Kaiser Aluminum Corp (KALU) 2010 Q4 法說會逐字稿

Good day, everyone, and welcome to the Kaiser Aluminum fourth-quarter and full-year 2010 earnings conference call. Today's call is being recorded. And at this time, I'd like to turn the call over to [Sherry Seith]. Please go ahead.

Good afternoon, everyone, and welcome to Kaiser Aluminum's fourth-quarter and full-year 2010 earnings conference call. If you've not seen a copy of today's earnings release, please visit the Investor Relations page on our website at www.kaiseraluminum.com. We've also posted a PDF version of the slide presentation for this call. Joining me on the call today are Chairman, President and Chief Executive Officer, Jack Hockema; Senior Vice President and Chief Financial Officer, Dan Rinkenberger; and Chief Accounting Officer, Neil West.

Before we begin, I'd like to refer you to the first slide of our presentation, and remind you that the statements made by management, and the information contained in this presentation that constitute forward-looking statements are based on management's current expectations. For a summary of specific risk factors that could cause results to differ materially from those expressed in the forward-looking statements, please refer to the Company's earnings release and reports filed with the Securities and Exchange Commission, including the Company's Form 10-K for the full year ended December 31, 2010. The Company undertakes no duty to update any forward-looking statements to conform the statements to actual results or changes to the Company's expectations.

In addition, we have included non-GAAP financial information in our discussion. Reconciliations to the most comparable GAAP financial measures are included in the earnings release and in the appendix of the presentation. At conclusion of the Company's presentation, we will open the call for questions.

I would now like to turn the call over to Jack Hockema. Jack?

Thanks, Sherry, and good afternoon, everyone. Thanks for joining us on our fourth-quarter and full-year 2010 earnings call. 2010 was a year of significant progress for Kaiser Aluminum. We drove strong earnings performance in a challenging economic environment with higher value-added revenue, stronger shipments, and improved manufacturing efficiencies year-over-year.

We also made great strides in enhancing our platform for near- and long-term growth with the acquisitions of Alexco and Nichols Wire, and the launch of our new world-class remelt and extrusion facility in Kalamazoo, Michigan. These strategic investments will contribute to top-line and bottom-line growth starting in 2011, and continuing on in future years.

To help us support our business and growth initiatives, as well as further our competitive position, we took a variety of steps to strengthen our balance sheet. Early in the year we established a new capital structure that extends maturities, diversifies our funding sources, enhances liquidity, and secures additional financial flexibility. In addition, we extended the five-year labor agreement for our two largest facilities, Trentwood and Newark, through September of 2015.

In all, we're pleased with our financial results and operational accomplishments in 2010. We improved our competitive and financial strength, and expanded our platform for growth. And as a result, we are well positioned to continue capitalizing on the improving opportunities in our served markets in 2011 and beyond.

Dan will now provide details on our fourth-quarter and full-year 2010 results, and I'll follow-up with some perspective on our near-term and long-term outlook.

Dan?

Thanks, Jack. The consolidated financial highlights are shown on slide 7. As Jack mentioned, we achieved strong earnings and solid operating performance in what continued to be a challenging but improving economic environment in 2010. Higher value-added revenue across our end markets, and improved manufacturing efficiencies drove solid results in our fabricated products segment.

Consolidated operating income, excluding non-run-rate items, increased to $65 million in 2010 compared to $63 million in 2009. As a reminder, 2009 included $10 million of operating income from the Anglesey smelting-related operations, which were fully curtailed in September 2009. Excluding Anglesey's contribution in 2009, consolidated operating income increased by $12 million, or 23% year-over-year.

Consolidated operating income as reported was $44 million in 2010 compared to $119 million in 2009, reflecting significant non-run-rate items in each year. In 2010, non-run-rate items totaled a charge of approximately $21 million, of which $14 million related to an increase in our environmental accrual as discussed in our third quarter earnings call. Conversely, operating income in 2009 reflected large non-cash mark-to-market gains due to dramatic changes in metal prices. A summary of non-run-rate items is presented on the slides 24 and 25 in the appendix.

