Kaiser Aluminum Corp (KALU) 2013 Q3 法說會逐字稿

Good day and welcome to the Kaiser Aluminum third quarter 2013 earnings conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Ms. Melinda Ellsworth. Please go ahead, ma'am.

Thank you. Good afternoon, everyone, and welcome to Kaiser Aluminum's third-quarter 2013 earnings conference call. If you've not seen a copy of our earnings release, please visit the Investor Relations page on our website at Kaiseraluminum.com. We have 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; Executive Vice President and Chief Financial Officer, Dan Rinkenberger; and Vice President and Chief Accounting Officer, Neal West.

Before we begin, I'd like to refer you to the first two slides 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 annual report on Form 10-K for the full year ended December 31, 2012, and Form 10-Q for the quarter ended March 31, 2013.

The Company undertakes no duty to update any forward-looking statements to conform the statement to actual results or changes in the Company's expectations. In addition, we've 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 the 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, Melinda. Thanks to everyone for joining us for our earnings call on Friday afternoon. Also thanks to our accounting department for facilitating an early close to accommodate my travel schedule next week.

Turning to slide 5, our third-quarter results were impacted by the continuing aerospace supply chain inventory overhang, as well as throughput and manufacturing inefficiencies at our two largest facilities that, while temporary in nature, negatively affected our sales and costs for the quarter. Trentwood's throughput and efficiency were affected by disruption from significant construction activities related to the Phase 5 expansion project and the installation of the new casting complex. You may recall that during the second quarter earnings call I expressed surprise that Trentwood's construction activity had very little impact on our operating efficiencies. That observation was based on the second quarter when the major construction activity was focused on expansion of heat treat furnace capacity, the fifth expansion of that kind. With the benefit of experience, we were able to proficiently manage the disruption related to these activities.

In the third quarter, our focus shifted to construction of the new casting complex and installation of new ingot pre-heating furnaces for the hot line in the area adjacent to the new casting complex. These activities combined to create interference with logistics and operations in both the casting and the hot rolling operations. The result was less third-quarter throughput and greater manufacturing inefficiencies than anticipated at Trentwood. Although the investment projects negatively impact our short-term results, the longer term benefits are significant, providing additional capacity to meet heat treat plate demand growth and addressing critical production bottlenecks that currently impede our ability to maximize operational efficiency and flexibility.

In addition to the issues at Trentwood in the third quarter, we experienced an extended outage during a plant major maintenance project on the water system for casting at our Newark, Ohio, facility. Finally, the inventory overhang for non-plate aerospace products continues to have a significant impact on demand, as the overhang is not yet abating as we had anticipated. In contrast to these setbacks, we were pleased to see the ramp-up of new automotive extrusion programs that created a step change in our value-added revenue for these applications in the third quarter.

Looking ahead to the fourth quarter, we expect to see some improvement in manufacturing efficiency, although not a full recovery, as we will continue to experience some disruption from construction projects at Trentwood. In addition, heavy planned major maintenance spending in the fourth quarter, including a planned outage on the large extrusion press at the Newark facility, will largely offset the benefit of expected efficiency improvements in the quarter.

Looking a little further ahead to 2014, there are several themes that shape the business and operating environment. On the past two calls, we've made note of a situation-specific inventory overhang for aerospace plate. The over buying has continued in 2013 and the overhang has intensified. As a consequence, we expect that even though commercial airframe builds will increase in 2014, aerospace plate demand will be reduced as the supply chain reacts to work off excess inventory. As this issue is situation-specific, it will not have a uniform effect on all customers and suppliers.

In our case, the most significant issue is intensifying short-term competitive pressure on spot prices, which leads us to expect price erosion for both general engineering plate and aerospace plate in 2014. In addition, the inventory overhang persists for non-plate aerospace products. While we're hopeful that demand for these products will improve next year, at this stage we are less inclined to anticipate significant improvement in early 2014.

While these aerospace market headwinds present some challenges, we also anticipate positive dynamics in 2014 compared to 2013. We believe that the step change in our automotive activity during the third quarter is the beginning of a new phase of strong growth for our automotive extrusion applications as our build rates and our aluminum extrusion content per vehicle continue to increase. We expect our manufacturing efficiencies will improve as we complete construction activities at Trentwood and begin to realize the benefits from our Phase 5 expansion project which is expected to be in full production in early 2014, and from the launch of our new casting complex that is slated for full production by mid-year.

