Materion Corp (MTRN) 2012 Q2 法說會逐字稿

Greetings, and welcome to the Materion Corporation second-quarter 2012 earnings call. At this time, all participants are in a listen-only mode. 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, Michael Hasychak, Vice President, Treasurer, and Secretary for Materion Corporation. Thank you, Mr. Hasychak, have may begin.

Good morning, this is Mike Hasychak. With me today is Dick Hipple, Chairman, President and CEO; John Grampa, Senior Vice President Finance and Chief Financial Officer; and Jim Marrotte, Vice President and Corporate Controller. Our format for today's conference call is as follows -- John Grampa will comment on the second-quarter 2012 results and the outlook; and Dick Hipple will give a market update. Thereafter, we will open the teleconference call for questions. A recorded playback of this call will be available until August 11 by dialing area code 877 -- the number is 660-6853 or 201-612-7415, account number 286 and conference ID number 396978. The call also will be archived on the Company's website materion.com. To access the replay, click on Events and Presentations on the Investor Relations page.

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 John Grampa for comments.

Thank you, Mike. Good morning, everyone. Thank you for taking the time to join us this morning. For your convenience, today's agenda is unchanged from that of our past calls. I will review the results for the quarter and then comment on the outlook for the third quarter as well as the balance of the year. And then, following my comments, Dick Hipple will review the current state of our key markets, status of the start-up and ramp up of the new beryllium plant, and some of our new growth initiatives. Following Dick, we will open the call to your questions.

I'll begin with the usual brief summary of the key points that are in the press release. Then, as I normally do, I will cover the factors affecting the report of sales, highlighting the effect of pass-through metal price changes, which, as most of you are already aware, can in our Company cloud organic business level changes, particularly in an environment where pass-through metal prices are moving up or down significantly. I will also review the sales change by market, comparing the second quarter of the prior year and, more importantly, comparing sequentially as well to the first quarter of this year, highlighting the key changes, especially any significant changes in the trends. In addition, I will disclose the earnings-per-share impact of the costs associated with the start-up and ramp up of the new beryllium plant, as well as the costs associated with the integration of the late 2007 EIS Optics acquisition and the costs related to the relocation of our microelectronics packaging business to Singapore. And I will review the balance sheet and cash flow and our cash flow projections for the balance of the year as well. And then I'll wrap up by reviewing our current view of the outlook for the balance of the year.

Let me now begin with a brief summary of the release. Overall we reported stronger-than-expected results for the second quarter of the year on weaker-than-expected sales levels. The higher profits on the lower sales was driven by higher margins. As we reported at the beginning of the quarter, the level of business we were seeing coming into the quarter had improved nicely from the late 2011 levels. Macroeconomic conditions began to change during the second quarter, though, resulting in lower-than-expected sales levels overall and a weaker start to the second half than what we had previously expected. Thus, we also announced that we are reducing our guidance for the year.

Sales and earnings levels for the second quarter were down from the levels that we were achieving one year ago. This was expected and previously announced. A decrease in pass-through metal prices lowered sales in the second quarter by approximately $12 million. Net of the pass-through metal impact, real business levels were down from second-quarter 2011 levels by approximately 21%. Comparing the second quarter sequentially to the first quarter of the year, sales were also down -- in this case, by approximately 6%, after considering the impact of lower pass-through metal prices. While sales were lower, orders entered did exceed shipments in the second quarter by approximately $24 million. And our book-to-bill was a positive1.07.

The reported earnings for the quarter was $0.38 a share. Again, as expected, this is lower than the $0.57 a share reported in the prior-year second quarter, but was up [8%] a share sequentially [from] the first quarter's reported $0.30 per share. The primary factor in the lower EPS when comparing to the prior year's second quarter is the follow-up in business levels from the prior year's record levels. This was driven by macroeconomic conditions. Certain specific nonrecurring-type items were also factors in the lower year-over-year earnings level. I will review those later.

