Centrus Energy Corp (LEU) 2008 Q3 法說會逐字稿

Good day, and welcome, everyone, to the USEC Inc. third-quarter 2008 earnings results conference call. This call is being recorded. With us today from the Company is Mr. John Welch, President and Chief Executive Officer; and Mr. Steven Wingfield, the Director of Investor Relations. Management will make opening remarks which will be followed by a question-and-answer period.

At this time I would like to turn the call over to Mr. Steve Wingfield. Please go ahead, sir.

Good morning. Thank you for joining us for USEC's conference call regarding the third quarter, which ended September 30. With me today are John Welch, President and Chief Executive Officer; John Barpoulis, Senior Vice President and Chief Financial Officer; Phil Sewell, Senior Vice President; Bob Van Namen, Senior Vice President; and Tracy Mey, Controller and Chief Accounting Officer.

Before turning the call over to John Welch, I want to welcome all of our callers as well as those listening to our webcast via the Internet. This conference call follows our earnings news release and separate update on the American Centrifuge Project issued yesterday after the markets closed. Those news releases are available on many financial websites as well as our corporate website, USEC.com.

I want to inform all of our listeners that our news releases and SEC filings, including our 10-K, 10-Q's, 8-K's are available on our website. We expect to file our third quarter 10-Q later today. A replay of this call also will be available later this morning on the USEC website.

I would like to remind everyone that certain of the information that we may discuss on this call today may be considered forward-looking, that forward-looking information that involves risk and uncertainty, including assumptions about the future performance of USEC. Our actual results may differ materially from those in our forward-looking statements. Additional information concerning factors that could cause actual results to materially differ from those in our forward-looking statements is contained in our filings with the SEC, including our annual report on Form 10-K and subsequent quarterly 10-Q's.

Finally, the forward-looking information provided today is time sensitive and is accurate only as of today, November 5th, 2008. This call is the property of USEC. Any redistribution, retransmission or rebroadcast of this call in any form without the express written consent of USEC is strictly prohibited. Thanks for your participation. Now I would like to turn the call over to John Welch.

Good morning to you all and thank you for joining us to discuss our third quarter of 2008 results. We've had a busy, productive quarter on several fronts regarding our American Centrifuge Project. We are also prevailing against significant headwinds during this period as we transition to the more energy-efficiency centrifuge technology.

As is our practice in these quarterly calls, John Barpoulis will provide a detailed review of our financial results in just a moment. I will start with a brief review of earnings for the quarter and then provide a status report on the American Centrifuge Project.

Taking a look at the bottom line, we earned $8.4 million in the third quarter compared to a net income of $45.6 million in the same quarter last year. For the nine months we earned $23.6 million compared to $71.5 million in the same period last year. These results track to our expectations for the year.

As we noted in our 2008 financial outlook issued in February, repeated in April, August and again today, our sales volume will be substantially lower in 2008 than in 2007. We set a record for revenue and volume of SWU delivered to customers in 2007, but the flip side of that coin is that we are seeing fewer refuelings at the reactors we serve in 2008. A majority of reactors served by USEC are refueled on an 18- to 24-month cycle, and that means we should see SWU volume in 2009 similar to what we saw in 2007.

We also updated our earnings and cash flow guidance. Customers are locking in delivery dates and quantities for the rest of the year, so we have a pretty good handle on the revenue. We tightened the range on net income to a range of $25 million to $40 million and lowered guidance for cash flow used in operations to $90 million to $110 million. The increasing cash flow used in operations is mainly due to higher power costs we expected to see through the fuel and purchased power cost adjustment in our contract with the Tennessee Valley Authority.

Yesterday we also provided an update on our progress to build the American Centrifuge Plant. There are several major takeaways in the release that I want to emphasize to our investors. First, we're working closely with our strategic suppliers to manufacture the 40 to 50 AC100 machines that will be installed at our Lead Cascade program in Piketon, Ohio. We expect the first of these machines to be delivered over the next couple of weeks. This is an important step forward. Previously, we've built each centrifuge machine ourselves. Earlier this summer we qualified our strategic suppliers on the components they are responsible for manufacturing. They are now making the centrifuge components and will soon assemble the machines for this larger Cascade.

