Mueller Water Products Inc (MWA) 2006 Q3 法說會逐字稿

[OPERATOR INSTRUCTIONS]

I will now turn the meeting over to your host today, Mr. Mark Tubb, Vice President of Investor Relations. Sir, you may begin.

Thank you, and good morning, everyone. Thank you for joining us for our joint Walter Industries and Mueller Water products conference call.

As you know yesterday we issued press releases reporting earnings for Walter Industries and Mueller Water products for the period ended September 30, 2006. Walter Industries results for the period ended September 30, 2006 represent its third quarter 2006, and Mueller Water's results for the period represents its fourth quarter and fiscal year end 2006. Walter Industries acquired Mueller Water Products on October 3, 2005.

Therefore segment results for Mueller Co. and Anvil were not included in Walter Industries' consolidated third quarter 2005 financial statement, however, in an effort to enhance comparability and evaluate quarter-over-quarter performance, we will discuss Mueller Co. and Anvil segment results for the quarter ended September 30, 2006, versus the prior year period ended September 30, 2005.

Within our press releases and on this call we made and may make references to certain non-GAAP financial measures, which have directly comparable GAAP financial measures. These non-GAAP measures are provided so that investors have the same financial data that management uses with the belief that it will assist the investment community in properly assessing the underlying performance of the companies for the periods being reported.

The reconciliations between GAAP and non-GAAP performance measures are reported in the supplemental information within our earnings releases and are provided in accordance with provisions of the rules under Regulation G. Additionally during this morning's call, management will discuss forward-looking statements that were made in yesterday's releases and may make these and other forward-looking statements during this morning's call. Please see the non-GAAP disclosure and Safe Harbor language contained in our press releases, SEC filings, and slides presented today.

This morning's call is being recorded and web cast live on the internet. The archived web cast as well as the corresponding slides that we are presenting this morning will be available on both the Walter Industries and Mueller Water Products websites for a period up to 30 days following today's call.

Once our Chairman and CEO Greg Hyland has completed his formal remarks we will open the call to questions from our dial in participants. I'll now turn the call over to Greg.

Thank you, Mark, and good morning, everyone. I am also joined this morning by Walter Industries Chief Financial Officer, Joe Troy.

Yesterday Walter Industries reported quarterly earnings of $1.23 per diluted share and $1.27 from continuing operations, and a $0.15 per diluted share for Mueller Water Products, and I am pleased to say that operating income at each of our business groups improved significantly over the prior year period.

And on the strategic front, we are in the final preparation stages for the spinoff of Mueller Water Products which we have targeted for mid-December. This morning we will talk about the operational and financial highlights for each of our operating groups, discuss the status of our current key initiatives, and provide some additional color on our financial outlook for remaining 2006.

At Mueller Water, we were pleased with our quarterly and fiscal year-end results. Adjusted EBITDA grew 15.7% quarter-over-quarter and 30% for the full year. We continue to make excellent progress on our synergy implementation plan and just last week we announced the closure of our James Jones plant in California. This latest plant consolidation will allow us to further rationalize manufacturing capacity for brass products and hydrant production.

Our current annual run rate for synergy benefit is approximately $35 million as of September 30th. The net financial impact of synergies for the full-year's results totalled approximately $2 million, excluding the restructuring charges related to closing US Pipe's Chattanooga plant.

Turning to natural resources, we increased quarterly revenues by 73% and operating income by 90% versus the prior year period. Despite higher costs resulting from production challenges at Mine No. 4. Net coal sales volumes for the third quarter reflected a strong shipment schedule and our decision to dedicate 100% of our coal into the higher price metallurgical markets.

With respect to Mine No. 4 productions, longwall advance rate and tons per day have improved significantly since late September and much improved versus average rates in the second and third quarter. While we are now operating near historical performance levels, the near term impact on earnings from lower production has been significant on two fronts.

First, it has substantially increased extraction costs per ton and second, it has led to reduced inventory levels causing us to lower our available coal for sale in the fourth quarter. At our home building and financing group we continue to make strong progress towards executing a turn around of this business.

We have reduced our aged backlog of on-your-lot units. Significantly reduced overhead expenses and generated stronger margins on completed homes, which drove a substantial improvement in quarter-over-quarter results.

At this point, let me turn the call over to Joe who will discuss our financial results in more detail.

Thanks, Greg.

Walter Industries' consolidated third quarter net sales and revenues increased $438.3 million over the prior year period, which includes $362 million from Mueller Co. and Anvil. Our other businesses recorded organic growth of 18%, primarily from our natural resources and home building segments.

Consolidated operating income for Walter Industries during the quarter increased $110.6 million versus the third quarter of last year with $62.4 million from Mueller Co. and Anvil. Operating income and natural resources grew $26.4 million or 90% and home building and financing grew $20.6 million reversing a combined loss in the prior year period. Overall, our results were very strong with organic growth and operating income of over 64%.

Mueller Water Products reported increases of 7.7% in revenue and 14.9% in operating income in the quarter. There were numerous components to this profitable growth, including higher iron gate valve volume, higher pricing, increased demand from commercial construction and oil field markets, margin improvements at U.S. Pipe, and benefits from our synergy program.

