Core Natural Resources Inc (CNR) 2004 Q2 法說會逐字稿

Good morning and welcome to this NCI Building System, Inc. conference call to review the company's results for the second quarter of fiscal 2004.

This call is being recorded and a telephonic replay of today's call may be accessed through June 3rd by dialing 719-457-0820 and entering access code 715541.

The replay will also be available at NCI's Web site at NCILP.com.

The second quarter results were issued yesterday afternoon in a press release. It has been covered by the financial media.

A release has been also been issued advising of the accessibility of this conference call on a listen-only basis over the Internet.

Some statements made in this conference call may be forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that include projections, expectations or beliefs about future events or results or otherwise or not statements of historical fact.

Actual performance of the company may differ from that projected in such statements. Investors should refer to statements filed by the company with the Securities and Exchange Commission and in yesterday's release for a discussion of factors that could affect NCI's operations in the forward-looking statements made in this call.

To the extent any non-GAAP financial measures are discussed in today's call, you may also find a reconciliation of that measure to the most directly comparable financial measure calculated according to GAAP on the company's Web site by following the What's New link to press releases to see yesterday's news release.

The information being provided today is of this date and NCI expressly disclaims any obligation to release publicly any updates or revisions to these forward-looking statements to reflect any changes in expectations.

At this time I would turn the call over to NCI's Chairman and Chief Executive Officer, Mr. A. R. Ginn. Please go ahead, sir.

Thanks Gus and good morning everyone. I'm here this morning with Norm Chambers, Ken Maddox and Bob Medlock. As most of you know, Norm was named President and Chief Operating Officer of NCI in April, so this is his first conference call as an executive officer of the company.

As we expected, Norm is coming up to speed very quickly and is beginning to have an impact already. Many of you remember Norm joined NCI as a director about a year ago and prior to coming with NCI he was the president and chief operating officer of Comfort Systems USA. Norm's also been out with us this month to meet several of you and we hope to see more of you in the days to come.

As usually, this morning I'll spend a couple of minutes reviewing the state of our business, then I will turn the call over to Bob Medlock to take us through the second quarter financial results in great detail, after which we will open the floor to any questions that you might have.

Before I discuss our operating results let me mention just a couple of items. First of all we've been working very hard to manage our working capital and reduce our debt and I think that we've done a good job in both those areas in the last three years. As a direct result of this hard work, Standard & Poor's has improved our rating. Secondly we're in the process of restructuring our debt which will save us approximately $8 million annually based on today's interest rates. As you know, there is always a cost associated with restructuring debt, which will show up as a charge against our third quarter earnings. Without this charge we would expect our third quarter earnings per share to increase 20 percent plus over the same period of the prior year. Bob will address these issues in more detail during his report.

We are very pleased with our second quarter results. We grew substantially compared with both the second quarter of fiscal 2003 and the first quarter of the current year. While there is no doubt that some of this growth reflected orders from customers beating the announced steel price increases, there is also no doubt that a firming economy during the second quarter had a positive effect on demand.

Most of our growth in the quarter was in the metal components and coil coating businesses which produced volumes that outstripped even our expectations. As we indicated in our press release, we were very focused in the second quarter on working through the rapid steel price increases with our customers and making sure that we had the steel inventory to meet our needs.

Steel availability did not have a material impact on us during the quarter nor do we expect it to be a material factor going forward based on where we are today. We are one of the steel industry's largest customers for steel used in non-residential construction and the long term relationship we have developed with the steel suppliers offer us some measure of protection. However, supplies of steel were tight enough during the second quarter that we had to delay a few shipments due to short supply and we passed on some incremental business that we would have pursued if supply would not have been an issue. Because the lead times are relatively short in the manufacture of our metal components and our coil coating products, the increasing steel pricing did not pose as much pricing risk to us in these businesses as they did in our engineered building systems segments. But given the pressure of these price increases put on many of our components and coil coating customers, our primary goal was to support them by offering protection on some orders and by going with them to their customers and trying to get a price increase on other orders and consistent pricing on the balance of the orders, rather than use the volatile steel pricing and supply situation to expand our product margins. As a result, the improvement in operating profit we experienced for the second quarter compared with the second quarter of fiscal 2003 was primarily driven by increased operating leverage due to the higher volume. As we expected, our gross profit percentage was down slightly from the first quarter of the current fiscal year, strictly because of our efforts to protect both our components and building systems customers from the steel price increases on many projects already underway or already on the books at the old prices when the price increases hit.

