ATI Inc (ATI) 2006 Q1 法說會逐字稿

Good day and welcome, ladies and gentlemen, to the first quarter 2006 Allegheny Technologies earnings conference call. My name is Audrey, and I'll be your conference coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of the conference. [OPERATOR INSTRUCTIONS]. As a reminder, ladies and gentlemen, this conference is being recorded for replay purposes. I would now like to turn the call over to Mr. Dan Greenfield, Director of Investor Relations at Allegheny Technologies. Sir, you may proceed.

Thank you, Audrey. Good afternoon, and welcome to Allegheny Technologies earnings conference call for the first quarter 2006. This conference call is being broadcast live on our website at www.alleghenytechnologies.com and on www.ccbn.com. Members of the media have been invited to listen to this call. Participating in the conference call today are Pat Hassey, Chairman, President, and Chief Executive Officer, and Rich Harshman, Executive Vice President of Finance and Chief Financial Officer. After some initial comments, we will ask for questions. Please note that all forward-looking statements made today, this afternoon are subject to various assumptions and caveats as noted in the earnings release. Actual results may differ materially. Here is Pat Hassey.

Thanks, Dan. And good afternoon, and welcome everyone. I'm pleased to report today on the Company's progress, results, and most importantly the rate of change occuring within ATI as we pick up the pace and gain added momentum and achieving top-line and bottom-line growth. ATI is off to an outstanding start in 2006. First of all, demonstrating strong aftertax profit growth results; and secondly, future earning power. Sales increased 18% to over $1 billion in the quarter. ATI achieved $1.00 per share of earnings after a full 36% tax rate, combined segment operating profit improved to 20% of sales. Key financial ratios were very strong in the quarter. ATI achieved 30% analyzed return on capital employed, 48% analyzed return on stockholders' equity, and the net debt to total capitalization improved to 18%. Cash flow remains strong as we continue to invest in our current growth, and in our future growth objectives for 2007 and beyond. Capital investments in the first quarter were $52 million. 75% of these investments were directed towards growing our high-valued product capabilities. We also invested 126 million in additional managed working capital to support significantly higher sales and operating levels. Notably, the ratio of managed working capital to sales improved to a very respectable 27% of analyzed sales. A 10% improvement compared to the end of 2005. Cash on hand was 359 million at the end of the quarter.

So what's driving our performance in growth. ATI is growing with long-term strong demand from the aerospace and defense market, plus, increasing demand from markets that are vital to building and rebuilding of the global infrastructure. Revenues from aerospace and defense now accounted for 31% of ATI sales. Revenues from chemical process industry, oil and gas were 16% of sales. Revenues from the electrical energy market, that is power generation and distribution were 11% of sales, and the medical market at 4% of ATI sales. Put these together and these strong market segments in total account for 62% of the sales in the first quarter of 2006. For a perspective, total ATI sales to these markets grew by nearly $220 million, compared to the first quarter of 2005. ATI is truly a high-value and differentiated products-driven company with commodity stainless steel to base load the flat rolled assets. High-value products, increased to 75% of sales in the first quarter. Titanium products now represent over 22% of sales. Nickle-based and specialty alloys 21%. The total of those two at 43. Precision and engineered strip 13%. And grain-oriented silicon steel another 7%, add tungsten materials that's 7, and exotic alloys at 5. Now we're at 75% of sales.

We are especially busy in our High Performance segment. Sales and operating profit, both reached record levels. Our titanium and nickel-based/superalloy capacity for 2006 is booked as a combination of long-term agreements, short-term agreements, and about 15% spot business. This strategy is working very well for us and we're now operating our titanium and nickel-based/superalloy facilities at near full-melt capacity. As we look to our new capacity coming on stream, our strategic investments in these products are on schedule. I'm pleased to report that the initial start-up of our upgraded and modernized Albany, Oregon titanium sponge facility is underway. We have tested the process and produced our first run of titanium sponge as of April 20th. We are now in the tune-up phase and expect to have the plant fully on stream for Phase I production by the end of June. We expect to be increasing the shipments of our high-value mill products and generating significant new revenue beginning in October of this year. Our Exotic Alloy Business is also doing very well. Demand from global markets for our zirconium products and exotic metals will keep our Wah Chang operations in Oregon at near capacity levels for the balance of the year. To further support this strong demand, we are adding 25% new melt capacity for zirconium beginning in the fourth quarter of this year.