These strong results were generated in spite of higher brass costs of $4.5 million and incremental intangible amortization expense of $6.6 million related to the acquisition. Mueller's affected tax rate for fiscal year 2006 was unusually high at 61%, but we expect the tax rate to be 40 to 42% in fiscal 2007. Mueller Water had a very strong year with revenues for its fiscal year ended September 30, up 10.7% and adjusted EBITDA of 30%, resulting from strong manufacturing performance and delivery of the synergy benefits.

At Natural Resources third quarter revenues increased 73%, primarily driven by 775,000 tons of incremental metallurgical coal shipments and overall higher average pricing. Natural gas volumes were up 13.9% and prices were up 5.7%including the effective hedges. Approximately 60% of our remaining 2006 production is hedged at $10.05 and approximately 35% of our first quarter 2007 production is hedged at an average of $10.54.

With respect to coal production, both Mine No. 5 and Mine No. 7 operated well and met our expectations during the quarter and our plan to close Mine No. 5 by year end remains on track. Production at Mine No. 4 fell short of our expectations, but is quickly returning to normal advance rates. And at Sloss, revenues were higher but toke oven repairs and legal costs reduced their income.

Third quarter operating income at Natural Resources increased a very strong 90%, primarily on higher volume of metcoal shipments and higher pricing. These results would have been even stronger had the difficult geological conditions at Mine No. 4 not persisted longer than expected. Lower than forecasted production has a negative impact on cost and also impacts coal available for sale, thus having a large impact on our 2006 forecast, which Greg will touch on in a moment.

Our combined home building and financing groups revenues increased 9.1% compared to the prior year period, primarily reflecting increases in on-your-lot deliveries at higher prices. Operating income increased $20.6 million versus the prior period as our financing business benefited from lower hurricane related claims expense and home building drove continued improvement in gross margins. This margin expansion principally relates to higher pricing and stronger discipline around the construction and sales process instituted this time last year.

To add some color on this, gross margins on third quarter delivered units that were sold after October of last year were a solid 26%. However, units delivered in the quarter that had a sale date prior to October 2005 were very low at approximately 9%. So we expect gross margins to continue to improve once all of these aged units are delivered.

At September 30, we had approximately 232 aged homes in our backlog and expect to finish these houses in the very near future. New sales contracts, net of cancellation,s were down 30.8% as we discontinued certain modular offerings and continued to reinforce discipline around new on-your-lot orders. Our backlog was also down 30% as we made significant progress in reducing our aged backlog of older low margin units by more than 50% during the quarter.

On a year-to-date basis, operating income was up $27.5 million over the same period last year. So on an overall basis, we are very pleased with the continued progress at our home building and financing group.

The balance sheets of both Walter Industries and Mueller Water Products continue to strengthen. Each company has an appropriate debt to capitalization ratio, and we continue to use our substantial free cash flow to further reduce leverage and invest in our businesses.

With that, I'll turn it back over to Greg.

Thanks, Joe.

Again, we are pleased with our third quarter results. But as Joe pointed out, they could have been even better. Primarily at Natural Resources. The difficult conditions we encountered at Mine No. 4 lasted longer than we expected. As a result we entered the fourth quarter with inventories well below our expectations and therefore, we will not sell as much tonnage as we originally expected.

In addition, we made a strategic decision to delay some production and defer shipments of coal produced at Kodiak Mining joint venture until early 2007 when we can improve yields and profitability by washing the coal through a new prep plant slated to be ready by February. Lastly, given that we benefit significantly from depletion allowances, reduced earnings at Natural Resources has an abnormally high impact on EPS.

Primarily as a result of these factors, we reduced our earnings expectations range for 2006 to $4.20 to $4.60 per diluted share. However, we believe the factors driving our EPS revisions are temporary and will only impact our performance for the next few months.

Productions returning to historical rates at Mine No. 4, which will reduce future production costs and return our inventory to normal levels. We also expect Kodiak to generate operating profits beginning in the first quarter of 2007.

We are now entering the Southwest A panel in the--in Mine No. 7. The start-up was delayed due to the water ingress problem we had last year at Mine No. 5, which prevented us from moving mining personnel to Mine No. 7 on time. We are not driving continuous miner production in this town.

Lastly, our Mine No. 7 East expansion is progressing as expected. So on an overall basis, we remain optimistic about our future coal production. At Mueller Water Products we have seen a slow down in our order rates for our water infrastructure product during the past three months.

Bookings for our primary water infrastructure products for the last three months have dropped 13% versus the same period last year and our pipe bookings are also down about 10% for that time period. We believe that the level of our recent bookings are also being impacted by the high level of shipments made throughout Mueller's fiscal fourth quarter as those shipments have not yet flowed through our distributor's inventory.

On a positive note, we continue to see solid growth in our Anvil business, which is driven by commercial construction and oil field markets. And we will remain on schedule to achieve our synergy expectation. As I said earlier, just last week we announced our intentions to close a fourth manufacturing plant. So our focus on continuous improvement remains strong.

Our home building and financing groups continue to make excellent progress. As Joe stated earlier, operating income improved significantly year-over-year, but just as importantly, performance in the third quarter are improved 63% on a sequential basis. Mark O'Brien and his team are focussed on executing their turn around and returning our home building segment to profitability. On-your-lot completions are up, past due backlog is down, average pricing per unit is up as are margins.