Reported net income for 2010 was $14 million, or $0.72 of earnings per diluted share. Adjusting for non-run-rate items, net income was $28 million, or earnings per diluted share of $1.42.

Our effective tax rate in 2010 was approximately 50%, which reflected some changes to our expectations regarding our value and usage of net operating loss carry-forwards for certain states. Notwithstanding those changes, we had approximately $900 million of net operating loss carry-forwards and other tax credits at December 31, 2010, the vast majority of which apply to federal income taxes. Since these will reduce future cash payments for income taxes, we expect our cash tax rate will continue to be in the low-single-digit percentages.

One other item of note, during the fourth quarter, we recast our segment operating income to more appropriately reflect the incentive compensation expense in our fabricated products segment. Previously, the expense had been reflected in the corporate business unit. Slides 24 and 25 in the appendix fully reflect this adjustment for 2010 and the historical periods shown.

Slide 8 illustrates our value-added revenue for fabricated products. For the full year, total value-added revenue was up 8%, driven by higher year-over-year shipments across our end markets. Value-added revenue for aerospace and high strength improved 6% in 2010 compared to 2009. Stronger underlying demand for commercial aerospace applications was partially offset by ongoing destocking of aerospace plate by aircraft manufacturers during the year. Value-added revenue for general engineering also improved 6% in 2010 compared to the prior year. Steadily improving industrial demand and moderate supply-chain restocking to meet real demand drove the increase. Value-added revenue for automotive extrusions improved 48% in 2010, reflecting significant increases in build rates, and new automotive extrusion programs for light weighting of vehicles that began during the year.

For the fourth quarter, value-added revenue declined 3% sequentially, reflecting seasonality that we had largely anticipated and previously discussed in our third-quarter earnings call.

Slide 9 focuses on the fabricated products segment results. Operating income before non-run-rate items for the full-year 2010 improved $14 million over 2009, reflecting solid execution in a slowly improving market environment. As previously mentioned, higher shipments across our end markets drove higher value-added revenue, which, combined with improved manufacturing efficiencies, drove the increase in operating income. The average realized price per pound was essentially flat year-over-year, as higher underlying metal prices were offset by lower average value-added revenue per pound due to a shift towards a leaner product mix and slightly lower pricing for some applications during the year.

Fourth-quarter operating income for fabricated products reflected normal seasonality as indicated during our third-quarter conference call. Segment operating income in the fourth quarter also was impacted by an increase in depreciation, as we placed more assets at Kalamazoo into service.

Looking into 2011, we expect our M&A activity to have an annual impact of about $15 million of incremental EBITDA, reflecting an EBITDA to value-added revenue margin of approximately 40%. This compares to an EBITDA to value-added revenue margin in 2010 of approximately 22% on average for the rest of our product mix, as shown in the appendix on slide 20. Additionally, we expect depreciation and amortization of intangible assets to increase to a quarterly rate of slightly over $5.5 million in 2011, reflecting the impact of our acquisitions and investments.

As shown on slide 10, during 2010 we continued to strengthen our financial position and flexibility with solid EBITDA that funded continued capital investment, normal quarterly dividends, and an increase in working capital to support growth. In addition, we implemented a new capital structure to enhance liquidity, extend debt maturities, provide greater flexibility to support growth initiatives, and diversify our funding sources. Net cash from the debt financing funded the repurchase of approximately 1.2 million shares, or 5.7% of shares previously outstanding, as well as the acquisitions of Nichols Wire and Alexco. Note that we technically ended 2010 with $136 million in cash, but we used $83 million to acquire Alexco in January.

Overall, even after funding the Alexco acquisition, we ended the year with a stronger cash position than at the end of 2009, improved liquidity, and a fortified balance sheet with adequate capacity to support our business operations and growth initiatives.

And now I'll turn the call back over to Jack to provide additional comments.

Thanks, Dan. We continue to be very optimistic about the long-term prospects and opportunities that lie ahead in 2011 for aerospace and high-strength applications. For the first half of 2011, we anticipate that our value-added revenue for these applications will be approximately 20% higher than the first half of 2010, driven by incremental sales realized from the acquisitions of Alexco and Nichols Wire, and an increase in real demand as higher build rates, larger aircraft and continuing conversions to monolithic design drive demand growth for our products.

