AdvanSix Inc (ASIX) 2017 Q2 法說會逐字稿

Good day, everyone, and welcome to the AdvanSix Second Quarter 2017 Earnings Conference Call. (Operator Instructions) And please do note that today's event is being recorded.

I would now like to turn the conference over to Adam Kressel, Director of Investor Relations. Please go ahead.

Thank you, William. Good morning, and welcome to AdvanSix's Second Quarter 2017 Earnings Conference Call.

With me here today are President and CEO, Erin Kane; and Senior Vice President and CFO, Michael Preston.

This call and webcast, including any non-GAAP reconciliations, are available on our website at investors.advan6.com using the number 6 in the web address.

Note that elements of this presentation contain forward-looking statements that are based on our best view of the world and of our business as we see it today. Those elements can change, and the actual results could differ materially from those projected, and we ask that you consider them in that light. We refer you to the forward-looking statements included in our press release and earnings presentation. In addition, we identified the principal risks and uncertainties that affect our performance in our SEC filings, including our annual report on Form 10-K.

This morning, we'll review our financial results for the second quarter 2017 and share with you our outlook for our key product lines and end markets. Finally, we'll leave time for your questions at the end.

So with that, I'll turn the call over to AdvanSix's President and CEO, Erin Kane.

Thanks, Adam, and good morning, everyone. Thank you for joining us and for your continued interest in AdvanSix.

As you saw in our press release, AdvanSix delivered a terrific quarter capping off a strong first half of 2017. Michael will detail the full results in a moment but I'd like to highlight the following. Sales for the quarter were $361 million, with both higher pricing and volume contributing to the improvement year-over-year. We generated nearly $55 million of EBITDA in the quarter, a significant increase from the prior year, and expanded margins by 400 basis points. This resulted in $26 million of net income or $0.83 of earnings per share. That represents an EPS increase of 69% versus the prior year.

There are a number of exciting things happening across the company that I would like to touch on. We are building momentum with further gains from our operational focus and [made] continued dynamic end markets. Our manufacturing sites have been running strong year-to-date, with sales volume up 4% in the first half supported by this higher production output.

We set production records in the first half at our Frankford phenol plant and across a number of unit operations at our Hopewell site, including caprolactam, granular ammonium sulfate, cyclohexanone, ammonia and sulfuric acid.

We also continue to see increased production at our Chesterfield facility through our variety of polymerization [trainings.]

We safely and efficiently executed our spring turnarounds across our plants, both on time and on budget. We will discuss our upcoming fourth quarter planned turnaround later on the call, but we expect the impact to pretax income from planned turnarounds across all of our manufacturing sites in total this year to be around $35 million.

Also, in June, we introduced a new version of our agricultural application called ROSI, or the return on sulfur investment. This app is designed to help farmers and fertilizer retailers quickly and simply determine the value that ammonium sulfate can bring to farming operations. The enhancements of the ROSI app will help growers better estimate the per-acre or per-farm return they can expect by incorporating sulfur in their crop nutrition programs. All ROSI app calculations are backed by the software response data from The Sulphur Institute and International Plant Nutrition Institute. Our goal is to help farmers and retailers optimize the health of their crops, maximizing both productivity and profit.

As we look across the global landscape, our end markets remain dynamic. Nylon and intermediates pricing in the first half of this year have been supported by a more favorable supply and demand environment as well as higher raw material costs.

Global caprolactam supply and demand is normalizing however, and we expect the industry's spreads to moderate from the highs we saw in the first half of the year.

On the fertilizer side of the business, nitrogen fundamentals have remained challenging, and we expect this to continue through the 2017-2018 planting season. Michael will share a more detailed framework for the second half later.

We can't always predict what the market will do but we're highly focused on executing what is in our control. Our operational excellence in safe and stable production discipline are critical to our performance. The momentum of the first half will serve us well this quarter, and this quarter demonstrates again the strength and value proposition of our operational leverage and global cost advantage.