While it's far too early to provide much granularity on our outlook for next year, we remain optimistic that 2014, while not a boom year, has the potential to be another very good year for Kaiser in terms of both value-added revenue and adjusted EBITDA. Overall, the long-term positive fundamentals of our business are unchanged, while fluctuations in supply chain inventories sometimes create lumpy short-term demand trends, cumulative long-term demand will ultimately be consistent with the build rates. We're well-positioned to benefit from strong secular growth for aerospace and automotive applications. We remain very optimistic about the long-term prospects for the Company.

I'll now turn the call over to Dan for further discussion of the third quarter and year-to-date results and then I'll provide additional color regarding our outlook. Dan?

Thanks, Jack. Total value-added revenue of $182 million in the third quarter was slightly below the first half 2013 run rate. However, looking behind the numbers, there are two important developments. The first is a step change in value-added revenue for automotive extrusions, which increased 22% in the third quarter from the first half run rate, as production ramped up in new and existing automotive extrusion programs. Stricter CAFE standards continue to be a significant catalyst for our participation in aluminum extrusion content growth on new vehicle platforms. The second development is a 4% decrease in aerospace value-added revenue in the third quarter, compared to the first half run rate, primarily reflecting lower demand for non-plate aerospace products, due to the inventory overhang that Jack mentioned, as well as the impact of the $4.5 million customer contract payment that we received and recorded in the first half of the year.

Adjusted EBITDA in the third quarter declined approximately $6 million compared to the run rate of the first half of the year. Our adjusted EBITDA margin declined to 22% from the 25% first half run rate, reflecting lower demand for non-plate aerospace products, throughput and manufacturing inefficiencies from the construction activities at Trentwood, inefficiencies related to an extended equipment outage at our Newark facility, and increased major maintenance expense. For the nine months ended September 30, 2013, value-added revenue declined 2% and EBITDA declined 4% from the comparable 2012 period. EBITDA margin, however, remains strong at approximately 24% which is comparable to the same period of 2012.

Moving on to slide 8, we reported $42 million of operating income in the third quarter which included $8 million of non-run rate gains. Adjusting for these non-run rate gains, our third quarter operating income was $34 million, a decline compared to the prior-year quarter, as well as the run rate of the first half of 2013. The decline in the third quarter reflected the impact of the non-plate aerospace inventory overhang, previously mentioned throughput and manufacturing inefficiencies, and higher major maintenance expense. For the first nine months of 2013, operating income as reported was $132 million. Adjusting for $20 million of non-run rate gains, however, operating income for the first nine months of 2013 was $112 million, on higher spending for both sales and marketing and research and development, less favorable manufacturing efficiencies, and higher depreciation.

Reported net income for the third quarter was $25 million, or $1.34 per diluted share. For the first nine months of 2013, net income was $78 million, or earnings per diluted share of $4.02. Adjusting for non-run rate items, as well as favorable transfer pricing settlements affecting our Canadian taxes, net income was $17 million for the third quarter and $54 million for the first nine months, or adjusted earnings per diluted share of $0.90 for the quarter and $2.81 for the first nine months. Net income reflected higher interest expense for the first nine months of 2013, compared to the prior year.

Our effective tax rate of 28% for the first nine months of 2013 reflects the favorable transfer pricing settlements affecting our Canadian taxes that I just mentioned. Our cash tax rate remains in the low single-digit percentages as we continue to apply our net operating loss carryforwards.

Cash flow remains strong. Over the first nine months of 2013, adjusted EBITDA totaling $132 million continued to more than fund our sizable capital spending projects and cash payments for interest and quarterly dividends. Our financial strength and flexibility continues to enable us to invest in capital projects and other value creating growth opportunities while also returning cash to shareholders. On that note, capital spending in the first nine months of 2013 totaled $47 million. We expect capital spending for the full year to total approximately $70 million. Additionally, during the year, we returned $44 million to shareholders through repurchases of approximately 707,000 shares of our common stock. As of September 30, $78 million remains available for further share repurchases under the program approved by our Board.

Now, Jack will discuss current industry trends and our business outlook. Jack?

Thanks, Dan. Turning to slide 9, in aerospace, despite the current headwinds that we have discussed on today's call, our long-term outlook for commercial aerospace demand remains very positive. Airframe orders continue to exceed the expected full year deliveries, and we anticipate that the end of year 2013 backlog will hit a new record high. In addition, airframe manufacturers have been ramping up build rates and real demand is expected to remain strong.

However, as I mentioned earlier, fluctuations in supply chain inventories sometimes create lumpier demand for our products than one might assume, based on the relatively linear growth in commercial airframe builds. We experienced this dynamic in the supply chain inventory overhang for plate prior to 2012 which was followed by a strong demand surge. In 2013, demand for non-plate aerospace products has been suppressed by an inventory overhang, and a developing inventory overhang for aerospace plate is now expected to suppress industry demand in 2014. Unfortunately, these lumpy demand patterns are a fact of life in this industry.

