Dennis Tichio – IR Allen Carlson – President and CEO Tricia Fulton – CFO.

Mick Dupre – Robert Baird Jon Braatz – Kansas City Capital.

Good day and welcome to the Sun Hydraulics Corporation 2014 Third Quarter Conference Call and Webcast. At this time, I would like to turn the conference over to Dennis Tichio. Please go ahead..

Good morning. Thank you for joining us for Sun Hydraulics’ 2014 third quarter conference call. Allen Carlson, Sun’s President and CEO and Tricia Fulton, Sun’s Chief Financial Officer, are participating in today’s call.

Please be aware that any statements made in today’s presentation that are not historical facts, are considered forward-looking statements. For more information on forward-looking statements, please see yesterday’s press release. We will take questions once we have completed our prepared remarks. It is now my pleasure to introduce Allen Carlson..

Thank you Dennis, good morning. Third quarter demand, continued to show strength with all major geographic markets, up double-digits over the prior year. Operationally, we were able to drive gains to the bottom line, while investing further in our business. Q3 product development efforts continued around integrated packages and electronics.

A new schematic tool was released for our Quick Design solution, which allows for quick and easy design verification. Quick Design is becoming a leading tool in integrated package design, and is available for worldwide customers direct from our website.

We also released the HCT, the first hydraulic and e-Fan hybrid controller for mass transit and off-highway vehicles. This controller increases horsepower and fuel economy and lowers emissions, leading to a decreased customer cost. We expect further product releases to be in the electronics, valve and controller space going forward.

Economic indicators, including U.S. PMI, which registered 59 yesterday, signals further growth for manufacturing. Our orders remain at a high level, heading into Q4, which we anticipate will be a great finish to a strong year for Sun. Late last month, we paid a $1 per share special cash dividend.

In addition to paying a dividend every quarter since becoming a public company in 1997, we have utilized these special dividends as a way to return value to shareholders. Our strong financial performance and ability to generate cash make this possible.

Still, our balance sheet remains strong and provides the ability to continue to invest in our business and take advantage of market opportunities to grow long-term. I’ll now turn the call over to Tricia to provide more details on the quarter’s results..

Thanks Al. Demand for our products was strong throughout the third quarter. Heading into the fourth quarter, we expect double-digit growth over Q4 last year. Product development projects, which were expense in the second and third quarters, are largely complete.

As a result, we will be able to drive a higher percent of incremental revenue to operating income in the fourth quarter. On September 29th, Sun announced the price increase, which will take effect December 1st. We do not expect this price increase to impact Q4 results, but will affect 2015 sales by approximately 3%.

Let’s move now to numbers for the third quarter. Sales were up 11% with strength in all major geographic markets, Europe was up 15% and North America and Asia-Pacific were each up 10%. Pricing accounted for approximately 2.5% of sales, and foreign currency had a positive impact on sales of 1%. Earnings per share were up 15% compared to Q3 last year.

Earnings were within our forecasted range and included planned investments for product development and increased marketing efforts in Asia. Gross profits as a percentage of sales were strong at 41%. The increased sales volume and pricing impact, helped improve margins, we expect similar margins in Q4.

SEA expenses increased 17%, primarily related to product development, marketing efforts in Asia, and outside services. The provision for income taxes in the third quarter was approximately 34%. This rate was impacted by provision to return true-ups.

We expect our rate in Q4 to be approximately the same, based on higher relative income derived in the U.S., which is taxed at a higher effective tax rate. Net cash from operations in the quarter were $20 million. Inventory returns remain high, almost 10. Day sales outstanding came down during the quarter, to 33 days.

A quarterly dividend of $0.09 per share from third quarter, was paid on October 15th to shareholders of record on October 2nd. A special cash dividend of $1 per share, was paid on October 24th, to shareholders of record on October 10th. AS Al mentioned, we have utilized special dividends as a way to return value to shareholders.

The combination of our quarterly dividends, the share distribution dividend, paid earlier this year, and a recent special dividend will result in an annual yield for 2014 a mere 4%.