In our Flat Rolled Product segment operating performance and execution was encouraging in the first quarter of 2006. Segment operating profit improved to 9.3% of sales on essentially flat revenue and lower volume. Although we do not chase commodity volume order entry in 2006 was running well ahead of any of the 2005 period and we are anticipating significantly improved overall results in the second quarter from our flat rolled operations through pricing and added volume. We are continuing to lower costs and make changes in our Flat Rolled segment. Cost savings in the quarter were $19 million. The transformation of this business to be more globally competitive is on track. We are continuing to emphasize the unique strengths, capabilities, and efficiencies that make Allegheny Ludlam the most efficient and value-adding supplier in specific market segments. This is where we do choose and will compete in the future. Our Flat Rolled Product segment is focused on strong markets, which accounted -- strong market growth markets, which accounted for 42% of the segment sales in the first quarter. These are a chemical process industry, oil and gas, at 19% flat rolled product sales during the quarter. Activity and on the global scale of oil and gas remains at extremely high levels. Demand for ethanol is driving strong order entry. So far in 2006, we have received orders related to construction of more than 20 ethanol facilities with more orders expected. Electrical energy improved to 17% of segment sales. Demand for our grain-oriented silicon electrical steel is used in power distribution is also very strong. Notably, over 30% of this product sales were outside the United States. Activity for Flue Gas Desulfurization in power generation is robust, both in the U.S. and in Asia. Aerospace and defense was over 6% of segment sales. Demand for our flat high-value specialty plate for airframe applications is at record levels and continues to grow in 2006.

Turning to our Engineered Product segment. We had another excellent first quarter driven by strong demand from its major markets and improved operational execution from the ATI business system. Segment operating profit reached 16% of sales. Now exceeding our 15% target expectation. Oil and gas market accounted for 28% of segment sales. Demand at record levels for our tungsten materials used in oil and gas exploration drilling applications. Transportation is another strong market for this segment. Demand is strong for our forged products for Class A trucks, earthmoving and off-road heavy equipment, as well as our cast engine blocks for locomotives. Summarizing, I'm happy to report for the sixth consecutive quarter that we're on track, in fact, ahead of schedule and are implementing our strategies. We are now a company in a profitable growth mode. We are focused to achieve our profitable growth objectives, systematically, effectively, profitably, and rapidly. We remain dedicated to our strategy of building the world's best specialty metals company. I think this will end my comments. At this point we should, Operator open the call -- open the lines for questions.

[OPERATOR INSTRUCTIONS]. The first question will come from the line of Tony Rizzuto with Bear Stearns. Please proceed.

Thanks, very much. Congratulations Pat and your team on their excellent performance and execution.

Thanks, Tony.

I've got a couple of questions here. First of all, in high performance metals. Do you view the stellar operating profit margin in Q1 as sustainable? And do you think there's further room for improvement here?

Tony, I think if we go back to what we had talked about in the past, remembered we ended the year at about 30% margins, and we had thought that we could move those margins up on a very significant basis. I think we've demonstrated that in the first quarter of the year and we're now with our fixed contracts, longer term contracts, and our short-term contracts in place, the upside of this is the 15% that we're taking on spot business. There's some room, but I'm very satisfied at the 35% level.

The margin -- Pat, do you see any of the margins changing at all as you supply more airframe components versus jet engine components?

I think you could have margins changing, but the volume, Tony, would not change what we currently have. This would be for capacity coming on stream starting in the fourth quarter as we're adding three VARs to the production, we're bringing on our plasma melting furnace, and we're adding more capacity out of our Electron Beam operation. So we put all of that together, if we take on more flat products and plate products those revenues are somewhat lower than what we would look at the rotating parts on a unit basis, but the margins are still very, very attractive.

All right, Pat. The question on flat rolled products also. You talked about a range in the past of operating profit margin over the cycle of 8 to 12%. On the last conference call, I think you alluded to -- maybe more casually -- but you alluded to the possibility of a 10% margin for '06. Is your sense now in that you're seeing pricing, obviously better efficiencies, that it could be closer to the upper end of the range for '06?

