NewMarket Corp (NEU) 2009 Q3 法說會逐字稿

Greetings, and welcome to the NewMarket third quarter 2009 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. (Operator Instructions) It is now my pleasure to introduce your host Mr. David Fiorenza, Vice President, Treasurer and Principal Financial Officer for NewMarket. Thank you Mr. Fiorenza. You may now begin.

Thank you for joining me to discuss our third quarter and first nine months' performance. With me today is Teddy Gottwald, our CEO. I have a few planned comments, after which we will open the lines for any 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 based 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 and 10-Qs. We plan to file our 10-Q early next week. Please read it for a more detailed explanation of the Company's performance.

Net income for the third quarter was $56.7 million or $3.72 a share compared to net income for the third quarter last year of $16.5 million or $1.07 a share. For the first nine months net income was $116 million or $7.61 a share, compared to net income for the same period last year of $53.9 million or $3.48 a share. Net income for both the third quarter and nine months of this year included a charge from recording at fair value and interest rate swap agreement related to financing on Foundry Park. The loss amounted to $2.4 million or $0.16 a share for the third quarter and $9.8 million or $0.64 a share for nine months.

Between the additive, net sales for the third quarter were $414 million. This is $23 million less than last year's third quarter, about a 5% reduction. We are looking strictly at tonnage though our shipments were down about 3% in this comparison. Also, included in the reduction in net sales between the two-third quarter periods is an unfavorable currency impact of about $8 million. We had lower selling prices also.

So as a recap, we were down $23 million, $8 million due to currency, $11 million due to price and mix, and the remainder, or $4 million, due to lower volumes in mix. I think it's helpful to recap a few business conditions that existed from mid-2007 through most of 2008 when analyzing the nine months' performance of sales.

Throughout the second half of 2000 and most of 2008, we were raising prices to recover rapidly escalating raw materials. The economic slow down hit in late 2008 and raw materials contracted and we adjusted price accordingly. This makes for some nine month comparisons that are not particularly insightful of our current business operations, but nonetheless correct.

With that in mind, I will now discuss the year-to-date sales. Nine months Petroleum Additive sales were $ 1.117 billion. This represented about a 10% reduction from the first nine months of last year. Foreign exchange was unfavorable $33 million, a 16% reduction in shipments lowered revenue by $163 million and higher selling prices added $74 million. While product shipments had been lower on a year-to-date basis, product shipments have improved each quarter in 2009, increasing 16% between the first quarter of 2009 and the second quarter of 2009 and increasing 14% between the second quarter and the third quarter. We believe product shipments are now roughly near the normal levels that were typical before the worldwide economic slow down.

Petroleum Additives operating profit was $96 million for the quarter, compared to $28 million in last year's third quarter. For nine months, this segment has made $214 million, compared to $98 million for last year's nine months. Third quarter and nine months' results are higher across all business lines within the Petroleum Additive segment.

The most significant favorable factors in the quarterly comparisons, included lower raw material costs and a favorable foreign exchange impact of about $4 million, while lower selling prices were a negative component. Product shipments were down 3% as I just discussed. During the third quarter we experienced increases in raw material costs and tightening in the availability of certain raw materials. The most significant favorable factors when comparing operating profit on the year-to-date basis include lower raw material costs and higher selling prices. While partially offset by selling price reductions made this year, the overall increase in selling prices for nine months is a result of the actions taken through 2008 as I just discussed when we were talking about sales.

The key unfavorable factors were lower shipments and foreign currency impacts. Foreign currency resulted in an unfavorable impact of about $9 million when comparing the two nine month periods. S&A decreased about $500,000 or 2% for the third quarter of 2009, while R&D increased $2 million or 11% when compared to the same 2008 period. For nine months, S&A decreased $5.4 million or 7% and R&D was essentially unchanged. The changes for both the third quarter periods and the nine month periods include a significant favorable foreign exchange impact. We continue to invest in S&A and R&D to support our customers' programs and to develop the technology required to remain a leader in this industry.

Other expense for the third quarter was $4 million, while nine months was $16 million. The amount in both 2009 periods represents an unrealized loss on a derivative instrument, representing an interest rate swap recorded at fair value. Income tax expense was $30 million for the quarter, compared to $6.4 million for last year's third quarter.

The effective tax rate was 34.9% for this quarter. It is likely that our overall effective tax rate will be in the 34% to 35% range going forward.

Turning now to cash flows, we had another positive quarter. Cash increased by $22 million compared to June and puts our cash at $133.8 million at the end of this quarter. This is an increase of $112 million since the end of the year. Our net debt, which we define as all outstanding debt less cash, was a low $103 million.

