Kaiser Aluminum Corp (KALU) 2016 Q2 法說會逐字稿

Good day, everyone, and welcome to the Kaiser Aluminum second-quarter 2016 earnings conference call. Today's call is being recorded. At this time, I would like to turn the call over to Melinda Ellsworth. Please go ahead.

Thank you. Good afternoon, everyone, and welcome to Kaiser Aluminum second-quarter 2016 earnings conference call. If you have 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 Chief Executive Officer and Chairman, Jack Hockema; President and Chief Operating Officer, Keith Harvey; Executive Vice President and Chief Financial Officer, Dan Rinkenberger; and Vice President and Chief Accounting Officer, Neal West.

Before we begin, I would 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, 2015, and Form 10-Q for the quarter ended June 30, 2016. The Company undertakes no duty to update any forward-looking statements to conform the statements to actual results or changes in 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. Any reference in our discussion today to EBITDA means adjusted EBITDA, which excludes non-run rate items for which we have provided reconciliations in the appendix.

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. Welcome to everyone joining us on the call today.

As you saw in our earnings release, our strong three-month and six months results reflect solid demand for our aerospace, automotive and general engineering products and strong sales margins from price increases implemented late last year, as well as benefits from low contained metal costs.

We also continued to achieve improved underlying manufacturing cost efficiency. Our Trentwood facility continues to increase efficiency and throughput from investments in the Phase 5 expansion and the new casting complex, and we expect to continue to extract additional benefit from these investments as we further enhance our production processes.

In addition, underlying cost efficiency continues to improve in our automotive focused facilities as these plants adapt to more than 70% sales growth over the past two and a half years. The $150 million multiyear capital investment program at our Trentwood facility is progressing as planned, and we anticipate the first phase of incremental cost efficiency and capacity will come online in early 2018.

I will now turn to Dan for additional color regarding the second-quarter and first-half results. Dan?

Thanks, Jack. On slide 6, we show historical three- and six-month value-added revenue. In 2015, both the second quarter and the first six months were record periods for value-added revenue. This year, we exceeded the prior-year levels with the second-quarter 2016 value-added revenue increasing 1% over the second quarter of last year on 3% lower shipments.

Similarly, value-added revenue for the first half of this year improved 4% compared to the record first half of 2015. Strong demand across our strategic end market applications supported second-quarter and first-half value-added revenue growth.

Aerospace and high-strength value-added revenue was up 1% in the second quarter and 6% in the first half of 2016 compared to the respective prior-year periods, reflecting improved pricing and the continued benefits of lower contained metal costs.

Automotive extrusions value-added revenue also improved 1% in the second quarter and 6% in the first six months of the year over the comparable prior-year periods. The improvements reflect a favorable shift in product mix as the current year automotive shipments include new programs for chassis and structural applications that launched during the latter part of 2015, partially offset by end of lifecycle programs that have been rolling off this year.

Year over year general engineering value-added revenue increased 7% in the second quarter of 2016 on 9% higher shipments, and for the first half of 2016, general engineering value-added revenue grew 5% over the prior year period on 7% higher shipments.

In addition to shipment growth for most of our general engineering product categories, the 2016 periods benefited from favorable pricing on long-term -- on long products and lower contained metal costs.

Value-added revenue for our non-core other products decreased in both the second quarter and the first half of this year relative to the prior-year periods as we continue to redirect production capacity to our strategic applications.

On slide 6, we review EBITDA and EBITDA margin. EBITDA in the second quarter of 2016 improved to $55 million from $52 million in the prior-year quarter, reflecting a favorable year-over-year impact of $7 million from sales, partially offset by a $5 million increase in overhead and employee benefit expense. Underlying manufacturing efficiencies continued to improve in the quarter as our EBITDA margin improved to 26.6% from 25.8% in the prior-year quarter.

EBITDA in the first half of 2016 increased $12 million compared to the prior-year period to $110 million with EBITDA margin increasing to 26.4% from 24.5%. The first half of 2016 benefited from a favorable $20 million sales impact and a $4 million impact from improved underlying manufacturing efficiencies. The sales and efficiency improvements were partially offset by a $12 million increase in overhead and employee benefit expense, reflecting salary and benefits inflation and increases to incentive and workers' compensation accruals.

Of our benefits, employee medical cost trends are the most concerning, threatening a growing adverse impact in the future at the current growth rate.