I think that's a good assumption based on our current look at the industry. And I try to look out, maybe six months in this particular market. Certainly the second quarter is very strong, the third quarter appears it's going to be very strong also. Remember, when we look at the first quarter, when this market turns, it started in the January timeframe. And when you come into the January timeframe, and even quoting deliveries at that time as early as 4 to 5 weeks, which are now out more like 8 and 10 weeks. You start to look at the quarter and you say, when will those orders start hitting the schedule? And they start hitting the schedule in the second half of February and into March.

And so we filled those schedules very strongly starting in the second of February and into March. And we put out three pricing increases, which the first one of which was only effective in the last two weeks of March. So when I look at that and look at the volume that we're now looking at through the entire operation, add three price increases that we did not see in the first quarter, I'm very optimistic that we'll be in the upper range of those numbers.

Excellent. Thanks very much, Pat.

Next question will come from the line of John Hill with Citigroup. Please proceed.

Good afternoon, everyone. And also I would echo the congratulations on a geat result.

Thanks, John.

Just a quick, two quick questions. First flat rolled pricing eased a little bit in the quarter. Obviously, the market was somewhat stronger. You talked about this. I'm going to assume that it's a mix effect, but I was just wondering if you could comment on the sequential easing in flat rolled average pricing from $1.70 to $1.64?

Are you talking about [fourth] to first?

Yes.

Yes, well, if you look at the commodity products pick up as we were talking earlier with Tony. The products picked up starting in the second half of February, and if we have something like a 24% pick up in volume from the fourth quarter to the first quarter, and 43% of that is in commodity products. So it's definitely a mix change. In fact, we're actually experiencing -- beginning to experience as we move the prices, better margins on our higher priced end. But they're not showing up yet.

Great. And then you mentioned an expansion in zirconium melting capacity, that's something that I haven't heard about -- a whole lot about before. I was just wondering if you could shed some light on the opportunity there.

I think this gets back to the point that I tried to make earlier, that our Company today is being driven by this global rebuild of the infrastructure or new build. And as you look at corrosion-type applications and applications for acidic plants or rig plants and we get into the petrochemical business and we look at nuclear projects that are starting around the world, this drives the zirc business or the zirconium business. And we basically have sold out our capacity and need more capacity.

Can you give us a feel for kind of volumes, CapEx, and revenue opportunity?

We're just saying that we're going to kick about 25% by the fourth quarter and we'll see if we do more.

Great. Thank you very much.

Okay, John.

And your next question will come from the line of Robert LaGaipa with CIBC World Markets. Please proceed.

Hi, good afternoon.

Hi Bob, how are you doing?

I am good. Yourself, Pat?

Great, thank you.

Just a few questions. One to follow-up on the contract exposure of the business currently. Obviously, you've done a very good job really over the last couple of years in improving the operations, cutting out some of the lower profitability-type contracts, especially in the flat rolled business. And I was just curious, obviously you had mentioned that over the next quarter or so, visibility is very good and you're expecting the improvement in the flat rolled business, now, are there any existing contracts within that business that have yet to kind of roll-over, where you could see an incremental improvement? I was just curious as to what the contract exposure is in the flat rolled business currently.

Well, the contract exposure is mostly in the precision strip, which is the upper end of some of the more value-added products where we do annual contracts on those. Most of the other business would come in project work. We're able to price that project-by-project. And as we're locking a project we're also locking our margins. So we like what we're seeing in the tube and pipe businesses around the world in the -- what we'll call the "high temperature alloys" or the "strength alloys." And especially, in specialty plates. So we're able to -- through the projects that we take on; for example, these 20 ethanol projects, each one of those has its own pricing as it's moving forward. So I'm optimistic that we're going to be able to bring a good portion of that to the bottom line margins of the flat rolled business.

Also we're focusing our management on the kind of specific market segments that fit our assets and fit our specialty capabilities. And we're able then to pick and choose, if you will, those projects that give us the best results. And as we do that and base load the primary asset, basically the melt shops and the pop mill with those items that are the commodity and specialty commodity products, we're able then to incrementalize the margin on the higher value products straight to the bottom-line. So right now, as we look at the second quarter, we look at the third quarter, these are very good conditions for us in flat rolled products. We've taken on a great deal of cost out of this business, 19 million, another 19 million in the first quarter. And a little bit pull back here, but I'm pretty optimistic about the flat rolled business this year.

