Materion Corp (MTRN) 2005 Q4 法說會逐字稿

Good day, everyone. Welcome to the Brush Engineered Materials, Inc. fourth quarter and year end 2005 earnings release conference call. As a reminder, today's call is being recorded. With us today for opening remarks and introductions, we have Mr. Michael Hasychak. Mr. Hasychak, please go ahead, sir.

Good morning, this is Mike Hasychak, Vice President, Secretary and Treasurer. With me today is Gordon Harnett, Chairman and CEO, Dick Hipple, President and Chief Operating Officer, John Grampa, Vice President of Finance and Chief Financial Officer, Jim Marrotte, Vice President and Corporate Controller, and Dick Sager, President of our wholly owned subsidiary Williams Advanced Materials, Inc. Our format for today's conference call is as follows. Gordon Harnett will comment on the recent announcement of his retirement followed by a statement by Dick Hipple. John Grampa will then discuss the fourth quarter and 2005 financial results. Dick Sager will comment on the acquisition by Williams Advanced Materials in 2005 and early 2006 and finally John Grampa will discuss the outlook for 2006. Thereafter, we will open up the teleconference call for questions. A recorded playback of this call will be available for 15 days by dialing area code 719-457-0820, access code number 1455379. The call will also be archived on the Company's website, beminc.com. To access the replay, click on Quarterly Earnings Conference Call under the Investor Page. The broadcast requires Real Player software which is available as a free download from the icon as indicated.

Any forward-looking statements made in this announcement, including those in the outlook section and during the question and answer portion are based on current expectations. The Company's actual future performance may materially differ from that contemplated by the forward-looking statements as a result of a variety of factors. Those factors are listed in the earnings press release issued this morning. And now I'll turn it over to Gordon Harnett for comments.

Thanks, Mike. As I indicated, I'd like to start the call today by commenting on the transition in leadership at Brush announced on Tuesday of this week. Over a year ago, the Board of Directors and I began working on an orderly succession plan. In May of 2005, we named Dick Hipple as President and Chief Operating Officer and that by the way triggered a series of other organization moves, all of which were filled by internal candidates. On this past Tuesday, we announced my intention to retire effective with our annual meeting in May of this year. The Board announced its plans to name Dick Hipple as Chief Executive Officer and Chairman at that time. Dick had been nominated by the Board as a candidate for election to the Board of Directors. I will not stand for re-election as a Director and expect to fully step down and let Dick take Brush forward. I and the Board have absolute confidence in Dick's abilities to lead Brush in the future and know he is backed up by a strong veteran team. Dick and I have worked well together these past several years and over the next months, we will insure a smooth transition. It has been a rewarding 15 years as Brush's Chairman and CEO and I have many people to thank, especially the outstanding employees of Brush. I truly appreciate their support and dedication in meeting the challenges we have faced over the years. Now I thought it would be appropriate to have Dick make a few comments.

Thank you, Gordon. First, I want to thank you on behalf of the entire Brush organization for the terrific leadership you have provided and the deep cultural roots in employee dedication that you nurtured over the years. I'd also like to mention how much I have appreciated your mentorship during the last five years while I've been with the Brush organization. Gordon, you have very large shoes to fill, and those of you that know Gordon know how true a statement that is.

I would like to say a few words about how exciting this opportunity is for me. The secret of Brush's long term success and, after all, it is our 75th anniversary this year, is our people and our culture. Brush is a company that creates its own future by constantly finding new ways to satisfy our customers' most demanding material challenges. We have a very strong and seasoned management team and a workforce dedicated to success and dedicated to our customers, a team that I'm proud to be part of. Looking forward, we plan to provide steadily growing earnings to our shareholders by providing innovative products to our customers, to grow our sales by a multiple of GDP while constantly improving our supply chain and cost structure, continuing to expand our international business and continue with strategic acquisitions while maintaining a conservative balance sheet. Prior to coming to Brush, I had 25 years of leadership in the steel business, which prepared me well for the pressures of a tough business environment and the knowledge that innovation and growth are the keys to success in our global marketplace. I'd like to turn the call now over to John Grampa, who will review our fourth quarter and end of year results. John?

