Carpenter Technology Corp (CRS) 2005 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first-quarter 2005 Carpenter Technology conference call. My name is Michelle and will be your 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 this conference. (OPERATOR INSTRUCTIONS). I would now like to turn the presentation over to your host for today's call, Mr. Jaime Vasquez, Vice President and Treasurer. Please proceed, sir.

Good afternoon. Welcome to our conference call for the quarter ended September 30, the first quarter of Carpenter's fiscal year. This call is also being broadcast over the Internet. With me today are Bob Torcolini, Chairman, President and Chief Executive Officer, Terry Geremski, Senior Vice President of Finance and Chief Financial Officer, Mike Shor, Senior Vice President of our Engineered Products Operations, and Rich Chamberlain, Vice President and Corporate Controller.

Some of Carpenter's statements will be forward-looking statements, which are based on current expectations. Risk factors that could cause actual results to differ materially from these forward-looking statements can be found in Carpenter's recent SEC filings, including the Company's June 30, 2004 10-K and S-4 registration statement and the exhibits attached to those filings.

During this call, we will be using abbreviations, SAO to represent Specialty Alloys Operations, and EPG to represent our Engineered Products Group.

I will now turn the call over to Bob, who will start with a brief overview.

Good afternoon. Earlier today, we distributed a new release on the results of our first quarter of fiscal 2005. Strong demand across all of our major markets, coupled with improvements in productivity and selling prices, resulted in the record first-quarter earnings. Market conditions were very strong in the quarter and we see continued healthy demand in our major end-use markets. Along with record earnings for the quarter, we generated significant free cash flow, which enabled us to further strengthen our balance sheet.

Now, let me provide you with some detail on Carpenter's consolidated first-quarter sales, first by product type and then by end-use market. The year-over-year changes in sales that I will reference include raw material surcharges. Excluding surcharge revenue, sales increased approximately 30 percent from the first quarter a year ago. Our stainless steel sales were 27 percent above the first quarter a year ago. Stronger demand from the automotive market for materials used in engine components and from the industrial market for materials used in capital goods applications benefited sales. The increase also reflected higher based selling prices, surcharges and selective market-share gain.

The increased sales of stainless product were partially offset by reduced volume of lower-value rod products, which declined as a result of our decision to exit marginally profitable business. Sales of our special alloys were 61 percent above the first quarter from a year ago. Stronger demand from the Aerospace, power generation, medical and automotive markets and higher based selling prices were the major contributors. Titanium alloy sales were 31 percent higher than a year ago due to increased sales to the Aerospace and medical markets, market-share gains and base price increases.

Sales of ceramic and other materials increased 22 percent from the first quarter a year ago. Higher sales of cores using in the casting of turbine blades for aircraft engines and structural ceramic components for the industrial market contributed to the increase.

By end-use market, sales to the Aerospace market increased 47 percent from the same period a year ago. This marked the third consecutive quarter of increased sales to the Aerospace market and the highest level of sales in more than three years. The demand for new commercial jet aircraft is recovering earlier than expected, due to purchases by foreign airline carriers. Our Aerospace materials demand is also benefiting from military spares and the development of new model aircraft and engines that will be introduced over the next several years.

Sales to the power generation market increased 61 percent from a year ago and marked the fifth consecutive quarter of year-over-year sales increases. This market is recovering as a result of foreign demand for industrial gas turbine units and continued maintenance projects.

Sales to the automotive market were 28 percent above the first quarter a year ago. This is the fourth consecutive quarter of year-over-year sales increases despite relatively flat U.S. production levels. These increases are the result of growth with key customers, a shift in production of engine parts to the U.S. due to the weaker dollar, and stronger demand for higher-valued materials used in engine components.

Sales to the medical market were 23 percent above a year ago, reflecting strong demand and market-share gains. We continue to see steady growth for our special alloys and titanium materials in the orthopedic implant, trauma, fixation, vascular and dental fields.

Industrial sector sales, which include materials used in equipment and other capital goods applications, increased 34 percent in the first quarter from the same period a year ago. This reflected selective market share gains, growth with key customers, and increased capital investments by the U.S. manufacturing sector as a result of a stronger economy.

Sales to the consumer market were 47 percent better than a year ago, due to stronger demand for products used in consumer durables and electronics.

Now, I will provide an overview of our business units. Starting with SAO, first-quarter sales increased 41 percent from a year ago. Strong, broad-based demand, selective market-share gains and pricing actions, which included surcharges for higher raw material and energy costs, drove the increase. Sales of bar products experienced an increase in volume as a result of strong demand for higher-valued materials, particularly from the industrial, automotive and Aerospace markets. In addition, increases in base pricing and the effects of a weaker dollar had a favorable impact on bar products sales.