Long term, we expect robust aerospace demand growth. As seen on slide 12, our outlook is reinforced by the latest airline monitor forecast that reflects new record commercial airframe build rates for each of the next nine years. Our growth rate will be amplified as aerospace plate demand begins to rebound following an extended period of supply-chain destocking.

On that note, we anticipate that aerospace plate supply-chain inventories will reach equilibrium sometime within the next two to three years, as airframe manufacturers weigh the trade-offs of a rapid inventory draw down and the contrasting need for supply-chain readiness to meet substantial long-term demand. Despite uncertainty about the pace of destocking, industry aerospace plate shipments within the three-year time frame from 2011 to 2013 will be the same in total, but the rate of reduction in supply-chain inventory will ultimately determine the amount and timing of shipments in each individual year.

So summarizing the near-term aerospace outlook, we have a very broad product offering for aerospace and high-strength applications, and expect that our aerospace and high-strength value-added revenue in the first half of 2011 will be up approximately 20% compared to prior year. And we believe that 2010 was the bottom for our aerospace plate shipments. While stocking decisions by airframe manufacturers may result in some choppiness for plate orders over the next two years, we are on the upswing to a sustained period of robust demand for our comprehensive aerospace product offering.

Turning to slide 13, our outlook for general engineering and automotive applications is also positive, as we expect to benefit from slowly improving underlying demand, continuing growth in new aluminum extrusion automotive programs, our recent acquisitions, and the launch of our new Kalamazoo facility. Considering all of these factors, we expect that our value-added revenue for these applications will be approximately 10% higher in the first half of 2011 compared to the first half of 2010, a period when we had relatively strong value-added revenue for these general engineering and automotive applications.

Longer term, we expect that automotive and industrial demand will continue to steadily improve, and that demand growth will receive a modest boost from restocking throughout the supply chain. We also expect to realize additional sales growth as the drive for more fuel-efficient vehicles continues to present opportunities for new aluminum extrusion applications.

Over the past five years, we've invested approximately $400 million in the business, all of which was focused on driving sustainable top-line and bottom-line growth. For example, our investment in thick plate capability and capacity at our Trentwood facility has provided a stronger base load of contract business that mitigated the impact of lower demand during the economic downturn. We expect to experience additional benefit from this investment in 2011 and future years, as we leverage the added capacity necessary to meet the growing demand for these highly-engineered products.

The Alexco and Nichols Wire acquisitions will have an immediate impact on profitable growth, as they are well established in their attractive and growing served markets. We are confident that the combined strength of Alexco, Nichols Wire and Kaiser Aluminum will provide further opportunities for long-term growth. In addition, Kalamazoo is steadily ramping up production of general engineering, rod and bar products, and will provide future capacity for growing sales of extrusions for automotive applications.

Looking ahead, we've identified additional investment opportunities, albeit on a smaller scale, to further improve quality and efficiency. We expect growing aerospace and automotive demand will tax our capacity in several plants, and we envision debottlenecking and expansion projects to address these anticipated capacity challenges. In total, we anticipate that our capital spending in 2011 will be approximately $40 million for maintenance, quality, efficiency, and debottlenecking projects.

Summarizing our comments today, we generated strong earnings and operational performance in 2010, and we took key strategic actions that expanded our growth platform and enhanced our financial and competitive strength. Demand for our products is steadily improving, and we will begin to reap the benefits from the Kalamazoo, Alexco, and Nichols Wire investments right away. These factors are reflected in our expectation that our value-added revenue during the first half of 2011 will be up approximately 20% for aerospace and high-strength applications, and 10% for general engineering and automotive applications when compared to the first half of 2010.

We entered 2011 well positioned in attractive growing markets, and we have identified additional strategic investments that will further enhance our ability to drive profitable growth. With that, we'll now open the call for questions.

Thank you. (Operator Instructions)Edward Marshall with Sidoti & Company.