Terrific. And I guess the same question with regards to the high performance business. You mentioned the six contracts, the short-term contracts, the 15% spot. The short-term contracts, I mean, what exposure do you have there and how short-term are they? Are we talking three months? Are we talking six months? Could there be an incremental opportunity there?

Short-term for us in high performance metals these days, Bob, is one year. And so as we moved into the year, we put the new pricing in effect for January for this quarter. So we're basically where we want it to be. And also please remember that on these kinds of contracts we do not carry the metal exposure, those are either hitched as the product is booked, which is the option of the customer, or we can price and price in effect at the time of shipment. So we have the ability to protect ourselves and we also have put on the longer range contracts, of course, we have an energy surcharge and we have other mechanisms that make sure that our conversion margins are protected.

Terrific. And last question, if I could, Pat. Just with regard to the cash flow, obviously, you've had these capital investments that you're making, but you still should be generating a fairly significant amount of cash flow this year. Any thoughts just in terms of the uses of that cash flow outside of the incremental capital investments?

I'm going to let Rich Harshman take this one.

Okay. Hi, Rich.

Hi, Bob. How are you? I'm fine. Yourself? Good. One of the things Pat commented on was the -- a continued investment [inaudible] working capital in the first quarter. And I don't think that will continue at that level in the second quarter or for the rest of the year. So the point about what are we going to do with the cash flow, obviously we're focused on opportunities to continue to grow and create shareholder value. Some of that is obviously in the strategic investments we're making on the capital side. We have announced a range of 225 to $250 million of capital investments this year. The other areas that we'll continue to look at is continuing to strengthen the balance sheet and the financial flexibility of the Company. So it's a good position for the Company to be in, to generate cash, and be opportunistic on taking actions that create shareholder value over the long-term.

I'm just going to add one more thing here to Rich's statement, Bob, because it's right on. The other side we have as we're growing this Company we're doing it with phased investment. Most of what we do as we're coming into that timeframe, as we've talked about we've already committed that capacity out. And so there is more to come as long as the markets are there to ask us to come into it.

Are there any thoughts relative to share repurchases or dividend, especially given the previous dividend cuts? I mean, are there any thoughts to reinstating some of the dividend that have been lost the last couple of years?

Well, as you know, the Board increased the dividend by 67% in the fourth quarter of last year.

Right.

That's a decision that the management, Pat, and I look at and evaluate the cash needs and the ways to create shareholder value short- and long-term and make recommendations to the board. So that will continue on a quarterly basis. In terms of share repurchase, obviously there are right times to do that and it really fundamentally is based upon what are the best uses of free cash flow as I've said to create shareholder value over the short-term and the long-term.

Fair enough. Thank you very much. Good quarter.

Thank you, Bob.

Our next question will come from the line of Jeff Feinberg with JLF Asset Management. Please proceed.

Good afternoon, guys. Congratulations.

Hi, Jeff. How are you?

Doing very well. Thank you for the wonderful performance that we've all appreciated. Thank you, Pat.

I understand, congratulations are also in order for you. A new baby girl.

Yes, thank you very much. Just in terms of the commentary on the use of working capital, which Rich just discussed. Just refresh our memory, how much in terms of new capacity we have coming online next year for these markets that are obviously doing very well.

What we've said is we're going to move our nickel capacity up about 25%, and superalloys, and we said that we would estimate, this was back when we announced these, about $300 million in new sales on titanium. And since that time, of course, that number would be higher with the new pricing on those items. So I think to answer your question, if you looked at the nickel-based side and added 125 or multiplied by that, and on the other side you can take your own guess as this titanium market continues to move. And we're continuing to phase this thing. We've announced Phase I and II at our sponge facilities in Albany, Oregon, there is still capacity left there. And so I really don't want to answer you exactly where we're going to be because it depends on what the markets ask us to do.

Okay, just so I can understand. The $300 million is based on titanium priced of what?

