Avient Corp (AVNT) 2006 Q3 法說會逐字稿

Good day, ladies and gentlemen. Thank you for your patience and welcome to the Third Quarter 2006 PolyOne Corporation Conference Call. My name is Fab, and I will be your coordinator for today.

[OPERATOR INSTRUCTIONS]

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mr. Dennis Cocco, Vice President of Investor Relations. Please proceed, sir.

Thank you. Thanks to everyone for joining us this morning. I'm Dennis Cocco. In today's call Chief Executive Officer, Steve Newlin, will make opening comments followed by Chief Financial Officer, Dave Wilson. We'll then open the lines up for questions.

Because we like to provide as much opportunity as practical for the investment community to ask questions this morning, we ask that if you represent the media and have a question, you please call the at the conclusion of the conference call. I can be reached at 440-930-1538. Of course, members of the investment community are also welcome to call both Dave and me after this call this morning.

Last night, we posted the third quarter earnings release within the Investor Relations section of the PolyOne website, which includes all our past financial filings. I should note that we are webcasting this call this morning. A couple of points that I want to make before I turn it over to Steve. In today's discussion, we will likely use both GAAP, generally accounting accepted principles, and non-GAAP financial measures.

The non-GAAP financial measures are operating cash flow, operating income before specials, per share impact of special items, and earnings per share before specials. A detailed definition and a list of special items can be found in the Attachment 5 of the release. In Attachment 5 you will find a reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measures, and an explanation of how PolyOne management uses these non-GAAP measures.

In addition, we will likely discuss statements or other information defined as forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements give current expectations or forecasts of future events and are not guarantees of future performance. They are based on PolyOne management's expectations that involve a number of business risks and uncertainties, any of which could cause actual results to differ materially from those expressed or implied by the forward-looking statements. I would strongly recommend you review the updated risk in today's press release, because the risk could actually cause the results to differ materially from what we expect.

Now with that, I'd like to turn the call over to Steve

Thank you, Dennis, and good morning, everyone. It's a pleasure to have you with us today. We have a lot of exciting things going on at PolyOne, and I want to share some highlights with you this morning. You're going to hear about how we're going to transform PolyOne. And this is a transformation that will be very important to shareholders in enhancing the value of investment in PolyOne. The new culture is emerging in our company, and you can see it in the level of engagement and energy from our employees.

First, though, I'd like to offer a few brief comments on the third quarter. Given our outstanding second quarter and first half, we had a tough act to follow. We had a solid third quarter, with sales up 9% and earnings up markedly from the third quarter of 2005. Year-to-date, sales are up 10% and operating income is up 64% over prior year. The third quarter and the year-to-date sales and income results are records for PolyOne.

Our distribution sales improved 8% and earnings were as expected, up slightly from the third quarter of last year. Our resins and intermediates, equity joint ventures continued their strong performance with earnings of nearly $28 million, more than double the level of last year's third quarter. Once again, our cash flow was exceptionally strong, which keeps us on pace toward our best year ever, with full year cash flow projected to end well over $100 million. We're going to use some of this cash to invest for profitable growth, although we plan to use the majority to reduce our high cost debt.

While we had record third quarter and year-to-date earnings and sales, it was important to us and very helpful. It's something to feel good about, but I can tell you we're not celebrating because there's a lot of work to do and many opportunities to seize. Our segment margins need improvement and each business unit has improvement plans in place. We can and will improve our ability to pass on costs and gain new growth for our businesses.

Next, we need to rebalance our income stream to reduce volatility and build a foundation for sustainable growth. We know that the joint venture contributions, while important to our cash position and debt reduction, are not likely to be sustained at these record levels. We also understand that the investment community values the various segments of our businesses differently. The multiples for our joint ventures and distribution business are justifiably lower than for our core operating businesses. We recognize that we must focus our transformation strategy on the operating businesses to make them a larger contributor to PolyOne earnings and to create shareholder value.

We set in motion actions and investments to significantly increase growth, particularly within our operating businesses to strengthen the quality of our earnings base. We're changing mindsets, upgrading management talent and training our employees on a better approach to the marketplace, and I believe our people are up to the task.

I'd like to spend a few minutes on vision and strategy. A month or so ago, we laid out our strategic direction at a meeting of roughly the top 100 PolyOne leaders from around the globe. For 2.5 days, we discussed our new vision and the strategic road map we'll follow to achieve it. PolyOne's vision is to be the world's premier provider of specialized polymer materials, services and solutions.

Our success will hinge on a transformational strategy that has four core components. First, specialization, which is vital to upgrading our business mix and to driving long-term profitable growth. Through specialization, PolyOne will become a differentiated, high-value added customer solutions provider.

We will leverage core strengths, such as our deep polymer formulation knowledge and technical support to create and deliver a unique value proposition based on our understanding of customer needs. Because we will be able to charge more for the value we provide, success in these endeavors equates to margin, profit and earnings growth.