I've got to tell you I'm really proud of the way we handled the price increases. NCI took the high road with respect to the price increases and worked with each of our customers on an individual basis, and what I mean by this is that we had to go through job by job, customer by customer and in some cases we went with our customer to their customer to try to get a price increase. We got price increases on some jobs, on other jobs we had to give them price protection, but the long and the short of this is that we work with a lot of small builders and small contractors and we protected these guys rather than put a bunch of them into bankruptcy and we're going to have customers for a long time to come. Handling the price increase in this manner gained NCI respect and credibility in this industry. We've had customers of our direct competitors tell us that they really respect the way we handled the price increase.

The building systems business as a whole has continued to lag the stronger environment in components and coatings. Although we're pleased that we produced a mid-single digit increase in volume for the quarter, we hope we can build stronger momentum in this business in the second half of the fiscal year, especially now that steel prices appear to be abating which helps to normalize our pricing risk.

During the second quarter we took a conservative approach to some new building systems business and some components business by pricing these projects based on higher steel prices that we reacted to faster than our competitors reacted to rather than guaranteeing a loss on the business if the steel prices didn't stabilize or decline.

What I'm really telling you is that we reacted, led the industry in these price increases. Other people were pricing at the old prices which made our quotes or our bids high, and we just absolutely didn't take some business at the cheap prices. I've said for years I'd rather go broke from lack of business than go broke from selling to cheap and we were just not going to load this company up with a bunch of cheap business. Since it looks increasingly likely that steel prices will remain at these high levels for some time to come, our discipline pricing strategy also looks just as good in the rear view mirror.

As we proceed into the strongest seasonal part of our fiscal year, we are continuing to monitor steel prices closely to confirm the extent of their stabilization. It was the rapidity of the steel price increases, not the absolute price level, that created the primary concerns in the second quarter, therefore, when steel prices finally stabilize, it will remove one obstacle to stronger growth. Personally, we have not seen significant evidence to suggest that steel price increase has led to builders substituting other materials for steel, i.e. bricks and sticks. With steel generally accounting for only around 20 percent of building systems projects, the reason price increases can be absorbed in the overall costs of the project. Now, we've looked at a number of jobs, and the fact of the steel price increase only affects the completed, finished, project by four to eight percent. Sometimes it can be more than eight, sometimes it can be less than four, but a good average is four to eight percent. If you take a million dollar job, and the steel increase, $60,000, that's six percent, you know, you can sell that, and our builders have been selling that. So given pricing stability, our primary short term concern as we look at the third quarter is whether our greater than expected volume for the second quarter will cannibalize third quarter volume building materials (inaudible). As Bob will discuss in greater detail, while we are still expecting to produce further earnings growth for the third quarter, this concern is definitely a factor in our guidance.

Longer term, we remain optimistic about NCI's growth prospects. Having enhanced our position as the acknowledged leader in our market during the extended downturn of the past several years, we are meeting the increasing activity of a recovering market extremely well-positioned for growth. Rest assured that this management team is focused on growing NCI's business in a solid, possible manner.

Let me add that the strength of our position not only relates to our day-to-day operations but also to tangible improvements in management of this company for the long term. Norm Chambers joining us is just the latest sign of our multi-year initiative to build a high quality professional management organization at NCI. You can also see the impact of this initiative as we are becoming more sophisticated in our strategic planning process and the formal relationship of our management to session planning. We have succeeded in building NCI into a strong, competitive company that truly is the industry leader. The goal of this management initiative is to create the best organization capable of leveraging this leadership position to produce profitable growth and increased shareholder value for the foreseeable future.