Cash flow is provided from operating activities for nine months was $195 million and included a source of $ 67 million from reductions of working capital. For the quarter, working capital was a net use of about $10 million. Cash used in investing activities was $77 million during nine months and included a net funding of $10 million for the interest rate swap. Excluding our Foundry Park project, we funded expenditures of $26.5 million through September.

In late July, we announced that we are expanding our supply chain capabilities by investing in a manufacturing facility in Singapore. This new plant will enable us to better serve our customers in that region with shorter lead times and improved security of supply. In addition, the facility will allow us to manufacture to the specification of our customers in that region with our most current technology. While the initial capacity will represent a small increase to our overall global production capacity, the facility will be scalable, allowing us to add capacity as demand grows in that region. We expect that this facility will be in production during the first half of 2010, with the majority of the cash being spent in 2009. We estimate our total capital spending in 2009 will be about $40 million.

Capital expenditures this year related to the Foundry Park project amounted to $40 million year-to-date. This project to construct a multi-story world headquarters office building for MeadWestvaco continues to progress as expected. The project will be completed later this year. We expect capital expenditures for the year related to this effort to be about $59 million, which will be substantially borrowed under our construction loan. We expect the total amount drawn on the construction loan to be about $100 million to $105 million by year end. We are continuing our efforts to find financing to replace the construction loan which is due in 2010.

Cash used in financing activities during nine months were about $11 million. The main item in this category is the funding of our dividends. This will be an even bigger number going forward as I hope you noticed yesterday that our Board increased the quarterly dividend to $0.375 a share from a previous $0.25 a share or a 50% increase. At the end of the third quarter, we have $139 million revolver credit facility, of which we had $4.6 million letters of credit written against and no drawn debt. That revolving credit facility matures in December of 2011.

The performance of our business for the first nine months this year has been excellent. We have actively managed our business during very challenging economic times and are confident in our strategy to serve our customers by helping them succeed in their marketplace by providing innovative solutions. We feel our financial results are a measure of how we are performing against that strategy. We believe that our overall business has returned to a more historical level of demand. We further believe that the contraction associated with destocking and shrinking demand due to the economic conditions has ended.

For the first nine months of this year, our product shipments were down 16%. When considering only the third quarter as I said, they are down 3%. While we are still somewhat cautious in our outlook for demand due to uncertainty in the economic world, we are encouraged by the third quarter volumes. Our plants are running at very high rates. We are seeing increases in raw materials and we are experiencing some tightness in certain raw material availability. Additionally, we are spending at a higher rate in R&D and in health and environmental areas in support of our customers, as well as response to various laws being enacted around the world.

As we have communicated in the past, we intend to leverage our financial strength to increase shareholder value by growing the business with acquisitions being an area of primary interest. Our primary focus in the acquisition area remains on the Petroleum Additives industry. It is our view that this industry will provide the greatest opportunity for a good return on our investment, while minimizing risk. We remain focused on this strategy and will evaluate any future opportunities. Nonetheless, we are patient in this pursuit and intend to make the right acquisition for our company when the opportunity arises.

Meanwhile, we believe we have many internal opportunities for growth, both from a geographical and product line extensions. Until an acquisition materializes, we will build cash on our balance sheet and will continue to evaluate all alternative use for that cash to enhance shareholder value, including stock repurchases and dividends.

That is the end of my planned comments. Chris, can we open the line for questions please?

(Operator Instructions) Our first question comes from the line of Ian Zaffino with Oppenheimer & Co. Please proceed with your question. Your mic is now live.

Thanks, good morning. A quick question would be on the pricing environment. If you were to look out over the next 1 to 6 months or so, what is your sense about what price is going to be doing and what will be the drivers? Thanks.

This is Teddy. Right now, we are seeing some raw material increases in the marketplace and it's certainly our intent to recover those increases. I don't see any or we are not forecasting any substantial change in the environment over the next six months, but it's still a volatile world out there and crude oil has been creeping back up. So, it's just hard to say.

Thank you. Our next question comes from the line of Ivan [Racuuse] with KeyBanc Capital Markets. Please proceed with your question. Your mic is now live.

Hey, guys. Great quarter.

Thank you.

Thank you.

Teddy, you said last quarter that you saw margins on the operating side being sustainable maybe in the low teens -- I think is what you said. Now that margins have increased substantially again in the third quarter, do you still see looking out 2010, 2011 as a sustainable margin being in the 11% to 13% range? Or are you seeing it more probably a little bit higher than that? What's your outlook looking toward for that? And then what kind of profitability do you need to continue to invest in the business?

Ivan, that's a good question. Yes. We think we can do better than the numbers we were talking about in the last call. We like the margins where they are, because they do allow us to reinvest in the business and we've made some bets on doing that in recent days. We have expanded our research center here in Richmond, we have opened a new one in Shanghai and David commented on the investment and manufacturing capacity in Singapore. All of these activities should help us to give our customers what they need to compete going forward and the current environment allows us to make investments like that.