Globalization, the second component of our strategy, is a proven path to growth. It's also a way to prosper from a competitive advantage we already have, specifically in comparison with regional competitors who can't begin to match our reach. We have global customers that want consistency of supply and quality wherever in the world they choose to operate. And we will continue to enlarge our global footprint because our customers are migrating to new geographies.

We have a good track record of success in managing global growth. In China, our newest plant became profitable in less than a year. Last week, we announced our acquisition of a vinyl compounding business in South China. With this investment, we will be able to support our vinyl customer base in Asia and further penetrate value-added niches.

Operational excellence, our third core strategy, speaks to how we execute day to day. Operational excellence means listening to the voice of our customers and answering their needs. Their voice is the basis for our actions at PolyOne. It really starts with safety and it embraces quality, consistency, sourcing, waste elimination, order fulfillment and on-time delivery. And in effect, it's about continuous improvement in all phases of our business. It is where customer-focus programs like Lean Six Sigma and delivery improvements fit in.

That brings me to our fourth core strategy, commercial excellence. This is how we represent and position PolyOne in the marketplace. It begins with thoughtful upstream marketing intelligence, understanding the opportunities, and then focusing on how we can create and deliver innovative solution.

Commercial excellence covers a host of market-focused activities, including hiring and training the very best sales talent. It also concerns the way we prospect for new business and sell to existing customers. This concept can change the game. It changes our thinking and our approach to the market from just offering customers products to providing them the full value of our offerings for their benefit and ours.

So in a nutshell, these are the four pillars of our growth strategy. Our strategy is logical and straight forward, and it will drive sustainable, profitable growth. More importantly, it's achievable, and executing it will yield the financial results our investors have been waiting for.

We've set the following goals to be achieved by the year 2010. An overall economic return of 20% of invested capital for our operating businesses, gross margins of 25% to 35% for specialized new business, 30% of our revenue is from outside North America. The vitality index of 25%, meaning sales from new products, services or markets developed in the last five years, as well as consistent, double-digit growth in our core businesses.

We believe that as we achieve these goals, our shareholders will be rewarded with an expanded stock multiple and a higher share price. I know that our people aspire to achieve these ambitious goals. Our leaders left that vision meeting energized and eager to start our exciting journey and make it happen.

Let me give you an update on our few key investments and initiatives we've already made that we discussed in our past call. These are investments and initiatives that help us strengthen our market position and capture new growth opportunities. First of all, we continue to strengthen our leadership team. This past quarter, we named two new general managers in core businesses that are critical to our long-term success. John Van Hulle now heads our North American Color Business and Craig Nikrant leads our North American Engineered Materials.

John brings the PolyOne proven leadership ability and a strong track record as a sound business leader and turnaround specialist. Craig's leadership skills, business acumen and extensive background in plastics, make him well qualified for his positions head of North American Engineered Materials. I can tell you these business leaders have the required experience and track records to deliver results.

The important investment to improve our commercial operation continues with recruiting and upgrading of sales, marketing and technical talent. We've upgraded a number of positions with improved talent. You may recall that we set a goal of adding roughly 100 new commercial people over an 18-month period. And we have made roughly 30 additions to date.

Our expectation in the area's investment is to achieve double-digit income growth net of these investments. Once we complete our core investments, we will balance future investment with our returns to pay as we go. I'm holding the businesses accountable for this growth and we will invest choicefully and responsibly. I want to caution you that adding talent does not bring instantaneous rewards. Unlike cost cutting, this is not a strategy that yields immediate results. But we believe the rewards and returns have tremendous potential to drive sustainable growth and create shareholder value.

Now, let me update you on an initiative discussed in our last call. About a month after joining PolyOne, I made it a priority and some around here might say an obsession to improve our on-time delivery. Why did we pick this target? Well, the main reason is our customers, clearly, indicated delivery performance was important in value. And our performance was not satisfactory.

So we saw an opportunity for an early win. We set a goal to increase our on-time delivery by five percentage points by the end of 2006. And I am very pleased to report that through the end of the third quarter, our delivery performance has improved by more than six percentage points. And this doesn't put us where we want to be ultimately, but we're already ahead of our year-end goal. And we're edging closer to our long-term targets showing our customers that we have a single-minded dedication to the goal of being best in our industry. This is just one example in a small way of the things that we're going to do to create customer value.

We've also implemented the Lean Six Sigma process in our Vinyl business with excellent results, and it's now being launched across PolyOne. In September, our senior management team went through an extensive training session on Lean Six Sigma. It's really great to see the effect on people when they gain the power not only to analyze problems that may have persisted for years, but a chance to fix those problems and tools to fix those problems on the spot.