Turning to slide 8, consolidated operating income as reported of $58 million for the second quarter included $12 million of non-run rate gains. Adjusting for these non-run rate items, second-quarter consolidated operating income was $46 million, improving $2 million over the prior-year quarter on improving sales and underlying manufacturing efficiencies, partially offset by higher overhead and employee benefit expense.

For the first half of 2016, reported consolidated operating income of $103 million included $10 million of net non-run rate gains. Excluding these non-run rate items, the first half consolidated operating income was $92 million. This was a $10 million improvement over the first half of 2015 as a $2 million increase in depreciation expense partially offset the $12 million EBITDA improvement that resulted from improved sales and efficiencies, offset by higher overhead and benefits costs.

Our effective tax rate was 37.7% for the second quarter and 37.1% for the first half of 2016, and we continued to apply our net operating loss carry forwards resulting in cash tax rates in the low single digits.

Reported net income for the second quarter was $26 million or $1.43 per diluted share, and for the first half of 2016 was $52 million or $2.87 per diluted share. Adjusting for non-run rate items, net income was $19 million for the second quarter and $46 million for the first half or adjusted earnings per diluted share of $1.02 for the quarter and $2.52 for the first half of 2016. Reported and as adjusted EPS in the second quarter included a one-time $0.38 per share impact from the early retirement of our 8.25% senior notes.

Capital spending totaled $42 million in the first six months of 2016, and for the full year, we expect total capital spending will be approximately $80 million. During the first half of 2016, we paid $16 million in quarterly dividends and repurchased approximately 109,000 shares of our common stock or $8.6 million at an average price of approximately $79 per share.

At June 30, approximately $115 million remained available under our board authorization for further share repurchases.

In the second quarter, we took advantage of favorable market conditions to refinance our 8.25% unsecured senior notes due June 2020 with a new $375 million issuance of eight-year unsecured senior notes with an interest rate of 5 7/8% and a maturity of May 2024.

On June 1, we redeemed all of the 8.25% senior notes that remained outstanding, paying $198 million of principal, $8 million of interest, and an $8 million call premium. The redemption required us to write off $3 million of unamortized deferred financing costs, which, along with the $8 million call premium, triggered $11 million of redemption-related expense. This was recorded in other income and expense and, as I mentioned a moment ago, had a one-time impact on EPS of $0.38 per share in the second quarter.

As of June 30, cash and short-term investments totaled $267 million, and unused availability under our revolving credit facility was approximately $280 million. We ended the quarter on a stronger -- in a stronger financial position with the flexibility to continue investing in attractive projects for long-term value creation while also returning cash to our shareholders through share repurchases and dividends.

And now Jack will discuss market trends and our outlook. Jack?

Thanks, Dan. Turning now to slide 9, as Dan mentioned in his review of the first-half results, we achieved 6% year-over-year value-added revenue growth for our aerospace and high-strength applications. Customer demand for both our plate products and our long products is solid, and our value-added revenue is also benefiting from low contained metal costs. We expect these positive trends to continue into the second half and are raising our full-year value-added revenue outlook for these applications to reflect year-over-year growth slightly above the previous outlook for 5% growth.

Longer-term, the outlook is bright for these applications. The Joint Strike Fighter is ramping up, the current backlog of more than nine years for commercial airframes is at an all-time high, both Boeing and Airbus recently increased their outlook for long-term demand for airframes, and Kaiser is very well positioned to participate in the long-term growth with our customers.

Turning to automotive extrusions, we are reducing our outlook from approximately 10% to approximately 6% year-over-year value-added revenue growth. As expected, we are experiencing end-of-life cycle programs rolling off. However, one program has terminated sooner than we anticipated. Also, while new program launch schedules remain robust, one platform is ramping up at a slower than anticipated pace.

This revised 2016 outlook is related to timing, not to underlying demand, and does not change our long-term outlook for continued aluminum extrusion content growth for our automotive served market segments.

Our previous outlook for North American build rates, a modest 1% compound annual growth rate to slightly over 18 million units by 2018, is also intact. We remain optimistic regarding secular demand growth from our core aerospace and automotive-served market segments.

Turning to slide 10, we experienced stronger than anticipated demand in the first half for our general engineering applications. In the second half, we anticipate reduced seasonal demand for these applications similar to what we experienced last year.

We continue to experience pricing pressure from imports of general engineering plate, and we expect an impact of approximately $2 million in the second half compared to the run rate during the first half.

