MTS SYSTEMS

Moderator: Sue Knight

February 01, 2013

9:00 am CT

Operator: Good day, everyone, and welcome to today's MTS Systems First Quarter 2013 Earnings Conference. As a reminder, today's call is being recorded. At this time, I would like to turn the conference over to your host for today, Ms. Sue Knight. Please go ahead, ma'am.

Susan Knight: Thank you, Sarah. Good morning, and welcome to MTS Systems Fiscal Jeff Graves, President and Chief Executive Officer. I want to remind you that statements made today which are not a historical fact should be considered forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995.

Future results may differ materially from these statements, depending upon risks, some of which are beyond management's control. A list of such risks can be found in the company's latest SEC Forms 10-Q and 10-K. The company disclaims any obligation to revise forward-looking statements made today based on future events.

This presentation may also include reference to financial measures which are not calculated in accordance with generally accepted accounting principles, or GAAP. These measures may be used by management to compare the operating performance of the company over time. They should not be considered in isolation or as a substitute for GAAP measures.

Jeff will now begin his update on our first quarter results.

Jeffrey Graves: Thank you, Sue, and good morning, everyone. Thank you for joining us for our first quarter investor call. We appreciate having the opportunity to share our financial results for the first quarter of fiscal 2013. In addition to recapping the financials, we'll also provide you with some context so you can better understand what's happening in our end markets for our Sensors and our Test businesses.

For today's call, I'll discuss the key takeaways for the company, followed by our first quarter order results. Sue will then discuss the rest of the quarterly financials. Following Sue's comments, I'll conclude the call with a few summary comments about our outlook for fiscal '13. We'll then open the call for your questions.

There are three key messages today. First, we set a new revenue record, achieving $143 million, which was driven by our Test business. The performance in Test more than compensated for our modest negative currency impact and continued softness in our Sensors business. As planned, the revenue growth is supporting our planned investments in building a scalable enterprise, growing our service offerings and capability, and expanding our global talent to enable our future growth.

Second, productivity gains in Test enabled us to beat our first quarter revenue and EPS guidance range, reflecting positively on our ongoing productivity project execution. This was a good start to the year, and I'll expand on the implications of this performance later in my comments.

Third, we reaffirm our fis - our previous fiscal 2013 outlook of revenue and EPS growth in the 5% to 10% range. We also continue to be watchful of changing market conditions which are driven by the uncertain economic environment. This enables us to quickly respond to demand increases or decreases as they arise. Sue and I will discuss these topics in more detail beginning with Q1 orders.

Total company orders were $139 million, up 3% over last year. Adjusting for currency, orders were up 4%. Consistent with the previous three quarters, Test was the driver, which was up 5%. These results were partially offset by a 7% decline in Sensors, the smaller our two businesses. Backlog of $291 million was relatively flat compared to the prior year.

Now I'll provide you with some additional color by business, and I'll begin with Sensors. In summary, while many of our Sensors customers are now talking about an improving outlook ahead, the market situation in total remains unchanged from the past several quarters. From quarter-to-quarter, the geographic and end market stories varied, but overall, volume still remains weak.

However, the good news is that customer inventory levels are low, so we expect that even a modest increase in end customer demand will have a positive impact on our order rates. Sensors orders were $22.5 million, down 7%, as I previously mentioned. Currency accounted for approximately half of this decline.

The weakness in Sensors orders was primarily in three areas - industrial demand in Europe and Japan, and mobile hydraulics in the Americas. A few of our larger customers had plant shutdowns in the quarter, associated with the holidays and in one case, labor issues. China was the bright spot this quarter for Sensors, up 15% to $3.5 million on the strength of new customers and new applications. This China growth occurred in spite of continued weakness in the Chinese steel industry.

Total sensor orders for the industrial equipment market declined 4%. This decline was driven by weakness in Germany and Japan, partially offset by increases in the Americas. Sensors orders for the mobile hydraulics market were a disappointment, down 18%, but the decline was primarily attributable to one large customer in the Americas.

A bright spot in the market this quarter for mobile hydraulics was heavy agricultural equipment led by farming equipment orders in Europe. Overall, we remain excited about the market for mobile hydraulics worldwide, with new design wins leading us to be optimistic about growth when the global markets for earthmoving, construction and agriculture equipment rebound at some point in the future. Backlog at the end of the quarter for Sensors was $14.8 million, down 9% compared to last year, but up $1 million sequentially.