Our proactive mechanical integrity program and the reliability improvements we're making are paying off. Our product management teams remain focused on value optimization to continuously upgrade our product mix. And we are continuing to enhance our research and development capabilities and investing in application development to enable future long-term growth.

We're approaching the one-year mark of being a stand-alone public company, and I'm very proud of what the team has accomplished over the last 10 months. I'm even more excited about what the future has to offer, and we're building a solid foundation for improved operational and financial performance over the long-term.

So with that, I'll turn it over to Mike to discuss the details of the quarter.

All right. Thanks, Erin, and good morning, everyone.

I'm now on Slide 4, where I'll cover the second quarter financial results.

As Erin indicated, it's been really a great start to the year so far, with the drivers of our performance in the second quarter really very consistent with the first quarter. Sales came in at $361 million, that's up 17% compared to last year. Pricing was the big driver of the top line again, increasing 14% overall, and that included a 10% benefit from the pass-through of higher raw material costs. The remaining 4% was market-based pricing.

Now as a reminder, prices for our end products typically track a spread over the underlying raw material costs, which are largely sensitive to changes in oil prices. We these inputs increasing significantly year-over-year trending with the price of oil, our sales in the second quarter also increased significantly.

As I mentioned, market-based pricing was also higher compared to the prior year. We saw a favorable industry supply and demand conditions in our nylon, caprolactam and chemical intermediate product lines. This was partially offset by a modest decline in ammonium sulfate pricing. It was another very strong quarter operationally. Volume was up 3% in the quarter with continued high utilization rates at our manufacturing sites.

Through the first half of 2017, sales volume has increased 4% versus the prior year. EBITDA of $55 million in the quarter increased nearly $21 million or 60% versus the prior year. And that was driven mostly by improved production and sales volume and the favorable impact of market-based pricing.

EBITDA margin also expanded significantly, up 400 basis points to 15.1%. Items below EBITDA were also as expected. Depreciation increased by about $1.9 million compared to last year, driven by our broad scope of capital investments in repair maintenance to further improve reliability as well as health, safety and environmental spend while interest expense increased by a similar amount.

Our diluted share count for the quarter was approximately 31 million shares. Now as we previously discussed, basic and diluted EPS for all periods prior to the spin-off reflect the number of shares that were distributed as of the spin or roughly 30.5 million shares as no common stock was outstanding prior to the date of the spin-off.

Earnings per share reached $0.83 in the second quarter of 2017 and that's compared to $0.49 in prior year, that's up 69% on a year-over-year basis.

Finally, we generated approximately $50 million of free cash flow in the quarter. Cash flow from operations was $30 million, and capital expenditures were roughly flat year-over-year at $15 million in the quarter. On a year-to-date basis, free cash flow increased by over $10 million, primarily driven by higher net income, partially offset by an increase in CapEx.

Overall, cash flow generation is improving, and we continue to manage working capital levels efficiently.

Now let me turn the call back over to Erin to discuss what we're seeing in each of our product lines.

Thanks, Mike.

I'm now on Slide 5 to discuss our nylon product line, which includes our caprolactam, resin and film products, and represented over 45% of our sales in the quarter.

You may notice that we've added an additional line to the pricing chart on the right side of the page. To address the feedback and questions we've received on Asia pricing versus global and regional pricing, we have continued to depict the Asia benzene and the caprolactam spreads and caprolactam to resin spreads based on third-party data sourced from Tecnon OrbiChem. The caprolactam price highlight reflects the Asia import contract in Taiwan and South Korea.

In addition, we've now added what we're referring to as a global composite index, which encompasses benzene and caprolactam spreads across 4 regions: the U.S., Europe, China and rest of Asia. We sourced this data from PCI Wood Mackenzie and Tecnon, and have provided a weighted average view based on each region's percentage of global caprolactam demand.

Asia remains the net importing region in the world so we'll continue to reference trends there as this performance is a key macro indicator for the industry while also touching on regional supply and demand dynamics.