Thanks for your attention and now here's Bob to discuss the financials.

Thank you, A. R. Looking at second quarter sales, $254.7 million, up 28 percent from the $199 million reported in the second quarter of last year. As A. R. mentioned, this increase was driven primarily by an increase in demand in the components and coating segments of our business and in some cases customer-accelerated shipment of products into the second quarter to beat announced price increases. Demand in the engineered building systems segment increased year over year at a much lower rate. We estimate that approximately 20-25 percent of our $55 million increase in sales during the quarter was due to higher selling prices and the remainder was an increase in demand.

Gross margins for the second quarter increased to 22.6 percent, compared to 20.9 percent in the prior year, primarily resulting from the increased operating efficiencies within our plants caused by the volume change. Gross margins in the second quarter from those achieved in the first quarter of this year as we shipped jobs to the engineered building systems segment for orders that were received before our announced price increases took effect.

Operating expenses in the second quarter were up $6.6 million, or 19 percent compared to the prior year. Cost increases were in the area of employee incentives, healthcare costs, higher costs for taxes and dental insurance and sales costs associated with the increase in volume. As a percent of sales, operating expenses were 15.9 percent in the current quarter compared 17.1 percent a year earlier. Volume increases, margin improvement and increased operating efficiency resulted in operating income margins improving to 6.7 percent compared to 3.8 percent a year earlier. Higher earnings resulted in a slight decline in tax provision as a percent of income to 40.6 percent, compared to 43 percent last year.

Earnings per share of 39 cents were up 254 percent compared to the 11 cents earned a year earlier. For the six months ended May 1, 2004, sales of $470 million were up 15 1/2 percent from $407 million posted a year earlier. Gross margins improved 22.9 percent compared to 21 percent achieved last year. Again this improvement resulted primarily from increased operating efficiencies from a higher volume, offset somewhat by the lower margins in the engineered building systems group as we work through the shipment of backlog outstanding at the beginning of this quarter.

Operating expenses for the six months increased $10.5 million, or 15.8 percent, which was inline with the increase in sales. Spreading the normal spreading of fixed costs over the higher sales volume is offset by the cost items mentioned above. Earnings per share for the six months of 68 cents per share were up 119 percent over 31 cents earned in the prior six month period.

Looking at our segments, the engineered building systems segment had sales of $78.9 million, that was up 17 percent from $67.7 million posted last year. Operating income declined significantly from $4 million in the last year second quarter to $432,000 in the current quarter. This segment--this reduction resulted primarily from the fact that no benefit was achieved from the higher selling point prices as we shipped orders received prior to announced price increases during the quarter. We believed that we've worked through over 50 percent of the under-priced backlog and should see margin improvements in the engineered building systems segment during the third quarter. For the six month period, the engineered building systems segment sales were $146 million, up 6 percent from $138 posted a year earlier. Operating income declined to $4 1/2 million from $8.7 million achieved last year, a decrease of 49 percent. For the six month period, engineered building systems segment represented 31 percent of total external sales. Backlog in engineered building systems segment at the end of the quarter was $180 million, compared to $161 million a year earlier.

Looking at the components segment, sales of $144 million were up from $102 million achieved in the prior year, an increase of 40 percent. As we've discussed, a portion of this increase is customers accelerating orders in the second quarter in order to beat announced price increases. Demand should fall to a more normal level in the third quarter. Operating income for the second quarter was $18.1 million compared to $7.2 million in the prior year, an increase of 148 percent. The significant increase in volume led to much more efficient plant operations and the spreading of fixed costs, which accounted for this improvement of operating income. Due to the short lead time between received order and shipment in the components segment, the company was able to pass through the majority of raw material price increases on a more rapid basis than it was able to do in the engineered building systems segment. For the six months, component sales of $263 million were up 25 percent from the prior year. Operating income for the six month period was $29.3 million, compared to $16.1 million last year and components accounted for 56 percent of consolidated sales for the six month period.

Our third segment, metal coaters, our sales were $31.1 million in the current quarter, compared to $28.6 million last year, an increase of 9 percent. Even though external volume only went up 9 percent, the increase in internal use by the other two segments resulted in an actual increase in total sales activity of approximately 50 percent.