Now I'd like to spend a few minutes on orders for our Test business. Overall, we were pleased with the first quarter orders, backlog, and the strength of our order pipeline going forward for Test. Regarding our pipeline, I'm frequently asked about the underlying drivers and the sustainability of the market demand for our Test solutions.

Based on my discussions with our customers around the world, I can tell you that this demand is being driven by significant and sustainable macro trends in the global economy. For example, global concerns are rising rapidly about environmental pollution, global warming and the availability of affordable energy.

In response, our customers are accelerating the introduction of new, high-efficiency autos, trains and planes, which are made of new lightweight, high-strength materials. In all cases these new products need to be exhaustively tested. Magnifying this demand further is the growth of large, new consumer populations in the emerging markets such as China.

Increases in discretionary income enable more people to buy cars, travel by air and rail, and migrate from farms to cities where new earthquake-resistant buildings are needed. These global trends are driving the need for more testing of new product designs across all of the industries we serve and in the broader scientific and research global community that supports these basic industries.

While the specific countries of focus will change over time, these basic drivers of our demand are expected to continue for decades to come. As an example of our success in addressing these market needs, two weeks ago, I was honored to accept the 2012 Green Environment Protection Company Award in China.

MTS was recognized for our ongoing innovations that enable Chinese businesses to develop more energy efficient and environmentally responsive products such as new hybrid vehicles and high-speed rail systems. As one of 15 recipients, we were very pleased to be recognized for our commitments in innovating energy efficient products and helping our customers to do the same.

Through our focus and investments over the last decade, we've seen China expand from $10 million to over $100 million in business for MTS, and the momentum continues today. We're proud of the success and are committed to replicating it throughout the emerging markets.

Continuing on with Test, first quarter orders at $117 million were up 5%, and up 6% excluding currency. Included in this result were two large and important orders, a $9 million vehicle motion simulator in the structures market in the Americas, and a $12 million ground vehicle rolling road system in Europe. We had good growth in two of three markets.

Ground vehicles was up 8% on strong motorsports demand and simulation investment, materials grew 5% based on growth in Europe and Asia from new products. Structures was flat, driven by the cyclical nature of seismic opportunities. Now I'd like to provide you with some additional color in each of these three markets and geographies.

As I mentioned, ground vehicles was up 8% for the quarter. Key wins in Europe and Asia demonstrated MTS' innovation capability and strong customer relationships. Our ground vehicle customers continue to face a highly competitive environment that require shorter development cycles, lower cost, and an ability to effectively address (field) issues. We know how to help them solve these problems.

Materials was up 5%, supported by a strong pipeline of new products. Orders for our Landmark product, which sets the standard for fatigue testing in materials in the world, grew 46%. Our new Criterion product, which is used for static testing of materials, continued to expand globally, and we received our first order for our new Acumen Test system, launched late in 2012, which is targeted at the biomedical field.

Looking ahead, I'm very excited about the launch of our new (Exceed) products, our newest Materials Test system, which is targeted specifically for China and other emerging markets. These product offerings position MTS well for a much broader range of application in materials testing globally.

Orders for our Structures testing systems were flat in the quarter. The vehicle motion simulator offset nonrecurring seismic system orders in China from last year. While there were no seismic orders this quarter, the pipeline remains very strong at $20 million to $30 million, driven again by the need for our customers to design buildings that are more resistant to damage from natural disasters.

Geographically for our Test business, Europe was up 47%, the Americas were up 7%, and Asia declined 19%. Motorsports and materials were the key drivers in Europe, and the vehicle motion simulator drove the Americas. Asia was down because of timing of seismic orders. Base orders were down 14% in the first quarter as we experienced some customers who delayed investments late in the calendar year.

However, the opportunity pipeline remains strong at $814 million, an increase of 5% year-over-year, with growth in ground vehicles and continuing demand for materials and structures testing. While we're happy with today's view of the market ahead, we're monitoring several factors, including any signs of customer purchasing delays and technical scope iterations, and recombining budgets so we can quickly adjust for market changes.

On a final note, Test backlog remains very healthy at $276 million, essentially flat with prior year in spite of a higher conversion rate of backlog to revenue in the quarter. We feel very good about these trends.

Now I'd like to turn the call back over to Sue for additional financial detail on the quarter. Sue?