It's liberating, fulfilling and empowering and as we mastered this within PolyOne, all of our constituents will benefit, particularly our customers and shareholders. These initiatives reflect a clear, new direction for PolyOne, profitable growth through customer focus, which is absolutely necessary to increase shareholder value. We think we're doing the right things, with examples of success already evident. These examples should become increasingly visible in our performance over the next 12 to 18 months as the rate of higher value new business gains is reflected in our bottom line.

We plan to transform PolyOne from a cyclical value player into profitable growth company, and we know you're going to be watching our progress. Change of this magnitude isn't easy and we certainly do not underestimate it, but we have the leadership, the vision and the strategy to deliver on our commitments. And as we succeed, we believe our shareholders will be substantially rewarded.

With that, I'll introduce Dave Wilson, our CFO, who will review third quarter performance and near-term outlook and say a few words about the segment accounting change that we announced recently. Dave?

Thank you, Steve. This morning, I will be discussing three topics, third quarter and first nine-month earnings, third quarter and first nine-month cash flow and liquid and then also the fourth quarter outlook. Total company earnings and cash flow in the third quarter and for the first nine months keep us on pace to set record levels of performance for the full year.

In the quarter, we earned $0.21 per share, up $0.42 from the third quarter last year when we lost $0.21. Year-to-date, we have earned $1.17 per share, an increase of $0.90 per share compared to last year. Included in our results are $0.02 per share and 36% -- $0.36 per share of special items for the third and first nine months respectively.

Our special items in the third quarter of 2005 included $22.9 million non-cash impairment charge associated with an idled OxyVinyls chlor-alkali plant. A description of special items is provided in Attachment four of the earnings release. Along with the tax allowance adjustment was a $5.9 million charge associated with environmental remediation at an interactive site in the third quarter.

Year-to-date, the largest item in the tax allowance -- year to date, the largest special item is the tax allowance. And as noted in our release, our earnings this quarter were our best ever for a third quarter and our first nine months performance was also a record. Operating income for the third quarter was $36.4 million, up $32 million from a year ago on a sales revenue increase of 9%.

Special items included in the third quarter operating income were $5.7 million and $27.9 million for 2006 and 2005 respectively. On October 27th, we announced through a press release and a current report on Form 8-K, that we would be amending and restating certain historic financial statements in order to increase the number of reportable segments in these financial statements.

I refer you to both documents for clarification and to our Safe Harbor commentary found within the forward-looking statement section at the end of the earnings read as they both relate to this release. As you would have seen, we are now reporting six segments when we previously reported three. In addition to distribution and resin intermediates, we are now recording vinyl compounds, specialty resins and international color and engineered materials as distinct reportable segments. Additionally, all other is comprised of North American engineered materials, North American color and additives, polymer coating systems and producer services.

On the second quarter call and in our mid-quarter update, we foreshadowed caution in terms of margin pressures resulting from escalating energy and energy derived raw materials and feed stocks. We also commented on anticipating slowing automotive and construction-related demand. Both factors affected our performance in the third quarter and as anticipated, margin pressure had a greater impact on most businesses.

Price actions implemented in the quarter came too late to offset the full impact of higher costs. We do anticipate, however, as reflected in our outlook that these actions will have an important and positive effect on fourth quarter margin increases. As I mentioned earlier, sales in the quarter were up 9% compared to a year ago and all operating segments, including each operating business within the all other segment contributed to this increase with the exception of specialty resins, which was adversely affected by slowing automotive and flooring market demand.

A similar story compared to the third quarter of 2005 unfolds for segment operating income performance, although vinyl compound earnings were down slightly from a year ago, due to volume softening at the end of the quarter. All other business segments, again, for specialty resins, delivered year-over-year operating income improvements. Resin and Intermediates earnings remain strong at $28 million, more than double a year ago when margins eroded severely due to resin price increases lagging by one-month substantial natural gas and ethylene cost escalation. Both OxyVinyls and SunBelt reported year-over-year income improvements.

In the third quarter, industry average PVC product spreads declined modestly compared to the second quarter as higher quarterly average resin prices were more than offset by ethylene cost increases. Industry chlor-alkali pricing held near record levels during the quarter even though it softened modestly for the past two quarters. Now, let's turn to cash flow, which also reflects an aspect of overall company performance that is strong. Our nine-month performance improvement gap continues to widen substantially compared to 2005. Net cash provided by operating activities was $95 million year-to-date, compared to $37.4 million last year.

I refer to you Attachment 5 of the earnings release in which we reconcile this value to our internal operating cash flow metric. For the first nine months, operating cash flow stands at $85 million, an improvement of approximately 77 million compared to the first nine months of 2005, including net proceeds from the sale of a business, year-to-date cash broke through $100 million reaching 102.7 million.

This performance is driven primarily by stronger earnings, which we've already discussed and by continued improvement and working capital management across and throughout the company. As a percentage of sales, year-to-date working capital, which for this internal metric, we calculate by adding receivables and inventories and deducting payables has averaged 13.8% which represents a full point, 1.3 percentage points better performance than a year ago.