As you know, Mueller Water has entered a new fiscal year. We have decided not to issue specific earning guidance. The market in which we compete has excellent long-term dynamics and our team will be focussed on delivering long-term shareholder value.

We cannot run the risk of managing our businesses for the short-term. We will provide the investment community with enough information to ensure that you understand our business, the expected business climate, underlying value drivers, and most importantly our strategies.

The biggest driver affecting Mueller Water Products as we enter fiscal year 2007 is the drop in residential construction. Housing starts, which drive approximately 50% of demand for our Mueller brand of products, which includes iron gate valves, hydrants, and our brass products and 65% of our ductile iron pipe products are currently 25% lower than the peak of our first quarter fiscal year 2006.

The American Water Works Association forecasts that spending our repair and replacement will grow 11% in 2007. Repair and replacement spending accounts for 50% of our Mueller brand of products and 35% for ductile iron pipes. All indicators that we see in the marketplace clearly supports this expectation and level of growth.

However, we do believe that that growth rate is not sufficient to completely offset a 20 to 25% decline in [inaudible]. On a year-over-year basis, we expect to see reduction in demand--also expect to see a reduction in demand for our U.S. pipe products as we experience a spike in demand due to significantly reduced production of plastic pipe as a result of hurricane Katrina last year.

We expect to continue to see solid growth in commercial construction and oil field markets. These markets account for 28% of our total revenues and are expected to grow 6 to 7%. The synergy implementation actions we have taken during fiscal year 2006, especially the closure of our three manufacturing facilities have reduced our fixed costs and therefore have enabled us to better handle any potential market downturn.

Our primary raw materials are scrap iron brass ingets. Average costs of scrap iron used in manufacturing of ductile iron pipe in fiscal 2006 was $233 per gross ton. The price in October was $229 per gross ton, the average price per pound for brass inget in fiscal year 2006 was $2.28. The current price is $2.65, down from a high of $3.00 per pound.

As you know, we implemented a number of price increases in response to these rising raw material costs. Those increases are meeting our expectations and the current pricing environment is generally stable.

Other key variables for 2007 are corporate spending of approximately $44 million and net increase of $4 million. We also expect capital spending in range of $70 to $85 million. This compares to capital spending of $71.1 million in 2006.

Any spending beyond this range would be justified on an appropriate pay back and internal rate of return. And we expect to continue to reduce our financial leverage in 2007 with a resulting benefit of lower interest expense, and our tax rate is expected to be between 40 and 42%.

As Mueller enters fiscal 2007, there are market uncertainties, but we believe the business is well-positioned. We have reduced fixed costs. The water infrastructure repair and replacement market should experience solid growth and we will also benefit from the strength of the commercial construction and oil field markets.

Our recent price increases are holding and it appears raw material prices have stabilized. Finally, our operational leadership is very skilled at adapting to changing market conditions, and we will be intently focussed on improving productivity throughout all of our operations to continue improving margins.

Looking beyond 2006 at Walter Industries, our outlook at Natural Resources remains positive despite recent problems at Mine No. 4. Fourth quarter coal production at Natural Resources is expected to total approximately 1.6 million tons, resulting in a total for the year of approximately 5.7 million tons.

We said in September that we would be challenged to meet the low end of our previous range. While we are returning to normal levels of production, our shortfall is expected to be in the range of approximately 500,000 tons at Jim Walter Resources, which is greater than originally expected.

Production at Kodiak was expected to total 300,000 tons in our prior guidance, however as I mentioned, we are deferring sales into the first quarter of next year. This has caused us to proactively slow down production so as not to build too much inventory until the prep plant is operational.

So while we are disappointed in the near term production miss, we believe the impact of temporary and we fully expect to improve production in 2007. We expect to provide additional information about future production estimates early next year.

In the meantime, our mining division we mains on track and fully committed to its Mine No. 7 expansion plan. Having our Kodiak mining joint venture provide meaningful contributions to overall production and making tangible progress in developing our surface mining deposits.

With respect to demand for metallurgical coal, we continue to see strength in steel production and pricing and demand is increasing from our core customers. In addition, many of our customers have significant expansion plans underway, which is positive for our high quality hard coking coal. Also due to high ocean transportation rates out of Australia and Western Canada into Europe and South America, we're finding our Blue Creek Coal is becoming increasingly more cost competitive on a delivered basis.

We continue to make good progress at home building and expect to achieve a break even rate by year-end. We also remain on track to provide a more detailed update on the strategic direction of the combined home building and financing operating group early next year.

Let me close with an update on the spinoff of Mueller Water Products. We recently announced that a few of Walter Industries' convertible note holders have taken actions that we believe are intended to disrupt the spinoff for their own advantage. We believe their claims are without merit and I want to assure you that we will act aggressively to protect the interest of our shareholders and the timing of the spin.

This completes our prepared comments. And we will now open up the call to questions.

Your first question comes from Stephen Velgot, your line's open.

Yes, actually I had a question on future coal production and I suppose you're not going to address those until early next year?

That's correct, Steve. Our intent is early next year to be able to give that outlook.

