Quaker Chemical Corp (KWR) 2009 Q1 法說會逐字稿

Welcome to the Quaker Chemical corporation first quarter earnings call. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder this conference is being recorded.

It is now my pleasure to introduce your host, Mr. Michael Barry, President and CEO of Quaker Chemical. Thank you. You may begin.

Thank you. Good afternoon, everyone. Joining me today is Mark Featherstone, our CFO, and Jeffrey Benoliel, our General Counsel and head of Global Strategies. As you know, Mark will provide details around the financials, then we will address any questions that you may have. But I will start it off now with some remarks about the first quarter, what we are currently seeing in our marketplace, and discuss what actions we have taken to address the market realities that we are facing.

In the first quarter we had break-even results. This is certainly not where we want to be, but considering the economic environment we have been dealing with, and a 32% decline in our volumes from the first quarter of last year, we are pleased with this result, which represents a significant improvement over the fourth quarter of 2008. We had two major special items in our results during the fourth quarter. One, a $2.3 million restructuring charge we talked about from our last meeting, and two, a sale of some excess land in Spain we owned around our facility. Absent these two special items, our quarterly earnings would have been about $0.03 per share. We saw a low point in our overall volumes during December and the first part of the first quarter, as many of our customers took extended shutdowns. In March we have seen slight increases in our global volumes, and we continue to expect that volumes will remain low but slightly increase in the second and third quarters. So while we see some marginal improvement in volumes, overall, our volumes for 2009 will be significantly down from last year.

There is still a great deal of uncertainty our customer base, and we are continuing to see some of our customers decline while others increasing. For example, we see some steel producers raise production in some mills while other mills are being cut back. Fortunately steel inventories are generally coming down. As you know, auto sales are quite low and are generally down across the globe. However, we do continue to pick up new pieces of business such as product conversions in our CMS accounts, so this helps to mitigate a small part of the decline. In addition, our aerospace sales were considerably higher in man as we were still being impact by the lingering effects of the Boeing strike. All in all, it is still a pretty uneven marketplace.

Looking around the globe, we are seeing similar volume declines, ranging from 33 to 41% in three of our regions, North America, South America, and Europe. With declines in both steel and metalworking. However, Asia Pacific is down a lower amount with a volume decline of 18% from last year. Despite our volumes being low, we were able to see continuing profit improvement as the quarter progressed.

This is primarily due to the cost reduction efforts we have taken. As you may recall, we took two sets of cost reduction actions, one in the fourth quarter of 2008, and another in the first quarter of 2009 where we eliminated in total over 140 positions. The savings from these actions increased as we progressed through the quarter. Also, our financial improvement was partially due to getting our margins back to more historical levels. Our gross margin percentage was 29% in the quarter, which was consistent with last year. However this was a 5% point improvement from the fourth quarter.

Concerning cash flow, we had significant cash flow generation in the first quarter, primarily due to a reduction in our working capital. We were able to reduce our debt by $8 million this quarter and our net debt is now at 2005 levels. Going forward, cash flow generation will continue to be a major focus for us. We also completed an amendment to our credit facility in the first quarter. Mark will go through some of the changes, but the bottom line is that we now have exclusion of our recent restructuring charges and some CEO transition costs from the leverage ratio calculation as well as some temporary expansion and limit of our leverage ratio. These changes will provide us more financial flexibility during this uncertain economic period.

I would now like to talk about our exposure to GM and Chrysler. As most of you know the government has given clear guidelines and deadlines for GM and Chrysler to get additional government aid and therefore avoid bankruptcy. GM and Chrysler are both major customers for Quaker, and we have continued to support them through these difficult times by providing product and services which help them lower their costs. So what would our exposure be to these companies if they do file for bankruptcy? There's no clear answer to this.