We've seen generally balanced [in our rest of the supply] conditions across North America and Europe, while China structural imbalances continue to create uncertainty.

Overall, global caprolactam supply and demand dynamics are normalizing from the highs seen in the first half.

In China, availability of key feedstock materials, which were short early in the first half, have largely resolved themselves, and we're continuing to monitor government-imposed environmental constraints as we move through the summer months. We're also tracking potential capacity additions in the region. However, the timing remains uncertain, and are balanced against continued low utilization rates.

Europe's supply demand moderated as the second quarter progressed, remained favorable overall, while in North America where we primarily sell, industry supply and demand has remained more balanced given the capacity rationalization we saw near the end of 2016. Given these regional considerations, the industry pricing environment in the second quarter remained favorable on the back of higher benzene prices and a more favorable supply-demand dynamics on a year-over-year basis despite some moderations sequentially from 1Q to 2Q.

The global composite benzene and caprolactam spread we compiled increased 30% in the second quarter on a year-over-year basis, but declined to more modest 9%, sequentially. During the same period, the Asia caprolactam import price roll spread also increased by roughly 30% but saw a sharper sequential decline of 27%.

Lastly, the Asia-based resin spread over caprolactam, while up 17% year-over-year, declined 7% sequentially from the first quarter. As we look towards the second half of 2017, we expect industry spreads to moderate from the highs seen in the first half, and we'll continue to monitor the market fundamentals amid a dynamic supply environment.

Let's turn to Slide 6. Moving to ammonium sulfate, which represented over 20% of our total sales in the quarter. We saw seasonal sequential farming in ammonium sulfate pricing, but remain cautious on nitrogen market fundamentals overall.

The graph on the right-hand side plots urea and ammonium sulfate retail pricing on a nutrient basis. It's important to normalize pricing as urea contains 46% nitrogen whereas ammonium sulfate contains 21%. As a reminder, our ammonium sulfate product is positioned with the added value proposition of sulfur nutrition [on] increasing yields of key crops.

Based on data from Blue, Johnson, we saw corn belt granular ammonium sulfate prices in the industry remained relatively flat on both a year-over-year and sequential basis in the second quarter. As for corn belt urea, industry prices declined double digits, down 15% year-over-year, and more than 20% decline sequentially from the first quarter. This followed the 10% sequential improvement we saw from the fourth quarter of 2016 to the first quarter of 2017.

Nitrogen fertilizer supply-demand remains pressured with significant capacity additions coming online this year for urea, particularly in the U.S., having an underlying influence in all other nitrogen nutrient products. These capacity expansions are reducing the amount of imports required in the U.S. and are influencing historical trade flows and current market pricing.

In the second quarter, weather contributed to the slow start of the planting season in many of our key crop growing regions. As a result, we saw demand push back, but have now seen that late planting season demand tail off entering the third quarter.

In addition, we continue to see cautious buying behavior through the value chain ahead of the new season fill as U.S. farmer income and crop futures remain challenged.

As we look forward to the remainder of 2017, it remains a tougher environment overall. We've experienced many cycles over the years, and although we can't predict this one, we'll continue to run our business efficiently and deliver the value that our customers have come to expect from us.

So let's turn to Slide 7 for an update on chemical intermediates. Our chemical intermediates business, which represented over 30% of our total sales, again provides revenue diversification from the variety of coproducts we sell. Acetone is the largest of those coproducts or about half of our intermediate sales, and it's made through our phenol process. On the chart on the right side of the page, we've shown prices for refinery grade propylene and acetone based on third-party data sourced from IHS Markit.

Acetone prices will move with its own supply-demand dynamics, but it can also be influenced by the underlying moves in propylene prices. Input prices of propylene continued to increase in the second quarter on a year-over-year basis, up over 40%, following the significant increase from the first quarter.

In addition, acetone supply in the market remained tight in the quarter, given the spring phenol turnarounds of our competitors and our own turnaround at Frankford, which as I mentioned earlier, was completed as planned.