Sales of coil products increased 33 percent despite a 4 percent decline in volume from a year ago. The increase in sales despite the lower volume is due to a better product mix as a result of eliminating less-profitable products, increased base prices and raw material surcharges. Our forged bar and (indiscernible) products realized a solid increase in volume from a year ago. Increased shipments to the Aerospace, power generation and energy markets drove the demand. Sales also benefited from a better product mix and higher average selling prices.

At Dynamet, which primarily sells titanium products, sales increased 37 percent in first quarter from the same period a year ago. The increase was driven primarily by a sharp rebound in domestic and foreign demand for titanium sold into the Aerospace and medical markets. Dynamet achieved record quarterly sales from materials sold to the medical market.

Sales for the engineered product group increased 29 percent to $31 million in the first quarter from $24 million a year ago. All of the businesses within this group had double-digit sales growth. Certec, which is the largest business unit within this group, experienced solid demand for its ceramics cores used in the casting of turbine blades for the Aerospace market. Certec sales also benefited from increased demand for cores used in the manufacture of golf clubs and automotive engine components.

Now, I'd like to turn the call over to Terry.

Thank you, Bob.

As we detailed in today's earnings announcement, consolidated net sales in the fourth quarter were 298 million or 40 percent higher than a year ago. As Bob mentioned, the increase in sales was primarily driven by a strong demand across all of Carpenter's markets and increases in base prices, selective market-share gains and surcharges that were implemented in order to capture significantly higher raw material and energy costs. Excluding surcharge revenue, sales increased by approximately 30 percent.

Carpenter's Gross profit in the first quarter increased to $63 million or 21.3 percent of sales, from $34 million or 15.9 percent of sales a year ago. The Gross profit in the recent first quarter included 200,000 of non-cash, net pension and retiree medical expenses, versus 3.1 million in the first quarter a year ago. The increase in the gross profit is largely attributed to base price increases and a better product mix, due in part to stronger demand from the Aerospace and power generation markets. Additionally, cost savings generated through better productivity and process improvements contributed strongly to the gross profit improvement.

Selling and Administrative expenses were $28 million, or 9.3 percent of sales, which was lower than the expense of $29 million or 13.5 percent of sales a year ago. The decrease reflects a reduction of net pension and retiree medical expenses and reduced amortization.

As a result of the increase in gross profit and reduction in Selling and Administrative expenses, operating income, excluding the effects of the non-cash pension and retiree medical expenses, increased by 770 basis points to $36 million or 12.2 percent of sales from $10 million or 4.5 percent of sales a year ago. Interest expense of $5.8 million was 500,000 lower than a year ago due to reduced debt levels.

Other Income, which primarily reflects interest income on invested cash, was 600,000 in the recent quarter, which compared to Other Income of 1.6 million a year ago. The quarter a year ago benefited from foreign currency gains.

Net income for the quarter was 19.8 million, or 80 cents per diluted share, versus net income of 500,000 or 0 cents per diluted share in the quarter a year ago.

Turning to the balance sheet, Accounts Receivable, after adjusting for the effects of the receivables purchase facility in the prior year, were $37 million higher than a year ago due to the increased level of sales. However, Days of Sales Outstanding were reduced to 48 days from 51 days a year ago. Inventories of $203 million were $16 million higher than a year ago, also due to the increased level of sales. Inventory turns, however, remained flat from a year ago at 2.2 times.

For the quarter, free cash flow of $27 million increased from the $22 million generated in the first quarter a year ago. As a result of the free cash flow, total net debt at the end of the first quarter was $204 million or $46 million lower than at the end of the previous quarter and $130 million lower than a year ago. Cash and marketable securities at September 30 were $153 million versus 72 million at the end of the first quarter last year.

In the first quarter of fiscal 2004, Carpenter had net non-cash pension and retiree medical expenses of 600,000, which was offset by the favorable tax effects of Medicare Part D. As a result, Carpenter's net pension expense did not have a measurable impact on earnings per share in the recent first quarter. This compares to non-cash pension and retiree medical expenses of 4.4 million or 12 cents per diluted share for the same quarter a year ago.

I will now turn the call back to Bob for concluding remarks.

Thanks, Terry.

We are encouraged by the improvement shown in our operating performance and are excited about the opportunities we see in fiscal 2005. We will continue to work relentlessly, both in our manufacturing facilities and in our support areas, to reduce costs and improve productivity. We expect that demand will remain strong throughout the balance of this year across all markets, including Aerospace and power generation materials. Based on these strong market conditions and our continued focus on operational excellence, we expect to see year-over-year quarterly improvements in Carpenter's fiscal 2005 operating performance. Further, we also expect to achieve free cash flow in excess of $80 million versus our previous estimate of $60 million.

As a result of management and the Board's confidence in Carpenter's performance, we announced today a 21 percent increase in our quarterly dividend to 10 cents per share. This reflects our strategy to provide shareholders with exceptional investment returns and to provide a continuing competitive dividend yield. Carpenter has paid a dividend for 98 consecutive years.