It was based on about $20 ingot and that's the lowest course product that we're making. Those prices for ingot today on the average are higher and we also, of course, are moving to higher-valued product forms.

Okay. And just to make sure I'm thinking about it correctly, of course, as informed market observers, we'll all make our own assumptions. But just based on the press release today it looks like your titanium products are up about 80% year-over-year in terms of average prices, is there any reason that that type of increased possibility wouldn't exist for the new capacity next year?

I don't think you're going to see prices move another 80%. I just don't think that's going to happen.

Well, maybe I said that incorrectly. In other words, you had 300 million of new capacity coming on, based on prices that I believe were 60 to 80% lower.

Yes, I'm sorry.

So the thought process being that maybe we have a capacity of 500 to $600 million potential coming on board next year?

Yes.

Okay.

I don't think the prices in this next phase are going down at all.

Okay, wonderful. So we can make our own assumptions. But ballpark we've got 0.5 billion or so more capacity coming on next year. And finally in terms of the margins on that new capacity. I know you commented earlier with the first question that you're pleased with these margins and there's no reason for them not to be sustainable in the High Performance Metals business. I assume that would be the same with regard to the new capacity coming on board next year?

I think it's based on two things, if this capacity is added to existing contractual long-term arrangements that meet the shareholders' value proposition for the longer term, then it's at these margins. If this becomes spot business, we are getting higher margins.

Wow. Well, it will be fun to see what we do with those hundreds of millions of dollars of free cash flow next year. Thank you very, very much.

Thanks, Jeff.

Our next question will come from the line of Michael Gambardella with JPMorgan. Please proceed.

Yes. Good afternoon, Pat.

Hi, Michael. How are you doing?

Good, good. How are you?

Great.

Good. I have a question on the sharp rise in EBITDA, just sequentially from the fourth quarter to the first about 61, 62% increase, $74 million. How much of that incremental move in EBITDA was attributal to new prices on contract business?

Well, we ended the third quarter at about 30% on the high performance side of the business. We didn't really get -- mention new prices on the flat rolled side. We got new volume through efficiencies out of the Engineered Product segment. So two things are really happening here. We did get pricing in High Performance Metals, and we're getting some tremendous efficiencies through the -- what we call the "ATIBS" business system, or its basically the implementation projects we have in our High Performance Metals area for the production assets. We're getting more out of the existing assets than we've ever gotten before and that money, of course, when you do that, and I mean double-digit kind of improvements, not 2 or 3%, drops straight to the bottom-line.

So if you were to look at just from the fourth quarter to the first quarter a $74 million increase in EBITDA, can you kind of ballpark how much was attributal to price, volume, and cost reductions?

Yes, Mike, hi, this is Rich. I think that, a ballpark, because it really -- when you look at the price improvement, setting aside the mix issue; for example, on nickel-based -- high-performance nicked-based alloys the delta on price between the fourth quarter and the first quarter is plus 6%. Titanium high performance price delta is 15%. And the volume on nickel, recognizing that there are mix issues there, but the volume on a mix unadjusted basis is up 9% and titanium was up 2%, which was heavily influenced by mixe. And that's on the high-performance metal side.

On the Flat Rolled Product side, prices overall on the high value side was up 2% a quarter sequentially. But there were two pieces of that that were up significantly, more than 20%. And that was the silicon electrical steels and titanium, which is also in the high -- in the flat rolled product segment. The commodity products were relatively flat, but on a transaction basis, but that's somewhat masked by the fact that the surcharge; for example, just looking at 304 commodity sheet was down $0.06 a pound in the first quarter compared to the fourth quarter because of the raw material cost. And then volume was up 24% on flat rolled, so when you put it all together you're probably at a rate that's maybe 10% cost reduction improvement and the rest split between volume and price.

And did you reprice all of your grain-oriented electrical steel contracts?

Absolutely, every single contract was repriced, no contracts carry over.

And was that price up somewhere around 80%?

At least.

Okay. All right, great job. Thank you.

Thanks, Mike.

Our next question will come from the line of John Tumazos with Prudential Equity Group. Please proceed.

Congratulations.

Hi, John.