Susan Knight: Thank you, Jeff. My remarks today will summarize our first quarter results based on a year-over-year comparison. Revenue in the quarter was $142.7 million, an all-time high for us. Year-over-year, revenue was up 6.7%, and excluding the effect of currency, revenue grew 8%, a very good outcome despite a less-than-robust economic environment.

Once again, double-digit growth in Test was partially offset by a decline in Sensors. We exceeded our Q1 guidance growth range of 1% to 3% based on Test productivity gains, as we began to see the benefits of our investment in operations. On a segment basis, Sensors revenue of $22 million declined 14%. Excluding currency, revenue was down 11%.

And geographically, Europe was down 12%, impacted by both currency and market demand, particularly in the industrial markets. Results - excuse me - in the rest of the world were similar and consistent with the order story as the Americas and Asia declined 16% and 15% respectively.

Test revenue of $121 million set a new record, and was $5 million higher than the previous peak in the third quarter of fiscal 2012. It is noteworthy that the strong performance was backlog-driven, as orders in the quarter were skewed to the third month, which impacted our ability to convert them into revenue in the first quarter.

Year-over-year growth was 11%, and excluding currency, the growth rate was 12%. From a geographic perspective, Europe was particularly strong, up 36% from custom projects. Asia revenue grew 7%, while revenue in the Americas declined to 2%, reflective also of the backlog mix. Overall, we were pleased with the revenue results in the quarter.

Moving on to the next topic, gross profit was $57 million, down 4% compared to the prior year. Approximately $4 million of incremental, volume-related gross margin was more than offset by a four-point decline in the gross margin rate, which was Test-driven. The growth margin rate was 39.7% in the quarter.

In Sensors, gross profit declined $2 million to $12 million, which was almost entirely volume-related. The gross margin rate continued to be very strong at 55.5%, compared to 55.9% last year. In Test, gross margin of $45 million was flat year-over-year on $13 million higher revenue, as the gross margin rate declined 4.3 points to 36.9%. This rate is within the expected Test range, considering both product mix and cost variability, but it is the lowest quarterly rate in a couple of years.

Compared to last year, two points of the decline was the result of mix, and one point related to planned investments. Higher warranty expense had a one-point impact in the quarter, but overall, we expect the annual warranty expense rate will be consistent with our relatively low annual experience. And finally, one point was associated with the addition of service technicians to expand our service capability.

While the service expansion was planned, it will put pressure on the Test growth margin rate for the next several quarters as these new employees come up to speed in their jobs. Despite that, we do expect a one to three-point margin rate increase in the remaining quarters based on mix and volume in Test.

My next topic is operating expenses. At $36.5 million, expenses were up $1.3 million, or 4% on 7% higher revenue. Our planned investment in sales capacity and process and systems infrastructure (scale) the company, were partially offset by local - lower legal and compliance spending. As a rate to revenue, operating expenses declined 70 basis points, 25.6%, slightly below our expected range of 26% to 27%.

At $21 million, EBIT was approximately $2 million better than expected on higher revenue volume. Year-over-year, EBIT declined $3 million from the lower gross margin rate and planned investments. One million of this decline was in Test and $2 million was in Sensors. EBIT as a percent of revenue was 14.4%, down 3.2 points comparatively speaking.

The Test and Sensors EBIT rates were 13.8% and 17.5% respectively. Excuse me. The tax rate of 32.8% was within our typical range of low- to mid-30%. Compared to last year, it was down slightly from 33.4%. Earnings per share was 87 cents, above our expected range of 72 cents to 82 cents, due to higher revenue. Compared to last year, earnings were down 12 cents on lower EBIT. The outstanding share count was flat at 15.8 million shares.

My last topic for today is cash. The first quarter is historically our highest cash utilization quarter, and this year was no exception. The cash balance at the end of the quarter was $48 million, a decline of $32 million sequentially. Operating cash flow was a use of $14 million, which included $29 million for working capital to support higher Test volume.

In working capital, advances declined $8 million, based on order type and timing, receivables and inventory increased $14 million and $5 million respectively, while payables declined $2 million. Additionally, capital expenditures were $8 million, on-track with our plans for the quarter. Dividends paid were $10 million, including the previously-announced dividend payment acceleration from January to December.

And in summary, the financial results were modestly better than we expected, which is a great way to begin a new year. Thank you. Now I'll turn the call back to Jeff for his concluding remarks.