Thank you, Dick. Good morning, everyone, and thanks for joining us today. As in the past , I'll review the most recent quarter as well as the year and then comment on the outlook. Following my prepared comments, we'll open the call for questions. I'd like to reinforce the key points made in the press release, especially those related to sales growth, as well as margins and the effect that escalating copper and precious metal prices have had on both sales and margins. I'll also review the significant market-driven mix shift that we've seen, and the impact that that has had on our growth and our margins in 2005. I'll comment on the most recent changes in these trends, which have been favorable, and their implications for early 2006.

In addition, I'll review the previously announced sub-debt prepayment and the previously announced reversal of a portion of our deferred tax asset evaluation allowance. Both of these have significant future comparison implications and need to be understood. I'll also comment on the recent acquisitions and what we expect from them in the year-over-year comparisons.

Let's begin with the fourth quarter. As you know, this morning, we reported sales for the quarter that were better than our expectations. Sales for the quarter were up 21%, or about $25 million, to $141 million, our strongest revenue quarter in over four years. Net income was 4.1 million or $0.21 a share compared to $0.09 in the prior year. Net income and EPS both included the benefit of approximately $0.11 per share, the net positive effect of the sub-debt prepayment charge and the deferred tax asset benefit we announced in early December. The fourth quarter was the 12th consecutive quarter where sales were higher than the comparable quarter of the prior year. We did see strong real growth in the quarter.

You'll recall that we entered the fourth quarter with overall order entry improving and with mix showing some signs of improvement from the weaker mix we had been seeing all year. The weaker mix earlier in the year was driven by softer demand from the applications we serve in the automotive electronics and the computer and telecommunications infrastructure markets. There was notable improvement in these markets, especially later in the fourth quarter. This was an important factor in the fourth quarter growth as these markets were very weak in the fourth quarter of 2004, in addition to the earlier quarters of 2005. We grew by over 12% in these markets in the fourth quarter compared to declining by about 10% through the first three quarters of the year.

In the quarter, the markets that were stronger earlier in the year continued to develop nicely. These markets include magnetic media, wireless photonics, handset, semiconductor, and industrial components which includes oil and gas and heavy equipment. These brought our overall growth for the quarter to the 21% we reported. I should remind everyone that the fourth quarter is usually not our strongest revenue quarter, due to seasonal factors. This year, the fourth quarter was actually the strongest quarter of the year, with a lift coming in the electronics markets we serve. This lift was similar to what we saw in the fourth quarter of 2003, and it has carried thus far into early 2006.

In the fourth quarter, metal prices accounted for about three points of the 21 point growth. In the fourth quarter of 2004, we were shipping materials for the James Webb Telescope program. That program was substantially complete by mid-year 2005 and, thus, in the fourth quarter of 2005, we had limited shipments, which in turn negatively affects the year-over-year comparisons by about $4 million, or 3 points of growth. Netting those two factors suggests that the reported 21% year-over-year growth in the quarter is real growth.

While sales in the quarter were much better than expectations and up significantly compared to the prior year, we did not see the earnings leverage that we would normally have expected. Our margins in the quarter continued to be negatively affected by higher material costs, especially copper, which alone negatively affected our earnings by about $0.5 million in the quarter and about $2.7 million for the year. This factor was instrumental in driving gross margins down by about 3 points, compared to the same quarter of the prior year. About 1 point of the 3 point drop is metal price and about 2 points is mix and pricing. The actions that we've taken to mitigate some of these issues began to show benefits in early 2006.

Now let's move on to the year. Sales for the year were up 9% or $45 million to $541 million. Net income for the year, including the one-time benefit we announced and I reviewed with you earlier, was up about $2.3 million to approximately $18 million or $0.92 a share. EPS last year for reference was $0.85 a share. The year, as you know, was a challenging year. The difficult market environment that began to unfold in the fourth quarter of 2004 slowed our growth and negatively affected our margins by a significant amount, which in turn hurt our profitability.

We made an extraordinary amount of progress on a number of fronts in 2005. I'll highlight those later but first, let's review the margin loss. Gross profit percent for the year declined 2 full points. Coming into the year, we had expected a 1 to 1.5 point improvement. Here are the key factors behind the margin loss. First, from a pure numbers perspective, the 2 point decline in 2005, comparing to 2004, is about 0.5 point from metal price being passed on to customers, which in turn hurt the margin. Copper not passed on to customers hurt margins by an additional 0.5 point. Mix and pricing drove margins down 1.5 points. And offsetting those was business from Webb, the Webb Telescope business, which raised margins by 0.5 point. So, in total, margins dropped 2 points year-over-year.