Let me try to provide some guidance. We have taken steps to limit our exposure over time. In addition, many other factors go into what our eventually exposure could be, such as, one, the timing of a potential filing and what our account receivable are at the time, including the amount of receivables where we act as an agent for the customer. Two, whether we be designated as a critical supplier if a bankruptcy were to occur. Three, the priority of receivables under bankruptcy law, and four, the likely proceeds we would get for our receivables from a potential bankruptcy process. So there are many factors that will influence the potential impact of a bankruptcy on Quaker. Up until last week, considering the above factors, we would have said our exposure was up to $5 million in total for both GM and Chrysler combined. Although it could be higher, or lower, depending on the range of outcomes in the factors I just mentioned.

During the last week, we did receive notice that we are eligible to apply for the supplier support programs for GM and Chrysler. We are doing this for ourselves as well as for other suppliers we act as an agent for, as long as they want to participate. The cost of the program is a 2% discount on the receivables. Once in the program, we will be guaranteed payment on our receivables by the US treasury should a bankruptcy occur. Once accepted this will significantly reduce our potential exposure even more, perhaps to $1 million or less. In the case of Chrysler, we have submitted our application and related information, but we do not know the timing of when we will be formally accepted into the program. So I hope this information brackets for you our exposure at this time.

I will wrap up my opening remarks by commenting that despite this uncertain period, we feel confident about our future. We believe the actions we have taken will enable us to be profitable this year despite the large declines in volumes in our customer base. We are also continuing to invest in our key growth initiatives. As I mentioned in our press release, while 2009 will be challenging for Quaker, we remain confident that our business model, strong associate base, key growth initiatives, and solid balance sheet will get us through this difficult period in 2009 in a profitable manner and position us well for the future.

And now I will turn it over to Mark Featherstone , our Chief Financial Officer, so that he can provide with you more details behind our financials, and then after that we will address any questions that you may have.

Thank you, Mike. Good afternoon, everyone. Yesterday we announced first quarter 2009 results at a sequential break even level including the restructuring charge of $2.3 million, or $0.14 a share. Aggressive cost reduction efforts have begun to contribute to profitable as we're able to show significant progress in earnings despite volumes that were well below the fourth quarter 2008 level. While volumes were well below prior year and below prior quarter levels in every region we did experience some moderate volume increases as the quarter progressed, and we anticipate further volume increases as the year progresses. I will spend the next few minutes to cushion on the first quarter P&L, then we will go on to questions.

As Mike mentioned, revenues for first quarter compared to same period last year were down 33% to $98.5 million. Compared to the fourth quarter 2008, revenues were down 15% as the global economic downturn began to significantly impact volumes during the middle of the fourth quarter. Compared to last year's first quarter, double-digit volume decreases were experienced in all regions with volumes in Asia experiencing the smallest decline. The drop in volume was partially compensated by a more favorable raw material environment. Foreign exchange decreased revenues by about 5% as the US dollar was stronger against most currencies. Regarding volume, overall volume for the quarter was down about 32% compared to the prior year quarter and 12% compared to the fourth quarter of 2008. Overall price in the mix was up about 4% from last year's first quarter.

Turning now to segments, I would like to give some information on the segment basis. We segment our business into three areas. Metal working process chemicals, coatings, and other chemical products. In our metal working process chemical segment, which makes up 92% of our sales, revenues in the first quarter compared to 2008 were down 34% to $90.8 million, and operating income decreased to $9.6 million, a 48% decrease. Sales in our coatings segment, which makes up about 7% of our sales, decreased $2 million, or 22% due to lower chemical milling masking sales sold to the aerospace industries. Operating income decreased $700,000. In our smallest business segment representing 1% of total sales, called other chemical products, sales were down $600,000 and operating income was flat.

Turning now to gross margin, gross margin as a percentage of sales was 29.1% this quarter, which represented a decrease from the 29.5% from last year's first quarter, but was a significant improvement compared to the 24.2% reported in the fourth quarter of 2008. There are a number of factors that influenced this decline in the gross margin percentage. The margin expansion for the fourth quarter was the result of the cost reduction actions the company is taking, and a more favorable raw material cost environment, as well as product and regional sales mix.