Jeffrey Graves: Thanks, Sue. My final topic for today, before the Q&A session, is our outlook for the full year. At this time, we're pleased to confirm our previous growth range for both revenue and earnings per share of 5% to 10%. The global economy continues to be the single largest variable underlying the range, and it's particularly important in order for volume recovery in Sensors. We also still expect the second half of the year to be stronger than the first half.

While Q1 revenue was stronger than expected, it was a result of Test backlog acceleration, not higher-than-expected short cycle orders. Thus second half revenue is likely to still be 52% to 54% of the full year. Earnings per share in the second half will be 55% to 57% of the full year, based on the volume and timing in investment spending. This is the same first half- second half view we communicated last quarter.

That concludes my prepared remarks. I will now turn the call back to the operator for the Q&A session.

Operator: Thank you. To the audience, if you have a question or comment today, please press star then 1 on your touch-tone phone. For those of you joining us today using a speakerphone, please make sure your mute button is turned off to allow your signal to reach our equipment. Again, to the audience, please press star then 1 if you have a question or a comment at this time. We'll pause for just a moment.

We'll go first to John Franzreb of Sidoti & Company.

John Franzreb: Good morning, Jeff and Sue.

Jeffrey Graves: Good morning, John.

Susan Knight: Hi, John.

John Franzreb: You know, Jeff, you actually opened up with what I think is something that's been bothering me for a little while here. The recovery in the order book in the backlog and the sustainability, you touched on it. And if I kind of put it in buckets, it's been an increase in sales (rep), it's been the high demand you've seen in Asia, and I'm sure, to some extent, it's been the release of some pent-up demand.

I don't know if you agree with that assessment, but I'd like to look at those three buckets and talk about the sustainability of the order book, given those drivers going forward.

Jeffrey Graves: Yes, I tell you, John, you know, obviously business has been very good, and that's the key question, is how sustainable is it? It's the most common question I get from shareholders or potential investors. So that's my number one question when I'm on the road to the customers, is looking for how they're investing their money, where their challenges are at, where they're growing.

And I would tell you - and I tried to be specific in the three areas that are really driving the business. I do believe it's a decades-long demand for these new products for our customers that are really driving our business. And it gets down, very simply, to the tremendous changes in the emerging markets.

We've got enormous growth in the base of consumers out there, particularly in China and in India and elsewhere in the emerging world, where they've been employed for a while now, and they actual - they suddenly have discretionary income. And, you know, once they satisfy their food needs and clothing, their basic daily life, they look to buy cars and homes and, you know, migrate to cities and travel to see relatives, just like we would in the West.

And that is a - it's a massive trend. I believe it's a sustainable trend, unless there's some, you know, devastating, you know, economic impact out there. And our - it's causing our customers, you know, a lot of angst in terms of doing new product development, and also doing it in new places, you know, like China and India, closer to customers.

And you also see the rise of regional customers that we're now able to penetrate in China, and particularly now in India, in Russia, in places where there are new customers to address those demands. So the emerging market needs, particularly the rise of consumer populations, John, is a tremendous trend, and I believe it's - it'll continue for decades, and it'll drive new product development crazy, and it's really what's driving our Test business to help them with new products.

If you look at other factors, the scarcity of energy, you know, driven by - you know, everyone talks about, you know, how much more energy we're finding in the ground, and that's true, but there's big increases in demand for energy. And, you know, you look at any projection over the next four or five decades, and it's up four or five-fold in total, because, again, more people driving cars, more people having homes with electricity, in the emerging markets.

So there's a huge demand for energy, and what it means is you need more energy efficient vehicles for driving, for high-speed rail and for airplanes, things that consume less energy. So again, all of that drives product development, and all of that requires our testing equipment, and it carries down through the supply chain.

So it's not only cars and trains and planes, it's the suppliers of components to them, and then it's the basic materials development that supports those things. We play in all of those markets, and we are a big player, we're a dominant brand, and it's great for us, as long as we're there to support them. So we need to, you know, increase our investment and focus on these emerging markets.

The other thing, John, that's very apparent to me, which is upside for our business, and is particularly true, I would tell you, in the emerging markets, is they need our services. They - they're spending millions of dollars on new equipment to help them develop products, and they're new at running the equipment.