Operating income increased to $7.1 million from $3.3 million last year, an increase of 115 percent. The demand increase both internally and externally drove this increase in operating income. For the six month period, metal coater sales are $61.5 million, compared to $58 million in the prior year, an increase of 6 percent. Again, internal use from the other two segments increased so the actual increase of total activity was 34 percent for the six month period. Operating income for the six months of $13.1 million was up 81 percent from the $7.2 million achieved in the prior year, and the metal coating segment accounted for 13 percent of external sales for the six month period.

Turning to our balance sheet, accounts receivable were down $11 million at the end of the second quarter compared to year end. Our DSO was slightly over 30 days, so we continued to do a good job in the credit area. Inventory increased by $31 million at year end, this increase resulted from obviously the higher steel prices that we saw during the second quarter and in some cases time to take advantage of stock purchases to minimize the impact of pricing on our operations. Net working capital increased by $6 million in the six months and all of this, actually more than $6 million occurred during the second quarter. We only reduced our debt $2.4 million in the quarter as a result of the expansion of working capital, but total debt reduction for the six month period was $35 million.

Our proposed $325 million debt refinancing is progressing well. We hope to have it finalized by mid-June. If completed, the proceeds would be used to repay our existing credit facility and retire our 9 1/4 percent subordinated debt which is currently callable at 104 5/8, for a premium over par of roughly $5.8 million. In connection with this refinancing, the company will also write off approximately $4 million in debt issue costs related to the existing credit facility and the subordinated debt during the third quarter this year. These costs will represent approximately 28 cents in earnings per share. Based on current interest rates, this refinancing should save the company on an annual basis approximately $8 million in interest costs.

As A. R. mentioned Tuesday of this week, Standard & Poor's announced a change in our senior credit rating from DD minus to BB and a change in our subordinated debt rating from a B to a B plus. For our debt holders, EBITDA for the trailing twelve months was $95.2 million, an increase of $12 million over the $83 million at the end of the last fiscal year. Our debt to EBITDA ratio at the end of the second quarter was 2.3 times compared to 3.1 times at the end of last fiscal year. For the quarter and for the six month period, capital spending was $1.7 and $3.7 million respectively. We had slowed down the rate of capital spending during the quarter due to the volatile pricing environment until we had a better handle on the impact of rapidly increasing steel pricing. Capital spending should increase during the second half of the year.

Those complete my formal remarks. I will now turn it back over to the operator and we'll open up for questions.

Thank you. The question and answer session will be conducted electronically. If you would like to ask a question, please do so by pressing the star key followed by the digit 1 on your telephone keypad at this time. Once again, for questions, please press star 1. We'll take our first question from Catherine Thompson (ph) with BB&T Capital Markets.

Hi. Thank you. My first question is now that Butler has been acquired, could you update us on the competitive environment?

I think it's really too early to tell. We hear through the grapevine that they've made some changes. The place that we conceded with Butler primarily was in the national accounts market. You know, the really big--and we hadn't seen much change there. With one of our other competitors, they were--the larger competitors I'm thinking of now, they were pricing what we'd say ridiculously low prices and it seems like they might have woke up and are pricing more realistically now. As I stated earlier, we reacted to the price increases and led the industry on that and other people took advantage of not recognizing the price increases and decided to increase market share and in the long haul, I think it's going to hurt them.

OK. You've indicated in the call and in the release that pre-buying helped these numbers in the second quarter. To what extent will this affect numbers in the upcoming quarter and I guess for the remainder of the year?

You're talking about the pre-buying of steel?

Correct. Correct.

We went through every bit of that. We're on--on hot row (ph), right this second we're living, you might as well say hand to mouth and most everyone else is. So there is no pre-buying hot row and we've used up all the pre-buy on the light gauge coated market.

OK. And I missed--you mentioned earlier your cap ex number for the current quarter. What was that?

It's only $1.7 million, Catherine.

OK, that's all I have now. Thank you very much.