Our higher margin business units, those that are largely dependent on the computer, telecom infrastructure, U.S. automotive and defense market segments represent about 55% or $275 million of the Company's total sales in 2004. Sorry, 2005. Sales to these markets were down by approximately $13 million, or 5% for the year, compared to 2004. Our margins inside these markets were also down compared to 2004 driven by mix inside those markets, the higher copper prices and our inability to pass along all of the copper price increase to our customers. Copper, after increasing about 40%, or $0.44 a pound in 2004, increased another $0.64 a pound in 2005. Copper doubled in two years, and 60% of that increase occurred in 2005, putting enormous negative pressure on our margins. Over half of the $0.64 increase in 2005 occurred in the fourth quarter. This is very significant when you consider that approximately 45% of the Company's business is in copper-based materials. Thus far in 2006, copper is up another 7% or $0.14 a pound.

Our bulk form materials business to the oil and gas industrial component, aerospace and heavy equipment markets grew about 14% in the year, aided by our new product initiatives. These markets started to grow in the second half of 2004, and continued to grow throughout 2005. Williams grew 26% in the year, with their magnetic data storage, handset, semiconductor, and photonics businesses growing significantly, driven by many of their initiatives to penetrate new markets with new products. The wireless and traditional businesses at Williams gained momentum later in the year, following a weaker start to the year. About 40% of Williams' sales growth is metal price and mix that we were able to pass on to customers.

The Webb Telescope mirror shipments added about 1.3 points of growth in the year at good margins, all in the first two quarters.

I'd also now like to comment on our continued progress in some other important areas. Just as our initiatives to broaden our base helped the year, so did our continuing efforts to focus on lowering costs and improve the balance sheet. To that end, we continued to make good progress. For example, while sales have grown 9%, employment is only up 1%, excluding the acquisitions. SG&A as a percent of sales dropped to 14.5%, compared to 15.5 for all of 2004 and 16.5 in 2003. Inventory and receivables were up in dollars from year-end 2004, due to the increased business levels seen in the fourth quarter of 2005, continued to turn faster adding to our ability to generate cash.

Debt was lowered an additional $15 million and debt to debt-plus-equity now stands at a very respectable 21% compared to 26% in 2004, and levels in excess of 35% in prior years. Our expensive sub-debt was prepaid in December which will lower interest expense by a significant amount going forward. Our credit lines were expanded in the fourth quarter, adding to our flexibility in providing significant liquidity to support the growth of our business in 2006 and beyond.

Finally, in 2005 and in early 2006, we closed on three significant acquisitions that should add to our growth and profitability in 2006.

I'd also like to reconcile the most obvious and most significant changes in the financial statements. First, our cash balance declined by $39 million in the year, from about $49 million at the beginning of the year to about $11 million at the end of the year. About 40% of the year's change went to reduce debt. We also made a planned $5 million contribution to our pension plan in the first quarter of the year. And we used approximately $13 million to fund the acquisitions that were made in the year. These were all previously announced. The remainder, along with the cash generated in the year, funded the growth in our working capital of about $15 million, to support the higher level business and also funded approximately $14 million of capital spending.

In our segment reporting that was discussed in the press release, there's a point worth noting. You'll note that in the segment reporting, a small operating profit increase on a sizeable $40 million per year, or year-to-date sales increase, in the microelectronics segment. This is due to principally the previously discussed negative mix effect, plus inventory evaluation differences between the two years, metal prices, and higher costs earlier in the year, which were in part due to the introduction of new products. These factors are behind us and we expect to see good profit growth from the sales growth in this segment going forward.

Prior to discussing the outlook, I'd like to have Dick Sager, President of Williams Advanced Materials, now share with you his views on the recent acquisitions. Dick?

Thank you, John, and good morning. I'm going to take a few minutes to attempt to explain the acquisition story and how these units will be integrated into the Williams' family of products and services. The three acquisitions accomplished over the last 10 months were in support of our physical [Indiscernible] deposition business. This business accounts for 60% of total revenue for Williams.