Moving to slide 11, we reiterate our outlook for year-over-year value-added revenue growth of 3.5% with improvement in EBITDA and margin being driven primarily by sales growth and continued improvement in manufacturing efficiencies. In the second half, we expect normal seasonal demand weakness. Similar to last year, we have significant planned major maintenance in the second half, and we expect that the cost impact will be $5 million to $6 million higher than the first half with most of that higher cost in the third quarter.

In addition to the import price pressure on general engineering plate, we could experience sales margin compression on certain high value-added products if aluminum raw material costs escalate. That said, we do not expect an appreciable impact, if any, in the second half.

Turning to slide 12 and a summary of our comments today, first-half results were driven by strong sales as well as improved underlying manufacturing cost efficiencies. We expect that these drivers will continue to be the storyline throughout 2016.

Looking longer-term, we remain well-positioned for further profitable growth and shareholder value creation beyond 2016. Top-line growth will be facilitated by secular demand growth for auto and aerospace applications, and with additional investments in quality, efficiency and production capacity, we will continue to capitalize on these opportunities to deliver improved value-added revenue and EBITDA.

We will now open the call for questions.

(Operator Instructions) Andrew Quail, Goldman Sachs.

Appreciate you taking the question. A couple of questions, one on aero. Just are you guys seeing a transition from some legacy to the new generation aircraft? Is that coming through now?

I don't know that we are seeing that significantly at this point. That is a little bit further down the road.

Okay. And that's obviously the strength in military. What sort of other sort of trends are you guys seeing?

You mean, other than commercial aerospace, Andrew?

Yes. Yes. Obviously, yes. Outside of military because we know that is strong.

Yes. Well, really the big opportunity here is the Joint Strike Fighter, which is military. Beyond that, 15% of our aerospace and high-strength approximately is industrial type applications. And those have been reasonably strong, although not high growth areas, but reasonably strong just like all of our general industrial has been here in the first half.

Business jets and those areas, really, we don't see much change of any consequence. The real drivers for us are commercial aerospace and military and then the industrial applications.

All right. Thanks, Jack. And just, you talked about obviously the auto extrusion side. So do you think that delay will last into the end of -- or do you think that weakness will be until the end of 2016, or what about sort of -- can you give us any guidance into 2017 on that side, or is it just that growth was pushed out?

No. Well, it is really what I said in the remarks. I think our release said it as well. We really have two things that are happening here. We have old programs rolling off, which we had anticipated. However, one of those programs terminated rather abruptly when our customer discovered a lot more inventory in the pipeline than we knew they had and perhaps maybe they knew they had. But anyway, it terminated the program prematurely. So that reduced sales from our expectation on rolling off programs.

And then, on the other end, another major program -- one of the major programs that we are ramping up on here in the second half of the year -- or actually throughout this year have started a little later than we anticipated and is ramping up slower than we anticipated.

So it is really a matter of timing rather than any real demand impact. We still remain extremely confident that, over the next several years, we are going to see a 5% compound annual growth rate in our content per vehicle.

And, again, I think it is important to put into context here, over the past two years, we have had more than 70% sales growth in automotive extrusions. So from our standpoint, this, frankly, has not been a major upset to us. It has given our operations a chance to really assimilate all of this increased production that we have going through the operations and is showing up in enhanced efficiency in our operations.

Edward Marshall, Sidoti & Company.

So I wanted to kind of talk first about the Joint Strike Fighter. This is the first time I have heard you guys talk about it. Probably haven't been listening to that in the past. What did you guys do as far as sales in 2015 from the JSF, and what would you anticipate that might be in 2016?

We don't break that out. It is a relatively small portion of our total aerospace and high-strength sales at this point. It never is going to be a predominant portion of our aerospace and high-strength sales, but it is a nice growth leg for us going forward. It has really been going on for five or six years now, kind of orders trickling in, and we have had a major position on that from the very outset. But now we really are starting to see -- and I think you saw it in the Lockheed announcement of their results -- they are seeing strong orders come in. Their production is beginning to ramp up, so it is affecting their results, and we are beginning to see it in orders and anticipate a nice strong growth in that as we go forward.

So is it fair to think of maybe 1% or 2% from a volume perspective?

I wouldn't even quantify it at this point.