We'll go next to Cliff Walsh, Sidoti & Co.

Good morning.

Good morning.

Given the seasonality in the engineered building systems group and the fact the you worked through about half of that lower-priced backlog, in Q3 do you think you'll be able to get through the rest of that lower priced backlog and perhaps start delivering some of the higher priced projects?

We certainly think that May and to a lesser extent June and July will be impacted by working through that backlog but we certainly--and normally it's either six to eight weeks lead time between receipt of order and shipment in the buildings area. Now, that's been extended out a little because of the increase in demand, but we've seen the average price per ton of orders increase at a rate that we should begin to see some of this flow through our financial segments in the third quarter.

OK. Now, in terms of third quarter guidance, would you say that it's a little bit conservative in light of the uncertainty regarding steel supply and pricing and the fact that you're not sure how much business you've got ahead of the price increases?

There is over 5,000 orders in that backlog on the building side and we have a concern that some of them could even push into the first month of the fourth quarter and right now we're still seeing price increases on steel and it's hard to push those price increases through as fast as they are coming at us. So we sit here and ask ourselves the same question you're asking. Are we being conservative? And we really battled that for several hours and we kept coming back to firm indicators that said we weren't being conservative. It looked like we were being conservative in the second quarter, and really and truly it was the volume that leveraged the operating profits. So it's--we're in unprecedented times, that's the best I can tell you and we're managing our way through this better than anyone, so I don't know how else to answer it.

OK, great, thanks so much.

And just as a reminder, if you would like to ask a question press star 1 on your telephone keypad. We'll go next to Dana Walker, Kalmar investments.

Good morning.

Good morning.

A. R., just so that I can clarify what you have just described--first of all, conservatism is a virtue, we all know, I think we know--when you say that you were not being conservative I presume you were not suggesting that you were striking a best case scenario.

No, sir, we tried to be middle road. We tried to be middle road.

This hand to mouth process that you've described in getting your hand on steel, how is this affecting your efficiencies at the plant level?

You know, it hasn't had much effect. It's basically in the component business. You don't know what people are going to order. The shipments are in three days to five days so you need to have raw material product sitting on the floor so you can produce whatever they order or else if you have to turn the order down you're going to lose it, OK? So that makes it a little more difficult in that manner, but we've got a lot of steel coming in and we think that we'll be past the hand to mouth process by mid-June if the mills fulfill their commitments we should be back to where we're in a more normal supply situation by the middle of June.

Are you having to take steps on supply and the nature at which you're buying your incoming steel that puts you at risk of possibly being oversupplied with higher priced steel?

I guess that's a possibility. There is only one order of that magnitude and we'll work our way through that--that would--we're talking about that one order, if we used it all and didn't sell any of it like we do out of the metal truck (ph), sell hot row out of metal truck, we'd work our way through it in two months. So while it's a huge order, it's only two months supply for us.

You mentioned that your conduct in how you handled price increases on a job by job basis was well-respected. How would you expect that to play out for you in the high handed character or the very elevated character in which you engage with customers compared to perhaps how they were engaged by others?

Well, we did have some jobs that we had to delay due to short supply and we really have not tried to take on new customers during this period. We have tried to work with the old customers who have been with us and I think when steel becomes in ample supply again I think that there are customers of competitors that got less than adequate treatment on the price increases will be coming to us wanting to do business with us. We already see some of that, we just can't take it right this minute. We have to work our way through with the customers that we've been engaged with.

You're primarily talking about your components business?

And buildings business.

And building systems. Alright.

Buildings business. We have builders that would like to move to us today and we can't take them. We won't take them at the risk of not supplying our old builders. So we're really not trying to increase market share right now, we're trying to take care of the business we've got and the influx of volume that we've got from our current customers.

Bob, several quicky type questions for you. The price elements of the revenue increase I heard you say a number but you were farther away from the speaker phone at that point compared to where you ended up being later on. What was that number?