Our plan is to assemble these AC100 machines and begin operating them individually during the next couple of months. During this period we can prepare and condition them for Cascade operation by the end of the first quarter 2009. Successful results from this Cascade will be an important checkmark on our list of accomplishments before beginning high-volume manufacturing of thousands of centrifuges for our plant.

Second, we are continuing our effort to value engineer the AC100 to reduce the costs of manufacturing the production machines. We are working closely with our strategic suppliers to identify, implement and test ways to simplify the design, reduce the part count in the machine and improve manufacturing economics through automation. We plan to have the design for the AC100 value engineered machine finalized in the spring of 2009.

Third, the Lead Cascade integrated testing that has been underway since August 2007 continues to provide us with important information. We have logged more than 125,000 machine hours since the Lead Cascade operations began. We recently swapped out some components in the original Cascade with AC100 components to give us additional operating hours for the improved parts. Changing the components also allows us to analyze the impact of operations on the components, which is part of our deterministic approach to long-term reliability of the centrifuges.

Fourth, we have submitted both parts of our project application to the Department of Energy loan guarantee program and have been actively involved in the review process. USEC was the first company to apply to the loan guarantee program after the solicitation for projects was issued at the end of June. In the final hours of the application period that ended September 29, a competitor owned by the French government, AREVA, was the last company to submit their Part 1 application for nuclear power projects. We strongly believe the American Centrifuge is a perfect fit with the loan guarantee program. Our project is tightly aligned with DOE criteria for the program and bolsters our effort to re-establish the manufacturing base for this industry in the United States.

Importantly, we received a construction and operating license from the Nuclear Regulatory Commission approximately 18 months ago, and our construction is well underway. AREVA, on the other hand, has not yet applied for their construction and operating license, a regulatory process that will take at least 30 months. Under the current legislation the DOE funding authority for the loan guarantee program expires September 30, 2009.

We have invested about $1 billion of our shareholders' money in this project. Higher power prices are a constant reminder that it is essential to our Company that we switch to the more energy-efficient centrifuge technology. We have a strong desire to stay on our current schedule, and we are working closely with officials at the Department of Energy to keep the review process for the application moving forward. We are actively seeking a prompt review of our application and a commitment from the Department of Energy.

Since the timing of a commitment by DOE for projects is uncertain, on a parallel path we continued to evaluate alternative sources of capital for the project. We must maintain adequate liquidity for our ongoing operations. If we are not able to obtain timely action from DOE or obtain an alternative capital commitment, we will be forced to slow spending on the project or take other actions.

Now I'd like to turn the call over to John Barpoulis for a report on the third quarter financials. John?

Thank you, John, and good morning, everyone. As John said, our financial results for the quarter and for the nine months tracked the guidance we have provided during the year. Since we expect to issue our detailed 10-Q report later today, I will keep my report to the highlights so we can get to your questions.

Starting at the top line for the quarter, revenue is $590 million, a decrease of 7%, or $44 million over the same quarter last year. As you would expect, SWU sales made up the majority of revenue at $490 million. SWU sales in the third quarter reflected a 2% decline in sales volume but a 3% increase in the average price billed to customers. So, netting out those factors, SWU revenue was $7 million higher quarter over quarter.

Uranium revenue was $49 million, which was about half the revenue from uranium recorded in the same quarter last year. Both volume and average price billed to customers decreased significantly. Uranium revenue is a good example of the variability we can see from quarter to quarter. In the second quarter, uranium revenue more than doubled year over year, and in the third quarter it was 50% lower.

Nonetheless, we have seen uranium prices drop in the last few months along with other energy commodities due to selling by financial players and recessionary concerns. Although we believe there is solid demand for uranium over the medium to long-term, we are seeing price weakness in the near-term that will impact our uranium revenue line.