Yes, Steve, we're doing all the plans right now for each one of the mines as well as the--we will be into the expansion area of Mine No. 7, just starting that up. So we're looking at all of those to come up with a solid production estimate. But we'll be in a good position to do that probably in the February time frame.

Okay. And is there anything you're waiting for in terms of actually setting the record date for the spinoff or are we, I take it this lawsuit that came up you can't control what's going to happen there. But is there anything else that's preventing you from setting a record date, etc?

Steve, nothing else. And we're still on track with our schedule and we'll be expecting to be announcing it very shortly.

Okay. Thank you.

[OPERATOR INSTRUCTIONS] Scott Davis, your line's open.

Thanks, guys. It's Rob. Just wanted to dig into the margins in the Mueller segment. They came in a bit lighter than we had forecast. And I was hoping you could perhaps walk us through sort of the puts and takes in terms of pricing and raw material cost increases, and maybe walk us through when you see that business coming into or closer into price cost parity?

Yes, Rob, we had about a $4.5 million impact of brass ingets which is the biggest, really the biggest impact on the--on the margins for this past--this past quarter. We expect that the quarter ending in December that will pretty much be in parity or perhaps even slightly positive.

One other thing that impacts. As you know that in this quarter we just--the fourth quarter we completed closure of two manufacturing facilities, Dixon, our prep facility in Dixon, Illinois and our plant up in Milton and generally at the end of those projects, that's when we'll see some additional costs no matter how well we do on these. And we do. We have done very well this year.

At the very end you get caught with some inefficiencies because you have employment at two different plants. The plant that you're closing and as well as the receiving plant. And those are just some natural inefficiencies that I think exist with any plant closure. And those are also behind us in this past quarter.

That's great. As a follow on, I'm just wondering you guys have spoken in the past of about $40 to $50 million worth of deal synergies. Do you still feel confident that you can hit that number?

We do. Rob, we said in the last conference call and reiterated again on this conference call that 40 to 50 million, we feel high that we will come in--we feel very confident that we will come in at the high end of that range.

That's great, thanks a lot, Greg.

Thank you.

Mike Betts, your line's open.

Hi, guys. I just had a couple questions on the coal cost of production as well as the cost of sales this quarter. It looks like specifically Mine No. 7 the cost went up pretty significantly and I'm just wondering why that is. Also Mine No. 4, I know you had the problems, but you produced about the same amount this quarter as last quarter and the cost is much higher this quarter and I'm just wondering what the reason for that what?

I'm sorry, Mike. Can you repeat the first question, again?

Well, I'm--it all just gets back to the costs of the business that seem to have grown quite a bit the last quarter. I know you had issues in the mines. But let's say in specific in Mine No. 4 you produced about the same amount of coal yet the production costs went up by $10 a ton. I'm wondering about that and then the same thing could be said about Mine No. 7.

Yes, Mike, let me address Mine No. 4. We did have additional spending in Mine No. 4 in this quarter versus the production variance. If you look at the--of course I'm--the difference year-over-year a big percentage of it is production variance, but back to your point, quarter-over-quarter that we had more variable spending and a lot of it both tied to labor and supplies as we ran into a--we ran into a situation that we had a lot of, a lot of roof work, and which is very labor intensive as well as very very costly. On the supply side.

So it's--it really--when you look at quarter-over-quarter while production was the same, some of the--I would say some of the challenges that we faced in the production process the mining process were different. That actually resulted in an uptick in labor spending as well as our spending on supplies.

Joe, do you have anything to add on number 7?

No, number 7 on a quarter-over-quarter basis, the tonnage was actually up, and so the cost per production was down slightly. So we--it actually Mine No. 7 met our expectations in the third quarter. So there weren't any issues that arose.

Maybe I copied the numbers down wrong, but it looks like the cost of production actually went up in Mine No. 7 from Q2 to Q3. And also the production was down a little bit, so I guess that would explain part of that.

So, Greg, to get back to your answer, would you--so I guess would you characterize some of the costs in Q3 at Mine No. 4 as more one-time than recurring sort of production costs?

I think --

That is once you get the longwall supported, would you expect even at the current level of production for the production cost per ton to be more like the 55 of the previous quarter?

Mike, let me put it a little bit in perspective. If you look at--in our first quarter of our fiscal year--sorry first quarter of our calendar year. I keep going back between calendar and fiscal.

In our first quarter of our calendar year, Mine No. 4 produced at historical rates and we had a cash cost per ton of $34.43. I think when we get back to normal conditions and normal production rates that--I think that's a range, to be relatively close to that range is one that we would expect.

Okay. Thank you. And a follow-up on the Mueller Water infrastructure segment.

I know that maybe I missed this, but you were talking about the costs of, sort of the inefficiency costs of shutting one operation down and moving it to another. Have--is there any--can you quantify that in any meaningful way?

Mike, we don't--obviously we are the only publicly traded company in our space and we're very, very hesitant, very sensitive to give that kind of detailed information because we do think it's sensitive. It is sensitive competitive information.

But clearly as I said earlier, when you get down to the end of--at the very end of making that transfer of closing one plant to another, we have duplication of lever--we have duplication of labor and that adds significantly to the inefficiency.

And has that plant closed already or is that--?

No, we are now as of the end of the fourth quarter, we have now closed three plants and we are out of them in their entirety.