Hi, everyone.

Hi, Ed.

A quick question on the aluminum plate turn-around or rebound, if you will, and I think you said equilibrium in two to three years. How is that different from what you've said in past discussions? Are you moving that to the right a little bit, or is it a different clarification that you're giving us?

It's really a different clarification, Ed, and I know my comments were pretty elaborate there, so let me try to put a point on this. One comment that I made in the text was that we believe 2010 was the bottom for our aerospace plate shipments; so that's one key point here. The uncertainty that we're seeing is, as we talk to customers and others in the supply chain, the deliberation that's going on now is the trade-off between the obvious intent, which would be to draw down the inventories as rapidly as possible, but the conflict with that is the anticipation of extremely strong demand with the strong build rates that are anticipated really over the next 10 years. And so the airframe manufactures are really evaluating those trade-offs, and there's some uncertainty as to whether they will draw it down rapidly or they will pull some of the 2013 needs into 2011 and 2012, and smooth out the demand.

And if you go review the text of the comments, basically what we said is that the total amount of plate they are going to consume over the next three years won't change. The uncertainty is how rapidly will they choose to draw that down, or will they smooth out the draw down over a longer period of time. In any event, we're expecting very, very robust demand as we move through the next two or three years.

Okay, and can you quantify the tax rate valuation change in the quarter; and how much of that --?

We have several percentage points that were applicable to, Neal, it was like 5%?

Yes.

4% to 5% of a rate increase because of reassessing the state NOLs, effectively we looked at the allocation of income across the states, and had to reassess the state NOLs and a couple of them we had to revalue.

What was the absolute dollar value that affected the quarter though; do you have that?

About $4 million, Neal tells me.

Okay, and then do you anticipate any significant changes in the value-added revenue per pound for the four business lines as we progress into 2011?

No, we see those being relatively consistent with where they've been.

So, the guidance you provided was mostly on the volume side?

Correct.

Okay, and finally, with Kalamazoo, now that it's up and running, are you finding any drag in the facility that could be affecting the margins in any particular matter?

Any drag that would affect margins?

Yes.

No, to the contrary, we had drag in, a lot of drag-ins from the start-up costs last year. The plant is ramping up nicely. They're performing very, very well here, and we've seen a step change in February, and January was a record and December was a record, so we're going through a normal start-up here, but it will continue to improve our costs as we go forward. The worst costs from that situation was really the 2010 start-up costs.

Okay, so you're trending towards plan?

Yes, and what we said on the last call is we expected $15 million year-over-year impact from Kalamazoo, and we're still very, very comfortable with that kind of an outlook.

You mean for 2011, and is that --

Yes.

And so now you think $15 million from Kalamazoo, which you've mentioned previously, and then the $15 million additional from M&A activity, and I'm assuming both are on EBITDA run rates, right?

That's correct.

Okay, thank you very much.

Thank you. Timna Tanners with UBS.

Yes, good afternoon, good morning to you guys. One of the ways that we dissect your earnings is we look at the adjusted or non-run-rate fabricated products EBIT, and then divide by pounds that you report to us. And this past quarter, we were getting a number, well, it's lower than what we've seen for the recent history. So I was just wondering if you could elaborate a little bit more on any cost pressure; is this just economies of scale because of seasonality or is there something else that we might want to look at?

Well, so you look at it on EBITDA to pound, we look at it on EBITDA to value-added --

She's EBIT per pound.

EBIT per pound, correct.

So there's depreciation.

That's a good point. We had an increase in depreciation of about $1 million from the third to the fourth quarter, which is one impact.

Okay.

I can't say that we really have other significant costs that would have driven a difference though.

Well, we had slightly lower volume, which would drive it, so we're spreading overhead over slightly less volume if you're looking at it on pounds. I think the mix was relatively consistent. I don't know without looking at it, but I think it was relatively consistent; so it would be more the lower volume and the higher depreciation are the two key factors.