The $0.08 per share sequential improvement in the quarter was slightly better than our internal expectations, due to higher margin levels. Gross margins in the quarter improved by 150 basis points compared to the prior year and by 230 basis points sequentially when comparing to the first quarter. I will provide additional insight to the margin improvements in a moment. But before I do that let's review the overall business activity by market in a bit more detail.

The reported 21% decline in sales net of metal pass-through compared to the second quarter of the prior year is due primarily to significantly weaker demands for the Company's materials from the telecom infrastructure, defense, consumer electronics, and automotive electronics markets. These markets normally account for about half of the Company's value-added sales. Value-added sales were down year over year by 30% in telecom infrastructure, 26% in defense, 11% in consumer electronics, and 8% in automotive electronics. Helping to offset those declines were year-over-year increases of about 3% in medical and continued strong demand from energy. Comparing sequentially to the first quarter of the year, second-quarter sales were down approximately 6% net metal pass-through.

The 6% sequential decline is reflective of the weakening global market conditions. We did not expect this sequential decline as the quarter began. The sequential decline was driven primarily by shipment into defense applications. Defense was sequentially down by about 9% from first-quarter levels. Shipments of materials for applications in consumer electronics, automotive electronics, and medical were up sequentially from first-quarter levels by between 1% and 4% for each. Dick will comment more on demand levels during his review of the current state of the markets.

As you know, given the significantly lower levels of business seen in the fourth quarter of last year, margins came down to levels below what we would consider to be normal. Sequential improvements have appeared in both the first quarter and again in the second quarter of this year. Gross margin was 16.2% in the second quarter, 150 basis points higher than second quarter of the prior year's level and sequentially 230 basis points higher than the first-quarter levels. A number of factors contributed to the improvement, including improved pricing -- primarily in our performance alloy segment -- as well as lower manufacturing costs.

On a value-added basis -- that is, removing pass-through metal -- our gross margins have historically been above 40%. And, historically, our value-added-operating profit margin has been in the low teens, between 13% and 14%. On this basis, gross margins were equal to prior-year levels, at about 40%. And were 360 basis points sequentially higher than those of the first quarter. Operating profit margins have also improved nicely in the second quarter. After excluding the effect of the nonrecurring factors, value-added operating profit margins improved 260 basis points when comparing sequentially to the first quarter. As business levels return to more normal levels, and the impact of the initiative costs are behind us, we expect that the value-added margins will return to and exceed historic levels.

Let's now turn to the earnings impact of the initiatives the Company has been undertaking. There are four specific initiatives that are affecting earnings. These include -- the start of the Company's new beryllium plant; the integration of EIS Optics, which was acquired in fourth quarter of 2011; the relocation of our microelectronics packaging operations; and severance related to workforce reductions. We had previously disclosed that we expected these costs to be in the range of $0.15 to $0.20 a share for the year. After $0.17 per share in the first half, we now expect up to another $0.10 a share in the second half, bringing the total for the year to the $0.27 per share range. The increase is due to start-up costs and severance related to additional workforce reductions than we had initially contemplated. The actual impact on the reported second-quarter results was approximately $0.09 a share, with $0.05 of that $0.09 being related to the startup of the new beryllium plant, approximately $0.01 being related to the integration of the acquisition, and $0.03 related to the restructurings, including severance.

Now, let's turn to the cash flow and the balance sheet. Both the balance sheet and the statement of cash flows are attached to the press release. Consistent with our normal seasonal pattern, debt, net of cash, increased by approximately $31 million in the first half. In the second quarter, debt, net of cash, decreased by about $5 million, and debt to total capital at the end of the second quarter was about 22%. For the balance of the year, we do anticipate the normal, strong positive cash flows that we typically see in the second half. By year end, debt to total capital is expected to fall to the mid-teens level.

