GrafTech International Ltd (EAF) 2007 Q3 法說會逐字稿

Good day and welcome to today's GrafTech International Q3 Earnings Call. As a reminder, today's call is being recorded.

At this time it is my pleasure to turn the conference over to Ms. Kelly Powell. Please go ahead, ma'am.

Thank you, Karla. Good morning and welcome to GrafTech International's Third Quarter Conference Call. On the call today is GrafTech's Chief Executive Officer, Craig Shular and our Chief Financial Officer, Mark Widmar.

We issued our third quarter earnings release this morning. If you did not receive a copy, please contact Jen Raedake at 216-676-2281 and she'll be happy to fax or email a copy to you.

As a reminder, some of the matters discussed during this call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Please note the cautionary language about our forward-looking statements contained in our press release. That same language applies to this call. Also, to the extent that we discuss any non-GAAP financial measures, you will find reconciliations in our press release, which is posted on our web site at www.graftech.com in the Investor Relations section.

At this time, I'd like to turn the call over to Craig.

Thank you, Kelly. Good morning, everyone, and thank you for joining GrafTech's conference call today. Today we'll take you through our third quarter results and highlights and then open it up for Q&A.

In the third quarter, we recorded sales of $250 million, an increase of 13% and gross profit of $79 million representing a 23% improvement year-over-year. Gross margin improved a full 2.5 percentage points to 31.6%. Income from continuing operations before special items improved over 100% to $36 million resulting in $0.32 EPS. Operating cash flow was $22 million as compared to $24 million a year ago.

Q3 operating cash flow would have been higher; however, we utilized $13 million of our cash to reduce accounts receivable factoring. We completed the quarter with net debt of $416 million, a reduction of $24 million over the second quarter -- I am sorry, over the third quarter last year and an improvement of $254 million year-over-year.

Turning to our Graphite Electrode segment, net sales increased 15% to $205 million. Demand in the quarter was good. Sales volume was 53,000 metric tons for the quarter. Operating income for the segment was $50 million, a 56% improvement over the prior year. Our Graphite Electrode segment benefited from higher selling prices and execution on productivity initiatives, partially offset by the anticipated impact of rising raw material cost.

In the Advance Graphite Material segment, third quarter sales were 29 million, as compared to $26 million in the same period last year. Operating income for this segment was $6 million, as compared to $3 million last year, largely as a result of favorable sales mix and higher selling prices. This segment is beginning to gain traction. Higher product pricing, good operating levels, strong attention to cost, and solid demand are reflected in this segment's improved operating income margin, which is 17.4% year-to-date, an improvement of nearly 7 full percentage points year-over-year.

Recapping our first nine months' performance this year, we are continuing to leverage our top-line growth into solid operating results. As a result, the first nine results look like this. Sales were up 19%, overhead is down 9%, income from continuing operations before specials has more than tripled to $107 million, operating cash flow increased more than $32 million to $76 million, return on sales for the nine months more than doubled to 14%, up from 6% in the same period last year. Net debt year-over-year declined over 35% to $416 million. Finally on the liquidity front, our $215 million revolver stands virtually undrawn.

Turning to outlook, we remain encouraged by the underlying demand for our products. As we continue to improve the linearity of the business and maximize production efficiencies, we expect Q4 volume to be similar to that in the third quarter and in line with our previously stated full year guidance of approximately 210,000 metric tons.

Running our production facilities at more constant operating levels throughout the entire year allows us to better manage cost and reduce overtime. We expect total company '07 sales to increase approximately 16% as our Advanced Graphite Material segment continues to gain traction and graphite electrode sales achieve our anticipated 20% year-over-year increase.

We target income before specials to improve approximately 70% year-over-year to approximately $230 million and cash flow from OPS to be approximately $100 million. We've also reduced our annual interest expense guided by $2 million as a result of our improved cash flow generation and debt reduction.

Finally, we expect the tax rate before specials to be approximately 27% driven by improved profitability, a favorable mix on income, and a favorable mix on income in lower tax rate jurisdictions.

Turning to 2008, early indications for 2008 are good. We are building our '08 order book and achieving higher graphite electrode prices in every region. Demand is solid. We have secured the '08 volume requirements for our key raw material, petroleum needle coke and are currently negotiating pricing.

Finally, we expect to achieve margin expansion in 2008 at the gross profit and operating profit level.

With that, let's open it up for questions. Karla, thank you.

Thank you. [OPERATING INSTRUCTIONS]. And we will first go to Robert LaGaipa with CIBC World Markets.