Okay, great. I get the demand story for the airframe, and that's all really clear. I'm just wondering if you can elaborate a little bit more about the competitive dynamic in some of your other products, certainly where Kalamazoo is concerned, that's a little more competitive, I would imagine. And there was an article in AMM about a month ago saying that there was some cheap flat rolled coming in from Asia. It wasn't clear to me if that was plates, so if you could just elaborate on the competitive environment, and any impact from import?

As we look in total at the competitive environment, the pricing is pretty stable across all product lines. It really stabilized in 2010, and continues to be stable. The only area of a little bit of friction that I would identify, continues to be general engineering plate. And the only real friction there is we're seeing a lag in passing through the higher metal prices. We haven't really seen any erosion in margins, but as we try to get margins back up, we're not able to overcompensate for what's happened here with metal pricing, but that's just a lag factor. So I'd say from an overview, other than general engineering plate, the markets and the pricing are very stable. And in general engineering plate, it's just a function of a small lag in passing through the metal prices; and we experienced a lot of that in 2010 as well.

Okay, and then as far as Chinese import goes, is that not in the same products that you make?

I think that was probably relating to common alloy plate.

That's what I think it was. Just making sure. Okay, thanks a lot.

Timna, one more thing, going back to your question about the EBIT to pounds. Please be sure that you look at the restated operating income and the EBITDA on a segment basis, because if you look at the fourth quarter as we just reported it, it has the incentive compensation movement that I mentioned in one of my comments in the early slides.

Okay.

But if you compare to the prior years and prior quarters, you also have to make those similar adjustments.

Understood, okay, thank you.

I'm going to jump in with a minor correction to what I said in answer to Ed's question, as well. Where he asked about, Ed, you asked about the value-added per pound. On our, I'll call it, same-store business, that would be correct, although the acquisitions that we made are higher value-added per pound. So there will be a little bit of boost in the value-added per pound in the aerospace and high-strength products that's really a function of the acquisitions, not of the underlying business.

Thank you. Mark Parr with KeyBanc Capital Markets.

Thanks very much.

Hi, Mark.

Hi, Mark.

Hi, guys. A couple of questions. Jack, your movement on the upside, can you hear me okay?

Yes, we can, Mark.

Okay, I'm getting some feedback. I'm on a mobile phone here. The upside movement you expect for the aerospace business in the first half at 20%, is all of that related to aluminum plate market? Are there any other products that will comprise a meaningful component of that growth?

I'm glad you asked that question because I meant to get that in a couple of the other answers and I didn't. With the acquisition of Kalamazoo, and the other products that we already have in our stable here, if you look at aerospace and high strength, we have aluminum extrusions, cold-finish bar, sheet and coil, and drawn tube products. So we have a significant portfolio of products beyond aerospace plate that frankly comprise at least half, and perhaps more than half, of that aerospace and high strength.

So, people have a tendency to focus on the heat-treat plate, but there are a number of other products that comprise that product mix. And when you -- to the core of your question here in terms of where the uplift is, very little of the 20% year-over-year is coming from heat-treat plate during the first half of the year. Most of it is coming from the combination of acquisitions and the demand growth in our other products that are not under the destocking pressure the plate is under, so virtually all of that is non-plate. There may be a sliver that's plate, but most of it is acquisitions and those other products.

And when I think about your comments related to the acquisition contribution, is that assuming that the acquisition would have been in the results a year ago, or is that strictly just the additive impact of new acquisitions in the first half?

It's the latter; the additive impact of the new acquisitions.

Okay, and just again, if I could just get a little more color, at least ask for some, to what extent is the acquisition component impacting that 20% number? Is it 0.5 of the upside or 0.25 of the upside?

It's order of magnitude 0.5 plus or minus several percent, but order of magnitude is roughly 0.5 of that 20%. And if you go back to the numbers that we showed in the third-quarter report out, we said that the incremental value-added from the M&A would be $35 million to $40 million a year. And if you do the math on the 20% and the 15%, that's order of magnitude $40 million plus or minus. So the acquisitions are adding roughly 0.5 of the uplift that we're forecasting in the first half, order of magnitude; it's not exactly 0.5, but order of magnitude, it's closer to 0.5 than 0.25.

