Metallus Inc (MTUS) 2016 Q4 法說會逐字稿

Good morning. My name is Lindsey and I will be your conference operator for today. At this time I would like to welcome everyone to the TimkenSteel fourth-quarter 2016 earnings conference call.

(Operator Instructions)

Ms. Tina Beskid, you may begin your conference.

Thank you. Good morning and thank you for joining TimkenSteel's fourth-quarter 2016 investor call to discuss our financial results. I am joined by Tim Timken, our Chairman, CEO and President, as well as Chris Holding, Executive Vice President and Chief Financial Officer.

During today's conference call we may make forward-looking statements as defined by the SEC. These statements relate to our expectations regarding future financial results, plans and business operations among other matters. Our actual results may differ materially from those projected or implied due to a variety of factors which we describe in greater detail in today's press release, supporting information provided in connection with today's call and in our reports filed with the SEC, all of which are available on the www.timkensteel.com website.

Where non-GAAP financial information is reference we have included reconciliations between such non-GAAP financial information and its GAAP equivalent in the press release and/or supporting information as appropriate. Today's call is copyrighted by TimkenSteel Corporation. We prohibit any use, recording or transmission of any portion of the call without our expressed advanced written consent.

Now I would like to turn the call over to Tim.

Good morning and thank you for joining us. This is a big year for TimkenSteel. 100 years ago we opened our first steel mill in Canton, Ohio with the goal of making the cleanest steel in the world. 100 years of new product development, of continuous improvement in operations and of an accumulative knowledge have made us who we are today, a Company that still makes the cleanest special bar quality steel around.

As proud as we are of the heritage, our focus is on strengthening the foundation for the next 100 and that is what 2016 was all about. Every action we took over the last year made is a stronger Company. We improved safety in our operations, in fact we had the lowest number of OSHA recordable incidents in our history.

We are relentless when it comes to safety improvements because we know every data point is a human being and the job is never done. I want to thank our team and operations for all that they have done to keep safety as our first priority.

In terms of sales, we extended penetration in key markets and positioned ourselves well with industry leaders. We also won new business with new customers for new applications and in new markets.

We aggressively managed cost without sacrificing the fundamental elements of our business model. We learned to operate the business more efficiently at very low levels of utilization and we repositioned the capital structure of the business to provide breathing room in uncertain markets. With all those actions, we fundamentally improved the operating performance of the Company.

In fact, year-over-year we saw $26 million improvement in adjusted EBITDA. We also managed to generate more than $75 million in operating cash flow and strengthened the balance sheet in the process. Perhaps the most significant accomplishment of the past year is the implementation of a broader strategy that I believe will produce real results across the economic cycle.

Our five year capital investment program presented us with an opportunity to leverage new assets to compete in areas that we hadn't considered attractive in the past. The challenges we face in our traditional markets over the last two years spurred us to move faster in rethinking our assumptions about where and how to compete, given these new capabilities. We brought together sales, supply chain technologies and manufacturing to not only tighten our hold on the profitable niche markets that demand our clean steel but also to compete in a broader array of new business.

Let's take a quick look at those areas -- first our traditional business. As the only focused special bar quality steelmaker in North America, innovation is a real competitive advantage for us. We have a depth of knowledge in both the development and production of clean steel that no one else in the industry has.

One example is our launch of the ultra premium steels, this new product line redefines the industry standard for clean steel. It's a game changer for the reliable performance of highly loaded applications, including gears and bearings.

When you look at some of the new business we've been pursuing, you begin to see how we're using this depth of knowledge to not only innovate new products but also innovate around how we produce products. With a high-performing set of new assets and supply chain resources, we've been able to broaden our portfolio.

For example, we've been making billets to feed our own operations for 100 years and we're good at it. Now we can do that so efficiently that we picked up business supplying billets to other tube makers. In fact, we won a large order in the fourth quarter that will boost our production throughout 2017.

By broadening our portfolio, we're building a more stable base of volume across the cycle. Our capital investments and capabilities also brought a bump capacity which will allow us to serve both this expanded base and our traditional business as markets recover.