Thank you. Good morning.

Good morning, Bob. How are you doing?

Pretty good. Yourself, Craig?

Excellent. Thank you.

Okay. So some of the questions I have. I guess one, maybe if we could just start with the volume guidance for the full year, which implies to your point similar volumes from the third to the fourth quarter. Now I have to go back quite a while to find the last time that fourth quarter volumes were equal to the third. I mean usually they are much higher, particularly in light of much higher pricing, looking forward into next year. You had mentioned trying to keep the production level stable, but is there anything else we should read into this?

No, there is nothing else. We much prefer -- much more constant sales and production level. It allows us to manage costs much better, drive cost out, reduce overtime. Obviously, graphite electrode prices are going up in '08 and obviously I've got a lot of customers that would welcome to take more volume in the fourth quarter. And from our vantage point, because we've been running tight and the industry is tight, we would much rather sell those tons next year at a higher price then to have a higher volume in Q4. So, the 210 is our guidance and will be very much inline with Q3.

Now how do balance that just in terms of the overall environment? And obviously there are some risks out there, particularly globally. I mean to push out potential production; it's still fairly decent pricing for this year. How do you balance that? How do you think about that moving forward? I mean it sounds like you are creating some pent-up demand, which should help out with pricing negotiations, but how do you balance that?

Well, that -- your comment is correct. That's definitely one way we look at it. Things are tight; we are rasing prices. But, obviously we're in the book building process and '08 looks good to us. So, I don't think it's a case that this will be volume that is lost. It's -- the '08 demand looks solid.

Okay, terrific. And how does -- I mean, your competitor about a week ago -- little less than a week ago I guess -- talked about their order book being similar at this point to last year. Would you make this same type of comments?

We find the order building process and the book building process to be very similar to last year. It's orderly, it's professional and in line with the type of activity we saw building the book for '07.

And I guess similar to that, does that mean that -- because you had mentioned on the needle coke side of things that you actually locked up the volume but you are still negotiating the price. So, are we to take it that you've actually booked business without knowing the price for needle coke?

No, that's not the case. We know the goalpost on all the prices for all of our needle coke and now we're just finishing up those negotiations. So, we know exactly where the producer is, where we are, and let's just say we are in the final stages. So, knowing that goalpost is what allows us with comfort to talk about next year's gross and operating profit levels and the expansion we expect there.

Last two questions. I guess one on the interest expense side. Obviously you lowered the amount of interest expense that you are expecting for the full year, but that was driven by the third quarter. I mean that would imply if I use the midpoint of your guidance for the fourth quarter actually about a $1 million more in interest expense. What explains that?

Trying to think. Do your math one more time for me, Bob. I mean our interest expense in Q3 is relatively -- I mean Q4 guidance is relatively in line with Q4.

Okay...

But we are not assuming a significant change in our interest expense. For the quarter it's about $7.5 million. If you take our year-to-date and add that for Q4, you should get to our full year guidance.

Okay, we could followup off line with that one then. And then the last question is just the refining thing opportunity moving forward. Is there any update to the level of refinancing or the timing that you're expecting on a go-forward basis? I know you have the opportunity with the 103 in February of next year; I mean is that's still on target, how much and maybe if you could just provide little color there?

Bob, we continue to evaluate our refinancing opportunities. Obviously we have many with the improvement in our financial position. February 15 next year, the premium on the call of bonds drops down to the 103 range so another great opportunity. So, all things being equal, we would expect to continue to de-lever. Thus far, rather than do a premature refinancing, we've been able to power the de-leveraging with internally generated cash flow. And thus far that's worked out very well for us and has probably been the wise thing to do.

So, I think you'll see that continue. As we go into '08, we would expect, like we said, building a good order book and that Feb 15 date obviously presents another opportunity to further take out our high cost debt, those senior notes at 10.25. So, stay tuned, we will give you some more guidance after we complete the year at the end of February, but I think you will see us on that de-leveraging path over the course of '08.

Terrific. Thanks very much. Good job.

Thank you, Bob.

And we will move on to Brett Levy with Jefferies & Company.

Good morning, Brett.

Hi, Craig. How are you?

I am doing great. How about yourself?

I don't think quite as good as you guys, but I am in fine. Can I talk to you -- given where your equity is now approaching a $2 billion market cap and kind of, in conjunction with Robert's question, have you guys gone back to the rating agencies or highlighted the fact that you don't look too much like a B-2-B credit anymore?