I'd like to begin with the acquisition of OMC Scientific of Ireland, which was completed in May of 2005. This acquisition was basically an opportunity for us to add additional services and technology to our existing shield kit cleaning business, allowing us to clean non-precious components in assemblies for customers for which we currently provide the materials. Over the last several months, the technology has been duplicated at our facility in Buffalo. Incidentally, Buffalo revenues have grown 80% from this segment from 2004 levels. Plans are being developed to transfer this technology to key geographic areas around the world where we sell our products and provide our customers with a value package unmatched in the industry. The three components of this value package are the materials, the non-precious and precious metal PVB products, physical vapor deposition products, that we supply. The cheaper services. Our product is put into a chamber, a vacuum chamber, and that vacuum chamber has to be cleaned on a periodic basis. So we're providing cleaning services for shield kits and accessories in that chamber. Third is our recycling and refining services, this recycling and refining the precious metal that we provide. When fully integrated into our worldwide strategic plan, we believe this value package will provide Williams a unique advantage in the marketplace.

Moving on to our second acquisition, ThinFilm Technologies, located in the north-central coast of California, with this purchase finalized in October of 2005, we actually acquired a strategic partner, a partner that is helping us work on and developing our Visi-Lid business. In addition to the Visi-Lid, this film technology performs physical vapor deposition coating services for a number of applications to include ThinFilm hybrid circuits, performance film applications for medical, telecom, defense and a number of commercial applications. They've been a customer of ours for quite some time, but over the most recent years have been working closely with our engineering team developing our Visi-Lid product. The Visi-Lid applications are primarily defense oriented with some applications designed for network communications, photonic, Homeland Security and safety. The coating supply through design for near infrared, infrared, anti-reflective layers for precision optics. In addition to solidifying our supply chain for our Visi-Lid program, the Company will use these coating resources to assist our units in developing new alloys and characterizing our materials providing our customers with performance data on products that we currently manufacture. We're very comfortable with the progress we've made over the last few months and on top of it, with the addition of TFT, we will expand our brother technology while providing Williams the opportunity to increase its visibility into new markets, applications, for the Williams family of products and services.

The last acquisition, the addition of CERAC to the Williams' family of products, actually complements the products and services we currently supply. CERAC is basically a new business platform. It is a small chemical company that produces inorganic compounds and chemicals for a variety of markets. Their products support a wide range of applications and customers to include semiconductor, communications, energy, aerospace, defense, Homeland security, medical and opthomic. Applications range from materials used in CO2 lasers, high temperature coatings for metal castings, high temperature compounds found in the NASA shuttle program, coatings for solar panels, eye glasses, commercial lens manufacturing and semiconductor wafer manufacturing. CERAC is considered the domestic leader in supplying chemical compounds for the precision optics market. It was very important to us. It is a chemical compound and their chemical compounds are the primary coating materials used in the production of Visi-Lid lenses that are processed at our ThinFilm unit in California. With the convergence of metallurgy and chemistry in a number of applications we both support, it becomes obvious. With an increased technology base, we're able to offer our customers a unique technology package of materials solutions. CERAC will continue as a stand-alone operation, integrating administrative functions when possible. Our emphasis will be to expand the CERAC customer base through our global manufacturing, our sales and marketing worldwide team and our service centers located worldwide. Opportunities also exist for Williams to be cross-sale their product into the CERAC base of business. With the addition of CERAC to our WAM family, we're convinced that we can differentiate ourselves in the industry and begin to attack new markets and applications.

In summary, with the addition of these three businesses, we systematically acquired new technology. We've expanded our global reach. We've added a new service element to our business, and we've expanded our product offering and customer base. All business units have aggressive growth plans and leverage on each other, using the markets and technologies, providing the Company the opportunity to increase its customers' applications and requirements today, but be prepared to address the challenges of tomorrow. As I turn this over to John, I like to thank my management team and the corporate office for all of the hard work in these acquisitions, and I'd like to welcome the new business units to the Brush family.

Thanks, Dick. While we do not disclose the sales and profitabilities of individual sub segments of our business units, I'd like to share with you our current view of the impact that these acquisitions will have on 2006. The aggregate purchase price of the three transactions was approximately $38 million, with CERAC being acquired as previously announced in the first year, first week of this new year. Sales from the three in 2006 are currently expected to be in the range of 37 to $39 million. Operating profit from the three is currently expected to be in the range of 6 to $7 million. The acquisitions were accomplished at very attractive multiples and should be accretive throughout 2006.