As I look ahead to what's going on in our markets in 2017, our strategy has us well-positioned. In 2017 we anticipate the Mobile On-Highway markets will be healthy and we continue to bring new platforms and applications based upon our strong technical relationships with customers.

The green shoots in the energy market that we discussed last quarter are growing. Rig count is coming back. Work completion activity is underway. There's still inventory in the system but it's headed in the right direction.

We've used the down market to grow our participation in the energy sector and to explore new supply chains and channels. This offers us opportunities in 2017. The industrial markets are also seeing some greed shoots with mining activity starting to pick up again. Rail and agriculture remain weak though.

In industrial distribution, inventories are coming down. Fourth quarter shipment's were good and this year is off to a good start. The raw material markets are beginning to normalize as well. We've seen some inflation here in the last three or four months and don't anticipate a dramatic falloff in 2017.

So the good news is markets are looking better year-over-year. We're seeing a seasonal pickup in our first quarter that is beyond what we normally see at this time of year. In fact, we announced the base price increase just yesterday. All of this is encouraging.

We are positioned well to capitalize on this recovery. All of the actions we've taken internally to improve our operating performance and broaden our portfolio will further strengthen our financial performance. As I said, our focus is on delivering shareholder value this year and for the next 100.

Now Chris will take you into more detail on the numbers and then we will have an opportunity to take some questions. Chris?

Thanks, Tim. Good morning. The fourth quarter results were in line with our expectations and the actions taken throughout 2016 that Tim just reviewed, coupled with improving market sentiment, have set us up for an improved 2017.

We continue to see strength in the mobile side of our business. North American light vehicle production achieved a record year build rate of 17.8 million units, representing the seventh consecutive year of growth.

Mobile shipments were down 5% in the fourth quarter due to scheduled seasonal production shutdowns. For the first quarter 2017, we expect mobile shipments to be about 15% higher than the fourth quarter 2016 due to seasonality and increased market penetration.

Industrial shipments decreased 4% from the third quarter 2016 primarily due to seasonal inventory adjustments. Compared to the fourth quarter 2015, shipments were up over 15%, in line with the US purchasing managers [syntax].

Inventory levels are balanced, particularly through the distribution channel. We're beginning to see some green shoots and have positioned ourselves to capture new business.

Moving into 2017, we expect a sequential increase in industrial shipments of about 45%. Fourth quarter 2016 shipments to the energy end-market increased more than 30% sequentially as US rig count continues to increase since hitting a low in May. We remain encouraged by improvements in market supply and demand dynamics in the energy sector and expect first quarter 2017 energy shipments to double over fourth-quarter 2016 levels.

During the quarter we won new business supplying billets to other tube makers servicing the oil country tubular goods end-market. We shipped 24,000 tons in the fourth quarter, or about 12% of total shipments.

We anticipate this business becoming a significant portion of our shipments which will increase our manufacturing cost leverage in 2017. We have grouped these sales together with our scrap business results in the other category and our supplemental financial information so that our reporting is consistent with the way management used the business.

For the first quarter 2017 we expect to supply about 50,000 tons of billets to other tube manufacturers. Overall, shipments of 193,000 tons in the fourth quarter 2016 were 9% higher sequentially and 10% higher year-over-year primarily due to the new billets supply business.

Net sales for the quarter were $215 million with base sales of $189 million and surcharges of $26 million. Base sales per ton were $64 per ton lower than third quarter due to end-market product mix change and pricing pressure.

Going forward, we expect product mix changes driven by rising billets shipments to reduce our sales per ton but to increase our asset utilization and profit. During the quarter we changed to the mark-to-market method of accounting for pension and other post-employment benefit. This method recognizes actuarial gains or losses in the year incurred rather than amortizing them over feature years.

The accounting change eliminates the timing impact of past actuarial gains and losses from current operating results and has no effect on benefits, pension funding or cash flow. We believe the change also allows for better comparison to other companies in our industry. The net impact of the mark-to-market adjustments was a net loss of $53 million in the fourth quarter and was a $50 million loss for the year primarily due to lower discount rates.