We continue to expect the acetone supply and demand to come more into balance in the second half of 2017.

With our vertical integration, we continue to fully utilize each unit operation of our broader supply chain, where we've seen demand remain relatively robust. As a reminder, our intermediate products are used as key inputs for a variety of end products, including construction materials, paints and coatings and other industrial and consumer applications.

So let's move to Slide 8. As you can see from the chart and to get a sense of the underlying improvement, our plant production rates on an annualized basis have continued to increase through the first half of 2017 compared to the first half of 2016 as well as the average we have seen over the prior 4 years.

First half production volume increased 7% over the prior year period and 9% over our historical average. As we've discussed, our manufacturing assets are highly integrated, so ensuring safe and stable production across our operations is critical.

Our operational excellence and mechanical integrity programs have been in place for several years now to support those safe, sustainable and improved operations, and we remain focused on driving this improved uptime and output.

Our critical equipment initiative and maintenance capital investments helped drive more stable production and in turn, allow for optimal utilization of our plants.

Less variation on daily production rates enables upside and drives higher returns.

Our culture of continuous improvement plays an integral role in that success as well. Just last month for the first time since the spin-off, we put 20 green belt candidates through a full week of training towards their Six Sigma certification. Importantly, all of our sites were represented, and the group included employees across many different functions, including operations, supply chain, engineering, health, safety and environmental, IT and finance. Each of these candidates are actively working on projects aligned with the strategic objectives of the organization. And we look forward to continuing to broaden this group in the years to come.

We've also implemented dedicated teams assigned to continue improving the effectiveness of our plant turnaround efforts. Our resources are focused on reducing risks across the supply chains, reducing the complexity of plant turnarounds and minimizing overall impacts of turnarounds from the start of the planning process through the restart of the assets, which oftentimes is the most critical part.

We're also maturing our reliability control plans that are in place to monitor critical assets. The second quarter turnarounds were a great example of this continuous improvement in action, all were completed safely on time and on budget.

Our fall turnaround at Hopewell is scheduled for the fourth quarter. We expect approximately $20 million impact to pretax income in 4Q, consistent with the expectations we discussed earlier for the full year impact of approximately $35 million. For most of the areas we're working on during this upcoming turnaround, there are multiple trains in the process. Therefore, we will still be running the plant, though at a reduced production rate. The impacts we'll see in our financials will come in the form of fixed-cost absorptions, additional raw material costs and other maintenance expenses.

So overall, we expect the full year 2017 impact of our plant turnarounds across all of the manufacturing sites in total, to be in line with our historical levels.

Let me turn this call back to Mike to wrap up before we open the meeting here for Q&A.

Okay. Thanks, Erin.

And I'm now on Slide 9, and we'd like to spend a little more time discussing our expectations for the second half of this year relative to the first half. And clearly, there are a number of puts and takes across the portfolio as we've discussed today. When you look at the nylon space, increases in industry pricing has sustained through the second quarter. We expect supply and demand fundamentals in North America to remain relatively balanced in the second half of the year. However, the potential capacity additions we're tracking in China support a continued dynamic supply-demand environment. Most recently, Asia benzene to caprolactam spreads have been firming after the sequential drop in the second quarter. So it's difficult to predict where things are going to go, and we are cautious given the overcapacity in the region and the uncertainty that brings.

A number of our key raw material inputs are also moving around. It's unclear where oil prices are headed, but based on third party analysts and economists, oil prices in the second half are expected to be roughly in line with the first half. As a reminder, approximately 50% of our total revenue base is protected by formula or index-based price agreements. While our sales will fluctuate with the price of those raw materials, the pricing model largely protects our variable margin. So our sales in COGS will move in tandem representing the pass-through of those key raw material inputs. We're also closely monitoring developments in fertilizers, as Erin indicated, prices for ammonium sulfate have stabilized sequentially, but we expect to see the normal seasonal pricing decline in the back half of the year. Although we continue to face a challenging end-market environment overall, we remain focused on delivering on the value proposition of our sulfur nutrition for our customers globally.