Capital expenditures for 2014 are expected to be 10 million, this includes approximately 2.5 million for improvements to, and reconfiguration of our high volume cartridge valve factory. This project is now complete and will result in operational efficiencies and productivity gain.

The remaining expenditures consist of purchases of machinery and equipments. Looking ahead to the fourth quarter, we expect a strong finish to a great year. Demand is strong, with sales expected to be approximately 55 million, up 12% from last year, and earnings per share estimated to be $0.37 to $0.39 compared to $0.32 in Q4 last year.

For the year, revenues are expected to be 228 million, up 11% from 2013, with earnings per share estimated to be $1.54 to $1.56 compared to $1.45 in 2013. I would now like to open the call for questions..

Thank you. [Operator Instructions] And we’ll now take our first question from Mick Dupre with Robert Baird..

Hello, can you hear me?.

Yes, yes..

Good morning..

Good morning..

Good morning..

First and foremost the thing that’s a little bit surprising to me and it’s definitely a positive. Is your commentary really kind of talking about very robust growth, not just in the Americas, which is something that I think we can all see in economic performance and PMI’s and so on, but really, outside of North America as well, EMEA and Asia-Pac.

And the data there has been frankly a lot more mixed. The ECB for instance this morning has cut the growth outlook for the Euro zone. And obviously we’re seeing very mix trends out of places like Germany for instance.

So can you help us maybe understand what you’re seeing specifically in Europe and Asia, in terms of demand? And if maybe growth as you perceive it, is better than what we all fear, or is it simply a product penetration and market share story for Sun?.

I’ll take that Mick, thank you. I think there’s a number of factors that come into play. One factor is, I think we have to recognize there are at least two Europe’s. So we tend to talk about Europe as an entity, but in fact it’s multiple entities. So the industrial part of Europe versus, I’ll call it the non-industrial part of Europe.

The industrial part of Europe does not have nearly the hit that the non-industrial parts it had. So the part of Europe that we play in is the industrial part. And there’s still a lot of projects and work going on in that arena, but there is a headwind.

I guess what I’m saying is the headwind in the industrial part of Europe is not nearly as strong as the headwind in the non-industrial part. So recognizing that we have a headwind and we’re still growing significantly, what’s accounting for that? Well I think that falls into a number of factors that come into play.

One is, that we have a very strong position in Europe with a lot of customers and a lot of markets were highly regarded, our brand is good.

And people continue to promote and specify and use Sun products on longer range projects, that some of these projects may have started a year-ago, two years ago, the projects that we’re working on today might be two, three years down the road both.

What happens from quarter-to-quarter is not a huge impact on us because of the capital goods market that we participate in. Additionally we picked up market share, we always pickup market share in a downturn. And we gain steam coming out of it. So, I guess I’m not surprised that we’re doing well in Europe and other places.

Another factor, the third factor perhaps is pricing and exchange rate, that dials into it as well. And I’m not quite sure, I can’t give you a number as to what it’s worth, but it’s worth something. It helps us at this point in time, and that would be my after cost explanation of what we’re seeing in our growth, particularly in Europe.

Hopefully that helps..

Just to give you a little bit of color on what we’re seeing so far in Q4, because the numbers that we reported were what we saw in Q3. Heading into Q4 we’re still seeing really strong North American demand. And we’re still seeing strong Europe demand in markets like Al was talking about, that are typically strong markets of Germany, UK, Scandinavia.

But we are starting to see some weakening in Asia, and also in some of the smaller markets in Europe, for instance Russia, as we’re looking into Q4 we are seeing some weakening demand there..

That’s helpful and I appreciate that. I guess my other question would be, can you clarify in terms of Europe end market exposure, you’re talking about being exposed to these longer range, longer term projects.

What exactly do you mean by that?.

Okay, many of our customers are developing new machines that get us new business. And the development process is one year, two year, sometimes three years from the time they say this machine needs to go into a redesign phase.

When our end market customers decide that its redesign time, that opens the window for them to consider us, if we’re not on that previous piece of equipment. So it’s an opportunity for us to gain market share. Generally speaking, when economy is not as strong, there’s a lot of redesign work going on getting ready for the next generation of product.