So you said that you like the margins where they're at. They are like 23% this quarter. Do you see them staying in the 20% range over the next -- going forward as a long term outlook is the bracket more in the high teens or can you quantify at this time?

Really can't quantify it at this time. The industry fundamentals are strong today and our business is strong today. We've got a lot broader geographic coverage, we've got a much broader product mix than we used to have, a more diverse customer base and stronger technology to compete in the market.

So would it be safe to say that looking maybe 6 months, 12 months that operating margins will probably be closer to where you're at now versus the low teen area?

I don't know, honestly.

All right great. Then David, one quick question. FX is probably going to be a tailwind for you in the fourth quarter dealing with the Dollar is doing right now versus the Euro. How much (inaudible) 10 % change in the Euro, how much does that impact EBIT and do you have any quantification for that?

I don't mind answering that. I don't have that with me, but you are absolutely right. It will be a benefit. The Euro is at $1.50 or these days. That tends to help us. I would be surprised if it's more than a few million dollars.

Okay. Great quarter. I'll look forward to seeing you next quarter.

Thank you. Our next question comes from the line of Robert [Feliz] with with Jay Goldman & Co. Please proceed with your question. Your mic is now live.

Hey guys. I will offer my congrats on an excellent quarter as well. Just wanted to pick up on Ivan's last question around margins, maybe taken from a little different angle. Given the value-added nature of your products, how receptive do you think your peers are, your competitors, as well as your customers to further increases in price in the event that in that over the next 3, 6, 12 months raw materials do rise more dramatically?

I certainly can't comment on what my competitors are thinking, but in the environment that we have experienced over the last really two years now, we've been able to recover raw material cost increases in the marketplace, albeit with a lag often. I honestly don't see any, any macrochanges to the industry fundamentals that would make that more or less difficult going forward.

So, with the exception of temporary -- temporary dynamics around timing and material costs that could lead to margin compression, what then would prevent the margins from being sustainable at current levels?

Just the normal pushes and pulls in the marketplace, the normal variations in volume and unforeseen things I haven't thought about yet that would just prevent me from telling you I'm confident they are going to stay where they are.

Okay. Okay. Fair enough. Then I guess lastly, did you see any prebuying this year in the third quarter ahead of hurricane season? And to what extent, if you did, do you think that pulled the volume from the fourth quarter into the third quarter?

We tend to see that more in the springtime. More at the beginning of the season than now and we think there was certainly some of that going on, but I think David may have commented we believe the stocking and destocking is relatively stable right now and we are looking at a fairly good picture as best as we can tell at what the market's doing without those extra influences.

Okay. Great. Thanks for taking my questions.

Sure.

Thank you. Our next question comes from the line of Todd Vencil with Davenport. Please proceed with your question. Your mic is now live.

Thanks, good morning, guys.

Good morning.

Coming back to margins again, everybody's just trying to wrap their heads around this and think about how to think about it, I think. Teddy you sort of took your mid-cycle estimate up a bit last quarter, taking it up a bit again this quarter, but still it would seem to imply that that mid-cycle estimate is kind of below the 23% you got in the third quarter. So, as you look out, from there from where we are now, to sort of kind of a mid-cycle number, what are going to be the adjustments that are going to take you from 23% to whatever that mid-cycle number is? Somewhere above, I guess, the low teens number you said last quarter. Where do you think pressure comes from, if anywhere?

Todd, pressure comes from sort of the usual spots and volume, mix, foreign exchange, competitive action, there's just a lot of pushes and his pulls in there, as well as -- certainly the impact of volume on plant loading can have a significant impact. Typically, the fourth quarter volumes are lighter than the second and third. So, I'm just very hesitant to try to predict what they are going to be.

Okay. When you look at demand out there, as it is recovered and you have talked about stocking and destocking, but can you tell in terms of sort of true secular growth where's a lot of demand being driven by now? Sort of what part of your business?

Well, certainly geographically, China and Asia was where the largest growth is. When we look at the underlying demand, we were encouraged that the third quarter demand was within let's say 3% of last third quarter, which was kind of the-- a good measure, since it was before the financial turmoil and really 3% in a quarter for us is kind of hard to measure, when you consider timing of shipments, revenue recognition -- a number of factors.

Uh-huh.

But, I think at the beginning of the year, we indicated our view that because of worldwide recession, we were looking at underlying demand being off in the 5% to 8% range. The third quarter would indicate the lower end of that range. One quarter doesn't make a trend, but we still think probably 5%, give or take, is a good number for underlying demand in the industry. And then, as we go forward, we still think that 0% to 2% kind of growth, year-on-year, is what the industry is shaping up over the next handful of years.

