NewMarket Corp (NEU) 2006 Q2 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the NewMarket Corporation second quarter 2006 financial results conference call. At this time, all participants are in a listen-only mode.

A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star 0 on your telephone keypad. As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. David Fiorenza, Vice President, Treasurer and Principal Financial Officer of NewMarket Corporation. Thank you, sir. You may begin.

Thank you, and good morning to everyone. Thank you for joining me to discuss our second quarter performance. With me is Steve Edmonds, our General Counsel. I have a few planned comments after which we will open the lines for any of your questions.

As a reminder, some of the comments we will make today are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. We believe we base our statements on reasonable expectations and assumptions within the bounds of what we know about our business and operations.

However, we offer no assurance that actual results will not differ materially from our expectations due to uncertainties and factors that are difficult to predict and beyond our control. A full discussion of these factors can be found in our most recently filed 10-K.

Our net income for the second quarter was $20.4 million or $1.17 per share. This compares to net income for the second quarter last year of $13.1 million or $0.76 per share.

Six month 2006 net income was $34.1 million or $1.96 a share as compared to $17.8 million or $1.03 per share for the six months last year. Both comparisons had special items. If we remove those special items, we have second-quarter earnings of $0.89 a share this quarter compared to $0.62 for the same quarter last year. The six month comparison shows us earning $1.68 per share compared to $0.89 last year.

We have certainly had a good first half of the year. The first six months continue to reflect improvement in net sales as well as operating profit across all major petroleum additives product lines as compared to the first half last year.

We have a diverse portfolio of products that meet the growing needs of our customers and our success is reflected in our results. While the petroleum additives industry continues experiencing escalating raw material costs, we have been able to manage the impact of these costs by increasing prices and by introducing more cost-effective products.

As expected, the tetraethyl lead segment results are lower this year than last. Our balance sheet remains strong. We have more resources tied up in working capital and continue to have no outstanding bank debt.

If I look at the segment performance, NewMarket evaluates the performance of the petroleum additives business of Afton and Ethyl's TEL business based on segment operating profits. NewMarket Services Corporation bills Afton and Ethyl based on the services provided under service agreements with each of them.

Depreciation on segment property plant and equipment and the amortization of segment intangible assets and the pre-payment for services are included in the operating profit of each segment.

I'll cover petroleum additives first and then tetraethyl lead. For petroleum additives, net sales this quarter were $325 million which is a $56 million or 21% increase over the same quarter last year. Total shipments for this quarter were essentially the same as last year's second quarter.

In this comparison, shipments were higher across all major product lines except for engine oil additives which were down slightly. While the mix of products sold contributed to the increase in net sales, higher selling prices resulted in most of the increase in the second quarter comparison. Of the $56 million increase of sales, about $8 million was due to changes in shipments in product mix, with the remainder due to changes in selling prices.

Petroleum additives showed a significant improvement in operating profit this quarter. The second quarter 2006 operating profit was $27.1 million as compared to $16.4 million for the second quarter of 2005. The 2006 period includes a small favorable foreign exchange.

The increase in operating profit was across all product lines. The improved pricing I mentioned has contributed toward the recovery of margins, which were depressed due to increases in raw material costs.

Selling, general and administrative expenses were $2.8 million higher this quarter. Additionally, R&D increased $1.5 million from the second quarter of last year. As a percentage of net sales, SG&A combined with R&D decreased from 13% from second quarter last year to 12.1% in this quarter.

For six months, petroleum additives net sales were $624 million, which is up $118 million, or 23% over last year. Total petroleum additives shipments were up about 5% for the six months compared to last year's first six months. The increase in shipments was across all product lines.

The increase in net sales was predominantly the result of higher net selling prices and higher shipments, and a favorable mix also contributed to the increase. Continuing the trend from the first three months of the year, petroleum additives also reported a significant improvement in operating profits for the six months 2006 as compared to six months 2005.

The six month 2006 operating profit was $52.8 million compared to $25.6 million last year. The six months period this year includes a favorable impact from manufacturing plant production, which we expect may not continue in the second half of the year. The increase in operating profit was across all product lines.

Turning now to tetraethyl lead, the TEL sales for the second quarter of '06 and the six months of '06 were higher than the same periods in '05, representing normal fluctuations in shipping as well as some price increases. These sales represent the activity in North America only, with the remainder of the TEL sales being recorded by Innospec under our marketing agreement.

The operating profit from our marketing agreement for the second quarter was $1.9 million, which was $5 million lower than the second quarter last year. The six month operating profit from the marketing agreements was $3.2 million compared to $13.3 million last year.

The 2006 periods reflect improved pricing. However, this was more than offset by a decrease in volumes when comparing the same 2005 periods of 66% for the second quarter and almost 69% for the first six months. The TEL market continues to decline as customers discontinue the use of the product.