Also our days of sales and receivables and days in inventory metrics, also reflect continuous improvement. It's also noteworthy to point out that our cash flow performance also benefits from our net operating loss carry-forward position, which effectively eliminates cash taxes on domestic income.

The strength of our cash flow performance has positioned us to reduce our borrowed debt, which would include our drawings on our receivables facility nearly $26 million from December of last year and it is also enabled us to increase our cash and short-term investment holdings some $77 million. The combination of stronger earnings and lower debt drove our debt to EBITDA leverage ratio to 2.8X this quarter compared to 2.9X last quarter. This is our lowest and best leverage ratio since formation.

Let's now turn to the outlook for the fourth quarter, and as I do, I draw your attention to the outlook discussion contained in the earnings release, as well as to our forward-looking statements. Overall, as stated in our outlook, we anticipate the demand will soften in the quarter due to typical seasonal factors, as well as the slowing that is evident in automotive and construction related end markets.

Nevertheless, from a total company perspective, we anticipate that volume shipments will largely be flat with the relatively strong fourth quarter from a year ago and that sales would be modestly stronger to the higher average pricing compared to a year ago. Our volume projection also reflects the benefit we are gaining from our strengthening global market positions as we anticipate continued double-digit growth in the quarter compared to a year ago from our international business.

As mentioned in our outlook, we anticipate that we will realize sequential increases in gross margins despite lower volume shipments reflecting the improvement plans that have been implemented. We're focused on expanding our operating margins, closing new and higher value business and capturing an array of sourcing savings as we drive to build momentum going into 2007.

Consequentially, most of our business segments are expected to deliver year-over-year earnings improvements. The exception is distribution where the 2005 comparable represented a quarterly earnings record due to high margins and volumes associated with hurricane-related market dislocations. In aggregate, though, we do anticipate that sequential operating segment earnings will be somewhat lower. The slowing and construction related market demand will also adversely affect our resin and intermediate equity joint venture earnings.

Moreover, publicly available industry sources project PVC resin margins to narrow as lower quarterly PVC resin pricing is not fully offset by anticipate declines in ethylene and chlorine pricing. Industry sources also have projected lower caustic soda pricing, which if realized, would adversely affect both OxyVinyls and Sunbelt earnings.

Our outlook also commented on the fact that last year we benefited from approximately 8 million of favorable net non-recurring items. This year, we do not anticipate realizing a similar level of such benefit. Overall, we anticipate earnings to moderate compared to a year ago, due to lower net non-recurring benefits and the lower resin intermediates operating income, which combined more than offset anticipated aggregate earnings increases across our operating businesses.

Conversely, we expect to continue to deliver strong, positive cash flows in the quarter driven primarily by earnings and seasonally lower working capital investments in conjunction with tightening efficiency metrics. We recognize that we have entered a more challenging operating environment than we faced earlier this year. We must be energized around the actions as outlined in our core strategy that will enable us to capture higher value, new business more rapidly and to expand our margins through specialization and differentiation.

And I've already commented on the fact that we expect to gain benefit in traction from gross margin improvement plans that have already been implemented in the current quarter. We have made significant progress this year, and we must drive this momentum through the current quarter and carry it into next year.

With that, I thank you and I'll now turn the mike back to Dennis and open the conference call to questions.

Thank you, Dave. Before I ask the operator to instruct you on how to ask questions, I want to remind everyone that we would appreciate that you keep to a primary question and one follow-up and this way, we will be able to accommodate more of you on this morning's call.

So with that Fab, I would like for you to give the participants instructions on how to ask questions.

[OPERATOR INSTRUCTIONS]

And your first question is from the line of Mike Judd with Greenwich Consultants. Please proceed.

Good morning.

Good morning, Mike.

I was just wondering if you could give us, since we have new segment information here. We don't have the December quarter operating income numbers for the new segments. Do you have that information, and if you do, could you just run off the few segments? Obviously, resin and intermediates isn't going to change nor distribution?

I don't have that information with me right now, Mike. Our intention is to when we -- when we release the fourth quarter earnings to provide quarterly segment information for the new segments that would go back to 2004 and '05 as well as for each of the segments in 2006. As we are working diligently to amend and restate the information, we just don't have that information readily available.

Okay. And then you had mentioned that some ratios, financial ratios predicated on debt -- and you also talked about some changes in your cash levels. I don't see a balance sheet in the release. Can you give me the cash balance and also the total debt, please?

The cash balance was, I think, about $103 million and total debt was 26 -- what did I say? $36 million less than what we had in December. Cash was 109. Here we go. We got some numbers now. And long-term debt was 606, and the current portion of long-term debt was 19, and the short-term bank debt was 4.