We also noted in our fourth quarter comments that margins were also hurt in the fourth quarter where our prices were tied to indexes and a new index price did not go into effect until late in the fourth quarter or in the first quarter 2009. These indexes have now largely reset. Of course, other margins continue to be impacted by the effect of spreading relatively fixed manufacturing and other costs over a smaller volume base, and that's despite the cost reduction actions we have taken.

Turning now to SG&A and other expenses, as a percentage of sales SG&A was approximately 27.1% of sales this quarter, compared to 23.4% in the first quarter of 2008, and 23% in the fourth quarter 2008. In absolute terms, SG&A for the quarter declined approximately 23% or $7.8 million compared to the prior year. Approximately 70% of the decrease related to savings from our fourth quarter and -- 2008 and first quarter 2009 restructuring programs, reduced incentive compensation and other cost savings measures. Lower foreign exchange rates accounted for the remainder of the decrease. Compared to the fourth quarter of 2008, SG&A was essentially flat. However, excluding reversals of incentive compensation expense accruals in the fourth quarter, SG&A in absolute terms decreased about $3.5 million, reflecting our cost reduction efforts.

Other income is higher than the first quarter of 2008 due to a gain on the sale from excess land in the current year quarter. And the decrease in net interest expense is reflective of lower market interest rate as well as lower average debt balances. Regarding the tax rate, the effective tax rate in the quarter was not meaningful due to the low level of profitability and the land sale gain being effectively tax-free. As previously discussed, we expect our (technical issue) continue to experience volatility on a quarterly basis due to FIN 48 and potential changes in income mix.

Looking now at the balance sheet and the cash flows, the company's net debt to total capital ratio remains strong at 31% at March 31st, 2009, compared to 32% at December 31st, 2008. I would also like to comment on a few other financial matters. I have discussed in the last conference call and as indicated in our Form 8-K filed on February 20th, 2009, we have amended our primary credit facility and industrial revenue bonds to provide covenant relief for a number of items including the 2008 and 2009 restructuring charges as well as CEO transition costs. In addition, in order to allow increased financial flexibility, we have also temporarily increased our maximum leverage ratio. That is the ratio of consolidated debt to EBITDA from a maximum of 3.5 to 1 to 4.0 to 1 for the second and third quarters of 2009, and to 3.75 to 1 for the fourth quarter 2009 and first quarter of 2010.

Our leverage ratio at March 31st was approximately 2.3 to 1 with about $40 million of borrowing capacity available. As Mike discussed, and as discussed further in our press release and form 10-Q filed yesterday, we continue to monitor our accounts receivable with both GM and Chrysler, which total 6.7 million and $5.8 million respectively as of March 31st, 2009. The company has taken steps which it believes significantly reduces exposure and continues to pursue other measures to minimize risk. As a result, we believe our exposure today is considerably less than receivable balance was at the end of March. In addition, we have applied for inclusion in the US treasury auto supplier support program, to guaranteed payment of our receivables. Our admittance into this guaranteed program will result in even further reduction in our potential exposure.

Thanks, Mark. At this point, we would like to address questions from any participant on the conference call.

Thank. We will thou be conducting a question-and-answer session. (Operator Instructions).

One moment please while we poll for questions. First question is from Robert Felice with Gabelli & Company.

Couple of quick questions. I apologize if I missed this. I hopped on the call a little late. But I guess with respect to Chrysler and General Motors, if Quaker is not deemed a critical supplier, what does that mean for the company, and what's the magnitude of your earning stream that's at risk?

Well, Robert, we could still -- say we are -- if we're not a critical supplier, as I mentioned on the conference call, kind up of to a week ago we thought our exposure was kind of up to $5 million, and that's a combination of both GM and Chrysler. Now, last week we did hear from both GM and Chrysler that we are now can be part of the supplier support program, and we are applying for that program. We have applied with Chrysler at this point, and we're waiting to get formal acceptance into the program. Assuming we get formal acceptance into that program, that would mean that our exposure would be greatly reduced to probably even something perhaps less than $1 million. So I think that kind of brackets in maybe a range.