As of the end of--as of year end?

As of our fiscal year end.

Okay. Thank you very much.

thanks.

[OPERATOR INSTRUCTIONS]

At this time I know no one else in queue.

We'll give one more minute to make sure--a few seconds to make sure.

Okay, there a question now. Matt Haggerty, your line is open

Good morning, guys.

Hi, Matt.

How are you? I just wanted to ask about the coal cost of sales. I may have missed this so I apologize, but there's an 8.9 million other that's not attributed to the three mines. I didn't know if some of this was one time associated with the Mine No. 4 issues or my other guess was that it was related to the purchase metcoal that you show.

Matt, there is some associated with the purchase coal. So we would expect that number to come down. We wouldn't expect to continuation of a great deal of purchase coal.

On my math is probably most of it or --

Maybe a significant portion of that number.

Yes. Okay, and then I may have missed this also, but in terms of framing the joint venture, the Kodiak sort of operating loss in Q4, did you provide any color around that or put us in kind of a ballpark to help us understand that?

Yes, we have not, we have not articulated the level of that loss. What we can tell you is we continue to operate the mine, the mine is operating well. We are producing coal.

We could be producing coal at a faster pace with some additional continuous miner equipment. But given the fact that our coal preparation plant is slated to come on stream in early February, there's no reason to put that additional miner unit on until the prep plant is up and running.

So right now we are running losses through the joint venture. We have deferred coal sales into the first quarter because we could sell the coal today, Matt, but it wouldn't make much sense for us because we wouldn't have a good realization of price.

The yields aren't where they need to be, which is why we need this new preparation plan. So even though there's some near term earnings impact from that starting next year there's going to be a good contribution from Kodiak.

Did I answer your question? We lost, Matt. Operator?

Yes. Your next question comes from Michael Gaugler, your line's open.

Good morning, gentlemen.

Morning, Michael.

Congrats on the quarter at Mueller. My questions have to deal with the Walter side. I was taking a look back through my notes and as far as coal production estimates for '07 and I know that the joint venture estimates obviously were up in the air, but I think your last in print from existing operations at around 6.1 and from the expansion to about 1.7, do you still feel you'regoing to be close to those numbers in '07?

Michael, as we answered a little earlier, we're right in the process of putting together our plans for 2007, looking at where we are on the expansion and so on and we would expect to update that I think early in 2007.

Okay. Just another question. From a modeling standpoint. Depreciation, would you expect what we saw in 3Q '06 to be sort of a run rate for Walter going forward?

Yes, that's going to be in the ballpark, Mike.

Okay. All right, gentlemen, that's all I had. I did get dropped out of the queue. Just to let you know, there may be other callers behind me.

We seemed to have lost the last caller, as well.

Thank you.

Sure.

Mike Chippanoa, your line's open.

Hi, thanks. Can you add a little bit more color to your commentary on what's going on in Mine No. 4 with being back nearly to historical production levels, and in the past you've talked about the area of the mine you're in that was causing problems and that getting back to an area that you're more comfortable with.

Can you just get into a little more detail as to where you are right now in the mine and how close you are back to old levels? And on top of that, you talked about Mine No. 7 having some delays in your start-up of your expansion. I'm just wondering if that's incremental to what you've said in the past. If that's a little bit of a push back there? Thanks.

Sure, Mark, and Joe, I'll let you address that.

Sure, Mark. With respect to Mine No. 4 we are, we continue to make very good progress progressing down the panel.

We are in an area solidly adjacent to the prior panel where we didn't have problems last year and our advance rates are improving as we said in our prepared comments, just to give you a little bit of additional color. If you looked at the average advance rates of all of 2005 for Mine No. 4, they were in the upper 40 feet per day range, approximately 48. And right now in the last four weeks or so and since late September, we've been running in the 43 feet per day.

So we're nearly on top of the advance rate that we saw last year. So if you looked at the chunk of time from the second quarter and the third quarter of Mine No. 4, when we're really having difficulties, we were at half of those levels. That shows you that we're getting back to where we need to be.

With respect to Mine No. 7, I think you're referring to the fact that we had some delays going into the Southwest A panel because we had a problem last year at Mine No. 5 where we had a water ingress problem and that caused a delay in getting out of Mine No. 5 and actually moving people and some equipment into Mine No. 7 in order to prepare that Southwest A panel.

That's the delay I'm talking about, there is--I would say a bit of incremental delay from what we have said before. But we are within a couple of weeks of actually getting into coal at the Southwest A panel. So, we're back on top of it, we've got the continuous miners ready to go. So we should be producing coal there in the next couple of weeks.

Thanks a lot.

Thank you.

Rob Norfleet, your line's open.

Morning, Rob.

Most my questions have been answered, but just a couple of them on Mueller. I guess the first one, Greg. As you had mentioned in the past and I know we've taken action to the closure of obviously some of the facilities in the synergy program, but you've mentioned in the past that as we would expect to see a slow down in residential that there are various actions the Company can take as it relates to kind of right sizing the cost structure.

And clearly we're seeing this residential issue hit, you mentioned it in your prepared remarks. But can you talk about some of the additional things that Mueller may undertake in 2007 to specifically further reduce the cost structure to obviously prepare us for the lower volumes we're likely to see?