All right. Appreciate that.

Sure.

For both of you I guess, as you know, David you talked about acquisitions being your sort of favored use of -- use of capital. You have internal opportunities, you also talked about, you talked about returning capital to shareholders, share buy backs, raised your dividend, et cetera. As you look out, let's take the first one. Have you seen any change in the last 3 months in the acquisition opportunity space? Has it gotten better? Has it gotten worse? Can you talk about that?

Within the Petroleum Additives industry, I wouldn't say it's really changed. They are just not that many opportunities that come along. And the ones that do typically are relatively small. Under $100 million. We continue to focus on that aspect from an acquisition standpoint, but we are also starting to put some additional attention beyond Petroleum Additives just to learn more and just to see what else is out there. Our preference would be Petroleum Additives, but we know how to produce and develop and sell specialty chemicals. So, we will look a little bit broader now.

Okay. Interesting. On the raws, you mentioned that some of them are getting tight. Any sort of theme as to which ones are getting tight coming out of any sort of specific suppliers? And how much of an impact is that having, at this point?

No. If there's a theme, the theme is that with overall specialty chemicals around or chemicals in general around the world being off, volume-wise, it's really changed the way that refineries are running their operations. And despite the reduction in volume, the feed stocks going into specialty chemicals have been cut quite a bit by the refiners. So, there's just some unusual tightness in certain places as a result of that.

Got it. Okay, thanks.

Thank you. Our next question comes from the line of [Shalmo Sadhukken] with Meritage Funds. Please proceed with your question. Your mic is now live. Mr. Sadhukken, your line is now live.

Hi. My question has to do with margins in the third quarter versus the second quarter. So, it seems like margins in the third quarter, gross margin, actually expanded over margins in the second quarter, but base oil prices were higher in the third quarter than they were in the second quarter. So, can you explain why, even with higher raw materials's cost in the third quarter you were able to get a higher margin on the gross margin line than you were in the second quarter?

Yes, this is David. The contributing factors to that expansion were a couple. You are right about raw materials. We had more volume, we communicated 15% more, which helps with plant loading and on a quarter-to-quarter sequential basis we had an unusual benefit of foreign exchange, just how things fell. And that added a fair number of millions of dollars to that comparison. So, those are the components, plant loading and foreign exchange.

I see. The other thing I wanted to ask about is in terms of where industry pricing is right now, on the one hand, obviously raw material costs are way down from the peak when oil was trading close to $150 a barrel, but on the other hand, obviously, we are off the lows in terms of raw materials's pricing that we had in March and April. So, are you at this point, seeing price increases? Meaning a bias toward increasing prices from your customers? Or are you seeing pressure on pricing? Meaning they are coming back to you and asking for a concessions discount?

I'm not really sure I understand the question. We are seeing pressure from our suppliers, with costs going up.

I mean on the prices that you are able to charge your customers. Are you able to increase pricing? Say is the trend of pricing increasing right now? Or is the trend of pricing stable or decreasing? From the prices that you are able to charge your customers?

I would say they are increasing. Modestly.

Okay. Thanks. That's all I have.

Sure.

Thank you. Our final question comes from the line of Ian Zaffino with Oppenheimer & Co. Please proceed with your question. Your mic is now live.

Great. Thank you. Just a follow-up. I know you guys had always talked about kind of that 10% margin as being, I guess when you called the bogey. If it was over 10% or the reason why there's been no capacity added over the past couple of years is really you haven't seen margins over 10%. Now, we are starting to see them creep over 10%. You are doing a plant in Singapore. Is there any other capacity in the industry that could potentially come online that maybe keeps you up at night?

No, not really. And we tend to be fairly conservative, Ian, when we are talking to you. When we are under 10%, we are going to talk about 10% because that's attractive to us and it is directionally right. I don't really think that 10% was a magic number, but it was certainly in the right direction when we weren't there.

Okay and I guess one of the arguments for seeing the better margins or better than expected margins is because of this tight demand situation on your end. But, as far as capacity, there hasn't been any incremental capacity taken out of the industry over the past call it year or two years. So, I'm just curious why we are seeing this large margin expansion today, versus let's just say two years ago when the supply demand characteristics are very similar even a year ago before base oil started going bonkers.

Well, there are a number of elements to that. Certainly there has been growth in demand through this period and we've also had a two year period of havoc with raw materials and crude oil sky rocketing and then coming down and now going back up again. So, there's been a lot of issues to deal with. It just hadn't been been a steady state.

Okay. That's helpful. Thank you.

Mr. Fiorenza, there are no further questions at this time.

Well, thank you very much for joining us and we'll talk to you next quarter. Have a good day.