y Jan Stoddard of Raine Consulting November 5, 2003 -- Cadmus Communications Corporation (NASDAQ/NM: CDMS) announced net sales of $106.9 million for the first quarter of its fiscal year 2004, an increase of 1%. Operating income was $7.1 million and net income was $2.1 million, or $0.23 per share. Editor's Note: Cadmus Communications continues to find its own formula to create new market opportunities and generate revenues to compensate for a continuing depressed specialty publications market. Cadmus has taken the slogan, "Make 'it' not the boxes" into a value centric solution based on automation, integrated global production and project management services. Can Cadmus successfully ‘de-commoditize’ its markets and leverage value-based pricing? Based on three sequential quarters of positive results, this is definitely a company to keep on your ‘radar screen.’ Call Topics: * Chairman Comment * Financial Summary * Closing Comment * Q&A Chairman Comments - Review of Q1 Fiscal Performance Bruce Thomas, President and Chief Executive Officer, began the call by noting that revenues increased 14% lead by strong content services and specialty packaging growth (i.e. 3rd consecutive quarter of year-over-year top line growth). Sales improved 1.4% to $106.9 million over previous quarter ($105.4 million): * Specialty Packaging segment was up 19% to $14.6 million. * Publisher Services down 1% from the previous quarter with content and journal services up, while magazines remain down. * There has been solid page growth (double-digit growth) in content services. They are also seeing a continued trend towards more outsourcing of editorial and issue management services. * Journal services (primarily on the print side) also had top-line growth from page count (existing accounts) and new business wins.Global packaging solutions initiatives resulted in new accounts, primarily in the healthcare and nutrition industries. ? There was continued softness in special interest magazines. While page count is improving, excess capacity in the industry and pricing pressures remain. Thomas noted that this top line growth was achieved despite the disruption from Hurricane Isabel that shut down the largest Richmond plant for over a week. Net operating profit was slightly up (to $7.2 million), but margins were down as margins in the operating group fell from $10.2 to $9.4 million this quarter. Distinct reasons for the margin loss in the Publisher Services Group included: costs associated with growth-oriented initiatives, equipment start-up issues (primarily at Lancaster Press), Hurricane Isabel downtime and disruption, and an increase in magazine bad debt reserves (two specialty magazines defaulted). Even with a slight debt increase of $1.6 million, Thomas sees this as positive noting an after pension contribution of $7.8 million and $5.5 million in Capital Expenditures. Cadmus is still on target for $4 to 8 million of debt reduction in FY 2004. Interest expense is $0.4 million which is lower year-over-year. Specific operational highlights for the Publisher Services Group included: * Professional Communications key initiatives: strong Content services performance, Cadmus ArticleWorks launched, ramp-up of India-based KnowledgeWorks Global Limited content services joint venture, and addition of press capacity and equipment to print journal operations. * Specialty Publications: Volume and pricing levels under pressure, some page increases and additional supplements, Hurricane Isabel negatively impacted operations (600 hours of lost production). Specific operational highlights for the Specialty Packaging Group included: * The "beat goes on" as sales remain strong with momentum to continue through 2003 into 2004. * New account generation (Health care and Nutrition sectors). * Successful start-up of the Dominican Republic facility. Update on Key Growth Initiatives (all launched in Q1) The initiatives were designed to protect the customer base and enhance existing relationships, secure new business and share growth, and enter new markets. Even though these initiatives negatively impacted the margins, all four are executed, on track, and will contribute in fiscal ’04. Initiative One: Cadmus created a STM Advisory Team including Debbie McClanahan and Priscilla Markwood, both widely known within the specialty publishing market. A Customer Care facility will be opened by January in Bethesda, MD at the same campus as many of their key STM customers. Initiative Two: Cadmus launched ArticleWorks. (One installation for Harvard Kennedy School of Government has just renewed their contract for three years.) ArticleWorks is part of a suite of content related technologies designed to provide efficiency improving and revenue generating benefits to customers. ArticleWorks is specifically a content delivery and digital rights management system that delivers content (in article format) on demand in either print or secure electronic format. It is designed to offer publishers a turnkey e-commerce based source of new revenue from existing materials. Cadmus currently has 20 existing and potential new customers for this product, many new STM customers or customers in related markets. Initiative Three: KnowledgeWorks Global Limited content services joint venture that encompasses a global workflow uniquely automated offering low cost and industry leading turn around times (critical to the publishing world). This includes two locations in India; Mumbai which is STM focused and Chennai (education and commercially focused). Over the past 3-4 years, Cadmus has invested $10 million in a technology platform market and content oriented, modular, and highly automated. It is both unique and proprietary, and Cadmus plans to use it to leverage entry into new markets. Initiative Four: Thomas used a customer case study from the Apparel Industry to explain distribute-and-print Global Packaging Solutions. Apparel