Sure, Rob. I'll be glad to. And especially, I'll put it in context of what we saw in 2006. 2006 as we said throughout has been a very, very strong--a very strong year for us.

And if you look at our major facilities, and we certainly consider our major facilities are our Decatur plant where we manufacture our brass products, our Arborville, Alabama plant where we manufacture our hydrants and Chattanooga our iron gate valves, and in our pipe plants. But if you look at our Mueller, especially our Mueller branded product plants that we were working at capacity, capacity between 90 and 100% this year.

And as a result, we actually had to outsource a number of manufacturing machine of some components. So any decline that we might see actually could free up some manufacturing capacity to bring that work back in house, and we would do that at a lower cost. So actually, that in fact, could in way make us even more efficient.

The second thing is as a result of the high capacity utilization rates that we experienced in 2006, that we actually worked a significant amount of overtime. Between--in those three plants they I just talked about we worked anywhere from 2.5 to 4 days per month per direct and indirect employee. And so we would--that's a natural, the next natural area for us to address is the cut backs some of that overtime, and quite frankly in the long run, we wouldn't want to run that much overtime because inefficiencies creep in.

That's another opportunity and would be an area that we would focus. The third is that, again, at those factories that we were running anywhere from 2.5 to 3 shifts a day. That gets you to a point where you maybe sometimes don't keep up with maintenance and so on and so forth.

The third thing we would probably do is reduce--cut back from the 2.5 to 2 shifts, 3 shifts in the plants where we were at 3 shifts to 2.5. So we have, these are all levers that we have pulled in the past. And so it really--going into 2007 as you point out that one, we have taken out fixed costs with our synergy programs, but we have a number of areas that we can focus to be prepared if in fact we see lower volumes. I don't know if that gives a complete a picture as you were looking for.

That's very helpful, I appreciate it. Thank you.

And secondly, I did want to ask you, I know you're not obviously at this juncture of giving forward guidance at Mueller quite yet, but clearly your comments certainly were somewhat cautious in nature understandably.

But I think clearly the markets read on your comments is that you were lowering expectation in Mueller. And I guess the point I just wanted to make was I know you're not going to give guidance on this call.

But can you talk about whether or not with improved pricing in the synergies and the various cost competitiveness and clearly the ramp-up in several of the other end markets besides residential, do you think that Mueller has the ability to maintain margins and grow operating income in 2007? Or will we be challenged to even do that?

Rob, let me just--at the risk of over simplifying it.

If you look at--and we've said if you look at our higher margin products, the 50% of our demand comes from housing starts. And if we're seeing that down 20 to 25%, as I said this is a pretty simplistic approach, that we could say, we would expect see then we would demand from housing starts somewhere between, down between 10 and 12.5%.

Offsetting that, certainly is a 10 to 11% growth in repair and replacement and that accounts for 50% of our Mueller branded products so that's a positive 5. So we're looking at, in those product areas of maybe a drop using that forecast, and of course in one of the areas that I think that our decisions of not giving guidance is we're clearly not experts in forecasting and what's going to happen to housing starts.

But looking at that range where we are now, you could say that we would see a 5 to 10% drop in demand in revenues for those products. Certainly I think you're right. The--some of the cost reductions, the fixed costs the we've taken out, the pricing actions, the fact that as we gave in the--in my prepared remarks that we've seen raw materials stabilize and in some cases down from their average in 2006 in the pricing.

Those are all very positive that I think will help offset any decline in revenue. And as you pointed out that on our Anvil business that accounts for 28% of our total revenues, the oil and gas markets and commercial construction still very good.

So we're going into 2007, optimistic I think with everything that we've done and how we've positioned ourself. But I think that what we're--I guess our message is today that we are going in with some uncertainties in the marketplace that I think that justify our tone of being cautious. But I certainly don't want that to be interpreted that we don't have a lot of--I think tools in our tool kit relative to being able to respond.

Great. Thanks, Greg and nice quarter, guys.

Thanks.

[Inaudible], your line's open.

Hey, guys. Questions on the Mueller segment just as a follow-up to what Rob was talking about. Little confused, so you're saying your Anvil segment's going to grow about 6 to 7% and that's assuming both price and volume increases?

What we're saying is yes, we're seeing market demand in that 6 to 7% so I guess it would be logical to expect that we would see a similar increase.

Okay. So does that include an assumed price increase or is that just strictly volume?

No, that would include pricing also.

Okay. Now getting to the Mueller segment so 50% of your business is relevant to home building and you're saying that that leads to a 10 to 12% decline in volumes for this year is that your thought?

What we're saying is at the risk of over simplifying the model, you can come to that conclusion, yes.

Can you also kind of explain, I guess the price volume relationship in terms of just total growth? I guess maybe comparing the apples-to-apples to what you're seeing for Anvil.

That's kind of the issue just trying to figure out what's your blended growth rate because you're saying the replacement market has an 11% growth and I imagine that's just volume. And you're saying your home building segment is going to have 10 to 12% down in volume, what is pricing plan to that so we can try to figure out an aggregate growth rate going forward?

I'll tell you what we're doing. We're taking a wait and see approach to pricing for 2007.

Do you think that you're going to have any issues defending your current price increases?