As it relates to our fourth quarter outlook, we anticipate that value-added revenue for our aerospace and high strength applications will be higher than the third quarter as we expect improved throughput at Trentwood, despite continued disruption from construction activities. Reiterating my earlier comments, we expect that Trentwood's Phase 5 expansion will be in full production in early 2014 and we expect to realize additional benefits from our new casting complex when it reaches full production by mid-year 2014.

Turning to slide 10 in automotive, while we expect normal downward seasonal pressure on fourth quarter automotive demand, we anticipate that the step change in our value-added revenue for automotive applications will persist in the fourth quarter, as we continue to benefit from the ramp-up of our new automotive extrusion programs.

Turning to slide 11 and general engineering applications, the US manufacturing economy continues to languish, and we anticipate normal seasonal demand weakness for general engineering and other industrial applications in the fourth quarter.

Slide 12 summarizes our short-term outlook. Overall, we anticipate that our value-added revenue for the fourth quarter will be comparable to the third quarter, although as you know, there's always some level of uncertainty in the fourth quarter, due to normal seasonal weakness and other unpredictable year-end market dynamics.

As I mentioned earlier, we expect that the issues hampering Trentwood's throughput and efficiency and Newark's efficiency will be less of a drag on EBITDA margin in the fourth quarter. However, significant planned major maintenance expense and a planned outage on the large Newark extrusion press in the fourth quarter will likely offset these improvements, resulting in flat to lower EBITDA margin compared to the third quarter.

Slide 13 summarizes our remarks today. Our third-quarter results fell short of our expectations as we experienced throughput and manufacturing inefficiencies, and the inventory overhang continued to dampen sales of our non-plate aerospace products. While we expect improved performance in the fourth quarter, weak seasonal demand and higher major maintenance expenses will create a drag on results, likely offsetting expected performance improvement. Despite some adversity in the second half of this year, we expect that 2013 full year financial results will be similar to 2012. That was a record and a step change from our historical results.

Looking ahead to 2014, while not expecting a boom year, we have prospects for strong commercial aerospace demand, continued growth in our automotive applications, and improved manufacturing efficiencies. We remain optimistic that 2014 will be another very good year for Kaiser Aluminum. Longer term, our thesis remains intact. Our prospects are excellent as we are well-positioned operationally and financially to capitalize on secular demand growth for aerospace and automotive applications with the potential for this platform to achieve value-added revenue in the high $800 millions, and EBITDA margins in the high 20%. We will now open the call for questions.

(Operator Instructions)

Edward Marshall, Sidoti and Company.

Good morning, guys.

Good morning, Ed.

The question to start is could you quantify the impact maybe either from volume and/or value-added revenue and maybe to a bigger degree the profit of the disruptions that you had from the maintenance level?

Major maintenance. Yes, it was probably a percentage basis. I'm thinking of the third quarter compared to the first half, it's approximately a percent or so of EBITDA margin impact.

That's the major maintenance. If you compare the third quarter to the first half run rate, we're down, rounded, 3%. It's really 2.7%. It's roughly equal components, as Dan mentioned in his comments. A portion of that the first quarter had the customer contract payment that boosted the margin there.

We had the major maintenance which he said is roughly a third of the impact, third quarter, compared to the first half, and then the other third, roughly is manufacturing inefficiencies and the lesser operating leverage. It's really three parts, the lack of a customer payment, the higher major maintenance cost, and the manufacturing inefficiencies, and slightly lower leverage that we had from sales.

You're tackling, I guess, quite a few different upgrades and adjustments to your production and manufacturing. What stage or inning are you on in these upgrades? I know the time line is when you want to complete, but are there further significant pigeon holes that you guys could be in that could cause an extended shutdown, or an unexpected shutdown at one of the facilities?

You never know when an unexpected shutdown's going to come, but the construction at Trentwood is the big issue here. We had the glitches at Newark that impact us and those things happen in manufacturing operations. They happen to bite us the same time we were going through the construction issues at Trentwood.

In terms of the construction at Trentwood, and I know I've said a lot of words there early, so let me just repeat some of the things that I said. We had a lot of construction in the second quarter but it was primarily on our heat treat plate furnaces. That's something we've done now, we're in our fifth iteration. Our team up there has gotten very, very good at installing new heat treat plate capacity and minimizing the disruption on operations.