We believe excluding this adjustment from our financial results provides a better measure of operating performance and is more useful to our investors. Excluding this adjustment, we generated $2 million of adjusted EBITDA in the quarter which was the mid-point of the adjusted guidance range.

Note utilization was 50%, 6 percentage points higher than the third quarter 2016. As noted, we generated positive adjusted EBITDA in the fourth quarter despite the relatively low utilization rate.

For the year, adjusted EBITDA was $24 million compared to the prior-year adjusted EBITDA loss of $2 million. The improvement in earnings was primarily due to cost reduction actions and better scrap markets, offsetting a 10% decrease in shipments in melt utilization that was 3 percentage points lower than in 2015.

Looking to the first quarter 2017, we expect melt utilization to increase 20 percentage points to about 70%, primarily from the new billets supply business. Adjusted SG&A was $23 million which was flat to the third quarter but about 7% lower than fourth quarter 2015 and 13% lower for the full year. The SG&A improvement reflects TimkenSteel employees resolute focus on cost reduction throughout 2016, for which I thank them.

In the fourth quarter we reported a net loss of $67 million or negative $1.52 per share. The income tax rate was about 16% for the quarter and 26% for the year.

The tax rate was impacted by a valuation allowance that was established in the quarter to offset deferred tax assets. As a result, our rate was lower than US federal statutory rate of 35%.

Capital expenditure's for the year totaled $43 million, which was $35 million lower than 2015, as we continue to focus on leveraging our past investments and improving free cash flow. We estimate full-year 2017 capital spending will be about $40 million. We generated $32 million of free cash flow for the year as a result of our improved cost structure and capital spending discipline.

Were reduced our net debt balance by about $47 million primarily from free cash flow. At the end of year we had about $145 million of liquidity between the revolver and cash. Our net debt-to-capital ratio was a healthy 15.1%.

Turning to the outlook, for the first quarter shipments are expected to be approximately 70,000 to 80,000 tons higher than the fourth quarter 2016 based upon improving sentiment across most markets, coupled with approximately 50,000 tons of new billet business. Additionally we anticipate the recent rise in scrap prices to have a positive timing impact in raw materials spread. As a result, we expect the EBITDA range to be between $25 million and $35 million.

In conclusion, we are in a better position from both a profit and capital structure perspective than one year ago. Our improved cost structure and liquidity place us in a good position to take advantage of improving market sentiment in 2017.

This ends our prepared statements and we will now take your questions.

(Operator Instructions)

Novid Rassouli, Cowen and Company.

Good morning Chris, Tim and Tina. So on the new billet orders, is this for multiple clients or is this a single client? And are you trying to further increase billets shipment above this 50,000 per quarter level?

This is Tim. In this particular case, what you're seeing is the business with one customer. Although in the future the is nothing that precludes us from serving other tubers as well with billets.

As far as the total portion of the order book, obviously we look at the portfolio on an ongoing basis. We will kind of ebb and flow as needed. This is obviously pretty significant piece of volume that we've committed to.

So we'll just have to make sure we're just balancing out the portfolio.

Okay. And then as far as the tons that are being sold, is there a set contract where this volumes is spoken for, for a year? And if energy comes back, I know part of the reason why you wanted Faircrest to have the ability to be flexible is in case energy came back to switch over to those higher margin products -- if you could just speak to that.

We usually don't get into the details of individual contracts. I will say this is something we committed to on a 12 month basis. Remember, when we built the caster we did pick up some incremental capacity -- pretty significant chunk of incremental capacity. So we believe we have the flexibility not only to serve this billet business but also be able to server our more traditional business as markets recover.

And when you previously outlined the EBITDA margin range of what the jumbo bloom caster could do for you guys, there was an 85% melt utilization with a target of 18% to 18.5% EBITDA margins. I'm just wondering given this new strategy, if you guys have an idea of what that target margin could be adjusted to at this point.