I don't think we'll have an issue defending current price increases as I said in our prepared remarks that the price increases that we instituted and the bulk of those between May 1st and June 1st are holding.

Okay.

Meeting our expectations. Mueller has historically had a 5% price increase every year. And what I'm saying right now is that we're going to take a wait and see approach and just see what happens to the marketplace.

Okay, I guess if I'm just looking at volume shipments at Mueller. I guess the net of it, am I reading this correctly assuming that you have 10 to 12% down and 50% of the business and then 50% is going to be 11% up, what's the net affect of that? Isn't it kind of flattish for the year on the volume side?

For Mueller?

Yes.

No, if you take that simple you see the housing starts could results in a 12 to 12.5% decline. The repair and replacement nets to a 5% increase.

Okay, so net kind of down 7 on the volume side?

Using that model, that would lead one to that conclusion.

Okay. And then you said historically you've been successful in getting about 5% price increases annually?

Implemented a 5% price increase, of course you don't always net that, but historically we've been included about with implemented a 5% price increase.

Okay. And can you ascribe that same methodology to the U.S. Pipe segment?

U.S. Pipe is 65% housing start, 35%. So we would expect to see a bigger drop demand on the pipe side.

Okay. And now can you just kind of address what the relative decline in volumes would be and also your thoughts on pricing?

Pricing, there was a--we announced the price increase, the industry had a price increase effective in July of 2006. I would say generally that price increase is holding.

And how much was that?

That was about 5.5%.

Okay.

But pricing as we've said in the past in the pipe industry, the pipe market segment tends to follow what happens to raw material costs. So as I said with--I'd say for the last several months we have seen relatively stable raw material costs.

Okay.

So at this point, I would not really want to comment about what we may be doing on pricing on the pipe side.

Okay. Thanks for your time, gentlemen.

Thanks, Lee.

Your line's open. Matthew Azat, your line 's open, is your line muted?

No. I have a question I'm glad to hear Mine No. 4 is back at full production. And I understand the inventory build is going to be a temporary reaction that will cause earnings to be a little bit lightener in this coming quarter. I'd like to get a better sense of what is the historical inventory pattern level and do you think you need to change any kind of strategy there?

Matthew, we are right now at an all time low in inventory. We have typically, I think in any given quarter and it can swing, but I would say typically in the 500,000 to 700,000 tons, Joe --

Yes, I would say when we were selling to Alabama Power and maybe this is the crux to your question. When we were selling steam coal to Alabama Power, we had to keep a much higher level of inventory.

So even though Greg's exactly right, the inventory levels where we currently are are lower than what we would like, we do expect to be able to operate at lower levels than what Greg just mentioned simply because from the metallurgical market we don't have to keep as much of the inventory because the deliveries for Alabama Power in the steam coal market were very steady, had to keep a lot on hand.

Matt, to put it in perspective, we're entering this quarter with 179,000 tons. When we entered the same time last year, we had 890,000 tons. I would say that typically we would, that 500-700, I think falls in the range that we would be comfortable with.

Okay. Great. Switching gears a little bit. I see that the home building division has turned around. And with the general housing slow down, I assume you're having a little trouble in keeping subcontractors now. Is this the main cause that's causing profitability?

As we've said in the last conference call that actually the downturn, especially in Florida where we had our largest past due backlog and during the hurricanes and the housing boom, we were having a real difficulty with keeping and attracting subcontractors and that was a primary result for our past due backlog.

We have been able to reduce that past due backlog by 50% in the last 3 months and again primarily because subcontractor availability. And that is a--one of the real drivers to the upturn in our profitability in this business because those units, I think and Joe may have made this comment in our prepared remarks, those units are carried about a 9% on average gross margin because as that property sits under just partial construction, the cost to come in and do repairs and so on just escalates.

And then our margins on homes sold after October of 2005 and then were completed in this past quarter, we had margins of 26%. So I think that that is a huge contributor to the turn around that we're seeing in the business is one, is to get rid of the past due backlog, and really what's driving that is subcontractor availability. So I think that you're right on.

What about on the context of demand for the product within the context of the general slow down in that housing economy? Obviously you're geared towards low income, lower credit kinds of people, but I would like to get a better idea of what you're seeing out there in terms of demand now?

Yes, when you look at our last quarter. And I'll talk primarily here on on-your-lot. Our net sales and those that sell, net cancellations, we're essentially flat year-over-year. So and again I'm talking about on your lot here.

That certainly--we would like to see that grow, but it's a very, it's actually very positive indicator for us because I've said that we brought in a very disciplined process and our pricing of our new homes the last 12 months.

So we're bringing those in at a--at a much higher margin and much higher price. But that being said, Mark O'Brien and his team are focusing on our selling efforts. I think we've got the discipline and the sales force now to increase sales.

And I think that generally that we've always experienced and believed that in a period of increasing interest rates it generally is better for us giving our dynamics of the market segment that we've served. So I think it's best that we can lease year-over-year our net sales are flat and it's an area that we're focusing on growing.

Okay. Great. Thank you.

Thanks.

Mike Betts, your line 's open.

Hi, guys. Just wanted to follow-up on the call again. Looking at the cost of sales per mine versus the tons sold per mine. And the third quarter the number of tons sold at Mine No. 7 was at 806,000 versus 652,000 the quarter before, so it went up by about 150,000. And yet the cost of sales also went up to $57.20 per ton versus $51.70. And I'm just wondering maybe if you could explain how that occurred.