Can't hurt to try. So let me talk about aerospace, and I guess it has been floated out there several times about the event of a downturn and things of that nature. And I am looking back into the model and I look at pricing and volume, and they held up pretty well through the last cycle. I understand 2009/ 2010, not a normal cycle, and you have added plenty of capacity there.

So I had two questions. One, what measures are put in place to keep pricing stable as we kind of -- if markets and volumes start to kind of shift a little bit lower? And then, two, assuming volume is lower, the capacity that you added, what is the decremental margin in that business now versus where it was in the last turn?

Let me start by saying that it is highly speculative in our view as to whether a downturn is coming because we certainly do not expect a downturn. The backlog is at an all-time high. It is nine and a half years and you look at the last cycle, it was a three- to five-year backlog. And most of that backlog is really solid. We don't think very much of it -- maybe 15% or 10% to 20% at most would go away in a severe global downturn.

So we think the backlog is strong and the backlog supports the build rates, and our customers we know they have been very public about it, they believe that as well.

However, that said, we realize we are in cyclic businesses, and a big part of our business model is we have been telling everyone for more than a decade here is we manage for the downturn. So it is something we discuss with our board every quarter.

So, first of all, we flex our costs very aggressively when we do have a downturn, and secondly, we build our contracts anticipating that. So we have provisions in our contract that give us a little bit of a safety net as well.

So really, the primary risk is in the pricing area on the spot business. So if the industry begins to see significant overcapacity, if we really get a downturn of consequence, we can begin to see some margin erosion around the edges on the spot business. But, again, a good place to look. I think people -- if you go back and look and we put 10 years worth of information in our investor presentation for a reason and that is it is a cyclic business. So we encourage anyone who wants to study that to look at our 10-year trends and see how we performed through the last downturn, which was a pretty severe automotive and industrial downturn, as well as a bit of an aerospace downturn.

So we think we have got a business model to manage that about as well or better than anyone in our industry. We don't expect it to happen, but we are ready for it.

I appreciate the commentary. I agree with your sentiment on the cycle. Thanks.

Tony Rizzuto, Cowen and Company.

I have got a couple of questions. Just to follow up on the aero questioning a little bit, it has become increasingly clear that success is very dependent upon the right programs as a mill supplier. And with so many changes in build rates going on right now, with the wide bodies and the A380, the 777, et cetera, and obviously higher build rates on a single aisle, what makes you confident that you are on the right platforms? And I know you have talked in the past, Jack, about that sometimes it is difficult to know where your material is going, but what gives you the confidence that you are positioned in the right way?

Well, we are confident because our products -- when we sell a piece of plate, it could go onto any platform in the entire spectrum. There will be maybe a Boeing spec and an Airbus spec that could be different, but if it is going to Boeing through that supply chain or through the Airbus supply chain, it basically is generic and applies to all of the airframes. There are exceptions to that in terms of our plate, but those exceptions are relatively rare.

In extrusions, it is pretty much the same case, although some extrusions -- in extrusion, we have a higher percentage that can be platform- or application-specific, but it still is relatively generic as well. So we are not at all distressed by changes in mix or what planes they build. We just want them to build planes that use aluminum.

Understood. And that would apply even if you have described before the A380 is kind of a plate hog, if you will, with the monolithic plate, and that would even apply with those build rates decelerating?

Sure. I mean, so when they build pure A380s, that takes a little bit of demand out of the mix. But while the A380's a plate hog, they only build a handful of those every year, and they are building more than, what, almost 100 a month of single aisles between Airbus and Boeing a month.

So the big demand, actually, is coming from the single aisles and then the 787 and the A350. And those programs -- and, again, in our investor presentation, we have got some charts that show the ramp-ups on the individual airframes. And you can see the A380 and the 747, while they are declining, the single aisles and the 787 and the 350 are really ramping up.

So we remain -- and, again, I come back to it is a nine and a half year backlog. I mean, the typical backlog is three to five years. There is a huge backlog there. We hear all this angst out there about aerospace, and frankly, we are sitting here saying, where in the world is this coming from. It makes no sense to us. We remain very confident. I mean, we knock on wood, things can happen, but with everything we know right now, we feel really good about the aerospace business and we feel really good about the automotive business.

Excellent. And if I could shift over to the adjusted EBITDA performance, which was very solid operationally, how should we think about the cadence in the back half of the year as you work through the major investments and you have got, obviously, some significant maintenance expenses as well? So how should we think about that cadence going forward?