Now, let's turn to the outlook. We're confident that we'll continue to advance the Company in 2006. Overall, our global markets are expected to continue to present us with double-digit growth opportunity. While there are very encouraging signs for the near term, I would be remiss if I didn't say that we remain cautious about the second half of the year at this time. Given the acquisitions, we believe that sales growth for the year will be closer to the high end of our expected ongoing growth rate of 8 to 12%. We believe that gross margin will improve by as much as 1 to 2 points for the year compared to the prior year. Given the debt reduction of the past two years and sub-debt prepayment, we expect interest expense to be approximately $3 million lower for 2006 in total, including the interest related to the January 2006 acquisition of CERAC. We anticipate making continued progress in working capital and believe that capital spending will remain well below depreciation rates.

Assuming no change in current trends, sales for 2006 are expected to be in the range of 580 to $600 million. It was previously announced that as a direct result of the Company's positive earnings momentum, and the favorable projected earnings outlook, the Company will, in 2006, be recording a quarterly provision for income tax expense based on the appropriate effective tax rate. The effective tax rate for the current year is expected to be in the 28 to 30% range. Thus, in 2006, our earnings comparison to 2005 will be negatively affected by the tax expense. Pretax earnings, however, will not be affected. In addition, since the Company will continue to have a sizeable net operating loss carry-forward, the majority of the projected 2006 tax expense will be non-cash, so our cash flow will not be affected by the change.

In addition, in the fourth quarter of the year, fourth quarter of this year, 2006, we will reassess the remaining deferred tax asset allowance. If it it is determined, then, that a portion of the remaining allowance will more likely than not be realized, then that portion which may be significant, will be reversed to income at that time.

Considering the above, earnings in 2006 are expected to be in the range of $0.80 to $0.95 per share, which includes an additional estimated tax expense of approximately $0.24 to $0.28 per share compared to 2005.

For the first quarter, sales are currently expected to be in the range of 148 to $158 million, up in the range of 13 to 22% compared to the first quarter of 2005. Note that the prior year's first quarter included approximately $6 million of non-repeat, high-margin, pure beryllium, Webb Telescope program business. Excluding this from the comparisons shows that our remaining businesses are expected to grow in the range of 20 to 27% in the first quarter.

The Company expects pretax earnings to improve significantly compared to to the prior year's first quarter. First quarter 2006 earnings are currently expected to be in the range of $0.18 to $0.23 per share, which includes an additional estimated tax expense effect of approximately $0.08 to $0.10 per share for the change in the tax accounting compared to the prior year.

I have to continue to remind everyone, though, that it is really difficult to get clear, short term signals from the varied and geographically dispersed markets that we have in our Company. Our lead times continue to be short, meaning changes in order rates quickly translate to higher or lower sales in a given quarter. And with generally higher incremental margins, small changes in revenue can have a rapid, noticeable effect on earnings, as can changes in mix. As we've seen, we're very sensitive to volume and mix shifts and are subject to significant upside gains and potential downside risks in individual periods. Moderator, we can turn the call over to questions now.

Thank you. [OPERATOR INSTRUCTIONS ] We'll take the first question from Anthony Sorrenso from Sorrenso Metals.

Good morning, everyone.

Good morning.

What percentage of the copper price increases have you recovered?

The estimate on that would be we're getting about a 65% recovery rate on copper. And that percent has been increasing over time, I would say, last year, middle of the year, we were probably about 50%, and the actions that we're taking in the marketplace is being very aggressive to make sure we get more and more of the copper pass-throughs so we're probably at, today, at around 65% pass-through.

Okay. And how are you hedging against future copper price increases?

Well, combination, again. This is Dick Hipple again. It's a combination of factors. We do have copper hedges in place throughout the year, certainly not fully hedged but a big portion of our exposure has been hedged at lower prices than what are currently in the marketplace. Then, obviously, we need to move on with the continuing price increases to recover the copper as it rises. So it is a multiple approach, it's higher pricing, hedging policy and also pushing through more contractual arrangements that do pass through the copper than what we've had historically.