The quality of our balance sheet continues to be a source of pride in the Company. We are pleased to have the liquidity we do, and the flexibility to support our long-term growth expectations, plus important strategic initiatives such as acquisitions and new product introductions. The quality of our balance sheet should provide significant flexibility throughout the balance of 2012 and beyond. The strength was further reinforced with the initiation of a dividend during the second quarter. The Company declared a second-quarter dividend in the amount of $0.075 cents per share, a yield of about 1.5%. The Company subsequently announced the payment of a third-quarter dividend of the same amount. The dividend is a reflection of our continued confidence in the strength of our business, its prospects for long-term growth and our ability to continue to grow the business organically as well as through acquisitions, while returning cash to shareholders.

Prior to moving onto the outlook I'd like to pre-answer a couple of the other financial model questions that we usually are asked. For the year, we expect EBITDA to be in the range of $90 million to $95 million, depreciation to be in the range of $40 million to $45 million, capital spending to be in the range of $30 million to $35 million, free cash flow to be above $40 million, and our tax rate to be in the range of 31% to 32%.

Now I'll turn to the outlook. As we noted in the press release, significant progress has been made in resolving the start-up issues associated with the new beryllium facility, and it is anticipated that the output of the plant will support demand levels through 2012. In addition, initial steps in the integration of the EIS acquisition are complete, and the previously announced shutdown and relocation of the microelectronic packaging operation is progressing on schedule.

The costs associated with these initiatives are expected to be lower the second half when comparing to the first half. Through the latter part of the second quarter, and to date in the third quarter, the global macroeconomic environment has become very unclear and uncertain. Visibility is short. While order entry did increase by approximately 12% in the first quarter of the year when compared with the fourth quarter of 2011, and was increasing further as the second quarter began, the pattern shifted as the quarter developed.

The second-quarter order entry did exceed sales by approximately 7%, but after a good start order entry declined from first-quarter levels. Order entry has recently been inconsistent from week to week, and the order rate was not as strong entering the second half of 2012 as we had previously anticipated. Thus, while sales and earnings levels in the second half are still expected to be stronger than those in the first half, we are revising the earnings outlook for the full year. The earnings level for the second half is now expected to be in the range of $0.82 to $0.92 per share, which compares to the $0.68 per share reported for the first half.

Results for both quarters of the second half are expected to be approximately the same, with the fourth quarter a few cents per share higher than the third quarter. This brings the full year to the range of $1.50 to $1.60 per share from the previously announced range of $1.95 to $2.10 per share. The full-year range includes up to $0.27 per share of costs related to the aforementioned initiatives. That concludes my remarks. I will now turn the call over to Dick Hipple.

Thank you, John. We certainly are in unpredictable times. And, taking a fundamental assessment of the global economy, we find ourselves with essentially the whole world slowing down, as evidenced by the majority of PMI indexes being in negative territory. A lot of this, I'm sure, is being driven by a slowdown in consumer spending led by both Western Europe and the US.

At the beginning of the year, we had forecasted a stronger uplift than has occurred in the consumer electronics sector. Recent earnings reports by many of our customers bear this out, including a rather flat forecast heading into the balance of the year. Another surprise has been the fairly depressed levels of the telecom infrastructure market versus last year. Also, the defense sector has been soft in the first half, seeing many push-outs, although not cancellation, of orders. On the positive front, we had record sales in two strategic markets in the first half. These were the commercial aerospace and oil and gas markets. And, we certainly expect these two markets to see ongoing strength throughout the balance of the year.

As John reviewed with you, even given the unstable global situation, we still expect our second half sales and profits to be stronger than the first half. The stronger second-half performance will be driven by several factors. First, our new pebbles plant continues to come up the production ramp. We are still on track to be at a production rate to meet our market requirements by the end of the year. In addition to an improvement in cost due to the higher operating level, our bookings are much stronger in the second half, which will result in a higher sales volume. The stronger bookings are in both our defense and medical markets.