Turning back to the quarter, the US government contract segment contributed $51 million, 4% more than the same quarter last year. Looking briefly at revenue from the nine-month period, total revenue was down 10%. The timing of reactor refuelings can clearly be seen in this period as SWU volume was down 17% in the year-over-year period. Average SWU prices billed to customers increased 1% compared to the same nine-month period last year.

This fits in with our guidance that SWU sales volume will likely be down approximately 20% this year compared to 2007. Uranium revenue was 15% higher in the nine-month period. Our government contract segment contributed $167 million, about $25 million or 17% more than the same period of 2007. The increase was due to increased contract work related to cold shutdown efforts at the Portsmouth GDP, resolution of concerns regarding billable incurred costs for DOE contract work from fiscal year 2002 and, to a lesser extent, the timing of sales for NAC.

Turning next the cost of sales for the LEU segment for the first nine months of 2008, cost of sales for SWU and uranium was $894 million. That's $82 million or 8% less than the same period a year ago and mainly due to the combination of a decline in SWU sales volume and higher unit costs. As you know, under our monthly moving average inventory methodology, cost of sales reflects changes in production and purchase costs. Our production costs increased 14% during the nine-month period, reflecting an 18% increase in the amount of power purchased.

You will recall that we are now buying 2000 megawatts of power 24/7 during the non-summer months from TVA. That translates into 1.6 million more megawatt hours of electricity being purchased during the first nine months of this year compared to the same time frame of 2007. The additional power is used to increase SWU production and to underfeed the enrichment process. Production volume is up by 15% as we built inventory in advance of sales and upcoming quarters as well as taking advantage of the economics of underfeeding. The quantity of uranium that is added to uranium inventory from underfeeding is accounted for as a byproduct of the enrichment process.

Production costs are allocated to the uranium obtained from underfeeding based on the net realizable value of the uranium, and the remainder of production costs is allocated to SWU inventory costs. Our overall unit production costs declined 1% during the nine-month period. The impact of higher prices paid to Russia is also pressuring our margins. In 2008 the price we are paying to Russia under the market-based pricing formula is 11% higher than in 2007.

Cost of sales in the government contract segment increased $16 million during the nine-month period compared to the same period last year, primarily due to increased contract work related to cold shutdown efforts at the Portsmouth GDP. Gross profit for the quarter was $48 million, a decline of $64 million from the same quarter of last year. Our gross profit margin was 8% for the quarter compared to almost 18% in the same quarter of 2007.

For the nine-month period the gross profit was $151 million, which was $62 million or 29% lower than the same period last year. The gross profit margin was nearly 13% for the nine months of 2008 compared to 16% in the same period last year. This remains in line with our guidance for a full-year gross profit margin of 13% to 14%.

Below gross margin we have expenses for the continued demonstration and development costs of American Centrifuge. The amount expensed was $29 million in the quarter and $80 million in the nine-month period. Compared to last year, expenses charged to the project are 6% and 19% lower in the quarter and the nine-month period, respectively.

The reduction in advanced technology expense is due to reduced activities associated with assembling and testing centrifuges and equipment at our test facilities in Oak Ridge and increased spending and activities related to capitalized construction work in progress on the centrifuge machines and the ACP. Clearly, we have increased the pace of spending on the plant. During the first nine months of 2008, $292 million of spending was capitalized compared to $63 million in the nine-month period of 2007. As we continue to move forward with the commercial deployment of the American Centrifuge, most of our spending will be capitalized.

Total spending in the nine-month period on ACP, including accruals, was $400 million. We have lowered our projection for spending on the project in 2008, and I'll cover that when I discuss our outlook for the remainder of the year. Selling, general and administrative expense increased by $8 million over the nine-month period compared to 2007, but last year's expense benefited from the reversal of a previously accrued tax penalty of more than $3 million. Compensation and benefit-related expenses increased by nearly $2 million, and consulting expense is $1.5 million higher over the nine months compared to 2007.