Our volumes are expected to remain relatively steady in the second half. However, we expect to have a higher amount of products sold to our export markets in the second half particularly in Latin America, given the timing of the planting seasons relative to the higher domestic granular product we sold in the first half. We continue to expect high utilization rates across our plants in the second half of the year sustaining continued volume growth on a year-over-year basis.

From a cash flow perspective, we continue to expect capital expenditures to be roughly $90 million for the full year of 2017. In addition, sustained strong working capital performance is expected to support continued cash flow generation for the remainder of the year. And on average, we see about 20 working capital returns, which is really a reflection of our strong operating practices, and we continue to drive our performance on a month-by-month basis. There are some other considerations as it relates to cash flow generation in the second half of the year as well.

We plan to make approximately $17 million of pension contributions in total during 2017 to satisfy funding requirements for our defined benefit plan. In the first half, we made $3.8 million in contributions; and in July, we made an additional $1.9 million contributions for a total of nearly $6 million year-to-date. A majority of the remaining $11 million is expected in the third quarter.

We also expect to see some level of pre-buy advances in the fourth quarter from ammonium sulfate as is common in that business, which results in some timing differences between our sales and cash inflow. And of course, there'll be some timing and working capital considerations around our plant turnaround activities in the fourth quarter.

Lastly, as Erin mentioned earlier, we expect an approximately $20 million impact to our pretax income in the fourth quarter from our planned turnaround activities.

So overall, we'll continue monitoring developments in pricing throughout our markets, while driving strong operational performance for the remainder of this year.

Now let's turn to Slide 10. A robust second quarter results built upon a strong first quarter, and that was highlighted by improved sales, earnings and cash flow in the first half of 2017. Production output continued to increase across our manufacturing sites amid a favorable supply and demand environment. While there are some puts and takes across our end markets, we are focused on executing what's in our control. Our vertical integration and global cost advantage position gives us the confidence and flexibility to manage through uncertainty in the macro environment. We will continue to drive safe and sustainable operations and complement that foundation with higher-return investments and key growth-oriented projects targeting higher-value products and application developments. Given that focus, we expect to drive continued shareholder value over the long term.

Now with that, Adam, let's move to Q&A.

All right. Thanks, Mike. And William, can you please open the line for questions.

(Operator Instructions) And our first questioner today will be Chris Moore with CJS Securities.

So maybe we could start on the caprolactam spreads. So as you talked about, it continues to be kind of more regional asset at this point in time. It looks like -- based on the charts that -- obviously on sequential basis, the spreads were coming in a little bit in Q2 but were flattening a little bit towards the end of Q2. Is that what you're seeing? Or is that just kind of what -- is that a fair assessment from the chart there?

Yes, no. I think when you look at the chart there, Chris, I mean, certainly, as we're coming into the back half of Q2 into Q3 that -- overall, we do see the dynamics normalizing from what was, in some cases, an acute consideration in the first half with feedstock materials availability in China, which has been largely resolved. We are continuing to monitor what appears to be ongoing government-imposed environmental constraints as we work through the summer months. And of course, we still have our eye on potentially, roughly up to 800,000 tons of capacity coming on throughout the back half of the year as well. So I think when you look at where we sit now, one could kind of look at the chart and almost go back to where we were discussing at the end of Q3 last year, where pricing was firming -- and seeing sort of that modest uptick and that's kind of what we -- we're anticipating. I think it's a reasonable probability that, that is kind of the path we may be on here now into the third quarter.

Got you. Beyond the China supply, anything else looks to be different in the second half? I mean, for example, with the fiber and plants in Europe, any update there? Or could we share if there -- is there additional capacity coming on beyond what might be coming from China?

Again, I think largely, the issues and the forces majeures that were declared in the first half have been largely resolved to our knowledge. And again, there are no other public announcements that we've seen indicating that there will be anything structural to happen other than again watching these new assets be brought online as we get into the back half.

