the result of increased inventories and accounts receivables on increased organic sales and the inclusion of the Velvac acquisition during the 2018 period.

Cash flow from operations, coupled with cash at the beginning of the year, was sufficient to fund capital expenditures, debt service and dividend payments. With that, I will return the call back to Gus..

Thank you, John. Overall, our businesses are performing well. We continue to benefit from strong economic conditions, and looking ahead, we believe we're addressing economic uncertainties. Our businesses have been working with our customers to manage the increased tariffs with other countries.

And our backlog remains strong going into the new year, in part due to the success at Velvac, our subsidiary, in capturing several significant new mirror programs.

We are confident that our three-part strategy of optimizing our portfolio of businesses, improving execution and building our balance sheet will generate long-term results for our shareholders.

We’ve further work to do on our portfolio, looking for additional acquisitions and evaluating options for the businesses, which have more limited long-term prospects. With that, I would like to turn the call over to the operator for any questions..

Thank you. [Operator Instructions] And there appears to be no questions in the queue..

Okay. We do have some questions that have come in over the webcast. So let's get to those.

First question, can you provide any color with regards to the sales decline in the Metal Products segment? Are you seeing a material split-end from your mining customers? What's driving this?.

Well, we believe this decline is primarily driven by the timing of orders, mostly in September. A few of our customers delayed orders in order to bring down their inventories and as a result, increased ours, but at this time, we don't see this as a deterioration of this end market..

Okay. We’ve another question.

Can you provide any color on how tariffs might impact each of your businesses in 2019? Can you provide any clarity on any impacts to date?.

Well, we are impacted by the increase in tariffs on the import of steel and aluminum as that shows up in our raw material costs as well as tariffs on certain products and components, which we bring in from our factories or suppliers in China.

By and large, our customers understand that these tariffs represent additional government taxes on imports, and we believe that we’re being successful in passing on most of these incremental tariffs to our customers..

Okay.

Then we have -- can you provide us of an update regarding Road-iQ?.

Sure. Currently, we are preparing for installations with a medium size fleet, which will take place in this quarter, fourth quarter. And there we are working closely with several of our remanufacturers to begin the ramp up of installation, some of which will start in December..

All right. We’ve another one -- another update on the Load N Lock acquisition.

Any additional color on that?.

I think, overall, we are very pleased with the rapid and the complete integration of Load N Lock into Illinois Lock. The product right now is fully integrated into our product line and product development process, and the operations are fully combined.

At the same time, we are able to maintain some of the distinctiveness of Load N Lock's products as well as the unique engineering capabilities that we acquired as part of this transaction..

All right. We’ve another question.

Do you anticipate conducting additional share buybacks this year? How do you decide between allocating capital toward share buybacks versus debt reduction?.

Our buyback program is based on an established program that’s implemented by our broker. And the program is, in part, responsive to share price dips, which could cause us to buy some additional shares in the remainder of this year..

We have another question.

When do you anticipate being able to reduce your working capital?.

So most of our working capital growth as we see, it is driven by sales growth. But we’re working hard to achieve a near-term decrease in some of our working capital. And then other parts that are more structural, that are just going to take longer for us to bring down..

And we’ve one final question.

How do you feel going into next year? Can you provide any views on your primary end markets, and any changes that you’ve been noticing over the past quarter?.

Well, looking ahead, as I mentioned, I believe we’re addressing some of the most significant economic uncertainties. Forecasts predict a pretty stable Class 8 truck market going into 2019. We do expect to pull back in the motorized RV market, which, according to the RVIA, is expected to decline by approximately 13% in 2019.

But our businesses are well diversified across a range of end markets, and our backlog remains very strong going into next year. We are focused on continuing to gain shares with our customers and drive growth through the introduction of new products.

For example, at Velvac, we successfully captured several very significant new mirror programs that will come online next year..

Well, it appears that we’ve exhausted our webcast questions. So as always, feel free to reach us to us if you’ve any other questions you would like to discuss. Otherwise, I would like to turn the call back over to the operator for closing remarks..

Thank you. This does conclude today’s teleconference. We thank you for your participation. You may disconnect your lines at this time and have a great day..