It is that next generation of product that would carry Sun perhaps, that we weren’t on in the previous model. So that’s kind of what I had in mind Mick..

I appreciate that, that’s helpful thank you. Then if we can move maybe a little bit to the cost structure, in terms of SG&A, we’ve seen this line sort of vary between 7.3 to call it 7.6 million thus far. Again I’m wondering, as you’re thinking about your investments, maybe even into next year.

How should we be thinking about this line item specifically?.

We expect it to remain relatively flat at the higher end of the range, that you’re talking about, that we’ve experienced throughout ‘14. A lot of those costs have been built in now to the cost structure, they may have been new this year, but they will continue going forward.

So we don’t expect that line to go up significantly, now that we have put those initiatives in place. Things like the marketing in Asia; it was new for this year and will continue on going forward..

But is it fair to assume that this line item is maybe not going to grow as fast as sales going forward?.

Yes, that’s correct..

Alright that’s all I had. Thank you..

And our next question is from Jon Braatz with Kansas City Capital..

Good morning everyone..

Good morning Jon..

Allen, about the 3% price increase for next year, does that reflect, is that because you can do it, or is there some cost pressure at all that requires a little bit of a price increase.

I guess I’m trying to get at is how much you might be able to keep of that?.

Yeah, well we take look at what the opportunities are in the marketplace. What’s the value of our products and services are and obviously our goal is to capture as much of that as possible. We also take a look at what our competitors are doing around the world and dial that into the equation.

Our pricing cost model is very complex; we look at it by product, by line item. We spend a lot of time going through our pricing metrics. So that’s the one side, the other side is the cost side. What’s happening to our cost as we go forward, what kinds of productivity gains, what our supplier costs doing.

And generally I think, if you looked back over the last decade or so, you would see that we probably captured a half to two-thirds of our cost increases. And we got the other half in the third, maybe a little more, out of productivity gains. We would prefer to grow our business, not by pricing actions alone, but by productivity gains and new markets..

Okay. Secondly, think I know the answer, but when you look at your end markets, how much exposure do you see Sun Hydraulics having to let’s say the oil and gas market.

Obviously there’s a lot of turmoil in that market, but any feel on how much exposure you have in that market?.

I could give you a number off the cuff, and I will, but if I took a look at the markets that we participate in, oil and gas and energy and all that stuff, and the number’s about 10% of our business is related to that. Of that 10% maybe about a third or a quarter, let’s call it 20%-25% would be related to oil and gas exploration. That’s my best guess..

Okay, all right. That’s what I needed to know. Thank you very much..

[Operator Instructions]. And we’ll now take a follow-up question from Mick Dupre with Robert Baird..

Yeah thanks for taking my follow-up. I just sort of wanted to touch on the previous line of questioning in terms of cost.

I’m not 100% clear as to how much of your price increase is simply a reflection of potentially higher cost into next year? Can you maybe clarify that?.

I’ll do my best. It’s a pretty complex situation because when we look at cost, we have hard cost and soft cost, we’ll start there. Though our hard costs have been relatively stable over the last 3, 4, 5 years, where we get hammered is with our soft cost.

All the government regulations, all of the healthcare costs, all those soft costs, and I can’t sit here right now and predict what our soft costs are going to do next year. They’re going to be whatever they’re going to be, and we don’t have much control over that.

Where we do have control, I’ll call it over the hard cost, the cost of producing the parts and things that go into our products. That has been, and will continue, I think, to be relatively stable. So, and I know the number you’re trying to drive to, how much of the 3% is going to go to bottom line? That’s what you’re trying to get to.

And I’m going to say, I’ll go out on a limb because, again, it’s a very complicated, very complex and I’m probably more wrong than right, but the number I would give you is about a half to 1%..

That is extremely helpful. Thank you so much..

And it appears we have no further questions at this time..

All right. We want to thank you for joining us on today’s call. We look forward to speaking with you again after our fourth quarter release in late February. Thank you..

This concludes today’s conference. Thank you for your participation..