So they need us to come in and help, not only service the equipment, but help them with methodology and use of the equipment, so they get the right data. So again, that's why we're pushing really hard on our Services business, not only to address our install base in the U.S. and Western Europe and Japan, which is large, but, you know, large to the tune of $3.5 billion worth of installed equipment.

But in the emerging markets I believe it will be a tremendous business for us. So I don't see these trends changing, and I could lump on top of that environmental concerns. You know, when I was in China - I was in China a couple of weekends ago to accept this award on for - you know, one of the top 15 people driving the green economy in China. The pollution levels in Beijing hit record levels that day I was there, last - it was a few Saturdays ago, and it made all the papers in the West.

And they have to address that as their economy grows. And again, it's driving the need for green everything - green cars, green planes, green building structures, from an energy and an earthquake-resistant standpoint. So I look at those macro trends, John, and as long as we keep our technology sharp and we are present with the right sales and sales support and service, we have a tremendous future. And I see no letup in that demand for a long, long time to come.

John Franzreb: You know, it just - a few years back it wasn't uncommon for MTS to put - to post an incoming order book number in the mid-90s. Has the addressable market changed so much that that's not really in the cards anymore?

Jeffrey Graves: Sue, help me out with that one, addressable order book in the mid-90s.

Susan Knight: Well, yes, historically, we were a smaller business, but the market opportunities, with the backdrop that Jeff described, are driving a stronger pipeline. I'd say our win rate is strong, and the opportunities continue to build in that pipeline.

Jeffrey Graves: So John, certainly at the historical reference Sue gave you, I'm really pleased with our order pipelines. Since I've been here it's grown and it's big. And again, it's - our challenge is not becoming complacent. We have to really double down on our innovation to make sure we're the technology leader, because that's what gotten us in there for decades and that's what is allowing us to be sustainable as the first guy, and our infrastructure.

We - you know, that's why our CAPEX spending is what it is right now. We have to have a scalable enterprise for manufacturing so that we can deliver the products cost effectively. You know, people ask me also about, you know, anticipated margin performance, things like this.

As long as we keep our technology sharp and our cost coming down through our investments in our factory automation activities, and how quickly we can process an order or configure a product, as long as we keep those moving in parallel, we'll be very good in terms of margin performance. I would anticipate this kind of level being sustainable as we continue to grow the business.

John Franzreb: Okay, and one other question, if I heard your prepared remarks correctly, you had Asia down and Europe up in Test. Is that - did I hear that properly? And so what was driving that? I wouldn't expect...

Jeffrey Graves: It's just seismic, John. We landed a - we landed several big seismic orders last year. So the comps are hard, you know, but those were big and very good projects for us. And I would tell you our pipeline of future product in seismic is really strong in Asia.

Again, they're building a - they're building, you know, new skyscrapers by the bushelful over there, and they need this - they need our test equipment for seismic evaluation on the new building designs, but it's a lumpy business. So we landed some big orders last year. The pipeline's strong looking forward. It's just an aberration that it was down right now.

John Franzreb: Okay, I'll get back in queue.

Jeffrey Graves: Asia - I want to be sure you're clear. Asia is just a tremendously important, big and growing market for us. It's huge.

John Franzreb: I agree. All right, thank you for the clarity, Jeff. I'll get back into queue.

Jeffrey Graves: Okay, thanks, John.

Operator: Again, to the audience, please press star then 1 for questions. From Janney Capital Markets, we'll go next to Liam Burke.

Liam Burke: Thank you. Good morning, Jeff. Good morning, Sue.

Jeffrey Graves: Morning, Liam.

Susan Knight: Hi, Liam.

Liam Burke: Jeff, you telegraphed that you're - there was going to be significant upfront investment, and obviously, your gross margins reflected that in the first quarter. Could you give us any sense as to any type of, either anecdotally or actual revenue pickup on the service side based on these investments in the quarter, and then how you see it through the balance of the year?

Jeffrey Graves: Yes, Liam it's - we're refraining from giving kind of quarter-by-quarter updates on service growth. I can tell you, you know, we're obviously very much in a hiring phase and training of our field service engineers, and that's a year to two-year kind of process for these guys, because the equipment's very high-end equipment.

And, you know, to drill down and say, "Okay, you know, you hired x number of people in the quarter. How much revenue did you generate?" It's just too granular. I would tell you, I'm pleased with our progress. The training's going very well. We expect revenues to be up this year, and services over last year, and it think it'll be a year to two in this hiring investment and training mode until we really see the benefits.