manufacturers are price conscious with a business model based on offshore manufacturing and a focus on brand management and marketing. The Cadmus team turned the focus from risks associated with offshore delivery schedules and inventories to project management and Outsourcing. (“Make it not about the boxes.”) This was accomplished by enhancing ‘front-end” and project management capabilities, developing a network of certified and exclusive franchisees (in-country JIT for Mexico, Costa Rica and the Dominican Republic), and implementing a customer-accessible inventory management program. Customer and prospect reaction to the Dominican Republic has been very good. Outlook Thomas cited other industry leaders confirming that the traditional print industry remains difficult. However, Cadmus is on the right track investing in initiatives to drive growth and expand margins. The initiatives will have a positive impact in FY 2004. Assuming no further industry deterioration and continued progress on key initiatives, fiscal targets for 2004 remain achievable. Q & A Session: 1. Cadmus is in the process of refinancing debt to reduce overall interest expense. A revolver of $78 million matures next year (12.31.04) and the Board is looking at options, but they are confident that they will get it re-financed. 2. The continued struggles with the specialty magazine business (down year-over-year) disguise strong revenue growth in other business groups. Thomas expects this downward growth to continue and that growth will come from other areas. Cadmus is launching and getting traction on initiatives in content and STM businesses, especially packaging, and expects to accelerate that growth. They also plan to leverage new markets while managing the specialty interest magazine operations to make it as profitable as possible. They are more opportunities for cost management for significant profitability than new sales growth. When asked to speculate on EBITDA impact on these initiatives, Thomas pointed to the double-digit growth, consecutive growth quarters, and new market wins (educational and technological). Combining solid growth in other businesses and even marginal growth in specialty magazines would produce interesting results. 3. Page growth was stronger this quarter, particularly in the STM market. Two metrics to compare is the number of pages and revenue per page. Page growthis either by internal growth with existing customers (their hot topics) and gaining new markets. Cadmus works to increase revenue per page by “de-commoditizing” or adding value centric products and services. Both of these indices were positive this quarter. There was some revenue per page pressure from some customers and offshore competitors, but Cadmus has been able to insulate itself. One area of focus is the trend to outsourcing more issue management. Cadmus has seen an increase and believes it is critical to establishing stronger customer relationships. Thomas feels that the European market can be tapped using the Chennai production facility for editorial and issue management as early as January. His expectation is for European share gain in 2004. 4. When asked to describe new markets, Thomas reviewed the educational market where Cadmus does journals and books that are primarily scholarly or academic in nature. They have not produced textbooks or similar learning materials. Previously, Cadmus has not had the “making” systems to support textbook publishing, but do now in India. They are engaged in discussions with several publishers for automated, content and project management based textbook work with a “pretty solid medium term opportunities.” It is more a content than a print solution, although for some customers it could cover the entire process. 5. While no restructuring (or restructuring charge) is planned, Cadmus is focusing on the bottom line. This includes reviewing its’ customer base to evaluate poorest performing customers which require price increases. Existing equipment has also been re-arranged to manage overtime issues. 6. Bad debt for STM is less than $50,000.00 per year, while the Publisher Group is higher. With three years of struggle in the publishing markets, Cadmus is closely monitoring bad debt. However, as page counts rise and publishers get stronger bad debt is less risk. There were two accounts that resulted in bad debt. 7. This is the seasonal "weakest quarter" and Thomas stated that there would be continued improvements in the coming year. They anticipate continued year-over-year improvements and that the traction coming from the key initiatives will get them there. 8. Cadmus has won a good bit of new business in specialty packaging with some modest return already in the first quarter. While there was no contribution from the Dominican Republic facility in the first quarter, they have already sold several million in 2004 work into this facility. They have landed a number of new accounts with impact coming in the second quarter. There is a longer sales cycle in education and larger STM markets. Near term, Cadmus will push the 20 potential ArticleWorks customers into revenue-sharing results. Average contract life for STM is 3 years and up. Specialty packaging is not as contract based, but there are customers with 2-year contracts. The sales focus is on multi-year contracts. 9. The first quarter is an investment quarter traditionally for Cadmus. There were also some cost exceptions this quarter. 10. When asked about Thomas’s view on the number of printers indicating what percentage of printing is up or down, he referred to Banta’s and Quebecor’s recent releases; pointing to continued price declines. Thomas estimated pricing declines of at least 10% and stated he did not know of anyone significantly increasing capacity (just improved technologies). He stated that there has been an effort to constrain capacity without having any meaningful impact.