Novid, this is Chris. When I look at that schedule, remember we were coming off 2014 margins and markets. So the dynamics are a little bit different. I think the key items in that bridge was what are we going to get out of the caster and the other investments that we've made? And I think this is a great example of the leverage from the caster that aligns with that bridge that we put out I guess 1.5 years ago.

Great. Thanks, guys.

Great, thanks, Novid.

Martin Englert, Jefferies.

Hi. Good morning, everyone. In the release you'd called out within the guidance benefits of favorable raw material spread. Any way you could help us frame that up and possibly quantify a range of impact that may be baked into the EBITDA guide in 1Q there?

Martin, this is Chris. If you look at our supplemental schedules on our website, we've got a couple of bridges there and you can see the year-over-year bridge and the third quarter to fourth quarter. So year-over-year raw material spread was favorable by $11 million.

And because of some timing impacts in comparing the third quarter of 2016 to the fourth quarter of 2016, it was actually $2 million unfavorable item. Going forward, we're not calling out our spread. I think it's going to be favorable. But we don't call out exactly what those figures are.

Okay. So it was an incremental based on that slide deck, $8 million -- I'm sorry -- $2 million headwind quarter-on-quarter in 4Q 2016. Right?

Correct.

Okay. One way to think about it might be with the surcharge mechanism and kind of the delta there to get a ballpark?

Yes, absolutely.

Okay. All right. And looking through with the supplemental material there and then kind of also going back to the guide and what you called out, looking at some of the base sales trends over the past year here and assuming maybe a constant mix, what do you think the headwinds were when we looked through business unit by business unit with the industrial mobile and energy if you were to hold mix constant on those base prices that you cautioned there?

Martin, you have to help me a little bit what you're trying to get at. I think we can call out the markets. Are you trying to get at what the pricing dynamics have been?

Sure. It seemed like you called out base price weakness year-on-year. Correct?

I think if you walk across the individual markets, the bulk of our Mobile on-highway is either annual or multi-year contract. Obviously the multi-years -- we weren't talking about this here on the annual contracts. We saw some marginal price pressure coming down but, again, nothing really all that dramatic.

On the energy side, prices were down a bit but at the same time we were holding our penetration there and actually growing in certain instances. And then really probably we saw the most pressure in the general industrial market. There's a lot of capacity looking for a home in 2016 and so we felt the pressure there and then in distribution you're talking probably down 5% to 6%.

So on the whole, given the environment that we were in, I'd say we actually managed it well. We've obviously seen things begin to kind of tighten up here already in 2017. And you saw that we put a $30 per ton price increase out on bar and tube yesterday. So pretty dynamic environment but even in that environment I'd say we held in there pretty well.

Okay. And lastly there, the pretty healthy pick-up expected in industrial volumes quarter-on-quarter, can you speak to some of what is pulling the demand there?

We're seeing the inventory and distributional at acceptable levels. And so we're seeing the service center business coming back in the first quarter. We're seeing some decent mining activity in the mines but we haven't really seen that translate through yet. But I would say just from a general industrial point of view, other than ag and rail, we're actually just beginning to see those green shoots turn into something more than shoots.

Were there any big contract gains or market share gains that were contributing to that?

We think going through the contract period last year we actually ended up picking up share at a number of our large industrial accounts. But, again, we don't want to be specific about which ones.

Okay. Excellent. Congratulations on a good guide there.

(Operator instructions)

Phil Gibbs, KeyBanc Capital Markets.

Thanks. Good morning. Tim, can you provide some perspective in terms of how you're thinking about the oil and gas dynamics as the year plays out?

I think you mentioned some inventory in the channel right but getting into better balance. But how should we expect those energy shipments to step up over the course of the year?

Let me talk about what we're seeing the market, Phil, and then you can translate that yourself. Right now we're seeing rig count up fairly dramatically and you've seen that. We're seeing a lot of healthy activity on the completion side. So they're finishing off some of these wells that they drilled last year never popped. So we're seeing good activity there.