Yes, we have, Brett. We have a regular dialog with them and we have probably four meetings face to face over the course of the year. So, we've kept a very active profile with them. They both have us on outlook positive. And so, I think this is -- stay tuned, let's look over the course of '08 but I agree with you. Our numbers have improved significantly here, and I think that's why they put us on outlook positive. But, I think if we can continue on this path over the course of '08, there may be some more good news on that front of the ratings.

And then I suppose the other thing is it looks as if the form of what kind of refinancing you would pursue in 2008 would depend on whether the outlook is for continued de-levering or that perhaps you guys might be looking for some acquisitions or other growth opportunities. If you had to prioritize one versus the other, as you look forward into the next several years, is taking the debt load down with cash flow more important or perhaps you are looking to kind of have a longer term sort of stable source of financing in terms of prepayment or repayment and start looking to either grow through acquisitions or through construction of additional capacity?

Well, Brett, I think it's going to do depend on the type of opportunity that we see if there was an acquisition, the size of the acquisition, and how good we evaluated that opportunity. But I think you are spot on. We have a tremendous amount of flexibility here go forward. We've done a lot of de-leveraging. We've got both rating agencies, as we said, on positive outlook and we can refinance at much lower rates at any time. Thus far our strong cash generations allowed us to de-lever with our own cash. And, so I think in '08 and '09 looking forward, as you mentioned, Brett, there is a lot of opportunities for us. On the growth side, internal and external with acquisitions and a great opportunity to refinance at much better rates and put together a great refinancing package that can be in position for the next five, seven years plus.

All right. And then in terms of your priorities for acquisitions and I know you can't speak too specifically about this. But would you be looking to go upstream in terms of some of your raw materials, downstream in terms of, I don't know, something sort of more related to your customers or just kind of expand your production capacity in your existing business?

Brett, I think for us -- you are right. We can't be very specific here. But I think for us, one think that you can probably plan on is, anything we do on the acquisition front will be core and center to the businesses and the technology that we know very, very well. So, anything we do on that front you will see us synergistic with our current portfolio. It plays to our strengths, it's close to the knitting and I think it would be something that everyone would understand completely.

Okay. Thanks very much. Good quarter.

Thanks, Brett. I appreciate it.

And now, we will go to [Brady Lip] with [Acros].

Hi. I just wanted to know if you could talk specifically about how these higher energy prices basically affect your business outlook going into 2008 and the strategies that you're employing or plan to employ; or if you're not really hedging or anything, it would be good to know that too. But how are you dealing with that and how is that going to specifically affect things if we get oil prices sort of staying up here in these mid 90's and maybe even go over a $100 barrel if natural gas prices sort of stay in that $8 to $10 range?

Brady, thanks for your question. We are anticipating that higher energy costs across the line are going to be with us for quite sometime in our business, that oil is going to remain up here and perhaps even go higher. And so as we look at our business, we are relentless on the cost side; we're relentless on energy opportunities to reduce the use of energy, reduce cycle times in the production of our product. We've also done a lot of work on, of course, passing some of these costs through to the marketplace on price increases of our products which we've tried to get in front of so that we're not overrun by some of these costs.

So, on the pricing front, I think you will see us continue to try and pass some of these through. It's never easy, but I think you will continue to see us try and do that. You will see us remain very, very strong on cost reductions and productivity initiatives. We've done a lot of that over the last few years, and I think we've earned a pretty good track record on that front. I think you'll see us continue to drive out overhead cost. We are down 9% year-to-date.

And then on the hedging front, just to try and minimize some of the impact, throughout the last several years we've taken hedges whether they are on currency or natural gas. We've been selective and active in both those programs whether it's the forward market or the option market to try and mitigate some of those costs. So, Brady, we've been at this for a while. We've dealt with oil from $18 to $90 here so far. So, the good news is we got a good track record on it. We know what we have to do but it's -- nevertheless it will put pressure on our company to continue to drive our cost and to continue to try and pass these on to the marketplace.

All right, thanks a lot.

Thank you, Brady.

[OPERATOR INSTRUCTIONS]. We will go now to Tim Chatard with Sterling Capital.

Hi. Just a question on the SG&A, the XXR&D; it came in a little bit lower than maybe what I was thinking it would, which is great. I'm just trying to get a feel for what -- kind of what that looks like 4Q or into next year. Do you have any guidance there?