I should comment on the fact that we have not included the balance sheet, because that is the one financial statement that would be affected by taking a goodwill impairment in the fourth quarter of 2003. And so, until we've done that calculation and have amended and refiled those statements, the balance sheet is one where we can't share. Although as just noticed, we certainly can provide specific line item information on questions similar to cash and then debt.

How about inventories? Just -- that's a last one.

Inventories were around $250 million. That's up roughly 60 million, but that information should be available, Mike, as you go to the cash flow statement that we've included, and compare the changes versus the December balance sheet.

Thanks for the help.

Okay.

Thanks, Mike.

Your next question is from the line of Michael Harrison with First Analysis.

Good morning, guys

Good morning, Mike.

Just sort of a couple questions for you. Looking sequentially, SG&A was up about $2 million on a $20 million substantial decline in sales. I was just wondering was a portion of that due to the un-discontinuing of the specialty resins business, and a portion of that due to the revitalization of the sales force? Could you just provide some color on what's going on that line?

Sure, sure. I'm a little confused by the specifics that you gave. Our S&A for the third quarter of 2006 was about $52 million and for 2005 was 43. And so if you are looking at a third quarter '05 statement, yes, some of the change would be reflected in the taking out of specialty resins from discontinued operations.

However, having said that, S&A on the face of our financial statements did go up $8 million. As a percentage of sales, it was 7.7%. So we're tracking below the 8% and year-to-date at 7.4. Now, the $8 million increase is due to a combination of several things. First, on a beneficial side, we did book roughly $6 million of net benefit from various settlements and adjustments. And so that would increase it to 14 of an increase.

On the other hand, in the third quarter last year, as our operating outlook and viewpoint was deteriorating, we made reversals of most of our incentive compensation plans. And so there's a $6 million swing between the quarters for our short-term compensation, and there's also about $3.5 million in the quarter that we didn't have last year associated with the adoption of FAS 123(R), the equity-based compensation rules, as well as our long-term incentive plan.

We also received last year about $4 million of benefit in terms of insurance. About 2.5, I believe, was associated with the self-insurance reserve adjustment, and there was another $1 million, $1.5 million associated with the recovery associated with the toxic tort case. The other $1 million that I haven't reconciled is just cats and dogs. It's everything under the sun. It would include the investments that we've been making for the commercial resource deployment plans. As Steve has talked about, it would include inflation as well as salary and benefit increases. So I hope, Mike, that helps.

Yes, if I just -- If I could just follow up, in terms of the corporate and elimination, I guess, segment or that line, you showed a negative $13 million in operating profit or operating.

Yes.

That proved to be the biggest impact in terms of operating profit that you have shown going back as far as 2002. You did note that there were a couple of one-time items there, but it looked like that mostly offset. So can you talk about what else impact there? Is that a lot of the same things that affected SG&A?

It is many of the same things that affected SG&A, but it also -- we had had -- within the performance plastics segment, we had had some undistributed classifications. And so we have pulled all of those out so that the segment earnings numbers that you're looking at are before special items fully.

And so as a consequence, where we may have had nonrecurring or really just undistributed costs that were accumulated within performance plastics with the desegregation of that segment, we're now including those in the corporate eliminations. And that would equate to about $5 million of that $13 million, Mike.

So on a go-forward basis is negative 13 something we should continue to see over time or should it be lower going forward?

Yes, the run rate ought to be lower than that, but there's going to be the pluses and minuses associated with the nonrecurring adjustments. And those are just tough to see, and so that's where --that is the line; however, that you will see those adjustments hit our P&L.

Okay. Thanks a lot.

Thanks, Mike.

All right.

Your next question is from the line of Christopher Miller with JP Morgan.

Good morning, Chris.

Good morning. I wanted to follow up a little bit just in terms of the trends. You made the comment in the vinyl compounding business that volume softened at the end of the quarter.

Just trying to get a sense of how much softening you saw through the months and then kind of what you've seen in October and then extend that on -- similar commentary on PVC overall, particularly at the joint ventures.

On the PVC side, I don't have direct access to that information. But, I would say that OxyVinyls would be affected similarly to other PVC resin producers. In terms of the vinyl compound business, we did see some slowing in the third quarter. Volumes were down less than 5% sequentially from the second quarter and also less than 5% compared to a year ago.

And as we say, a lot of that occurred towards the end of the quarter, we are expecting that we would expect to see a 5% to 10% seasonal decline in the vinyl business. It's -- maybe we would project that it and maybe just a little bit greater than that.

But we're still only one month into the quarter and Rob Rosenthal and his team are working diligently -- to close new business and to work through some of the macro effects and that's a fact statement for each of our business teams where we see the challenges coming.

We see the challenges related to the construction market, the automotive market, but we've got to work through those and close new business and -- not be victims of the economy, but to be working through it. I would say that as we analyze it, we recognize that there is some softening in some of the segments. But overall, I think the greatest impact is more the typical seasonal decline that we're seeing in the fourth quarter compared to what we would see in the third.