Well, we had a $65 million increase in revenue in the second quarter and we believe somewhere between 20 and 25 percent of that number represents the inflation of higher selling prices and the rest could be an increase in demand. Said another way, if you tried to extract the inflation from the second quarter, you'd probably have a sales increase in the quarter of somewhere around 20 percent versus the 28 percent that we reported.

That is helpful. The systems revenue increase. How much of that would you say is volume versus price or mix?

I would say the majority of it is volume driven because obviously looking at their gross margins and operating margins their performance in the second quarter was less than stellar and just because you normally have the ten week lead time between order and shipment, very little of what we've booked in the way of new orders in the second quarter were probably shipped during the second quarter.

I don't have a detailed model in front of me. Remind me--I want to recall that your systems business has been a 10 percent type business if not better at some points in the cycle.

If you're looking at--go back to the 99-2000 timeframe, both components and building systems had operating margins in the 11-12 percent range. Now, building systems normally will have a higher gross profit, but it has a higher operating expense percent level so in the operating income line, the contribution from those two segments in terms of percentage in normal time should be somewhat the same.

Is there any reason with a seeming recovery in your end markets that that shouldn't be at least a 10 percent business in '05 and make at least some reasonable progress toward that in the back half of the year?

I would say that's a reasonable expectation, the only caveat I would make is obviously if we were to see rapidly increasing raw material escalation again, that would affect our ability to get to that level but the fundamentals of the business haven't changed and there's certainly no reason that we shouldn't be able to achieve similar operating margins in the future to those we've been able to achieve in the past.

On your refinancing the structure thereof, to what degree will you allow some freedom to be able to payoff some of that debt rather than to fix the whole amount?

I'm not sure I understand your question. It's all a senior debt credit facility, it's all floating rate debt. We obviously have the ability to go in and do an interest rate swap for a portion of that if we want to fix the interest costs in the future.

Alright, so you're not committing to multi-year--this is not a note or a bond, you're going from fixed to floating.

That's correct.

I presume with the prospect that rates are--perhaps this is too much of a consensus view, but with rates on the climb you would certainly be seeking to protect yourself, would you not? On at least a good portion of that?

Well it depends on where the spread is between fixed and floating rate debt. LIBOR would have to increase by almost 600 basis points before we would give up the interest rate savings that we've been talking about.

So the $8 million in savings that you're describing, is that a net amount based on some belief that your preliminary rate will not be your held rate and you would expect, at least in the very near term to be doing better than that?

Well, there's a--we anticipate there being a pricing grid built in for a portion of our debt so as we de-lever, our rate would go down, but the $8 million is the computation between the expected new rates and the credit facility which are less than the rate we are currently paying in our existing credit facility, plus the interest savings that we get from refinancing 9 1/4 percent debt to something right now that would be less than 4 percent.

OK. Final question is this. The paint coil external volume increase of 9 percent, how would you say that compares to what's going on around you? Were you satisfied with that number and how might that speak to the next six to twelve months volume opportunity?

Well I think we run our business--we run our business primarily as an adjunct to our component and engineered building systems side and I think our desire is obviously first to satisfy our internal need. As I mentioned, our total activity for the quarter was up 50 percent. Ken Maddox is sitting here. He might have some additional comment that he'd like to make.

We have the ability to grow that outside coil volume if and when steel availability improves and we're hoping to see that improvement some time in the next quarter.

Would you have a more likely outcome of being the beneficiary of being--let me try to rephrase that, being so stammering here. I presume that might be the case, though, with a variety of your competitors. Why would you benefit from that supply expansion rather than them?

Well, I think that the whole industry will benefit from improved supply. But again, as A. R. has said, we've developed some pretty long lasting relationships with suppliers and these relationships will help us to gain supply maybe at the expense of other competitors at times.

Very well. Thank you.

At this time we're standing by with no further questions. Mr. Ginn, I'll turn the conference back over to you for any additional or closing comments.

Well, we really appreciate y'all's interest in NCI and we appreciate you attending the conference call this morning and please don't hesitate to give us a call if you have any further questions and with that I'll bid you good day.

Thank you, and this does conclude today's conference. We do appreciate your participation. You may now disconnect.