Okay. Very good. And given the fact that you're a more traditional, larger segments, the industries that you serve are picking up, they picked up in the fourth quarter, and they're looking good at the beginning of this year, that being telecommunications and computers and automotives. Would you expect to see a better, richer product mix in 2006 versus 2005?

That's what we expect.

Okay. Very good. Thank you, and congratulation on a strong finish to 2005 and a good start this year.

Thank you.

As a reminder, that is star 1 to ask a question today. We'll take the next question from Charles Murphy from Fidodi.

Good morning, guys. A question, as far as tax expense is concerned, at what point do you think that would become cash-based?

This is Jim Marrotte. We have, approximately, $55 million of net operating losses sitting there as a deferred tax asset. What that means is, approximately, $55 million of U.S. taxable income will be shielded from regular taxes, payments in the future.

Okay. All right. And then for the other income expense line item, what does that consist off and where should we expect that number to be moving?

The main driver was the large number here in the fourth quarter was the prepayment charge associated with paying off the -- that was about $3.8 million.

Yes.

And that is the main difference between the quarter and the year. The other net category includes a lot of miscellaneous items. One of the bigger drivers in there is the metal financing fee, the fee that we pay for, to maintain the consigned inventories for our Williams' business. You had everything in there from bad debts, gain/loss on asset sales and a lot of those numbers, obviously, can move from period to period.

Yes, just wondering because last quarter it was income and I was wondering if it, for '06, you were planning on it being an expense?

We would tend to shy away from commenting on that because of a lot of different factors. The other factor that goes in there is that's where our currency exchange gain losses are in there. This year, compared to last year, our exchange losses were $1 million lower. So a lot of it depends on where the dollar is in the current year versus hedge contracts and our foreign currency exposure.

My final question is how are you factoring in copper prices into your guidance? Or the direction of copper prices I should say?

We've assumed no further increase in copper. In fact, where copper is today is actually probably a little higher than what we would have factored into the guidance initially compared to year end levels.

[ OPERATOR INSTRUCTIONS ] Next we'll go to Brian Harvey from Wm. Smith.

Hi. First question, you said -- oil and gas industry and heavy industrial machinery is up about 14% aided by new products. I'm assuming a lot of that has to do with the Toughmet. I was wondering if you'd break that out further, how much Toughmet materials actually contributed to that and what kind of traction you have with that new product?

Brian, this is John Grampa. We don't have the specific data right here in front of us, but Dick Hipple can comment about Toughmet dollars in general and the traction.

Toughmet sales year-to-year are up a little bit over 30% and we've been seeing that continuing compounded growth rate for the last three years in Toughmet so it's quite an exciting product for us.

Do you think the margins on that line are still increasing, are going to be increasing as more customers adopt that?

Margins on our Toughmet product are certainly in their top quartile of our products.

Okay. And, further, you said that part of the, let's take the margin decline. There was 1 point of it was metal; 2 points is mixed and pricing? Wonder if you would talk about further on that 2 points, maybe comment how much was mixed, how much was pricing? And along those lines, how much did the -- your price increase, maybe seen any, how much of that contributed so far this year?

That 2 points, it is difficult to really identify when you have the mix and you have the pricing motion in it. I think it is probably safe to assume, somewhere around 50/50, in that number, would be the effect. Maybe -- maybe it swings more toward the mix than it does to the pricing. And your second question relative to the pricing actions that we've taken in the -- thus far in the fourth quarter, actually, we have taken pricing actions at some of the businesses all year. And I think that's wrapped into the comment I made about improving margins in 2006 to over 2005 for the Company in total of somewhere between 1 and 2 points.

Okay. Just one last one. Can we expect any further price increases this year?

Yes. As copper goes up, we absolutely need to push through some higher pricing.

Okay. Thanks a lot.

As a final reminder, that is star 1 to ask a question today. And it appears there are no further questions at this time. Mr. Hasychak, I would like to turn the conference back over to you for any additional or closing remarks.

We'd like to thank all of you for participating on the call this morning. I'll be around for the remainder of the afternoon to answer any questions. My direct dial number is 216-383-6823. Thank you very much.

And that does conclude today's teleconference. We'd like to thank you for your participation and have a great afternoon.