Yes. We tried to estimate what we think the disruption will be with that maintenance, and most of that is actual project expense. We think we will have a minimum of disruption here in the second half. Most of these are furnace rebuilds, which are pretty routine. We have got rebuilds in, I think, four different plants here in the third quarter. So we have got several different plants involved, and we rebuild furnaces all the time.

Okay.

So we don't expect we are going to have major disruption there. The other thing that happens in the second half is typically we get a little bit of slip in efficiency during the summer months, the heavy vacation period and the high heat period, so there can be a little bit of impact there, and the seasonal volume decline sometimes gives us a little bit of a blip. So sometimes it is tougher to hold the efficiency in the second half, but, frankly, we think we are on a trajectory of performance unless we have some unanticipated hiccups here where we are going to continue to sustain or improve our efficiency, even in the second half with some of the headwinds that we will have.

You know, that is a key point that you made about the trajectory, and as we think about -- you have commented in the past very consistently about the kind of the higher highs. You are talking about VAR in levels that you talked about. You have talked about the adjusted EBITDA margin in the upper 20s%. And I am wondering, it sounds to me that upper 20s% is not 26.5% or 26.6%. But are you -- it seems to me just reading everything you have talked about in the last couple of quarterly conference calls, it seems like you may be getting a little bit more confident in the longer term capabilities. Is that a fair point?

No. We have been confident all along. Just that now we are starting to perform at a level that you all can see it. We have always known it was there. We have known that we were doing the right things to get it to come true, but as we are gaining in one place, there is kind of like squeezing the balloon, and it would pop out somewhere else like the automotive, that 70% growth gave us some pretty significant growing pains and masked some of the underlying improvements we were making over the past couple of years.

So we have known it was there, and we can see it. It has just been a matter of delivering, and we are confident that there is more there. We are nowhere near our full potential as a business. I mean, I characterize it internally here. We think we are doing pretty well, but we are like the best hockey players in Mexico and we want to get to the NHL here in terms of our cost management.

So we think that, too. So maybe along with this greater consistency, as well as the continued improvements. And then, one final question on auto. And, obviously, the timing issues you referred to. And, Jack, you always talk about how mix is so extremely important within a lot of your -- aero, high strength, auto, et cetera. So can you give us an idea these disruptions that are occurring right now and maybe the rate of adoption, or maybe not so much the rate of adoption, but just the slow ramp that you are seeing with one customer and these other issues, how is that affecting the mix? And it sounds like it is more of, certainly, a temporary thing and probably will be behind you as you maybe enter into the fourth quarter of the year. But can you describe the mix a little bit and the duration a little bit more in a granular way?

Well, it depends on how you measure mix, but if you measure mix in terms of value-added revenue, the big driver there is drive shaft tubing, which is a mature product, but it is strong with the heavy total build rates, but in particular the build rates of trucks and large vehicles. The driveshaft is strong now. So that is good for our mix. The growth is in chassis and structures and in bumper type applications, and those in terms of value-added revenue per pound are leaner, certainly, than driveshaft tubing is.

So the launches or the delays in the launches and the programs that are rolling off actually are enhancing our mix as driveshaft remains relatively stable or, frankly, has improved some year over year because of the higher built rates.

So, as we go forward -- and I think we have said this on a few calls in the past -- we expect we will see degradation in that value-added revenue per pound or the mix, if you will, as we go forward, because we are bringing in from a growth standpoint some lower value-added products. Still attractive products, but in terms of value-added revenue per pound, not comparable to driveshaft where we do a lot of work beyond just the raw extrusion. We draw it, we form it, we put parts inside it. So it is a much higher cost and price per pound than our other automotive products.

As I see your stock down -- trading down 5% today, I just wanted to -- what is -- can you remind me what is your remaining share buyback authorization?

$115 million.

Paul Luther, Bank of America.

I want to shift gears away a little bit from commercial aerospace, just for now. Can we talk about contained metal costs? You said, I think, it was another tailwind again in Q2, and I saw in your commentary you said it could continue to be a tailwind here in the second half. I was wondering if you could give us a sense of magnitude, and then how we think about that against aluminum LME prices that have started to come up through the year?

Yes. Good question. In terms of the contained metal, it is really difficult to quantify how much is contained metal. It certainly is a benefit, but in terms of a raw dollar number, I can't give you a raw dollar number. The way we look at it -- well, let me speak to the last part of your question here. We did see metal prices gravitating up, but today, I think, the (inaudible) Midwest was $0.78 or $0.79 a pound.