In drawing comparisons to last year, I'm going to focus on the non-diluted earnings per share to keep the comparison even. On that basis, going to the bottom line, we recorded net income of $8.4 million or $0.08 per share for the third quarter of 2008 compared to a net income of $45.6 million or $0.52 per share in the same quarter of 2007. In the nine-month period, we recorded net income of $23.6 million or $0.21 per share compared to $71.5 million or $0.82 per share in the same period of 2007.

I would also point out that the results in 2007 benefited from $22 million from the non-cash reversal of previously recorded accruals for taxes and interest associated with the accounting standard known as FIN 48. Earnings per share in 2008 do include the impact of the additional 23 million shares issued at the end of September 2007.

Turning next to cash, we had $359 million in cash as of September 30, 2008, compared to $886 million on December 31st, 2007 and $504 million at the end of June. Cash flow used in operations in the nine-month period was $184 million compared to cash flow used in operations of $104 million in the first nine months of 2007. The reduction in cash flow from operations was largely the result of a build in net inventory year over year. The other draw on our cash balance was the higher level of capital expenditures related to the American Centrifuge Project.

Our cash balance along with access to a $400 million credit facility and anticipated cash generated by operations should be sufficient to meet our cash needs for approximately nine to 12 months without impacting our current project schedule for the ACP. Our ability to stay on schedule will depend on several factors, including expected cash flow from operations, the anticipated spending profile for the project and our progress in obtaining a financing commitment from DOE under the loan guarantee program.

In yesterday's news release, we also reset our net income and cash flow guidance for 2008. As noted in the news release, our guidance is subject to a number of assumptions and uncertainties that could affect results.

To summarize our guidance, we expect revenue for 2008 to be $1.6 billion with SWU revenue making up $1.2 billion of that total. That is a reduction of approximately $100 million in SWU revenue. Our updated outlook reiterates our expectation for approximately 20% lower SWU sales in 2008, partially offset by 2% higher prices as a result of orders shifting into 2009. I want to emphasize that these are not lost sales, but rather sales that have moved into the next year. To a lesser extent, we have seen customers requesting higher tails assays in their orders as uranium prices declined in recent months.

We expect uranium revenue to be approximately $190 million. Given where uranium prices are right now and our belief that short-term uranium prices are experiencing a market disruption, we are not making some of the opportunistic sales we anticipated earlier in the year. US government contracts and other is expected to be approximately $230 million. Although our base cost for power is set under a five-year contract with TVA, we expect the fuel cost and purchased power cost adjustment in that contract to increase our costs. This will negatively affect our production cost and cash flow from operations for the rest of 2008.

Through the nine-month period, that adjustment was 13%. TVA has alerted us that higher coal prices in 2008 could push that adjustment significantly higher, but we have all seen the volatility in the energy markets recently. Below the gross profit line, we have lowered our projection for spending related to the American Centrifuge. We now expect the expenses to be $115 million for the year and total spending on the project should be in a range of $550 million to $600 million. Expected spending on the project in 2008 is below the guidance we issued in previous quarters, due primarily to the timing of certain project activities that are not expected to affect the scheduled completion of the American Centrifuge Plant at the end of 2012 and, to a lesser extent, lower-than-expected project management and labor costs in the current period.

We tightened our net income expectation to a range of $25 million to $40 million. Cash flow used in operations is expected to be in a range of $90 million to $110 million. We reduced our cash flow guidance because we expect to spend more on electric power in the fourth quarter. This will be partially offset by the timing of customer collections, payments to Russia and lower expenses on the ACP. As sales volumes rebound in 2009 to levels seen in 2007, we similarly expect cash flow from ops to rebound.

To quickly summarize, financial results for the third quarter and year to date were in line with our expectations. Looking ahead, we see stronger sales in 2009 and improving cash flow from operations. We're continuing to pursue a DOE loan guarantee to raise the substantial capital we need to complete the ACP under our schedule.

With that, operator, we are now ready to take questions from our callers.

(Operator instructions) Laurence Alexander, Jeffries.

Hi, this is Lucy Watson sitting in for Laurence. Given the risk that the attainment of $3.8 million SWU is possibly pushed back beyond 2012 due to financing issues, how is USEC ensuring an appropriate return on capital on the SWU it's selling today? Or, I guess, in other words, are the contracts you're negotiating now including an explicit adjustment for the change in fixed cost absorption?