Other TEL operations not included in the marketing agreements were $2.1 million unfavorable when comparing second quarter '06 to second quarter '05 and $1 million lower when comparing six months.

Both comparison periods last year included a special gain of $3.9 million for an insurance settlement. Excluding that gain, the other TEL operations were $1.8 million favorable for the second quarter of last year. This improvement is mainly due to the timing of sales and increased prices.

Switching to a few items on the GAAP, P&L, and the balance sheet, we had a special income item of $3.3 million this quarter, which represents the gain on the sale of a piece of property. The property was an idle facility that we owned in Mississippi.

We had interest and financing expenses of $3.9 million. We have no drawn debt, so this is the expected expense going forward on our bonds in the amortization of financing fee. Additionally, we had other income of $5 million for the quarter. The major portion of that was a $4.4 million interest income on an income tax settlement with the IRS.

Our income taxes were $12 million for this quarter, and we had an effective tax rate of 36.7. The rate for last year's second quarter was 30.4. The effective tax rate for '05 included the benefit of a research and development credit. That benefit is not reflected in '06, as the credit has not been extended to date beyond '05 by Congress.

Taxes are also higher because we earned more, but the change in the effective tax rate between the two one quarter periods resulted in an additional expense of $2 million of tax. Same story for year to date. One period included a credit, the other one didn't. The additional expense due to a higher effective rate is $2.6 million. Our effective tax rate for six months was 35.4.

Turning to cash flow, cash was up on our balance sheet $7.5 million since the end of the year, and this included a $1.4 million negative impact from foreign currency translation. For six months cash flows from operating activities were $16.7 million.

We also realized cash flows of $3.4 million from the sale of property. We used these cash flows to fund capital expenditures of $10 million and to fund dividends of $2.1 million. Included in the '06 cash flow from operating activity were collections of $4.2 million related to the 2004 environmental insurance settlement.

We also had a significant increase in our working capital. Working capital was $285.6 million at the end of June compared $244 million at the end of last year. The increase in working capital primarily reflects higher accounts receivables and inventories as well as lower income taxes payable.

The increase in accounts receivable results from higher sales from both increased volume shift and higher prices. The increase in inventories resulted from higher costs as well as an increase in volume due to increased customer demand.

Our debt position is substantially unchanged since the end of the year. We have outstanding senior notes of $150 million that bear interest at a fixed rate of 8.875% and are due in 2010. The senior notes are callable on or after May 1, 2007.

As a percentage of total capitalization, total long-term debt and shareholders equity, our total debt reduced from 36.6% at the end of '05 to 33.9% at June.

As we look out at our business, the petroleum additives segment has posted excellent earnings results during the first half of this year. Compared to last year, volumes were up 5% and operating profit more than doubled.

The outlook for this business remains strong and we continue to forecast that it'll end this year with significantly higher profits than last year. Our plants are running at very high levels, which resulted in favorable performance to plan during the first half of the year.

The supply-demand balance remains tight. We have been able to pass raw-material increases on into the marketplace, but as we discussed that remains a catch-up situation, with more working capital needed in the process. With oil prices at historic high levels and many other chemicals in tight supply, we anticipate more raw material price increase.

Tetraethyl lead operating profit dropped in the first half of '06, and shipments were down about 69%. This segment will experience significantly lower operating profit this year and will become a less significant contributor to the overall performance of the Company. The reduction in operating profit is a function of the lower demand around the world for this product.

As I mentioned, we have no outstanding bank debt and our senior notes are not callable until May of '07. We expect to build cash on our balance sheet while we investigate alternative uses of that cash including possible acquisitions.

The amount of cash we'll be able to accumulate this year will depend to a large degree, on the working capital needs of the petroleum additives segment. Our cash flows through six months included the funding of $32 million of working capital.

It is our intention to file the 10-Q on Tuesday, and we urge you to read the 10-Q for a fuller discussion of these items.

That's the end of my planned comments. I'd like to open the lines if there are any questions.

[OPERATOR INSTRUCTIONS]

Our first question comes from [Robert Fallace] with [Kiddelli and Company]. Sir, please proceed with your question.

Hi gentlemen. Congrats on a nice quarter.

Thank you.

You've had some real nice volume year to date. I believe you [earlier] said about 5%. Can you shed some color on what dynamics are driving that growth? I know in the back half of last year, you may have picked up some business from a competitor post to hurricanes. Have you held onto it? Has there been any shift in market share?

The increase year to date -- this is David -- the increase year to date was really across pretty much all of our product lines, so I think it's just a great job of our sales and marketing team getting out there and working with our customer. So no one item to talk about.

Okay. Well, the rate that you're tracking at for the year is a bit higher than what I would think of it as a longer term rate for the industry. Is this just a current industry dynamic that you're seeing, that the current growth rate is tracking a bit higher? Or has there been any shift?