I commented on the last call, it was only a couple weeks after I had visited Trentwood, and I saw the massive construction. It's in two areas, one was, at that point, a huge hole in the ground where we're installing the new casting complex at Trentwood. Just adjacent to that, we're installing and are installing some new ingot preheat furnaces for the hot line. Those are just one bay apart in the plant. We've had two major construction activities underway simultaneously, and it really tangled up the logistics. They did a great job, frankly, managing around it. But it bit us some in terms of our efficiencies and throughput.

As we go through the fourth quarter here, and even into next year, the construction in casting will continue, and until we wrap that up in the middle of the year, that's going to continue to be an inhibitor in the casting area. But the construction on the preheat furnaces in the hot rolling area will be wrapped up here in the fourth quarter. The major construction, in fact, they'll begin ramping those up in the next several weeks. By the end of the fourth quarter, the hot line disruptions should be out of the way and we'll really just be dealing primarily with what's going on in the cast house that will last for six months or so.

The short answer is we had some disruption in the second quarter. We managed around it well. We had a lot of disruption in casting and hot rolling in the third quarter. It bit us. We're still going to have disruption lessening in the fourth quarter, but quite a bit. Then, it will really recede significantly as we go through the first six months of 2014.

I guess it didn't seem to, or at least in the reported results, have a material impact on volumes. I guess I'm referring to maybe the aerospace volume, which is where I think it would have the bigger impact, being at Trentwood. It was really just about operating inefficiency?

That's a testament to how well these guys have done their job. With the overhang in the supply chain as wells as having some manufacturing inefficiencies, I would expect to see some in the volume and it doesn't show up there. Am I looking at that wrong? Am I thinking about that wrong?

Well, you're partially correct, but what you don't see as transparently is the impact that it had on general engineering plate. One of our Board members, in fact, asked us yesterday if it had an impact on delivery. The answer to that is no, it didn't have a big impact on delivery even though it was reduced throughput. The issue was we missed opportunities for spot sales that we otherwise would have had, if we had the kind of throughput that we expected.

Lastly, I think you mentioned it in the prepared remarks, but maybe you can elaborate a little bit and talk about potentially if this is a new run rate for you. But the automotive value-added revenue per pound, it looked like a significant jump there in the quarter sequentially and year-over-year. Can you address that?

Yes. I would expect that that's probably a peak. It had more to do with the product mix that we shipped in the third quarter. Some of it's a function of the new products that we launched. But it's also the mix of the new products and existing products. That may be the highest quarter that we'll ever have.

I don't know. You never know what's going to happen to mix. As we look at it longer term, we would expect the longer term value-added revenue price per pound on automotive to decline from that level, because as we go longer term, the preponderance of the business that we'll book will be at lower value-added prices than what was there in the third quarter.

Thanks, guys.

Tony Rizzuto from Cowen and Company.

Hi, everybody.

Hi, Tony.

Hi, Jack, Dan, Melinda. I just wanted to follow up also on that. Just how should we think about the dislocation with casting versus the hot mill? I would think it should be less, correct? I'm just trying to gauge that a little bit better, and I think you indicated that we should expect that those inefficiencies should recede as you go through the first half. Can you give us a little bit more granularity on that?

Those will recede, but if you're trying to predict the first half, you need to pull together the whole story line that I put in there. That whole story line was that we'll see less inefficiency and hopefully growing efficiencies, as we progress through the year. The first quarter probably will be a little better than the fourth quarter of this year. But by the time we get to the fourth quarter of next year, hopefully we'll start seeing some pretty good efficiencies in the operation.

The flip side is that while we expect to see the inventory overhang persisting, although not having a huge impact on our volumes next year because it's situation-specific, it's having a significant impact on the competitive environment. We're anticipating some pretty significant price pressure on our spot prices for plate next year. When I say anticipating, we're already seeing it on business in the first quarter of next year.

We're going to see pressure on price that's also going to be somewhat of an offset from where we've been this year. I'll reiterate the comment that I made, and I know we didn't put anything in the news release, but the comment that I made in my prepared remarks here is that we expect next year's going to be a very good year. Still, it's going to be in the same ballpark as 2012, 2013.

We think it will be better than that as we look at it now with the limited granularity we can provide. But there are going to be some headwinds there next year beyond the improvements that we have in operating efficiencies.

Jack, is it possible to give us some indication of the kind of assumption you're making for the pressure on the spot price that you're looking at? Is it 10% to 15% type of magnitude?

I'm not going to put a number on it right now, Tony. It's a moving target. But as we look at it right now, and again, there's a wide standard deviation at this point, looking at 2014. With the numbers we have, 2014 in total is a better year for us in terms of both value-added revenue and in terms of EBITDA than what we're looking at this year and even where we were in 2012. There's not huge margin of error, given the potential variability there. I really don't want to get any more granular than that. It's way too premature.