Mike, I'll ask Joe to address that.

Mike, we're going to have to get back to you on it. There's a number of moving parts. And we're going to have to get back to you. The production numbers at Mine No. 7 have been good, but there have been some ups and downs longwall moves that I want to put into proper context for you.

Does part of it have to do with the expansion program?

No, the expansion program is in development status. So that wouldn't have an impact.

Okay. So --

We're also in development stats at the Southwest A panel, so I don't want to give you those answers, that's not an accurate depiction.

Should I call you later?

Yes, call me or Mark and we'll clear that up for you.

Okay. Thank you.

Yes.

Rick Johnson, your line 's open.

Yes, did you expect the processing facility for the Kodiak coal to be up in the Q4? I'm just wondering what--

No, the coal preparation plant should be up and running in the first quarter around the February time frame and whatever pull we then have that's unwashed we'll start running through the washer plan. So we would expect whatever coal that we are stockpiling at this point should be flushed within a few months after the prep plant's up and running.

I'm just wondering what's the variance from what 300,000 tons before? Did you previously expect that processing plant to be up earlier?

No, we were actually planning to utilize a different processing plant. And unfortunately what ended up happening was the yields that were coming out of that plant were not even remotely near what we expected.

Not because of the quality of the coal, but the quality of the preparation plant itself, so instead of throwing coal away, we decided to go through a backup plan. Unfortunately that backup plan, in order to get to either build a brand new facility or go out and buy a prep plan, which is what we did, that takes several months to orchestrate, so we got caught in a bit of a bind, but it's going to get fixed here pretty quickly.

So you were really planning on using a different facility and that facility was not performing?

That's right, the facility was not only not performing, it was performing extremely poorly. And it's not in our best interest to just throw coal away and experience very low yields. That's just throwing profitability down the drain.

And how much does that processing plant that now you're building yourself, how much does that cost?

I can't give you an exact number, but it's in the neighborhood of $4 to $5 million.

Okay. Thanks.

All right. Thank you.

[Ben Shudaby], your line 's open.

Hi, good morning. Just a question on Mueller businesses networking capital. Could you just talk about the various components there, days receivable, payables and inventory returns? It looks like inventory turns have gotten a little bit better, but still not a lot of improvement on receivables payable. Where do you see the improvement, if any, coming from in the future? What should we think about in the longer term?

Sure, Dan, we'll see a significant improvement in our receivables and payables. We just had a--we said in the last quarter and reconfirm so you can see results. We had a very, very strong shipment quarter. And a lot of those shipments went out I'd say mid-quarter towards the end of the quarter.

In fact, as I referenced a little earlier that a lot of those shipments are still on our distributor's shelves. We think that that's contributing to probably a little bit of slow down we're seeing in our order.

So one, we just had as I said significant shipments in the quarter, which I think jumped up the receivables at the end of the quarter. Relative to inventory, we've had, as you pointed out, we did have a slight improvement in our inventory turns. That and the long-term I think is the real opportunity for us.

However, the--while we're continuing to close plants. Again we announced the other plant closure and we're in the start-up mode on the--of the plants that receive the products from the plants that we're closing down. We build inventory at that time.

So as we're going through this period that we will not see, I think the significant improvement in inventory terms as we expect to see when all the plant closures are behind us. So when you look at working capital, I think that what we're looking at certainly on the receivables side is the big influx of shipments that we had at the end of the quarter of ended in September. And on inventory, I think we're in a period where we're carrying more inventory than what we would typically expect to support our ongoing production because of these plant closures.

Are you able to share any specific metrics in terms of days receivables, inventory payables? I look at where you're at '05 essentially it takes 150 days to actually complete the cycle and get cash when you take inventories plus days--days inventories plus days receivable, less days payable, you're down to about 130 days if I do the same math right now for the quarter. Do you look at those metrics and do you have any specific goals you could share?

We do, and again, it's probably the detail that I'm not at least comfortable at this point sharing as what our competitive targets are.

Okay. Fair enough. That's it for me.

Thank you.

[Inaudible], your line's open.

Yes, good morning, gentlemen, thanks for taking my question. I apologize I got dropped. I'm not sure if this question has been asked before, but--and I understand if you might not be able to comment on it fully. But just given that there were some--during the quarter there were some--evidence that some companies were pricing some metacall contracts in Asia at prices way below current prices. Do you have any thoughts on that?

Yes, Victor, we certainly saw that too. And quite frankly, first of all we didn't think with that pricing level we don't think will have any influence on the market and the market price.

Secondly, I know that we don't know what the quality of that coal was, but we suspect that it was not the high quality that we're talking about what we produce at the Blue Creek mine. So we think--we're looking at that transaction as isolated, and we don't think really has much bearing or any indication on what market prices will be in the future.

Okay. Perfect. Thank you very much.

Thank you, Victor.

At this time I show no further questions. Were there any closing remarks?

Well, we just want to thank everyone for your continued interest in Walter Industries and Mueller Water Products, and thank you all for joining us today.

Thank you this concludes today's conference, everyone may disconnect at this time.