Titanium price is higher than the moon every quarter. You shifted 6.4 million pounds of titanium mill products in the first quarter. Your expansions come on in the latter part of the year, could you give us a little flavor for what the ramp-up should be or whether we should assume; for example, 6.5 million pounds in the second quarter, 7 in the third, 8 in the fourth, or what that might look like?

John, that's a tough question for us right now because it gets right back into the mix and what we're going to do with these assets as they come up. Now, we're looking at what I would consider start-up periods in the third quarter and production, a realization of shipments on the fabricated side in the fourth quarter. We're going to have sponge production coming up in the third quarter. And when you go out and look at the price of titanium scrap today, even if we just took the units straight into the existing tonnage, it's very effective for our margins, and as you come back into the fourth quarter, it's really a question of exactly where we're going to sell this. Which, we think we know where we are, but I really don't want to forecast that at this point in time.

Well, I don't want to give people a lousy number.

It will be far better than it is, how's that? It's going to be double-digit up.

Thank you.

And our next question will come from the line of David MacGregor with Longbow Research. Please proceed.

Nice quarters, gentlemen.

Thank you.

In the titanium [metal] product price of 31.58. Can you talk about any shifting mix within that number or anything that might have contributed other than just outright price level increases?

Well, we've been trying to move the mix from ingots into billets or bars or more fabricated kinds of products. We're also moving from -- trying to move from a slab kind of a product production to a plate or even a sheet product. So those kind of margins, those kind of pricing drives this overall unit up. I think the game that we're looking at now as we move into this level of where we are is that capacity we have left on the spot business will be driven by whatever the market pricing is for the timeframes that we're selling this in with protected margins, of course, all the way along the range. And those kind of products are really on the basis of availability and schedule and lead times more than any kind of a constraint on pricing.

As we go forward, though, the real driver gets into our ability to increase total pounds shipped with more capacity coming on stream and more projects that will allow us to produce more of our own sponge so that we're not paying as high of price for the scrap that we are in the marketplace today.

And I was just wondering if you could give us some benchmark examples of pricing on melt products or on scrap as well, can you just give us a sense of where those markets are?

I would say that the scrap market today is running from $17 to $20 a pound.

Right, for bulk.

And let's give you a base price on ingot could be 25 to $30.

25 to 30 on ingot.

Yes.

Okay. And then last question had to do with the flat rolled business. And here while the top-line was pretty flat, you managed to deliver a pretty impressive earnings number on that business. And I'm just wondering if you could talk a little bit about just the drivers behind the increase in EBITDA without sort of seeing any meaningful dynamic at the top-line?

Well, just simply, I think we had a very good performance out of the flat rolled group. Remember we're coming out of the fourth quarter of last year, which was not a stellar volume quarter. We did make money. We were one of the few stainless steel companies still with positive operating revenue coming out of the business. And as you move into that quarter, and we really saw a step change in demand, you have to get your facilities ramping to those levels.

So I think we had a very good performance out of the group in terms of some of the changes we've made over the last two years in our cost structure. And we're also seeing the benefit of increasing utilization of these assets where we absorb more of our overheads and our fixed cost through larger times. So as we go forward and continue to do that, those kinds of costs when you move into those higher volume levels, and you can get more absorption, it drops straight to the bottom-line.

Okay and just -- I'm sorry, last, one more question. You talked about the fact that you have got a very good order book heading into 2Q. Is there anything you can tell us about expected pricing and volume for the second quarter based on order of visibility?

Yes, I would say that we've announced the three price increases, the first one being effective on March 15th. So we only had basically just a couple weeks in the quarter of shipments and that -- so that price increase is fully effective, and you can almost take the next two about 30 days apart coming into the second quarter. And I would just say that -- I would anticipate the quarter to be an all-time volume record for Allegheny Ludlam in the second quarter.

Great, thanks. And congratulations on all the progress.

Thank you.

Our next question will come from the line of Kevin [Money] at [Stein Midwest Securities.] Please proceed.

Good afternoon.

Afternoon.

Just had a couple of questions on the titanium market as a whole. I wanted to get your thoughts on current [Brownsville's] sponge expansion and how much you see sponge production increasing when all the new facilities are up? We're hearing about 30 to 35%.