Understood. Can you give us an idea of how comfortable are you with the efficiency improvements that you're seeing out of Kalamazoo at this stage?

We're comfortable that they're there, and I'm also comfortable that we're not anywhere near where we will be ultimately. There still is a lot of runway to improve those operations. We've got lots of potential to do better in our operations. We're not at all pleased with where we are right now. We've got lots of runway ahead of us.

You guys don't have any meaningful labor contracts coming up for expiry, do you, in 2014?

No.

I don't recall I recall seeing any.

In '14, we've got I think the Florence plant. We've got one small plant. We're got the Sherman plant late this year. We've got two small plants, late fourth quarter this year and first quarter next year. The master contract that covers Trentwood and Newark expires in the third quarter of 2015.

Okay. I think in the last quarterly conference call you guys did, Jack, I think you may have referred to the US manufacturing recovery as being feeble. We've heard some things from other companies, and anecdotally, and from some of the steel guys that have reported recently, and it seems like things may be picking up a little bit, a little bit of acceleration. How do you characterize the tenor of the manufacturing economy, as it stands today and looking out?

I just looked at the hard statistic, which is service center, rod, and bar shipments year-to-date in 2013 and the first 9 months of 2013 is slightly higher than 2004 and slightly lower than 2005. So, the economy has now recovered to the 2004 level. That's my read on it.

That doesn't say a lot there.

It's anemic. We see a little bit of improvement here. We've got the index of industrial production for manufacturing in there. It's like a 2% rate. We're not seeing anything of consequence in our markets, Tony.

Okay. One final question from me. I'm sorry to ask you so many questions. You mentioned about the competitive pressures in the plate market. What can you tell us? Are you seeing more pressures from the folks in South Africa and some of the other locales where they do produce the plate and try to come in here at lower than market prices?

Yes, there's import price pressure from Western Europe and from South Africa that's been pretty persistent. Then, there's additional pressure from other competitive forces.

Would that be the in Greece, the producer over there, ELVAL?

No, it would be from better well-known names.

Okay. All right. Thanks very much, Jack. Appreciate it.

Steve Levenson with Stifel.

Thanks. Good morning, everybody. Or good afternoon as the case may be.

Good afternoon, Steve.

Well, the call was starting. Boeing came out announcing that they're going to cut another quarter of the 747 per month from production. That's three a year. Do you consider that to be material, or not significant?

No, not significant.

Okay. Thanks. I guess I'm wondering a little bit, is it a chicken or an egg or what? We've done a little survey of service centers and distributors, and they just seem to be unwilling to invest in inventory. Do you think it's really so much an overhang? Or is it an overhang caused because of their unwillingness to order more material?

No, I think the service centers have been pretty consistent over the past several years, in fact, of really managing their inventories aggressively. Part of it, since the recession started in 2008, is that there's been slack capacity in the mills. Mill lead times have been short, and they've had the benefit of rather prompt deliveries from the mills. It's when the mills push out lead times that it forces them to build their inventories.

No, we don't think the service centers per se are the issue, other than the whole rate readiness scenario that I think caused an overreaction, not necessarily at the service centers, but at machine shops and through the whole supply chain. Then we've got some OEM overbuying that's creating this situation-specific inventory overhang, and there are lots of causes behind that, too, in terms of push-outs and production delays.

It's really a number of factors there. But again, it's, as I said in the prepared remarks, and we talk about this often, and I know our other people on our supply chain say the same thing, it's a fact of life here. It's a very long supply chain. We get very lumpy demand. Sometimes it's way better than it should be. Sometimes it's not as good as it should be. Right now we're in one of those phases where it's not quite as good as it should be.

Thanks. I know on the titanium side where we watch things, and it's a little bit easier to track, it seems like there's been a glut, and maybe it's six months until that has abated from a combination of using up inventory and build rates going up. Do you think it's going to be longer for your products?

For the non-plate, I misfired on the last call because we thought we were seeing some signs that the non-plate inventory overhang was abating and that turned out not to be the case. We remain hopeful, but we're more reticent right now to call the end of that inventory overhang. I'm certainly hopeful that it doesn't last very far into next year. But again, the lead times on these products are so short, we only have a few weeks of visibility, if that.

In plate, it's a different story. We have better visibility of plate, and it's pretty clear that this, what I've characterized as situation-specific plate overhang, that is certainly is going to persist through 2014. There's even some indication that there may be some elements of that overhang that carry over into a portion of 2015.

Got it. Thank you very much.

David Katz, JPMorgan.