So you're comfortable this. It's essentially seasonal weakness exacerbated a little bit by the market and not appreciably it sounds like?

Yes. I don't -- it's tough to make that call. We're watchful and we certainly see what the market dynamics are doing. But we also are charged with working through and offsetting by our own actions some of what the economic trends would just simply deliver to us.

And then just a follow-up on your comment. You gave the debt levels on the balance sheet. As you kind of think about your balance sheet, obviously, you've the ten and five-eighths. So you started to reduce the amount outstanding there.

Any additional thoughts you can give us on how you're thinking about debt on your balance sheet and what's kind of the level that you might be targeting in the coming years in terms of what you think is a comfortable level given the trends that you're seeing in your businesses?

Yes, yes. I'd be happy to. One, we continue to -- a good use of the cash that we're generating is taking down our high cost debt, and so that's what we're going to be doing and we will be driving cash to do that as a primary objective. Also going forward -- from our leverage ratio, we're under 3 now.

Our target is to operate between 2 and 2.5, but as we do that to make sure that the EBITDA is more reflective of a higher quality of earnings than we're currently seeing now, so that the 2 to 2.5 EBITDA that would underpin that leverage would be coming principally from our operating businesses and not from R&I.

So we're not far from the absolute level of debt in light of where the earnings are trending, but we clearly want to see some improvement and our strategies are absolutely focused on that as you've heard Steve talked about, improvement in the quality of the earnings so that the earnings are more sustainable and predictable.

Thank you, Chris.

And just sneak in one more. Expectations --

You're violating my rules, Chris.

I know. Expectations for cash distributions from the JVs in the fourth quarter obviously expect them to be down. Just any sense of magnitude from what we saw in this quarter?

No. And I would guess, the best way to think about it would be the distributions tracking with the change in earnings. At this point the earnings that we see are largely cash earnings from both OxyVinyls and Sunbelt. So I think that would be a good reflection.

Okay, okay. I appreciate it. Thanks so much.

You're welcome.

Your next question is from the line of [Roger Smith] with Merrill Lynch.

Hello.

Hi, Roger.

Good morning. Two things one just to follow-up on two things. The $58 million of SG&A if you back-out the legal settlements and other stuff, would you say that that would be your new quarterly run-rate or something in that range?

No, I don't want to say that. But what I would say is we're building to a level more aligned with 8% to 8.5% of sales than I would say the 7.5% that we've run this year. And we've talked about adding, 100 or so sales, marketing technology people. We've talked about training programs. We've talked about more marketing programs.

And so we have talked about bringing up our commercial investments in -- and ramping them according to our earnings. So it's not going to be overnight certainly. But in the $20 million range, which would add about a percentage point to our SG&A to sales. And I would say that as we go forward, I would anticipate that you would see the 7.5% go up incrementally towards 8.5% over the next 12, 15 months or so. And some of that clearly is going to be dependent about -- on the earnings, as has been mentioned.

We're not going to invest foolishly in the face of a challenging operating environment. We will make choice-full decisions. But we also recognize that if we're to make the transforming changes to our ability to go to market and extract value more effectively and deliver more value to our customers -- it's going to take more people with more skills and that's going to cost -- that's going to be an investment. And we will be making those investments going forward.

Okay. Thank you. If PVC weakens due to capacity builds and housing, et cetera, will that also weaken our vinyl compound demand, making it difficult to extend these margins? You've said in the past that you usually need good demand to push through price increases in the vinyl compounds.

Yes. There's the off -- I mean clearly, that's the case in the vinyl compound market is as competitive as it's always been. Getting prices up when you're looking at cost drivers -- is usually requires a stronger supply and demand. Part of what we need to be doing is selling more value to our customers, delivering better services and differentiating our offer.

And we believe we can do that in certain segments of the vinyl market, perhaps not all, but certainly some. And also as -- on the flip side of a decline in -- the PVC dynamic, if you will, we should be able to get some cost benefit relative to our input costs for our vinyl compounds, which would help expand the margins in that respect.

Okay. And I guess lastly, just to make sure I understood something you mentioned the last question. It looks like there's not much undistributed cash at OxyVinyls given, I guess, OxyVinyls uses you always say about 25% to repay its debt. Suggesting Q4 cash distributions, I guess, will track what they earn in the Q4. Would that be an accurate statement?

That would be the best guidance that I could suggest. I mean, we -- as you might imagine, there's a discussion between OxyVinyls and ourselves and as we've talked. The premise of the joint venture is for OxyVinyls to generate cash that each of the parents would receive, and that continues to be there.

And so -- OxyVinyls, similar to Sunbelt does distribute the excess cash back to the parents. And so, the excess cash that's there in the fourth quarter, we would expect to be seeing our share. And it largely should track earnings.