Liam Burke: Okay, great. Sue, does your - your capital budget, is that - has that changed for the year, or do you still plan on maintaining that? And does your maintenance CAPEX budget change at all now that the business, Test business especially, is starting to get a little bigger?

Susan Knight: So from a capital spend, Liam, we communicated in the fourth quarter call that we expected CAPEX to be about $25 million, and that's still a good number. From a maintenance point of view, are you referring to CAPEX maintenance or some other aspect of maintenance?

Liam Burke: Yes. No, CAPEX management.

Susan Knight: I wouldn't see a material change there.

Liam Burke: Thank you.

Jeffrey Graves: These are mainly - Liam, these are mainly changes, you know, improvements in our MRP system and configuration tools for products, things like this. Those don't typically have a big maintenance, you know, check required later on. So it's more for speed through the factory and efficiency. It's not capital equipment.

Liam Burke: Great, thank you.

Operator: And as a final reminder to our audience today, it is star then 1 for questions. We'll go back to John Franzreb with a follow-up question.

John Franzreb: Yes. Jeff, you've been - the company's been investing in itself, be it sales personnel, new systems, new growth drivers, which has kind of limited some of the leverage we've seen on the top line. When do - when can shareholders expect to see that process wind down such that they get better returns, or when do we expect to see those returns on investment play out? You've kind of articulated it's not going to be next year, but will we see it next year?

Jeffrey Graves: Yes, and I would - you know, the - you're in the right kind of horizon, John. It takes a year to two years to hire and train these service folks, and, you know, I think that's the, you know, that's - I mean, the frustrating thing to me is it takes that long. And, you know, so obviously, make the investment. You don't start getting really the revenue generation from these guys for, you know, a year to two.

The good news is there's a huge demand for it. I mean, the most common question I get from customers, and I would tell you especially in the emerging markets, John, is please help me with equipment. You know, they have the money to buy the equipment now, and that's great, but what they really want from us, in addition to that, is day-to-day help keeping it running, but also kind of what I would think of more as consulting engineering support and the methodology of testing.

You know, they're trying to do a lot, and they're trying to do it fast, and there's increasing complexity in the vehicles and how it - and how much you can simulate of a test. And, you know, my view of life is we're very good at that stuff, and we - and they want us to help. So there's a very good demand. But to train the guys to provide that level of input, it takes a while, and that's the training cycle time.

It's not, you know, guys out with an oil can keeping a piece of equipment running. It's how do you really provide high-end services to these folks that they really want to make their testing efficient. And I wish it was faster, but it's just not. And we, you know, we have excellent retention of these people, you know, we've got good hiring going on. It's just the training takes a while.

So you can think of it in terms of, you know, a one to two-year period for starting to see incremental revenue flowing from these folks, and then the margin performance, I think, will be, you know, as good as it has been historically in our services business, which is higher than our equipment business.

John Franzreb: Okay, and when does Test become capacity-constrained? I know it sounds like you're doing some systems improvement, but when do you have an actual problem with the facility?

Jeffrey Graves: Oh, it's a ways out. I mean, our - you know, our capital investments are, again, around basically, efficiency improvements in the plants to handle more volume. You know, we design things, and we buy components and assemble them. So, you know, our supply chain is strong. We don't become capacity-constrained, really, until you get down to supply chain and individual suppliers out there for things, and we're working that hard, but I think we're in very good shape in terms of capacity growth potential.

In China, China gives us significant upside potential in terms of our Materials testing business. We continue to invest this year in expanding our two factories in China for materials testing. This is growing out of the SANS business that we acquired back in '08, and those factories are doing very well up in Shanghai and down in Shenzhen, and we continue to invest this year in expanding those. So I don't see any issue in addressing capacity growth, you know, to the horizon at this point, John.

John Franzreb: Okay, and switching to the Sensors side, a lot of the news coming out of the Sensors companies has been "unexciting." You certainly confirmed that last night. I wonder what your customers are telling you about their inventory levels or their willingness to spend. When do you expect to see some kind of turnaround in that business? Or do you think this is something that's going to be with you for some time?

Jeffrey Graves: I'm happy to - you know, the inventory levels are a good news story, they're very low. I mean, our customers are really guys that manage their businesses very well, and they really drove inventories down, you know, especially if you look at Q4 performance, and in terms of our orders and stuff. People were shutting factories down. They were doing everything they could to not build inventory. So there's not much in the supply chain.