I'll answer that in two ways. One is, as confirmed in our discussion this morning, and you'll see in our 10-Q, we are not adjusting our overall schedule at all for the project, so we continue to anticipate the $3.8 million SWU being online at the end of 2012. And, second, our general approach to contracting for ACP has been to wait until we have a very good sense for our costs and our schedule. And so that has been one advantage to waiting to contract for that output until really the last six months. And so we are taking into account the costs that we see and the expected structure of our operating cost profile as we contract for that output.

Bob, anything to add?

Just two other comments. One would be, as the ACP is starting up, we are building inventory and we have some flexibility in the way we sell that inventory as we are going through the start-up process. And then again, we do see substantial opportunities for continued operation from Paducah, whether it be for low enriched uranium production, stripping of high-assay tails, or other missions. So we do have several moving parts, but we are very conscious of making sure that the prices we are looking for under those future deliveries will be aligned with our cost structure.

In the past, you have suggested cash flow from operations in 2009 would be an improvement on 2008. I'm just wondering what your level of confidence is that cash flow from ops next year will be positive.

We are not yet giving our guidance for 2009. But as, hopefully, we communicated in our comments this morning and as you'll see in our 10-Q, we are again reinforcing significant higher sales volumes in 2009, similar to that in 2007, in which that will be improved, significantly improved cash flow from operations. But at this point I can't give specific numbers or guidance, but we will clearly be expecting to do so in conjunction with our 10-K and comments in February.

Okay. And given the decreased wage and project management spending on the ACP in 2008, have you made any adjustments to the labor and project management cost forecast for the ACP going forward?

No. We are certainly taking into account and looking at the experience that we are seeing to date, and to the extent that there are material changes we will adjust our forecast. But at this point, we are not making any changes to the forecast.

Gabriela Bis, Goldman Sachs.

Just to piggyback off of the last question, given the recent drop in commodity costs, does that provide you additional headroom under the $3.5 billion cost, or have these costs been locked in already?

Certain costs have been locked in. We have during the quarter made some additional procurements for materials. We will continue to make procurements throughout the build and deployment of the project. And, again, similar to the comment on labor, I don't think we're at a point where we're updating any forecasts, although candidly, I think we are certainly thankful that this is one way that the declining potential recessionary economy can benefit the overall pressure that we've seen over the past year or two years on build costs for plants and other infrastructure.

Okay. And can you walk through the importance of setting up the ACP subsidiary? Was this done in part to potentially help facilitate a third-party investment?

The DOE loan guarantee is following a very traditional project finance approach, and so we have established the subsidiaries really to affect the DOE loan guarantee. So that is our very clear objective in establishing the entities. At the same time, that may provide us with additional flexibility with respect to investors at that level, and we have certainly seen AREVA do that with their George Besse II plant. And so that is something that we will be contemplating and potentially looking at over the coming months.

And, any sort of look into who this kind of candidate might be? Would it be like a government or a private equity for this third-party investment that you mentioned?

To the extent we see anything on that front, we will certainly let you know. But at this point I don't want to forecast or speculate on the kind of entity that might be interested in that kind of investment.

Okay. And finally, the gross profit in the backlog is $74 million with revenues of $140 million. This implied gross margin was kind of higher than your previous corporate average. How should we be looking at this?

Could you just restate those numbers and reiterate the question?

Sure. The gross profit for the backlog that you guys have, the deferred revenue, was $74 million, while the revenues that were locked in were $140 million. So the implied gross margin was well above your corporate average, and I wanted to know how we should be looking at this going forward.

I think, if you're looking at deferred revenue and cost, those items are very much linked to uranium and the timing for the recognition of that uranium is very much dependent, again, on when LEU leaves the site. So I wouldn't look, per se, specifically at the gross margin on that -- on the deferred revenue and costs. But again, we are reinforcing our guidance for overall gross profit margin this year for 13%-14%. And again, when we get to 2009, we will providing additional guidance for gross profit margin on the whole.