Aloha on this fine Friday afternoon. I hope you all are well. I was hoping to drive down a little more into the automotive extrusion. As you said, it was a good mix of business but there was that I guess it was a $0.17, $0.16 difference between the two quarters. With the understanding that we're moving down, how much of that $0.16 move do you think would be needed to give back, given the new products, to get to what the new normal would be?

We have forecasts. Dan's here. He's going to look at some papers here. It'll come down a few cents. We don't think in the short-term it's going to come back to where it was. We think we're going to have a relatively richer mix of products. Somebody signaling, maybe a dime or so.

Yes, I think that's about the right territory.

Maybe a dime or so.

Giving back a dime, in other words?

Right. David, that's in the short-term. In the longer term, it will recede further than that, as we book more and more programs because a lot of the new programs that come on won't have as high value-added revenues as the mix that we're running right now.

Okay. Then on the plate and the non-plate, would you be able to refresh what those two form as a mix of the value-added revenue and the EBITDA?

David, we don't break that out. I think you're talking about our aerospace and high strength, how much of that is plate and how much is non-plate.

Okay.

They're two relatively equal portions.

Relatively equal. Okay.

Not 50/50, maybe 60/40 or 75/25. I don't know the split.

Favoring?

That's a good question.

That's why I asked it. Okay. Then coming back to the share repurchases, the purchases this past quarter were relatively meager in comparison to where they were at the beginning of the year. Obviously, the stock has moved up over the last couple of months. Was that behind the reticence to purchase more? And where do you see the Company's and the Board's willingness to go over the next couple of months?

I think the entire year we feel that the purchase of shares would be a good value for the investors. But our program is one that is moderate over time. We want to be purchasing shares at more at lower prices and less at higher prices. Our program tries to follow that kind of guideline.

That's because we know the market is going to fluctuate from time to time, and there are going to be opportunities where you'd rather spend what the Board is authorized at the lower prices. While we don't have an urgency to spend it all, we'll be looking for opportunities over time.

Okay. Thank you very much.

Josh Sullivan, Sterne Agee.

Good morning.

Hi, Josh.

Just looking at the cash position you guys are holding and understanding you guys maybe have a flatter outlook going forward, can you just talk about return potential on M&A versus internal investments and how that's being debated? Obviously, you already have a lot going on. Are there any larger internal investments, such as automotive sheet being discussed or transformative M&A?

In terms of the relative values, organic investments almost always have a better return than what we would get from an acquisition investment. In terms of looking at something transformative, certainly we look at things like automotive body sheet as a potential growth opportunity. But we take a very clear-eyed look at that because that's not much different in our case from doing an acquisition, because it would most likely require a green site-type operation if we did it ourselves.

Yes, we look at those and we continue to look for acquisitions but we come back to the premise that this is a very good business. We're not driven to do something, quote, transformative, end quote. We're only looking for good opportunities where we have a clear idea of how it creates value for our shareholders.

Okay. Great. I'll jump back in the queue here. Thanks.

(Operator Instructions)

Timna Tanners, Bank of America.

Hi, good afternoon.

Hi, Timna.

I'm running the risk here of asking a question that's already been asked in a different way, but I'll just go for it because we've been pretty thorough. I'm worried. Obviously, it seems like in the aerospace channel there's been a lot of fluctuation as you point out, restocking, destocking. We've seen it in jet engines and now in the airframe. What makes us so confident that this isn't a structural change, that your success hasn't attracted too much supply on the heat treat plate for aerospace?

It's not our success per se. Capacity coming on-stream, some of it or most of the capacity that's come on-stream is not, quote, qualified capacity from traditional suppliers. There is some capacity rattling around out there. We know very clearly on plate what the demand situation is. We have a very good fix on that, and we know that this is a situation-specific inventory overhang. In plate, the biggest portion of the overhang, we know precisely what is causing it and have a pretty good idea how long it will last.

Okay, that's helpful. That's good color. It just makes us nervous sometimes when these things roll off so quickly. I think you answered these questions with regard to M&A and share buybacks. Are there any other uses of cash that you want to highlight, or any other thoughts on cash use?

I think Jack covered it. The best opportunities we have are our organic growth initiatives. We have quite a few of those that we can do over the next few years. But, of course, we bit off some pretty big, significant programs this year that we want to make sure we execute well on as we go into the next year. Acquisitions, we'll look at those to see if they're additive, but certainly we want to grow the business if there's a good opportunity there.

Then share repurchases, we still think those are good returns for shareholders, and we think we can pursue both growth, as well as share repurchases and distributions to shareholders. Beyond that, we obviously will be having a liquidity consumption as we get into the first part of 2015 with our converts maturing.

Got it, okay. Thanks very much.

Edward Marshall, Sidoti and Company.