The inventories on that side of things seem to be better balance than on the drilling side. But as these rigs go into the market, they are consuming that inventory as they're punching new holes. So we see a positive dynamic in general right now and the momentum seems to be carrying that.

We're watching the oil inventories pretty carefully. They're relatively high but we're seeing good activity across a lot of the shale plays at this point. The offshore stuff I think is going to be a little slower to come back.

But people are taking advantage of some of the new finds and all the cost reduction they did in 2016 to start punching wells again. So we feel pretty good about it. But, again, there is some inventory that will have to be worked through. But on the whole, we think 2017 could be a pretty decent year for oil and gas.

Okay. Makes sense. And how much of your business classically, or let's just say when the potential is fully realize or has been realized in the past, is onshore versus offshore in terms of your mix?

We generally don't break that out. As a whole in a normal market, our total -- the share of our total order book is about 25%. But we don't break it out by onshore versus offshore. And quite frankly, Phil, as long as they're punching holes, I'm happy.

Right. I appreciate that. And this new contract that you have on the billet side, I just wanted to be sure, is this just a one year arrangement or this is a multi-year arrangement? Or how should we be thinking about that?

I said earlier -- in this case it's a one year agreement.

Okay. Appreciated. Thanks so much.

Justin Bergner, Gabelli & Company.

Good morning, Tim. Good morning, Chris. Congratulations on the billet order.

First question just relates to a clarification question. I think it said here that the adjusted EBITDA on a trailing 12 month basis was on the order of $24 million?

Yes that is correct. (multiple speakers)

But if I look back in the September quarter, the adjusted EBITDA for the first nine months was negative $1 million and then you had a slight positive this quarter. Is there a new definition of adjusted EBITDA to get to the 12 month total of $24 million?

Yes there is, Justin. If you go to the earnings release tables, we define adjusted EBITDA on page 4 of the schedules.

And then on page 7 you can see the mark-to-market impacts. And specifically I think the reconciling item you are looking for is the elimination of the amortized actuarial losses. And that was $31 million so I think that is the bridge item you are searching for.

Okay. So previously in the first three quarters you were expensing that amortization. Now you're not. And that was always non-cash when you were expensing it.

Yes, exactly right. It was always non-cash and, in fact, pre-change our entire pension expense was amortization. And this amortization was really just prior discount rate changes that had accumulated over time.

Okay great. While were on that topic, I mean I assume with the discount rate going up the mark-to-market will swing positive for you in the coming quarters. Is that the case? And if so, how is the pension deficit look at the end of 2016? I assume will see more detail in the 10-K.

Yes, sure. Keep in mind that the mark-to-market doesn't affect the funding of the plan nor the liability of the plan. So it just is a more transparent method, I think, of accounting rather than amortizing issues over time.

So our plans remain very well-funded. Our discount rate actually decreased in 2016. It went from about 4.7% to right around 4.3%.

And so our actual pension liability increased as a result. But our funding on our qualified plan still remains high. It's in and around 95%.

Okay. Thank you.

I'll switch to some more business-oriented questions. On the billet order, should we think about that $50,000 per ton number in the first quarter as something we can annualize for the full year?

Yes, I think it is probably indicative.

Okay. And then you mentioned that the -- outside of the billet order, perhaps the pickup in the first quarter is better than normal seasonality. What would normal seasonality just look like if you could remind us going from the fourth quarter to the first quarter for your business?

Typically we'd see about a 10% swing just as people restock shelves. And everybody runs their working capital down in December and then we see it coming back in January. And so we're seeing a more pronounced return in the first quarter than we normally do.

And I think that's just the result of markets being down for so long, people are coming in a little bit more aggressively right now because they feel better about the year.

Okay. And then finally on the price increase at $30 per ton, is that above and beyond any raw material recovery?

That's base price. Yes. So surcharge would be on top of that.