Michelle, we will now open the call to analysts' and investors' questions.

Thank you, sir. (OPERATOR INSTRUCTIONS). Mike Morrisroe of Bear Stearns.

Thank you, good afternoon. I've got a question on -- some of the recent quarterly uses of cash have gone towards purchasing marketable securities. If you could just shed some color on what type of investment you're making there, what type of returns you're looking for, and then I guess looking forward obviously with ample cash flow, should we expect -- is this going to be a target for future investments, or what should we look to in terms of capital spending perhaps ramping up?

I'm going to have Terry answer the question on the purchase of marketable securities.

Sure, Mike. First of all, let me clarify that the purchase of marketable securities is not an element of our free cash flow calculation. We did, in fact, move cash into marketable securities in the quarter of $37 million. That's a combination of cash from operation, as well as cash from exercise of options.

In terms of where that investment is that, those are, as you can imagine, they are relatively short term; they are about 18 months duration; they are primarily government AA quality securities.

What should we look to in the future for cash allocation, given what looks to be a pretty healthy cash flow?

Well, in terms of -- certainly, for the balance of the fiscal year, as you know, we did increase the dividend so that will probably represent an additional about 1.5 million additional use of cash annualized. For the balance of the year, I think it's probably about 1.2 incremental cash. For the moment, there will probably continue to be an accumulation of cash.

Mike, I think we would reiterate that the capital that we're looking at this year, we continue to look at a level of capital of about 20 million.

Okay, and is that just conservatism or is there nothing attractive that you can see right now in terms of either expanding production? What type of utilizations are you running at now? Is that an issue that's preventing you from expanding?

No, Mike. I think, in prior calls, you've probably heard us say that we've come off of several years a very heavy capital investment, particularly in our specialty alloys business -- specialty alloys, specialty metals business. So our capacity and technology aspects there are pretty highly -- I think we are pretty well-served there. We've got new technology in strip-making facilities, new technologies for the Aerospace alloys in melting and forging and finishing, so we're really in pretty good shape there from our capital needs right at the moment. So, the $20 million that we're looking at is a combination of incremental things like finishing capacity in the metals business and also expansions for organic growth in some of our other businesses, like titanium, ceramics, powder metal. The capital intensity of those other businesses are not nearly as great as the specialty alloys business, so the 20 million is what we see in the near term.

Thanks, guys.

Tom Lewis of Rockhouse Research.

Good afternoon and nice quarter! A couple of questions -- I'm a little confused about the difference between pension and retirement expenses as you describe affecting your gross margin and the ones that seem to be a factor in your SG&A being lower this year than next year. What I'm really trying to get at is the extent to which this quarter's SG&A expense in dollars might be a good indication of -- or something to work off up to the balance -- (technical difficulty).

Tom, this is Terry. Basically, first of all, let me clarify some of the -- what we try to do regarding highlighting the impact of the medical expenses and the non-cash pension expense is that, as you know, it flows through both cost of sales and SG&A. In prior years, of course, it was a much more significant factor on operations, but we continue -- because last year was much higher than it is this year.

What we're saying about this year is, in the quarter, is that that portion flowing through SG&A this year is relatively negligible. However, the decline in SG&A expense is, in fact, primarily a result of reduced expenses in SG&A, and our expectation is that the level of SG&A for the year should approximate what it was last year.

Okay. Another question -- with respect to the business, the product that you've exited in the last year, again I'm a little bit confused. Is it -- the product that you exited, was it all or primarily shall we say low-value product, or was it also about just getting out of SKUs that may have had a higher value but you weren't getting a price for?

Tom, this is Bob. The principle reference that we are making in the conference call -- and this has not been the first time we've talked about it -- is primarily very low-value stainless product, primarily stainless rod that is typically sold to redrawers (ph) who take that rod and then process it to finer wire diameters. That historically has been very low-priced, very low profitability, and it's also something that is generally very subject to import penetration. So we've essentially turned our attention to other, more high-valued, higher-performance kinds of materials, so that's why we say it's really been our decision to selectively exit those products.

Can you tell us how much of that product you were selling a year ago, first quarter?

Well, in terms of tonnage, I think our tonnage -- we referenced that, in the coiled products, as I think I said in the press release, our tonnage is actually down 4 percent, so it's primarily down in that product category. It's a few thousand tons.

Okay, and is coil roughly a synonym for that product or is there a lot of other stuff -- (Multiple Speakers)?

The product that I'm referring to more specifically, it would be wire rod but embedded within that coil category.

Within coil, okay. Last question -- I was speaking with somebody -- a company this morning a little bit closer to the end market in Aerospace, and their read was -- they were not under the impression that they were feeling the effects of an upturn in commercial build rates yet. You sounded kind of like you are. Can you give us a little sense of why you think it's new build as opposed to filling up inventory deficiencies or the aftermarket?