I guess what I'm saying is it's not sort of pent-up cash that they're holding back as sometimes they do in the beginning of the year?

No. I mean, once the distribution starts -- you hold it pretty much the same.

Okay. You front end load the pay down there. Got it. Okay. Thank you.

Thanks, Roger.

Your next question is from the line of Seth Harvey with UBS.

Hi. Good morning. It's actually Bill Hoffman.

Hi, Bill.

Just a couple questions. You know, you talked about -- talked about the Vinyl compounds business. And you talked about some the softness you see some coming out of September and October. I wonder if you could go through similar analysis on specialty resins and international color. What you're seeing demand trends there volume wise and also just talk about -- I didn't quite get it if there were any pricing initiatives in those two segments as well?

You asked about international color as well as specialty resins. Well, specialty resins did see some demand fall off -- because it's more tied to automotive than the flooring market and those have been weaker segments of late. So I would not anticipate that the trend that we've seen is going to turn around in the near term for that.

Be assured that the business team is working on margin recovery actions and there's lots of levers to pull there and they're pulling all of them. In terms of the international color business, I'm a little confused as to why you would focus on that. You know, that business has been a good, strong contributor. We expect that it will continue be that way.

Certainly, the Asian portion of it is growing at very strong rates and we continue to invest in it. In Europe, it's largely Western Europe, although the Poland plant is going to start by being color and we're making progress there. And so, the international color portion of our international business continues to be a good contributor but so does the EM site, international continues to be strong overall.

Thanks. That's helpful, and just to follow, moving back to sort of the Vinyl compounds. You know, you mentioned this sort of 5% to 10% seasonal decline or maybe sequentially higher. Have you tried to look at October versus September, and is it down at 10% kind of number?

We can't comment on that specifically. I think the discussion that we've had on the trends -- would carry forward.

Okay. If I could just ask one more, could you give us a little bit of guidance on your capital strategy going into next year, capital spending?

Yes, yes. We're looking at a level between 40 and 50. We're still in the process of getting the plans. And so some of it is going to be what the earnings outlook is and the cash, but clearly, we have strategic growth initiatives to fund expansions. And we will fund those -- we're fortunate as we've talked about that we've got maintenance capital in the 15 to $20 million range across the globe.

And so, capital in the 40 to 50 range would represent a significant amount of funding available for strategic growth plans. We've talked about Poland; some of the capital will go there. We've talked about penetration strategies in new Asian geographies. And so I would hope that as we develop our plans, we'll see those strategic initiatives coming forward and we're certainly prepared to fund them if, in fact, we're at the appropriate point in our market development.

Great. Thank you very much.

Thank you, Bill.

Your next question is from the line of [Christy Young] with Schroder.

Hey, good morning. I wanted to see if, you guys could give us a little more color on the portion of your revenue attributable to auto end markets and construction end markets and within each of those markets, if there's any available granularity regarding say like auto versus trucking. And within construction, residential new, repair model and non residential. Long question for an answer, I'm probably not going to like.

That's why Cocco is going to answer it for you. The reality is that -- we obviously, we don't split out our outlook or the markets that finely. I wish we did, and I suspect as we get a little better, and we get that marketing team together that we have here, we're going to be much better to give you a perspective on that.

But, when you talk about building materials, there is, obviously, a new housing component in our business, as well as there is commercial and the municipal and rehab. So it's very difficult for us to give you one or another. And good example would be vinyl windows. Is that new housing, or is that rehab? And there's a little of both of them and in automotive, we don't really -- it's not really a focus area, it's a small part of our business overall anyways.

Can you comment on these numbers then, just to follow up this way? I read that your automotive exposure is about 10%, somewhere between 5 and 10 and your construct -- your overall building material is somewhere between 20 and 25 [inaudible] in the range.

That's correct.

And then there's probably -- you're probably looking at something that's also got wire and cable on the wheel. And that would split into a portion of wire and cable would go into building construction as well as automotive, and so if you split them out and give a little more weighting to each of those segments, you're probably hitting more of the total picture.

Okay. And secondly, I think you've sort of come into the market, periodically to takeout some of the ten and five-eighths would it culpable in May of '07. How do you measure -- decide whether to just decide whether to step into the market and take out some more winter cash cushion, or just wait until the May call date?

I mean, from what you said before, it would lead me to believe that we should expect to see in the fourth quarter and through May cash repurchases.

You know, we look at the market and we make the financial trade-offs. You know, we look at what we're trading, where we're trading. We compare that to the bonds are trading to their call date and if it makes sense, we conceivably could do that. We certainly have the cash to do that, but it's -- there's never a specific target if you will by X date we'll do X.

Okay.

It's - we'd look at the market.

Fair enough. Thanks a bunch.

Next question.

Your next question is from the line of Rosemarie Morbelli with Ingalls & Snyder. Please --

Rosemary, you've got the last set of questions.