I think that might be a reasonable number when you look at -- there's some capacity coming on, certainly in the Japanese operations. I think the operations in the -- in Russia and the operations in [Pakistan] are pretty much running at everything that they can produce today. So we have some expansion that we're doing, some expansion from time [inaudible] some expansion from the Japanese producers. And if you add all that together it may be something like 30%.

The market is certainly demanding it. Today on the industrial side of the titanium market, meaning the corrosion-type projects, the desalination infrastructure builds around the world, that market, including marine, is moving to substitute materials because they can't get all the titanium today that they would like to have. And I believe as soon as those units are available, the preferred product will go right back to the titanium side. But the question is, is there going to be a surplus of titanium any time soon? I don't think you're seeing any producer saying that. What we're seeing is this shortage continuing, a very tight supply continuing, moving forward with the ability to shift that -- those units to the aerospace market and substitute units to the industrial titanium market until the capacity catches up.

Great. Just one more question, are you seeing scrap supply increase in titanium yet?

No. In fact, it's the other way around.

That's what I thought. Thanks a lot.

Our next question will come from the line of Sal Tharani with Goldman Sachs. Please proceed.

Good afternoon.

Would you walk us through on your capacity expansion what number -- how many workforce -- how much workforce you're going to be adding as you go along? New labors?

Well, of course, out in the new rebuilt modernized sponge facilities that number will start between 50 and 100 people. And as we move into Phase II we'll be going toward the higher number, but starting probably building at 55 to 75 people. So it's not a major employment gain for that. And as we look at our melting facilities, these are operators and assistants and some additional technical people, and support that is not great numbers of people. There is new jobs here, but these are not labor intensive businesses.

Okay. And how about in nickel expansion and zirconium, are you going to be adding people over there?

It's just basically the very same thing.

Okay. Also looking at the demand for titanium rising and the recent interview you gave it, I believe was at AMM where you alluded to a number of tools or fastners will be used by the new models. Do you see a Phase III on titanium sponge for the balance of the capacity you have left?

Well, I think that's why we've numbered them. We have Phase I coming on this year, Phase II early next year, and then that plant can move to about 18.5 million pounds. So what I would like to do is as we've -- not getting ahead of ourselves, we're balancing these operations between the sponge facilities and our ability to bring on melting facilities, our ability to serve the markets that we choose to serve. And I think it's certainly within our sights of Phase III.

And you are also, of course, bringing the [inaudible] where do you see the [inaudible]. I mean, is there any place you think you will need to [inaudible] or some day you will need to add some new equipment?

Well, that's what we're -- exactly what we're doing on a concurrent basis. We're adding our ability to increase titanium units. And whether those units come from a revert or a recycled product that we're getting back from our own shipments to the marketplace or purchasing scrap or adding metal units, that's the first step. And then the second step is to be able to provide the right melting path, which is passed for either a rotating quality part or an airframe quality part or an industrial quality part.

And that's the next phase that I think could be a bottleneck across the industry. We've added -- we are in the process of adding several new melting units into the total system. And then you move from there into the fabricating side where we have the ability to continue to shift our mix; for example, on our flat rolled side or on our long product side with or new [inaudible] facilities from lower value-adding products to the titanium product.

Have you ever thought about going further downstream like making -- finding somebody who makes titanium facets or you would rather sell your parts to companies like SBS Technologies?

Some of our customers are in that business. We have not yet looked at that side. Some day in the future, maybe all of this comes together.

Okay. And lastly, you mentioned that, on the -- that your -- some of your orders you get to take -- has the commodity of the price -- the price of the commodity and some of them are indexed. Are you building this new sponge facility I believe your cost is much lower than if you were to go and buy in the market on -- if you are -- in selling of the index price, do you charge the market price of sponge or would you be making some margins from your internal production?

Well, what I would ask is: What's in it for ATI? And if I have a long-term arrangement with a long-standing customer that wants to commit to the ATI Company, their business -- shares of their business for the long-term, we would certainly look at more cost-sharing than a customer coming in for a spot or project buy.

Thank you. Great quarter, though.

Our next question will come from the line of Eric [Mintz] with Eagle Asset Management. Please proceed.

Hi, guys. Great quarter.

Hi Eric.

Is there anyway you could maybe provide some color in terms of what it's going to cost you to produce a pound of sponge, once the plant is up and running?