Second, our thin-film coatings business is expected to be stronger in the second half from stronger bookings in our medical glucose testing product. Also, we're seeing stronger bookings in defense in our optics operations, driven by our new array technology used in a myriad of advanced reconnaissance and surveillance platforms. And, our new optics EIS acquisition in Shanghai is expected to be accretive in the second half of 2012, driven by stronger bookings from the core digital light processing business, which typically has a stronger second half seasonally. And, third, we have instituted numerous cost reductions and restructuring initiatives that we expect to have positive results, particularly in the fourth quarter. For now, we are assuming that the overall consumer electronics sector will remain relatively flat for the balance of the year. So, there could be some upside from this area.

Aside from macroeconomic conditions, we continue to build a strong foundation for growth with new products across a broad portfolio of markets. A few examples include -- our liquid metal initiative, which offers a lower-cost direct-cash solution to replace other machined metals, a new solution for connecting dissimilar metals, such as copper and aluminum, in the high-temperature environment of lithium ion batteries and next-generation automobiles; further developments with our ToughMet alloy, which extends applications particularly in the oil and gas market -- and now we're finding widespread use throughout camera-stabilization systems and smartphones; our new array technology, I mentioned earlier, in optics enabling even higher resolutions for surveillance, along with optics focused on gesture control technology, which is beginning to extend applications beyond just gaming; nitride compounds used in the formation of colors for phosphorous used in LED lighting.

Our biggest challenge with our new AMC acquisition is properly prioritizing our new product opportunities, which are many. And, finally, we expect the government to rebuild its strategic stockpile of beryllium starting next year or the year after. We are definitely bullish on our new horizons for growth with a strong balance sheet that can support ongoing developments. Thank you, and we are ready to take questions.

Thank you, we will now be conducting the question-and-answer session.

(Operator Instructions)

Our first question is from the line of Luke Salter of Jefferies and Company.

Good morning guys.

Good morning.

Had a question, Dick, you talked about a lot of moving parts in the second half this year. Probably have to go back and read them again to get them all down. Just from a more higher level can you just talk about -- first of all what was the biggest change in your outlook as in terms to why you drop the guidance. Was it purely volume driven?

Yes. Well, volume driven and just slightly higher costs on the restructuring initiatives.

Okay. Can you talk about specifically -- I know which market you were saying are weak but when it comes to your advice second-half forecast which markets did you reduce your forecast for?

Fundamentally from the original plan, the electronics market.

Okay. And when you think about volumes company wide, and it's probably tough to gauge given all the diversification, but when you think volumes in the second half versus the first half directionally are we headed higher or lower in your forecast?

We're a little bit higher.

Okay. You talked about pricing improving the second quarter any -- can you give us an color on what products you were referring to and then do you think that's sustainable in the second half?

Yes, actually pricing is a pretty aggressive program for us right now so we expect higher pricing in our alloy business and we're also taking actions across the board in the other divisions.

Can you give us any sense of what the magnitude of that might be? I'm just trying to get a sense of what all the pricing contributing this year.

I think we referenced that in my dialogue where we have in the second quarter this year a benefit in that margin growth versus last year second quarter from pricing. That numbers order of magnitude $2 million to $3 million year-over-year dominated again by the performance alloy business.

Okay. Just a couple quick ones. In advanced materials you talked in the press release about seeing a bit of a weaker product mix there. Could you give us of color on that and also, do you think that is a temporary thing or more long term?

Well we sure hope that it's temporary. It's driven by--earlier our expectations were the consumer electronics would be significantly stronger than it is driven by semi conductor consumer electronics primarily. So that's really why the demand levels there are giving us some caution. We also think it's possible there might be some upside there depending upon where that market goes.

Okay. And then just on DNA step down I think $3.5 million dollars, if my numbers are right here. I heard you full-year forecast. I'm just curious on what happened there.

You're talking about sequentially to the first quarter?

Yes.

We had a mine amortization in the first quarter with a little higher than the second quarter and then our forecast got cut down a little bit.

All right. I guess I will turn it over. Thanks a lot, guys.

Thank you. Our next question is from Avinash Kant of DA Davidson. Please proceed with your question.

Hello. Can you hear me?

Yes, we can.