So it has come back down from $0.82 for $0.83 where it has typically been most of this year in the high $0.70s. So just barely below $0.80 is an average. It has gotten down to the mid $0.70s. But most of the time it has been about where it is right now. So we are not convinced that there is going to be a move, and if there is, we think we are relatively well protected for any moves that would happen here in the second half of the year.

In terms of the quantifying what might the risk be, it is really a function of two variables here. The first variable is how steeply does that go up where the market doesn't have time to adjust to it if it really ramps up really rapidly.

And the second part is, what is competitor behavior. Because we know what Kaiser's behavior will be, and that is we will go through to pass that cost through when it goes up, if it becomes a significant increase. But that will be a function of how our competitors behave, and that will mostly be a function of what does the capacity utilization look like in the industry, who has slack capacity and how much do they just try to buy business if we get a run-up in metal prices.

So it is really difficult to say. Over the long term, we think these things tend to stabilize over time, unless you get major moves one direction or the other.

Cool. That's helpful. Thanks, Jack. And then, can we talk a little bit about M&A and your thoughts and strategy there? I think you have been looking around for assets for sale. You obviously have a solid, strong balance sheet. Can you talk a bit more about your strategy? What you might look for there? Would you be looking to maybe enhance your positions in serving aero and auto, your key end markets, or would you look to diversify beyond those markets? Anything you can help us with there?

Well, it depends. I mean, it starts with -- and we will have our strategic retreat with our board here coming up in September, and we do this at every meeting, but we really do it in depth in September to analyze where we go. And I am sure we will conclude this September as we have the past several Septembers that we have a really solid business model here, and we have really solid markets with good, strong secular growth trends.

So, as a consequence, we are in the position that we don't have to do something. And so we start with -- if we're going to do something in terms of inorganic growth, don't screw it up. It has to be something that is complimentary to this core business that we have.

So where do we go from there? Would we do something that beefs up our existing positions or fills white spaces, or we diversify into other applications? We would do any of those if it is clear to us that we can digest it and that it really creates long-term shareholder value. So we are very discriminating in what we look at, but we will look at that whole venue of opportunities looking for the right thing. And if the right thing doesn't come along, we will keep running this business model and buy what is a very attractive acquisition, which is Kaiser Aluminum.

Evan Kurtz, Morgan Stanley.

This is [Spilsu] filling in for Evan Kurtz. I had a couple of quick questions. First, going back to the $5 million to $6 million extra maintenance guidance, can you give us some sense around how much maintenance you had in the second half of last year or maybe how much you incurred in the first half of this year?

I think this is -- I am going to talk slowly until I get a nod here, but I think this is pretty close to what we had last -- the second half is about the same as last year, and the first half was roughly the same as the first half last year. The full year this year total major maintenance spending is about the same year over year, and the mix first half to second half is similar.

All right. That's helpful. Thanks. And on (inaudible) imports impacting the second half, should we expect an impact only on value-add revenue, or is this going to be some impact on volumes also?

You talking to seasonality?

Seasonality (multiple speakers).

I'm sorry. Import pressure. The import pressure is on price. So we have our position. We will maintain our position with customers. We will maintain a significant premium over the imports, but the import prices are coming down. And we get as much premium as we can, but if they go down, then we have to move down slightly. So it is really only on the price. We won't lose business because of this.

Phil Gibbs, KeyBanc Capital Markets.

I had a question generally speaking on aerospace, and I know there was probably a few puts and takes from Farnborough and we have got a long backlog, as you have noted. Has there been any change one way or the other versus your three-year outlook of 5% compounded annual value-added sales growth for the next three years in that business?

I will give a cautionary no to that. We are in the process right now of updating all of our projections as we go forward, and this is a pretty laborious process. We have got a huge model that we use that builds it from bottom-up airframe by airframe, how many they are going to build, and what is the content in each platform? So we are in the process of doing that, but at a high level, I don't think there is any change of consequence. There may be around the edges, but it will be basically the same, I think.

Okay. Yes. I just had -- I was just thinking about the fact that you had some 777 markdowns (inaudible). So I know that those are pretty heavy plate consumers, but we will wait on that from you guys. The $2 million impact compared to the first-half run rate, Jack, for the pricing impact for engineering, is that $2 million a quarter, or is that $1 million a quarter?

No. That is $2 million in total and, frankly, more of that will be in the fourth quarter than the third quarter.