I would like to just tell you that that's a proprietary number to the Company. It's far less than what we can buy any scrap for today.

Or sponge.

-- or any sponge on the open market.

The magnitude of that I assume is greater than 50%?

I think we'll just let that answer go, please.

Okay. And then just on the zirconium given, I believe you guys are only one of two players that can produce zirconium sponge. Just looking at the annual from last year, you had tungsten just within the engineering products group, tungsten materials was 66%. You didn't really break-out clearly what zirconium is as a percent of revenues in that group. Is there anyway you can just kind of put a little bit more meat on the bones there and what the size of that business is right now?

Yes, Eric, this is Rich. The zirconium is in the high-performance metals segment, not in the engineer product segment. And it is broken-out as of, for 2005 in our Annual Report in the Pie Chart dealing with the High Performance Metal segment. If you just hold on a second here we'll give you the specific number. Zirconium, it's really the majority of the exotic alloys and it's about 14% of our revenue, high-performance metal segment revenue in '05. And the majority of that, I mean there's other -- there's niobium, and nickel titanium, but a significant part of that is zirconium, zirconium-related metals.

But you also make zirconium sponge, as well, right?

Yes, we do.

Yes. We sell very little zirconium sponge, if any. We consume -- the objective is for us to produce the zirconium metal units to produce zirconium real products or fabricated products.

Okay, so there's no opportunity then given -- I guess you're increasing your melt capacity because you're at full even --?

We increasing our melt capacity to supply the semi-finished and finished fabricated parts.

Okay.

Mill products.

Okay, great. Thanks a lot guys.

Thank you.

[OPERATOR INSTRUCTIONS]. Our next follow-up will come from the line of Tony Rizzuto with [BSC] . Please proceed.

Thank you very much. I just got a follow-up on two potential labor issues in the industries, first of all on the nickel side. I was wondering if you guys have had any opportunities to build up your nickel inventory a little bit and how those may have changed since the end of the year? And how you would characterize those inventories right now? And then the question I would have on the Alcoa situation. If there is a strike situation, you guys anticipate that would have any impact at all if the -- there was an interruption of heat treat aluminium sheet and plate, would that have any impact on timetables or delivery patterns for you guys in your businesses?

Two interesting questions, first of all, I can tell you that we're sensitive to the nickel supply side, and we have taken precautions and steps to ensure that we have the nickel units that we need to meet our requirements going forward. Supplies could get tight and move from our good suppliers and people we've done business with, longstanding business with, I think we'll be able to move through that period and negotiate through it pretty well. On the aerospace side, I would guess that there's fairly strong inventories in the pipeline for the aerospace business. And it certainly one of those products that I know that Alcoa supports fully.

All right, Pat. That's very helpful. I appreciate it. Thank you.

Your next question is a follow-up from Mr. Jeff Feinberg with JLF Asset Management. Please proceed.

Thank you very much. I just wanted to follow-up with regard to the capacity. I didn't quite understand, I think you mentioned that the plant can move to 18.5 million pounds. How does that compare to current capacity? What percent of an increase in capacity would that be versus current levels?

Phase I, Jeff, is 7.5 million pounds coming up in the, by the end of the second quarter, then we move into a Phase II plan that will be online for 2007, which brings it to 11.25 million pounds, and I said if there is a Phase II, and we could be Phase III, Phase IV, Phase V, but if there's a Phase III and you put it all up, you move from 11.25 to 18.5 million.

When would be the earliest that such capacity could be achieved from an infrastructure and melting standpoint?

The earliest that the plant could be up, if we chose to move on an immediate basis, I would say the earliest that could be up would be the second half of 2007.

Awesome, thank you.

Audrey, do we have anymore questions or is it time to close?

At this time, sir, I show no further questions inside the Q. I would like to turn it back over to management for closing remarks.

Thank you.

Thank you for joining us today. And thank you -- thank all of you for your continuing interest in ATI.

Thank you, Pat, and thanks to all the listeners for joining us this afternoon. As always news releases may be obtained by e-mail and are available on our website. Also a rebroadcast of this conference call is available on our website. That concludes our conference call, thank you very much.

Ladies and gentlemen, this does conclude your presentation. At this time you all may disconnect and have a wonderful day.