So, the first question was, you gave us some idea about the order pattern in the quarter. Could you give us what was the sequential decline in orders in Q2 compared to Q1?

We will look at up.

It was a few percentage points lower in the second quarter versus the first.

I think the Q1 was down roughly 12% you said, right? Or was it up 2%?

First quarter was up 12%.

And the Q2 dropped like to 2% to 3%?

Yes, 4% or 5%, I believe.

We don't have the data in front of us.

Roughly in that order right?

Yes.

Okay. And I think, John, you talked about the directionality for the rest of the year and I believe you mentioned Q4 is going to be better than Q3. Is that what you said?

That's right. Slightly better than Q3 maybe a few cents.

Is that primarily because some of the difference that you see? How would you model the electronics market?

It's a couple of things. It's not really related to necessarily monitoring electronics, although you do start to get a seasonality pattern in electronics beginning sometime mid-late August through October. But in the fourth quarter the benefit of some of the cost reductions that Dick and I both mentioned appear in the P&L fully with some of the cost to get there being behind us.

And a second thing that happens this year in the fourth quarter is that we will have a little stronger business coming from shipment of -- expected shipment of a hydroxide order to NGK. Those happen twice a year. This year we think it will happen beginning of the fourth quarter.

What's the order -- magnitude of that order? The NGK order that you are talking about.

The sales value roughly $4 million to $5 million.

Okay. So that's the reason.

It's a combination. And the cost reductions.

Okay. And you talked about the value-added gross margins and you kind of said at the quarter roughly still in the 40% range. Could you talk about the operating margin--the value-added operating this quarter?

Yes, it was obviously below our historic 13% to 14%. Roughly 150 basis points driven by that volume drop off late last year.

Roughly 11.5%?

11.5 to 12. Probably closer to 12% than 11.5%.

But you do expect that to come back up?

As the volume comes back and that's correct and as costs continue to come up we expect that to come back.

So, you talked about the second half being better than the first half and you are talking about Q4 being better than Q3 so basically can we expect sequential growth in Q3 and Q4 both? Is that what you're talking about?

Yes. The Q4 growth is really because of the NGK order. And if you take that out I think sequentially you'll probably be about flat.

From Q3?

Q3 and Q4 would be essentially flat if you take the impact of the NGK order out.

But Q3 should be better the Q2.

That's correct. And Q4 better than Q3.

Perfect. Thank you so much.

You're welcome.

(Operator Instructions)

Our next question is coming from Hendi Susanto with Gabelli & Company. Please proceed with your question.

Good morning and thank you for taking my questions. First, what is your estimate of break-even revenue in your beryllium business? Do you anticipate that business to reach break even in 2013 considering anticipation of rebuild of government?

Yes, we would expect sequential improvement in that segment in 2013 and beyond as the government begins to rebuild the stockpile. We cannot estimate at this time--it would be real premature to attempt to estimate the timing of that by a quarter certainly and even by year.

I did mention we are not sure which way it's going to fall right now. It may begin in 2013 and the may begin in 2014. It's still yet to be determined. We will know that certainly by the end of the year.

Is there any estimate of the break-even revenue levels?

It would be in the tens of millions of dollars.

Okay. And then what is your expectation of pass-through metal prices in the second half of 2012?

In the numbers we presently have we're assuming second quarter levels. So obviously the revenue level might move around but it doesn't-- will not affect our estimate of profits.

Got it. And then current revenue growth target that was given earlier, if I'm not mistaken Materion was targeting organic growth of 3% to 6%. And then revenue growth of 5A% to 10%. In light of the new guidance what is your current revenue growth target?

We provided, obviously, the earnings guidance but I would suggest that the second half revenue versus the first half revenue might be up to $20 million greater.

Okay. But there is no update on what type of organic growth you are looking?

No, that would be (multiple speakers) no growth. It's down from last year, obviously.

Okay, got it. Thank you.

(Operator Instructions)

Thank you. There are no further questions at this time. I would now like to turn the call back to Management for closing comments.

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

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.