Okay. That's helpful. And you now have lots of cash, lots of liquidity after the recent market offering. A lot for a company your size. What do you do with it here? Do you save it for a rainy day? Do you give it back to shareholders? Do you have something on your radar screen right now? I am sure it is a question that you should be getting at this point.

Sure. This is probably the same answer that we had even before this because we had a relatively large amount of cash on our balance sheet. We took advantage to upsize because it was a great market opportunity at the interest rate that we saw, and we don't go to market every six months. We go to market every couple of years more often. So this was a chance just to increase at a good rate. The uses are basically the same. We will be available -- have the cash available if there is an M&A opportunity that comes along. But, if it doesn't, then we are prepared to make some additional share repurchases over time as we have for the last two years at the right price and the right kind of structure for the program.

Okay. And, Dan, while I have you, any update on the NOL position broadly in terms of if you kind of continue at this pace, how many years left do we have for the NOL? And I know you also have or had a vote coming up on some something around that issue in terms of the charter. Anything you can provide us there? Because I know it is an important cash flow piece of the business.

Sure. Well, we had protections that we had expiring in our charter that were there to protect the NOLs. Those were replaced with alternative or replacement provisions in the charter. We also had a tax rights plan that was implemented. Both of those were approved in May with our shareholder meeting.

So those last for three years until 2019, which is a ballpark for at least a timeframe during which we think we're going to continue to be using the NOLs, and they could expire -- those programs could expire if we consume the NOLs earlier. I will just say that we have several years yet to go on our NOL usage at the pace that we have seen.

Okay. But 2019/2020 is sort when you're ballparking that has been run out (multiple speakers)?

No. It all depends on what our pretax income ends up being over the next several years, though we hope it runs out sooner than later.

Jorge Beristain, Deutsche Bank.

Just maybe for Dan a quick technical question on your CapEx spend. Through the guidance of the nine months, I think you will be running close to $69 million, and your full-year guidance, you just reiterated at $80 million. So should we expect that Q4 will be just a very light CapEx quarter?

I think we may have confused some folks about what the CapEx forecast was because the only thing we have said is approximately $80 million for the full year and $42 million actual. If you were believing that we were saying something about our capital spending when we talked about the higher maintenance expenditure, that is all expensed. The $5 million to $6 million increase in major maintenance is an expense item, not a capital item.

Okay. Maybe we misunderstood that. And then, in terms of CapEx, just if you could just talk about what inning you guys are in. I mean, obviously, the benefits from the Trentwood Phase 5 are going to start next year, but I'm just trying to understand, as you are plowing more of this money into the business, what is the expected payback on the CapEx and where do you expect this to be reflected? My understanding would be in better margins because you are just becoming more efficient and, therefore, lowering costs. It is not something that is really going to drive up your VAR. So I just wanted to understand what inning you guys view that the benefits of this CapEx are coming back to you and, secondly, the payback on the Trentwood plant?

Okay. Let me take this in steps. So in 2017, we will continue to get benefits from the tail of the investments that we already put in, the Phase 5 investment and the new casting complex. We are still continuing to reap the benefits this year and expect to continue to reap benefits next year from Phase 5 and the casting complex.

The next major investment -- the first tranche of that really starts to impact our results in 2018. And certainly the driver is cost, although in the first tranche, we will also get capacity. So if the markets go where we think the markets go with our position in the marketplace, we, frankly, think we will utilize some of that incremental capacity as well. So we will get leverage benefits on margin, as well as cost benefits, as well as some increased shipments.

And in terms of the return, we expect very attractive returns compared to our cost of capital on this $150 million program that we have announced.

Can I press you on that a little bit? Are we talking three-, four-year paybacks or any kind of return on capital hurdle that you have?

Yes. We are talking well above our cost of capital in terms of the returns.

Curt Woodworth, Credit Suisse.

I think one of the issues facing a lot of downstream investors right now outside of just the build rate path for aero, is the issue with contract renewals for OEMs, and it seems like the OEMs in aero are trying to put a lot more downward pressure, take more value through the chain. So can you just update us on where you stand with your Boeing and Airbus contracts and how you are approaching that going forward?

Yes. We don't like to talk about commercial arrangements with individual customers. Let me just say that we are well-positioned in terms of our contracts with our customers, and we are very confident about our position with our customers from both a pricing and a volume standpoint as we look at the next several years going forward.