Got you. And with respect to the -- on acetone side, you talked about the -- some of the -- obviously, you had turnaround already. Some of the turnarounds that competitors might be having are -- they're typically in the back half of '17. Just trying to get a sense as to kind of on a relative basis, how that plays out for you?

Yes, no. I think on a relative basis, I would say not quite industry-wide, but a fair amount of the industry outages tend to be taken in the first half. And so we were -- we had ours. There were some disruptions in another, I would say, peers' value chain, but -- and then some standard outages. But I think in back half again, with everybody running with that behind them, again we're -- you see things relatively robust from a demand side, but probably becoming a bit more in line from an availability of supply.

Got you. Got you. And just a last question on the overall kind of scope of your turnaround. So it sounds like $20 million in Q4, $35 million for the year. Most of that was in Q2? I'm just trying to get a sense as to how much of that roughly $15 million was Q2, or some of it was spread over Q1 and Q3?

Yes. So most of that was in Q2, Chris. We had just a little bit -- some slip -- low-million-dollar numbers may slip in between some of the quarters, so we had a little bit in Q1, have a little bit in Q3. But the majority are going to be in Q2, and we're going to have $20 million in Q4.

(Operator Instructions) And our next questioner today is Brad Hathaway with Far View.

I just had a question about kind of global caprolactam dynamics versus North America. How much caprolactam actually comes into North America from other parts of the world?

So today, when you think about the caprolactam market, as we've dialogued in the past, it's predominantly a balanced North American environment. Fibrant shut down their asset in 2016, and that was roughly about 25% of North America capacity at that time. So material may, in small quantities, leave North America and potentially come in. As a reminder, the North American environment and particularly the U.S., is a molten market, which means that we are servicing the customer base with hot liquid molten material. So there are supply chain considerations when you bring material in whether it's -- whether imports from Europe or our contemplated imports from Asia. You have to put it into a solid form. In which case, that needs to then be remelted and handled here with the longer supply chain. So again, I think there -- small, small amounts coming in and out, relatively speaking. But the North American capacity and supply-demand fundamentals are much more in balance than they were before.

Okay. So does that suggest that the outlook for North America in the second half is different than the kind of outlook for the global market given that North America is more balanced?

I think that -- again, from the standpoint of where we are in North America, given that balanced environment, which has been in place really since the fourth quarter last year that -- what we've seen in the first half would continue into the second half.

Okay. So you haven't -- so while there's been weakening in China, you haven't really seen any weakening in North American spreads in that balanced environment in the second half?

So when you go back in North America, roughly 80% of our sales here are in North America. We have a significant number of contracts as we talked about, and there are formula movement. So again, as we've discussed, it's largely -- kind of protects the raw materials again that pass-through in COGS to price. And again, I think when you look at the supply-demand fundamentals here, that played out early, contract is going to be a 1 year to 2 years in length. And again, so I think the way that we would characterize it and what I want you to think about it is the first half likely -- sort of carrying in as the key trends for the back half.

Okay. So the -- okay, so yes. So the global -- the kind of global normalizing maybe not happening as much in North America. Got it. Okay.

Right.

(Operator Instructions) There looks to be no further questioners. So this will conclude the question-and-answer session. I would like to turn the conference back over to Erin Kane for any closing remarks.

Great. Thank you. It was terrific to share with you the results of a very robust second quarter that when combined with Q1 highlighted our execution to deliver improved operational and financial performance in 2017. Our leading cost position will serve us well through the dynamics of our end markets. And we'll continue our focus on safe operational output, strong working capital results and delivering improved cash flow. We'll continue to build out capabilities for longer-term growth and value creation all while ensuring end-to-end business efficiency. We're building great momentum, and we look forward to sharing more with you next quarter. Thank you again for your time this morning.

And the conference has now concluded. Thank you all for attending today's presentation. You may now disconnect your lines.