And that $5 million is receivables risk?

Yes that is receivables risk.

I am imagine you would be allow to continue supplying them.

Critical supplier refers to a bankruptcy preference claim where critical suppliers are paid as if it's a post-petition claim. It doesn't affect your ongoing relationship with the company.

Okay. That's helpful. And then I guess next, what was the magnitude of your price cost variance during the quarter? You had discussed your gross margins holding up pretty well on a year-over-year basis and improving sequentially. Just trying to get a sense of the delta between cost deflation and price increases.

We did see some decreases in raw material costs as we talked about, they kind of peaked in the fourth quarter, started coming down in the first quarter. Our price increases were fairly small in the first quarter. They were more these indexes resetting.

Okay. And I guess as I look out to the remainder of the year in terms of think about volumes and price costs, should I think that the first quarter here will be the weakest in terms of profitability, and that things should begin to improve quite a bit sequentially as we move forward?

You mean overall profitability?

Overall profitability, or operating income.

Yeah, we would expect to see improvement in profitability as we get into second quarter, third quarter, and so forth.

Okay. And I guess just by order of magnitude, would you say that would be largely price cost driven, or volume driven? I'm just trying to get a sense of your thoughts around those two dynamics.

Well, I think we'll see the full effect of -- it's really a combination of all of those. We will see the full effect of our cost reduction actions that we've taken, so that will continue to be a large part of the expansion. We should see some modest expansion in our gross margins. We also would see, as we said, some modest expansions in our volumes.

Okay. That's helpful. Thanks for taking my questions.

Sure.

(Operator Instructions). The next question is from John Rogers with Janney Montgomery Scott. Please go ahead with your question.

Good afternoon. Quick question on the supplier support program. Will you have to apply separately for GM if you do are you in the process of doing that?

Yes, GM, it is a separate process, but both suppliers have invited us in. Chrysler, all the information and application is in. With GM, we're kind of in the process of it. There's actually a call with GM tomorrow to get more of the details and to finalize the application for that.

Okay, great. What is sort of the timing until you're accepted? Is it a matter of weeks, or is it a matter of months?

We're hoping, in the matter of Chrysler, it's sooner rather than later, just given the urgency around their situation, but to be honest, we just don't have total visibility. We've done everything we can on our end, once we got word of this to put in the paperwork and to do everything we can to make it easy for that approval process. So we really don't know. It's our hope that we would certainly get in before a potential bankruptcy happens, and in the case of GM, of course, from what we read and hear in the news, it seems like GM has more of a June 1st deadline. So we don't anticipate any issues of being able to get into the program prior to that point and protecting our receivable.

Thanks.

Sure.

Next question is a follow-up from Robert Felice with Gabelli & Company.

One last one Can you give us a sense where you think your corporate unallocated number might fall out for the year? I want to say came in about $9.5 million. Is that the appropriate run rate we should think about for the next couple quarters?

Well, I think one of the things you need to keep in mind, Rob, and this is discussed in our 10-Q, we are expecting some CEO transition cost later in the year. So because of that, I would expect it to be somewhat higher for the rest of the year compared to the current quarter, but excluding that, I would say fairly flat, maybe a little bit higher.

Okay. So $9.5 million to $10 million is probably a good ballpark excluding the CEO transition cost.

I think that's a reasonable range.

thank you.

There are no further questions in queue. I would like to turn the call back over to management.

Okay. Well, I want to thank for all of your interest today. While these are challenging times, we will get through them in a profitable manner, and we will continue to prosper as a company. Our next conference call for our second quarter results will be at the end of July, and if you have any questions in the meantime, please feel free to contact Mark Featherstone or myself. Thanks again for your interest in Quaker Chemical. Good-bye.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.