Okay. I appreciate that incremental color. That really helps to frame things. And just lastly, if I could, in getting back to the heat treat, the plate market, we've been hearing some comments from some other participants in the industry suggesting that the conclusion of destocking was likely going to begin to emerge in the second half of '11. And I was wondering if you would make some comments on how you see that plate portion of your business unfolding. I know you'd made some comments about the timing from the OEMs, but do you think the second half of '11, based on what you know now, could be meaningfully more robust for the plate side of the business than the first half was, or what do you expect for the first half?

Yes, I'm going to talk about the plate for Kaiser Aluminum, rather than the industry. And the reason that I'm doing that is we have the airframe manufacturers, each manufacturer looking at the inventory from a perspective, and then each manufacturer has its own supply arrangement with a variety of competitors here. And I used the word in the prepared remarks of choppiness, and some of the choppiness that we expect to see will be a function both of how the customers decide to pair down their inventory, how rapidly they decide to do that, but also how they decide to do that with their individual suppliers based on the individual agreements that they have with all the suppliers.

So with that caveat, I'll just say in terms of Kaiser Aluminum in the second half of the year, based on the feedback that we're getting, and even though we usually know 2011 six months ago, we're still pinning down 2011 as they determine how much they're going to take. We're pretty confident that we'll have a stronger second half than first half in terms of plate, and at this point, 2012 is really up for grabs as they make those decisions really on 2012 and 2013, how they profile the draw down, whether they finish the draw down in 2012 or they spread it out over 2012 and 2013.

Okay, terrific.

I'm sorry I can't give more color than that, but we think the second half will be strong, and we think 2012 and 2013 will be strong. We just don't know how it's going to fall in the individual buckets at this time.

Thanks, Jack, and good luck on the 2011.

Thank you.

(Operator Instructions) Tim Hayes with Davenport & Company.

Good day, everyone.

Hello, Tim.

Just had two questions. I get the D&A figure going forward, was that $5.5 million per quarter?

Yes, actually slightly over that.

Okay. And then, we too were a little surprised on the unit EBITDA per pound for Q4. We had some rebound from Q3 because Q3 had some -- what, about $4 million of planned maintenance, and I guess a less-rich mix from billet shipments. Can you quantify any maintenance expense in the quarter or any unusual expenses in the quarter in Q4 like you had in Q3? And then were the billet shipments on the same order during the quarter as they were in Q3?

Actually, the maintenance expense was about the same quarter-to-quarter, third to fourth. Really the driver was the slight decrease in the volume that we had anticipated and the associated contribution you should get from that. Additionally then we had the depreciation increase by $1 million from the third to the fourth quarter. And I'll make sure that you are comparing an apples-to-apples basis on the third quarter restated or recast segment operating income before you make the final judgment.

Right.

Let me just jump in here, Tim. As we looked at the fourth quarter, and the comments we made on the last call, it came in very, very close to what we commented on the last call. I think we did say that we expected major maintenance was going to be roughly the same in the fourth quarter as the third quarter, and we said the value-added revenue would be similar, but in answer to a question, we said it would be down 0% to 5%, and I think it came in down 3%. So as we look back on it, we thought the fourth quarter was pretty much where we had signaled in terms of the underlying factors that drive the EBITDA.

And how about any maintenance in Q1 or Q2 that you expect, something we could pencil in for that?

We think that 2011 will be similar, but a little different than 2010. In 2010, we had relatively lower than normal major maintenance in the first half, and higher than normal in the second half, and typically the second half is higher than the first, but not as much as what we saw last year. When we look at the first half of this year, it will be a little higher than the first half of last year, but lower than the second half of last year, if you will. And for the full year, we think it's going to be roughly the same. So year-over-year, major maintenance this year will be a little worse in the first half, and probably a little better in the second half compared to prior year.

Okay, that's helpful, thanks.

With that, we have no further questioners in queue. I'd like to turn the program back over to Mr. Hockema for any additional or closing comments.

Okay, thanks for everyone for joining us on the call today. We look forward to updating you again on our first-quarter 2011 call in April. Thank you.

That does conclude today's call. Thank you for your participation.