Tom Lewis, Century Management.

First off, you're kind of focusing on your comments about customers requesting higher tail assays. We have watched the price, the market price, which doesn't seem to figure much into your realized revenues, of uranium, come down. We've seen SWU moving up at a nice pace. And it leaves one concern that perhaps we are at a tipping point that could affect your ability to realize value from uranium in all that.

But I'm wondering, is there anything about the supply and demand for uranium besides the unwinding of speculative positions that could be putting downward pressure on uranium that we should be thinking about?

There's no doubt uranium has been through an incredible year of volatility. And, as you know, for a number of years uranium supply has been only about 50% of demand. Inventories have been liquidated, new mines are needed to meet the long-term demand, and that fundamental has not changed.

The recent turmoil in the financial markets has forced many investors who had taken positions in uranium to actually liquidate those positions to raise cash, and they were making those sales at what we consider to be lower prices than the overall fundamentals in the market would dictate.

We do see that most of that selling is complete, and we have observed a recent firming in the market. It's also worth noting that the long-term market has been much less volatile than the spot prices. USEC definitely has an advantage when uranium prices are higher, as the uranium provides -- it provides us uranium that we can sell at attractive margins. But right now, with prices that are lower than they have been in just the last year and as power prices increasing, we are taking a careful look at our operations and the way we balance out uranium and SWU supply.

We continue to see long-term strong fundamentals in the uranium market, and we really see few opportunities for now at making any opportunity sales. But we are looking forward and seeing some pretty good opportunities still.

So if you take the -- well, we see it across all asset categories. You take that forced liquidation out of the equation, Bob, would you bet up or down on the price of uranium?

Not being a speculative guy, again, I do think that that speculation has been driving the price declines. We have seen an upturn over the last several weeks, and I would see that continuing in the near term.

Okay, great. So it sounds like none of this should really affect the tone of the conversations that you're having on long-term commitments for the output of the ACP. Is that a fair assessment? Or, is it giving some of the guys across the table pause as to what they want to lock into?

No, I think that you really do see -- as uranium prices have dropped, SWU prices have continued to increase. So you are looking at two fundamentally separate markets and we see the continued need for new production in the enrichment market, continued interest from our customers in signing long-term contracts to bring that new production on-line. So they are playing out in very different market environments.

Okay, another question, then. Looking at 125,000 machine hours on the ACP and talking about providing data to the DOE for the loan decision, I'm sitting here wondering, is there something -- is there work to do? Is there something you need to get done of a technical nature to get this thing approved after all that work?

No, I don't think so from a technical achievements standpoint, Tom, but as you can appreciate that any loan or loan commitment is subject to due diligence. And, although this is technology that is based on DOE's technology there are certain boxes that we expect to have to check, including independent adviser review as well.

So this is not a matter of technical proof; it's a matter of, like any other big project that has to work through the process there in Washington?

That would certainly be our viewpoint.

I know you don't want to -- maybe you don't want to speak -- you'll give the 2009 guidance when you get there, but in just trying to think about what the price realizations on your contracts might be -- and again, I know that the spot market and the contract market are two different worlds. But here you are, at nine months into it with your -- can you talk to why your realized prices are only up 1% this year in a much stronger market than that, and what the implications might be for next year?

As John said, we were seeing substantially lower demand from our existing customers, and much of that was based on older prices, older contracts with lower prices. So we do see continued upturned in prices going forward outpacing where we were, a number of order movements going into 2009 from 2008 contribute to that price -- the price movements from year to year. But we do see continued firming and tracking with market prices which are now up about 11% this year up to roughly -- upper $150 a SWU.

Gentlemen, there are no other questions.

Thank you for your questions this morning. In summary, we have made great progress on many fronts on the American Centrifuge Project during the quarter, and we are actively engaged with DOE regarding the loan guarantee program and you can be assured we are keeping a sharp focus on our current operations.

We have a vision for delivering long-term share value, and we are focused on executing that plan. Thank you for your interest and investment in USEC and have a good day.