Okay. And then finally, the industrial price you mentioned still is experiencing pressure but I guess the base price per ton increased sequentially in the fourth quarter versus the third quarter. Is that just sort of a function of positive mix and if we were to look apples-to-apples mix we would still see the industrial base price per ton having come down a bit sequentially? Or has it started to inflect positively?

Yes, Phil. This is Chris. I think what you find over time is we look at the impacts of mix and price and price is really secondary to mix. And so what you were referencing is the fact that the mix with a little bit better in the quarter.

Okay. That makes sense. I'm going to try one more here and I'm not sure if you guys will answer this.

But if I look at the incremental EBITDA per ton associated with new production and shipments, is there a rule of thumb that I should think about for the billets, maybe half incremental EBITDA per ton relative to your legacy shipments? Or anything that you can offer there as to how to think about the incremental profitability of that business.

Keep in mind, one of the reasons that we went to the new business was one, we looking for some base business that made sense for us and that we were able to utilize our assets. We've got as efficient or the most efficient assets in the industry and we wanted to be able to leverage those assets. So in terms of how you model it, I think you probably have enough data in all your models to take your shot at fixed cost leverage and we've called out the tons. So I think you can get pretty close based on the data that you have.

Okay. That's fair. Thanks, again, and congrats on the pickup in the billets business.

(Operator instructions)

Novid Rassouli, Cowen and Company.

Thanks for taking follow-up, guys. So we've seen a series of [SBQ] priced base price increases from multiple produces. And I believe we haven't really seen them in probably about more than two years.

So I just want to see if you guys could speak to the impetus for the increase and if you think the market can support additional hikes in the coming weeks and months?

I think what's driving it -- you're beginning to see activity levels pick up. Right? People are feeling fuller.

They're feeling better about the year. It has been a long time since anybody put one in. And so I think the market dynamics are helping us helping drive it. And obviously I wouldn't look forward on anything else.

Go ahead.

No please, go ahead. You got it.

Okay. So on trade cases, we heard on another competitor conference call that we could see trade cases for SBQ, that they're not too difficult. What do you think is the likelihood of that and can you speak to potential timing if we were to see a trade case on that front?

Well we've said in the past that we look at these on an ongoing basis. We monitor import data and we'll act when we think we have a very high probability of winning a case.

Part of the challenge to date with markets being so low, the imports data has been -- has reduced. And so we continue to monitor it to the extent that we see a significant pickup in activity. At that point, you would likely see a case come forward.

Okay. And my last question. You guys put a new segment -- the OCTG segment in the end-markets in your presentation this time. And I'm assuming this is just basically your billets being sold to seamless producers. I just want to see if you think that tracking -- before you've been very disconnected from OCTG given your product mix. And so I just want to see if you think that, that summer we should be focusing our time moving forward and what you think we should be looking for to figure out kind of the health of future billet sales for you guys. Thanks.

I'm not sure the end-market metrics change all that much from what we traditionally talk about -- rig count, feet drilled, those kind of things. I would point out that while this current business is OCTG, we're looking at this as a broader approach to supplying billet to tube makers that could go to other markets as well. It's just, today, it's just so heavily weighted into OCTG that that's why we decided to kind of break it out.

Novid, this is Chris. Just add a little bit of color -- we wanted people like you to be able to model the business. And so thought breaking that business out kind of helps you with your modeling efforts.

Perfect. Thanks for taking the question, guys.

There are no further questions in queue at this time. I'll turn the call over to Mr. Tim Timken, Chairman, CEO and President, for closing comments.

Well thank you very much for joining us today. As I wrap up, I want to say a couple of thank yous. First of all, I'd like to thank our employees who have demonstrated the grit, the persistence and the constant innovation and who have translated that into performance that continuously improves and promises more to come.

I'd also like to thank our shareholders and all of you who cover for us. We appreciate your interest and your confidence in the business. We're focused on both our traditional market spaces and the new ones that further leverage our assets.

We're ready to deliver value for this year and for the next 100. If you have any follow-up questions, please don't hesitate to contact Tina. Thank you, again, and have a great day.

This concludes today's conference call. You may now disconnect.