Thanks, Tim. Yes, Tim, I would look at our year-to-date number. I wouldn't look at one individual quarter. Obviously, we've done a lot of work in this end, a lot of restructuring. We centralized virtually all of our company's overhead here in Cleveland, we moved the headquarters here to company-owned facilities, we've had headcount reductions, IT improvements, et cetera. So, it's broad based, but I would look at the year-to-date rather than one quarter; and like I said year-to-date down 9% and I think you'll see our team continue to try and manage this very aggressively.

Is there any particular time of year that the stock-based comp comes into the equation then?

Well, it's -- we've got an ongoing program so there is different layers of it so not really is probably the answer. There may be one quarter, but it is not always the same quarter; but I think you should look at that we've got a layered-in program and that runs pretty constant throughout the year.

Thank you.

I don't think you see a big slug in one quarter. No, it's spread out through the quarter following GAAP practice.

Great. Thanks.

Thanks, Tim.

And now we will hear from Michael Bartlett with KeyBanc Capital.

Good morning.

Hey, Mike. How are you today?

Doing well, thank you. I guess I had a question regarding the other segment, kind of the swing to operating profitability. Do you have any commentary on maybe the sequential changes or even in the year-over-year ones are a little more understandable, but just the -- would you care to comment a little bit more on that?

Yes. In terms of the other segment, I mean one of the things you have to remember that that's in there is the carbon electrode business, which has been trending down. We announced a little over a year ago that we would be exiting that part of our business. And so, what's happened over time is you'll see a reduction of that activity; and as we've said before, that is a less profitable part of our business. So, as you've seen from Q2 to Q3, operating income expansion in that segment, part of that is just the continuing rundown of the carbon electrode; and as that business is completed by the end of this year, we will see that dilutive impact of carbon electrode go away and that segment should be profitable on an ongoing basis.

All right. Thank you.

Thanks, Mike.

Yes.

[OPERATOR INSTRUCTIONS]. And we will take a question from Michael Christodolou with Inwood Capital.

Hi, good morning, everybody.

Good morning, Michael. How are you today?

Fine, and you?

Just great, thank you.

Hey, a question about your German competitor that used to lag you guys by 20%, and then in April they moved up to 5,500 a ton for regular while you were at 5,900. And then a couple weeks ago they kind of leapfrogged you and have gone up to, you know, 6295 and they've also leapfrogged you on the extra size. And I am just curious, 1) what you make with that? And 2) what is that do to your spot rate out there? It doesn't sound like you have any spot but you -- I think you are signalling that you would have a hard time fulfilling any orders for prompt delivery that came over the transom here in the next two months, but I am just curious what that does to a quoted spot price?

Well, I really can't comment on the moves and activities of our competitors, but what I can say, building on some of the dialog on energy and cost increases, a lot of our industry's products have petroleum, high petroleum based product content in them. And I think everyone is feeling the impact of higher cost on petroleum-based products, energy-based products, and I think everyone is going to try and get some pass through because those costs have gone up significantly.

Do you have a spot price now or are you still using the old spot from, from nine months ago?

Right now our spot has also risen and -- to reflect I think market price and cost pressure.

Can you give us those numbers or is that..?

The spot we are quoting out there is well over $6,000.

And that's for regular size?

Yes, but obviously caution, attention, contract prices, bids have already been put out in the marketplace at the old pricing level. And so as you said, this new pricing level's a very recent development and I wouldn't look for this really to have much impact at all on our weight. The bids are out there. Some of the book is our -- a good part of the book's already coming together. So, you mentioned some prices of 62s you know, 100 plus, those would not have I don't believe a material impact on '08 at this stage because the '08 work has been well underway, attention.

Right.

I don't want anyone to get ahead on price.

Okay. And then I saw whether the EU I guess reaffirmed some tariffs that they are putting on these low-end Indian competitors. I guess they were thinking about rasing them, but instead they've left them the same and reaffirmed them for the next few years. What are you seeing out of those guys? They've been lagging you, right? And in quality they've improved a bit, but they've -- they still have been lagging you in quality, I think it was the last comment you had and they haven't been great in the extra large size. I was wondering what your current observations were on their competitiveness?

Yes, Michael, I don't see much change to that. I think what you articulated there is pretty accurate from a quality standpoint and performance standpoint.

Thank you so much.

Thanks, Michael. Have a good day.

And there are no further questions.

All right. Everyone, thank you for joining our call. Look forward to talking to you at our year-end call and the Q4 wrap up in February. Have a good day.

And that does conclude today's conference. Thank you for your participation. Have a pleasant day. You may disconnect now.