Good morning, and I was wondering if I was going to make it or not. My finger was not fast enough. Could you -- you have talked about the seasonality in Q4 and the decline you are seeing of 5% to 10% versus Q3. But you had similar seasonalities in '05 as well. So could you address Q4 actually in terms of what you are seeing in the marketplace versus last year as opposed to sequentially?

Well, last year was unusually strong, as you recall. Overall, our expectation is that volume will be generally the same, different businesses are showing different levels. You know I commented that from a total company perspective, we would expect volume shipments to be generally flat with the year ago.

Our international shipments are expected to be up double-digit and consequentially, you'd expect that the North American side would be down a point or two and that's what we're looking at. Different businesses are seeing different demand traits. You know businesses that are more focused on automotive and construction would be down a little more relatively than others that aren't.

But overall, Rosemarie, we're -- we are looking at flat volume shipments from a total company perspective compared to the strength that we saw last year in the fourth quarter.

Would -- and I explained the US being down only 1% to 2% overall quite surprising given the trends in an overall big chunk of your market. So could you address those areas, which are actually doing obviously very well compared to the auto and houses, which could be down 5% to 10%, unless I'm totally wrong on the 5% to 10% decline.

No. I think that the -- the markets that-- we have made -- I mean, let's remember. We have made progress this year penetrating new accounts, and so work that we've done since the fourth quarter is bearing fruit in the year-over-year comps, and that really helps drive a lot of the improvement.

We've talked about the fact that in the color business, we've had success in the regional. We've had success that penetrating blacks and whites. We've talked about the fact that in our engineered materials business in North America, we've had success at growing the business as well as improving the specialized nature of the mix of sales there.

And so all of these are contributing to help level the North American overall demand to the levels that we're projecting, despite the fact that -- looking at some of the end markets, we're seeing a more challenging environment today than we did a year ago.

Are you seeing all the areas other than auto and housing also showing some weakness recently?

I can't put my finger on it directly. You know, those are the two headlines and those are where most of the discussion is. But I also want to counsel that there's macro trends, there's specific companies that are driving automobile softening or -- softening demand in the automotive market. And we're working diligently to get stronger positions with companies that aren't.

And as we've said, we've -- even if the macro look on the construction side is softening, our businesses that participate greatly in the building products markets are charged with getting new, more higher value business. And so they're doing that, so we're taking actions to help offset and mitigate some of the macro factors that the industry is facing.

And Steve talked about one of the goals being selling more specialty businesses with gross margins of 25 to 35%, if I understood that properly. I am assuming that this excludes distribution in JVs, joint ventures, and I was wondering if you could give us a better feel for which one of those -- which areas are expected to have substantially higher gross margins.

Yes, Rosemarie. I think, clearly, distribution in R&I is excluded from that remark. But well in the hunt are the color businesses, the EM businesses, and our PCS business. We think all three of these platforms have opportunities for margin expansion and for greater differentiation that's going to command those kinds of margins.

And I can tell you that as we refocus our efforts in R&D, we now look out at the marketplace and understand what we can get in terms of gross margin and we work on those projects that absolutely will give us those kinds of premiums. There's some niches in vinyl also that we also believe offer some attractive margin opportunities. Not all across the lines, but there are some spaces in vinyl that our team is working on where we think we can dramatically improve our gross margins.

And then, lastly, if I may, on the PVC side, the fact that OxyVinyls pricing -- I mean PVC prices are coming down, OxyVinyl is not going to generate as much, you will benefit to a certain degree on your raw material costs with your vinyl compounds. But if my memory serves me right, you are also a net seller of vinyl compounds. So net-net, would you benefit on your basic business or would you actually be hurting?

Net-net, we do better when PVC prices are going up. From the direct economic impacts in terms of being a net seller, but also in terms of the fact that as resin prices go up, it's reflective of the strength of the marketplace. And so we would be benefiting there as well. But in terms of the PVC, the PVC margins in the fourth quarter are going to be dynamic and interesting to see unfold.

There is pressures, and we don't -- at this point, I am not sure anybody can forecast with certainty or accuracy what level of change you'll see in PVC pricing. And at the same time, what level of change you may see in ethylene, which would certainly be a mitigating factor to support the margins

Okay. I think we've --

All right. Thank you.

Thanks, Rosemarie. I'd like to turn it over to Steve for some final remarks.

Yes. Thank you all for your participation today. I hope that by now you see the transformation that's underway at PolyOne. It's clearly an ongoing story, and we're going to update you regularly, because, as I said at the outset, there's a lot going on. There's a lot happening in our company.

We have the vision and the strategy in place now and with implementation and execution, we're getting into the heavy lifting. Our goals are not only attainable, but we think they're beatable. And as we achieve them, we look forward to reporting on our success. So once again, thank you and good day.

Thank you, everyone.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.