Hi, guys. Just one more question on the plate demand if I could, and what you expect for 2014. Could you quantify it as an epidemic of maybe the rate readiness program that happened in 2012, and maybe continuing a little bit in the first half of this year? Now, it's subsided and that's created a inventory glut. I think you just addressed industry capacity in general.

I was curious, too, if --. There's probably two or three questions in here, and maybe you can help me out as you hear the whole thing. The defense side of the world, I know you do very little to defense. Are there other shifts in capacity elsewhere that maybe went to the defense world that are now coming back to the commercial aerospace industry and creating some kind of additional capacity in there that wasn't previously there?

Okay. Let me start with the demand side. On commercial aerospace demand for plate, as I said in answer to Timna's question, we have a pretty good fix on what happened there, and that's not really a function of the rate readiness. The rate readiness that we described was more than non-plate where demand is very fragmented. Whereas in the plate, the big OEMs have much better control of the buy on plate.

So, what's happened in plate really is a function of some of the shifts in programs, and starts and stops and programs moving to the right, in anticipation of those versus what actually happened rather than the rate readiness situation.

From a supply standpoint, the supply is there to satisfy what would be normal demand on plate. And yes, there is some additional plate supply coming on that's not specifically qualified for aerospace plate applications. But it is qualified for other plate applications, and that, too, is looking for a home. That's creating some of the price pressure. But other price pressure is being created because there's this inventory overhang that began this year, but now is going to take a bigger bite next year, and maybe even extend into 2015.

And so, as a consequence, we're seeing some people react, looking for business, and the place they look for business typically is spot business. We're seeing some pressure on those spot prices. And, we think that too will be temporary. How long is temporary?

Those who have been following us will remember we went through this in 2010 and 2011. In 2011 specifically, we had a pretty big bite on our spot prices, and then they began to improve in the third and fourth quarters of 2011. We had significant price improvement in 2012. And, if you go back and read some of our transcripts or look at our comments, you'll see what happened.

And, when we talked about the step change in results in 2012 compared to 2011 and prior years, we said roughly a third of that huge improvement was related to prices. Most of that was related to spot prices. So, these prices have fluctuated up and down as the demand dynamics and supply demand dynamics have changed, and we fully anticipate that longer term that they'll come back to equilibrium. Right now, we think there's going to be a little dislocation. We're seeing some with the first quarter bookings, some dislocations here in the first quarter.

You mentioned a function of shifting programs to the right. Do you have specific examples of programs you're thinking of? It seems like to me the build rates seem to be pretty, as you mentioned earlier, linear. I'm just curious as to what programs are you -- being pushed to the right. Is that more on defense side of the world?

No, it's on the commercial side. If you go through them, you look at the 787, the 350, who knows what will happen to the 777 here, and if you look at the 747-8, if you look at virtually every one of these programs, as it has been launched, they've moved to the right. Then, there have been occasional blips in some of these major programs. They get into production, and then there are issues that cause them to either stop buying or stop producing, one of the two, or they reduce the build rate.

There are lots of things going on there as they launch these new major programs. And, again, it's an extremely long supply chain. And so, the supply chain gets geared up to be sure that it's in position to supply what the anticipated build rates are, and then as they start to recede it creates dislocations. It's just a fact of doing business in this industry. It happens almost every time.

I know you have very little percent to, say, defense in general. I know you have some. How about the industry supply of maybe plate, heat treat plate, to the defense industry? Do you know what the percentage may be? Maybe that's an unfair question. Do you have an idea?

What we say when asked the question about defense is we say it's roughly 10% to 15% of our total value-added revenue at this stage. A portion of it is plate, but our supply to those products has more other products than it does plate. There's still a significant amount of plate that goes into defense but we have a lot of sheet. We have a lot of cold finish. We have a lot of extrusions that go into defense type applications. We've not seen major, major changes on the defense side. It's been relatively stable here.

Okay. Thanks, guys.

Josh Sullivan, Sterne Agee.

One follow-up. On the Kaiser Select product, are you having success getting that designed into the new programs like the A350? I know you just talked about those programs maybe moving to the right. How is the Kaiser Select design going?

The Kaiser Select is going very well. It does not typically get written into a spec for an airframe. It's more likely either to be written in as a spec for a specific part, and, for example, a very demanding part from a machining standpoint. It could be designed in from that standpoint.

But the more likely way that it gets specked is a machine shop discovers that our product is vastly superior to other product, creating significant improvements in their productivity, significant reductions in their conversion cost, or significantly improving the quality of their product. So, you end up with individual machine shops who will go specify to a service center or will come direct to us and say -- we want that product.