I believe we'll regress to that norm you talk about longer term. I don't see 5% type number as sustainable. If you look at quarter to quarter sequentially, you get a little different view.

Okay, and would you say you'd regress back to that mean in the back half of the year? Or is that more of an '07 dynamic?

I really don't have a time plan on that other than that's my longer term expectation, so I haven't looked at the back half of this year compared to last year yet.

Okay and then in terms of the profit-margin expansion in petroleum additives I was hoping you could, perhaps, give a more quantitative breakdown of the expansion.

What was the impact of raw-material costs year over year? And then how much of that was recovered in pricing? And then kind of what effect product mix may have had.

You know, I don't have that with me, but we did have some margin recovery. If you'll look at our grow profit as a percent of sales, you can see some improvement, but to delineate the component pieces, we typically don't do that.

Okay. And then, I guess, given the more recent rise in the oil prices as well as your view of raw material costs in the back half of the year, do you anticipate that the margin expansion you've seen year to date on the petroleum additives side is sustainable?

I mean is this a new run rate level that you consider? Or, perhaps, given the product mix improvement, you're targeting further improvement?

I believe that we are experiencing more raw material increases. Our sales and marketing guys are out there trying to raise prices. I think it would be reasonable to expect that we could hold on to this, but it really has to do with the timing and the velocity of the raw-material increases as we go out. It's our intention to recover those as quickly as we can.

Well, if raw materials continue to increase, you'd have to -- assuming that product mix doesn't have any other effect this year, you'd have to more than offset that with price increases to sustain margin, so I'm just trying to get a feel for what the moving parts are in terms of the margin expansion and what's sustainable longer term.

Yes, and you're absolutely right. If we just get the dollar back that your costs go up, your margins go down. So we do have a mix impact in there, but there's just too many moving parts for me to put a number on one of them.

Okay. And then, just finally, was wondering what depreciation and amortization was for the quarter.

They're the same as the first quarter, $7.5 million.

$7.5 million. Okay, thanks so much.

Okay.

[OPERATOR INSTRUCTIONS.]

Our next question comes from Seth Harvey with UBS. Sir, please proceed with your question.

Good morning

Good morning.

I just wanted to kind of go back and drill on the raw material question. Are there any specific ones that, I know you've identified them in the past, that kind of give you pause to think about and are you seeing any kind of outsize increases in some of your key raw materials?

I'm not sure I follow your question. I mean, base oil, PIB, alcohols, all the items are listed in our 10-K. They pretty much all are moving, and they're all moving up.

What type of levels are you seeing in terms of sequential percentage increases in those?

You know what, I don't have that piece -- I don't have that answer with me. They tend to follow the oil basket to be honest with you.

And I guess this kind of goes back to the margin question. If I had to think about -- kind of going back to the last caller -- if you are still not kind of recovering all of those increases, what's kind of happening in the industry that's allowing you to continue to drive pricing? Where do you think we get to a point where you're going to see pushback?

I think as long as the supply and demand balance is where it is now, there's not going to be any pushback. I think a lot of folks are more concerned with security of supply right now.

Just quickly, I guess talking about your use of cash on acquisitions, are you -- do you have anything that you're looking at at this moment?

We would put that out in an 8-K if we did, but we have a bunch of investment bankers working with us, and we remain actively looking for something, to be honest, is what I have to say.

And in terms of what you've said in the past, are you looking within kind of your strengths? Or are you considering business diversification? What are you kind of thinking about?

Where we are right now with evaluations being where they are is we're predominantly looking close to what we understand and where our strengths are, not diversification.

And just in a quick final one -- share repurchases, do you [inaudible] this quarter?

We haven't done any share repurchases.

Thank you very much.

Okay.

We have a follow up question coming from Mr. Fallace. Sir, please proceed with your question.

Hi. Just one more question. As you said, as long as raw material costs continue to rise, you shouldn't get any pushback, and you should get the pricing. In the same token, I would imagine that that lags the raw material cost inflation.

And if it does, I would imagine that that actually creates a margin squeeze. So there's got to be some larger element or dynamic that's actually causing the margin expansion.

I don't know if that's simply the mix that's contributing to greater per product profitability, but I was kind of hoping that you could shed some color on that.

You're absolutely right. There's always a lag, and I said we're able to recover it as long as the supply and demand balance remains tight. But we're taking a period in time here.

We're comparing the second quarter of '06 and we're dropping all the way back to the second quarter of '05 and making a comparison and so we see an improvement. And what that basically tells us is prices went up more in that comparison period than raw materials did. And I don't know much more I can add to that.

Okay, so your pricing has been enough to more than offset raw material costs.

In that particular slice of a comparison, yes.

Okay. All right, thank you.

You're welcome.

Sir, there are no further questions at this time.

Well, thank you for joining us. Have a good day.

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