So the good news is, any uptick in in-demand drives an immediate response to our business, and, you know, we can see that. The bad news is it's mostly economy-driven. You know, our Industrial Machines business there, Sensors into industrial equipment, you know, very, very slow. And it's because those are things like plastic injection molding machines, and people just don't need the capacity today.

I think the good news is that the new equipment that's, you know, that's being introduced has more Sensor technology embedded in it because people don't like competing on price. They want, you know, better, more precise automated equipment. That's the good news. Bad news is, their customers just aren't buying very much.

Steel industry is down, machines are down, the heavy equipment, you know, the earthmoving and - agriculture's been a bit of a brighter spot, you know, because of the needs in large-scale farming, but, you know, earthmoving's been really, really bad. So, you know, I look forward to the day it ticks up. You'll know it as - you'll know it when I do, when you see it in the papers. You can follow these end customers as well as I can, largely, John. And when it ticks up, it will hit us pretty quickly.

John Franzreb: Okay, so you're not seeing anything imminent?

Jeffrey Graves: No. I mean, I would say the hallway talk's better. I mean, when we see customers in the hallway they're walking a little bit better and, you know, and more lift in their shoes. But it hasn't translated to orders, John. So that's as much as we can tell you.

John Franzreb: All right, thank you very much, Jeff, nice quarter.

Jeffrey Graves: Thanks, John.

Operator: Up next, we'll move to Adam France of 1492 Capital.

Adam France: Yes, good morning. Thank you for taking my call. Jeff, could you speak to perhaps your utilization on your - in your Sensor business? And have you seen any new competitors that are making life more difficult than they should?

Jeffrey Graves: No. I mean, in terms of utilization, actually, I don't have a number for you. I mean, it's clearly down, and we continue to introduce some really nice automation equipment, so we have, you know, we have capacity to meet demand when it's out there, at, you know, lower and lower product cost. The nice thing about the business, Adam, is we work to get designed into equipment, and once you're designed in, you're so embedded that it's very hard to be displaced, frankly, until a new generation comes along.

And we're seeing a lot of design wins, you know, and everything from, again, from plastic injection molding machines to big, heavy, earthmoving equipment and farming equipment. We're seeing a lot of design wins. And, you know, you want to feel good about that and celebrate for the long-term year, but at the end of the day, our customers aren't selling many of these new products yet. So, you know, it's just a bit - it's a bit frustrating.

So I feel good about the technology. Our - we've got plenty of capacity to meet demand. We're seeing design wins around the world. It's just the economy's, you know, really holding our customers' demand down right now. So that's the story. The margins are hanging in there. You know, we tell you about gross margins. Pricing is hanging in there very well. It's nice.

So from a competitive landscape standpoint, again, we're really good at advising customers how to use these sensors and getting them designed in, and because of that, once they're embedded, we don't have a lot of further competition on the technology for that platform. But, you know, getting that end market demand up is really frustrating and out of our control.

Adam France: Okay, and Jeff, with respect to your service initiative, is that 100% on the Test side or 90%, 10% Test, sensor? Or how should I think about that?

Jeffrey Graves: No. It's really - you know, you've got to remember, again, the revenue split between the two businesses. Sensors is our - I'm sorry - Test is our dominant business. I mean it's over 80% of our revenue stream, and Services is specifically for Test. It really has no application for our Sensors business. It's specifically for Test.

And it's basically everything from, you know, day-to-day how do we keep a customer's equipment running, to how do we upgrade it to be more productive through its years. You know, these machines are designed to last, you know, 10, 20 - some customers are using things over 30 years. And how do you continue to upgrade the software and controls?

How do you upgrade the ability to take data on an old machine so that, you know, customers have state-of-the-art information without making a new capital investment? And that's really the thrust in the demand, except in emerging markets. The emerging markets it's all new stuff, and they want more advice on how to use it, how to run it, and how to get the best out of it.

Adam France: Okay, super. Thank you very much.

Jeffrey Graves: You're welcome, Adam. Thanks for the interest.

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

Jeffrey Graves: Okay, thanks very much. So listen, thank you, all, for joining us on our call today. We're off to a solid start for the year, and I remain very excited about our prospects for the future. I look forward to speaking with you again next quarter. Thanks, and have a good day.

Operator: And again, that does conclude today's conference, and we thank you all for joining us.

END