So, in terms of any angst or risk that you build into the model, there should be none of that as it relates to Kaiser.

Okay. And is the Airbus contract for you guys up for renewal this year or next year, I believe?

There are discussions with some of our major customers on contracts, yes.

Okay. And then, in terms of the future for Trentwood, kind of outside of the 5% to 10% creep you're getting with the modernization project, at some point we think that hot mill capacity in the United States could get fairly constrained. Would you start to contemplate a bigger expansion at Trentwood, and hypothetically, if someone approached you to provide substrate into a body-in-white finishing line, is that something that you guys would entertain?

The issue with doing that -- the answer would be -- is yes, but the second question of whether that is feasible or not is probably no because we are located way up in that corner in the Pacific Northwest. So we are so far away from the markets that it creates somewhat of a disadvantage in terms of supplying substrates.

So is it technically feasible? Yes. Is it practical or likely to happen? We would say no at Trentwood. That doesn't rule out us doing something somewhere else in the country using our expertise and working with a partner, and we have explored those kinds of things in the past as well.

Okay. And then, just last question on aero for the 25% of your volume that goes through more spot or service center channels, are you seeing any price weakness there or any pushback in the supply chain?

Are you talking to spot business on aerospace and high strength?

Aero, high strength, yes.

Not as significant as what we have seen on general engineering. Pricing has actually been pretty stable in those alloys and products that we supply that we characterize as high-strength alloys.

Phil Gibbs, KeyBanc Capital Markets.

Jack, just had a quick one and then I will hop off here. But your mix in aerospace and high strength between plate and long, I know it was sort of a mix bounceback in longs in Q1. And pricing in Q2 was still very strong. I think it was even higher than in Q1, despite your expectation for the mix to weaken. So what are we thinking there in terms of what happened and from a momentum perspective?

If you compare the first quarter to the second quarter, the first quarter had unusually high plate in the mix, and that was an anomaly based on what you get into the accounting gymnastics of revenue recognition, what gets recognized at the end of the year and what gets pushed into the first quarter. So there was some really fourth-quarter production where the revenue got pushed and the shipments recognition got pushed into the first quarter.

And then, in the second quarter, we had a little bit of the opposite where we have built up in the aerospace and high-strength plate, we have built up some pent-up demand, if you will, that will begin to show up in the second half.

So it is kind of an anomaly if you'd tried to look at the first quarter and the second quarter, plate was unusually strong in the first quarter. And we pulled some out of the second quarter, and the first quarter is pulling from the fourth quarter. And now the second quarter is the opposite phenomenon.

So plate was high first quarter, relatively low in the second quarter. We think it is going to be strong in the second half of the year. It is back more to you need to look at it in six-month buckets. There are just too many things that happen quarter to quarter, and we -- frankly, I don't pay much attention to quarterly results. I look at six-month buckets, and that is why we have shown on a lot of our charts (multiple speakers). My charts I show six-month buckets. There is just too much noise between 90-day periods of things sloshing around in there -- cost and sales.

Okay. That's helpful. So fair to say that Q2 was a strong mix quarter for you in terms of more longs versus plate and the (inaudible). You have more plate, probably, and less of a meaningful tailwind from the cost so we should expect some average pricing to moderate a bit relative to Q2.

Phil, I don't know if you are on a cell phone or something, but you completely broke up there. We couldn't get (multiple speakers).

I am here?

Yes, we hear you now.

All right. Perfect. So I said fair to say from that comment that the mix was very rich in aerospace in the second quarter in terms of having longs. You also had some of the lower contained metal costs. So moving into the second half, we have more plate. We probably have less benefit from the contained metal costs, so we should anticipate pricing being somewhat lower than it was Q2.

I would say the price will be lower in the second half than in Q2, but not necessarily because of the real price. The contained metal I don't think was that much in the second quarter versus the first quarter. It was really a function of mix where we had a long products favorable mix in the second quarter, and there will be less long products as a percentage of the mix in the second half.

That concludes today's question and answer session. Mr. Hockema, at this time, I will turn the conference back to you for any additional or closing remarks.

Okay. Thanks. Well, we had a record first half, and we are on pace for a really strong full year of 2016, and we are very bullish about secular growth in our downstream markets and how well we are positioned.

So we thank you for joining us on the call today and look forward to updating you again with our third-quarter results in October. Thank you.

That concludes today's conference. Thank you for your participation. You may now disconnect.