This is Bob again. I think that, depending upon where companies are in the supply chain, they may see -- let's call it kind of an earlier indicator of where things are. We've got some -- we are pretty much early in the chain, and for some of the products that we make, our leadtimes can be relatively long between the time we begin to make those products versus the time that they actually are being hung under a wing. You know, there's got to be, a lot of the times in some of the materials that we make a for main shafts or hot sections of jet engines, you know, it takes a while to go through our supply chain, sometimes some secondary people like forgers and people who make turbine blades and then ultimately assembled into the engine and ultimately delivered to the airlines. So I think we are pretty much on the front end of that. Again, I will just reiterate that leadtimes for these kinds of products right now are longer than they are on some of the other products that are in the Aero supply chain.

Okay, my real (indiscernible) questioned -- you got me still thinking. A lot in the news in the last week or two about first big orders on the Trent 1000. Is that an important program for you?

Yes, it is and fortunately, it we've got some of our new materials on that engine.

Okay, great. I will let somebody else ask. Keep up the good work, guys.

(OPERATOR INSTRUCTIONS). Mark Parr of KeyBanc Capital Markets.

Mark Parr Good afternoon, guys. One thing that you had mentioned -- I think Bob, it was you that had mentioned that in the 40 percent revenue growth, about 10 percentage points of that was due to surcharges. I was wondering if you could further breakdown that 30 percent you talked about. What was related to unit growth as opposed to pricing? Along those lines, could you give us some more color about what you anticipate as far as base pricing for new contracts that you're entering into?

Okay, Terry and Rich are going to be looking up a little bit more detail on the split of volume/price on the remainder, but as I think we've mentioned in previous calls, depending on the individual business unit within Carpenter, we've got a variety of contract versus non-contract business but overall, I think, in the past, we've said about 35 percent of our revenues overall for Carpenter are involved in contracts. In some cases, those contracts are expiring at the end of this calendar year; in some other cases, they may actually extend into all of calendar 2005, so they run the gamut.

Generally speaking, right now, some of those contracts, which may have extended for a year, two years, some as much as three years, when they are typically expiring, the new contracts, because of the movement in the marketplace, are typically looking at double-digit increases. So, that's the difference between where pricing was, let's say, two years ago versus where it is today.

Mark and regarding the other elements, we characterize that as about 10 percent of the 40 percent, so obviously that's about 25 percent of the granular growth. Actually, there were three other elements roughly equal, slightly more in a couple of cases. For example, volume and mix were probably just under 25 percent each. Then the pure pricing element was probably right in that category, if you want to round that out to 100. But it was those four elements, the surcharge, which was the largest element, volume and price for roughly equivalent each, and then price the remainder.

Okay. If I could just ask one follow-up question? If we make the assumption that -- I believe it is the steelworkers are successful in organizing your Specialty Alloys Operation, what sort of impact could that have on your cost of sales for fiscal '05?

Tom, I don't think I would speculate on that. The one thing I would indicate, as you saw in the press release, is that the steelworkers have attempted to organize the Specialty Alloys Operations 11 times previously since 1944, so this is something that comes at us fairly frequently and other unions, including Teamsters and the United Auto Workers, have been as well.

Mark Parr; You're popular guys!

Very popular guy, but again I don't think it's appropriate to speculate. I think, as evidenced in the press release, it's not the first time and we will do all of the necessary things that we need to do in order to communicate facts to people.

Okay. Just one final question -- I know this is going to sound really stupid coming from an analyst, but do you have any idea why your stock got beat up so badly? I mean, it's coming back now to kind of where it was, but just the violence of the reaction here -- I just was looking everywhere; I couldn't find any reason for it. I just wonder if there's any color that you have or any thoughts that you might have on that.

Mark, let me just make a comment. We do not comment on individual movements of the stock, but what we can say about the sector is that certainly we did seem to follow some significant moves in the broader sector, including the carbon guys where there were some recent announcements just that day or the day before regarding the suggestion of some weakness in the second half for their business. As you know, we are considerably different than that, but given the fact that we've had some increased volume, some of our shareholder base may have been hedge funds, and I think they tend to move with some of the broader index moves and the broader sector moves.

Okay, well, congratulations on the great results and good luck keeping it up.

Sir, I am showing you have no questions in the queue at this time. I will now turn the call back over to you for closing remarks.

Thank you, Michelle. We would like to thank you for your interest in Carpenter. We look forward to talking to you at our next quarterly conference call. I will now turn the conference call back to Jaime.

We would like to thank you for participating in today's conference call and your continued support of Carpenter. A replay of this call will be available until Tuesday, November 30 at our Web site, cartech.com. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference call. This concludes the presentation. You may now disconnect. Good day.