Great. Thanks.

Phil Gibbs, KeyBanc Capital Markets.

Hey. Good morning to you.

Good morning, Phil.

I just had a question on some of the pricing you had talked about, Jack, and maybe the aerospace plate book and some of that being spot. I was under the thought process that a lot of your pricing and/or volume allocations on your aerospace plate book were largely fixed, or managed to, from a pricing perspective. Can you tell me where I'm wrong there?

No, that's a very good and appropriate question here, Phil. When I talked about price pressure, I talked about price pressure generically on plate, or more specifically, the combination of general engineering and aerospace plate. You're right that a significant percentage of aerospace is on contract. However, when you look at our total mix of plate, both aerospace and general engineering, a significant proportion, not 50%, but a very significant proportion of our plate is actually spot buy.

Spot prices have a pretty significant impact. Again, I go back if you remember the scenarios that we were describing in late 2010, early 2011, and then improving prices in 2011 and 2012. We've gone through cycles like this before. Will it be as severe as it was back then? Hope not. It's way too soon to predict. All we can say right now is we're seeing pressure on spot prices.

Okay. Your thought process on 2014, potentially a bit better than 2013 is predicated on the volume aspect of the aerospace book being okay, but pricing being a partial offset and the fact that you get some efficiencies rolling through the system from your capital projects this year? Maybe some better automotive content, it sounds like, too.

Yes, it's what we expect in terms of total demand across the board, including what we think will be very strong demand in automotive, or strong sales for us in automotive. We think sales are going to be decent. We think we're going to have the price pressure that we've talked about.

But, we also expect that we're going to have better manufacturing efficiencies next year than this year. Part of it is removing a lot of the distractions and disruptions that have hurt us this year from a construction standpoint. Part of it is just beginning to see improvements in operations as we bring all the new equipment on, as well as removing the distractions.

Okay. Just lastly, Jack, any update on the M&A front for you guys, as far as your willingness to enter into acquisitions?

We're very willing, and we're very active. We're looking at acquisition opportunities almost daily and certainly every week or so. There's still lots of opportunities that we look at, but we're very discriminating. It goes back again to the comment that we've got a really good business here, and we're very discriminating in terms of what we go after.

We're not just going to grow for growth's sake. We're looking at things that are a very good strategic fit, and things that not only are strategic fit, but where we have a clear path for value creation. We're very disciplined in what we do there, but we intend to do acquisitions. We look hard at acquisitions and are hopeful that we'll do them. But we're not going to do them just to do them.

Thank you very much.

Operator. Tony Rizzuto, Cowen and Company.

Thank you for taking my follow-up questions. I appreciate it.

Yes, Tony. Sure.

Jack, do you have any concerns at all about Aleris' capacity in China? I heard it's moving forward and the product quality's improving. Are you concerned at all about possibly some of that supply leaking into the market and affecting the supply and demand?

There is capacity coming on-stream of non-qualified aerospace suppliers, and that's one of those. Certainly there will be some of that product in the marketplace.

Right. Then in the past you've talked about Trentwood Phases 6, 7, and 8, possibly. Obviously, if things move accordingly, you've got the footprint capabilities, et cetera. How are you feeling about those as you look at the market over the medium to longer term, and the need for those expansions? Have you changed your thought process there at all?

No, not at all, Tony. Our outlook for demand and our outlook for our participation in that demand hasn't changed at all. All we're seeing right now is some lumpiness in demand because of fluctuations in the supply chain. You may recall, although we haven't state it that often, but when we did this Phase 5, it really was a combination, if you go back a couple of years, of what we call Phases 5 and 6.

There were some reasons for doing that. There were some elements of Phase 6 that created significant flexibility in operations. I've mentioned before on these calls that we've been very hampered at Trentwood because we have a lot of different types of equipment that's not all fully qualified to make the broad mix of products. So, we pulled ahead portions of Phase 6, in the original Phase 6, into Phase 5, so this is a bigger increment of capacity than Phase 3 was or Phase 4 was.

We think this Phase 5 buys us some additional time before we make the next move, but in our 5-year outlook we still have capital spending programmed for what were characterized as Phases 7 and I believe even Phase 8 in the 5-year outlook. That really hasn't changed. We remain confident that long-term demand is going to be there and we'll justify that.

I appreciate that, Jack. Thank you.

It appears there are no further questions. I'd like to turn the conference back to Jack Hockema for any additional or closing remarks.

Okay. Thanks again, everyone, for joining us, especially for joining us on a Friday afternoon. We look forward to updating you again in February on our fourth quarter and full year 2013 call. Thanks again.

This does conclude today's conference. We thank you for your participation.