NewMarket Corp (NEU) 2010 Q2 法說會逐字稿

Greetings, and welcome to the NewMarket Corporation Second Quarter 2010 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).

As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, David Fiorenza, Principal Financial Officer for NewMarket Corporation. Thank you, Mr. Fiorenza you may begin.

Thank you, Lisa. Thank you for joining us to discuss our second quarter results.

With me today is Teddy Gottwald, our CEO and we'll follow our normal format with a few planned comments and then we'll take 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 10-K.

We filed our 10-Q this morning. Please review it for more details on the performance of the company during the quarter. All of my comparisons today will be related to the second quarter of 2010 to the second quarter of 2009, unless stated otherwise.

I'm pleased to report that we had another outstanding quarter. Our net income was $39.9 million, or $2.69 a share, compared to $30.7 million, or $2.01 a share for the same period last year.

For the first half, net income increased to $82 million, or $5.47 a share, compared to net income for the first half of 2009 of $59.3 million, or $3.89 a share.

Our quarterly net income is up 30%, while our year-to-date earnings are up 38%.

On an EPS basis, our improvement was 34% for the quarter, which reflects the benefit of our stock repurchase activities.

Net income for the second quarter and first half, of both this year and last year, included a charge to earnings from recording at fair value an interest rate swap agreement related to Foundry Park.

The impact for this quarter was a loss of about $6 million or $0.40 a share. Excluding this impact, our second quarter EPS was $3.09 a share.

Petroleum additive sales were $465 million, which is an increase of $97 million, or about 26% from last year's second quarter.

The major driver of the increase was higher volume shift of about 21% which was across all major product lines.

As you look at this increase in revenue, it breaks down as $90 million due to volume, $9 million due to price and mix, and $2 million adverse due to currency.

In summary, great improvement in revenue, volume driven.

Operating profit increased $9 million this quarter, which is an improvement of 13%.

In the quarterly comparison, we've benefited about $4 million due to foreign exchange impacts.

Profits have increased $29 million for the first six months, an improvement of 25%.

The operating profit margin was 16.5% for the second quarter, compared to 18.4% for the second quarter last year. Our margin was 18.1% for the first quarter of this year.

Higher raw material costs in this quarter preceded increased selling prices, a normal function of our business, which makes quarterly comparisons difficult and sometimes misleading if used as the only measure of our business performance.

Our business fundamentals are strong and we believe a profit margin in the high teens is representative of our operations over the course of a longer period.

We also believe the overall demand for petroleum additives products is recovering from recessionary effects and are now at levels representative of this industry without unusual effects.

We have seen an excellent rebound in our drive line and industrial [lubes] businesses and all regions are performing well.

Overall, we had excellent results for the quarter and are very pleased with the performance of our business. Our plants are running at high rates. And our supply team is doing an excellent job balancing customer demands with spot shortages and sale control of certain raw materials from our suppliers.

Our technical team has done an outstanding job in delivering the new passenger car motor oil for North America, GFI. We believe we have not only developed a solution that meets the technical demands of the new [specs], but will also provide good value to customers and the benefits it will bring them in their marketing programs.

Operating profit for the real estate development segment was $1.8 million this quarter, compared to virtually zero last year. You will recall last year the office building was under construction and no rental revenue and limited non-capital expenses were recognized. The level of profit that we posted for the quarter is representative of what you should expect in future quarters for this segment.

Interest and financing expenses were $4.3 million for the second quarter and $2.9 million for last year's second quarter. The increase was primarily related to the mortgage loan on the Foundry Park building.

We did incur a small amount of interest this quarter from drawings made on our revolving line of credit.

As I mentioned earlier, about the recognizing of the interest rate at fair value, other expense net to the quarter was $9.2 million, compared to $11.9 million in last year's second quarter.

Turning to cash flows -- in addition to delivering excellent earnings, our business has generated significant positive cash flows in the first half. Cash flows provided from operating activities were $112 million before working capital needs were satisfied.

Working capital consumed $39 million to support higher accounts receivables and inventories, partially offset by lower pre-paids and higher accounts payable.

The increase in accounts payable is primarily due to higher sales, while the increase in inventories reflects increased quantity at certain locations to respond to demand for our products.

Cash used in investing activities was $71.5 million during the half. This included $42 million related to the acquisition of Polartec, as well as $18 million for capital expenditures, and a net deposit of $11 million related to the interest rate swap I discussed earlier.

We estimate our total capital spending during this year will be about $40 million.

Cash used in financing activities during the first six months amounted to $105 million. This included the net use of $32 million associated with Foundry Park, repurchasing $79 million of our stock, and paying $11 million of dividends.

During the second quarter, we repurchased about 658,000 shares at an average price of $98.73 a share for a total of $64.9 million. We also borrowed $18 million under our revolving credit line during the quarter.

These activities left us with a total debt of $236 million and a cash balance of about $47 million.

For the four quarters ending June, our EBITDA was about $320 million. This gives us a debt to EBITDA ratio of around 0.75. We continue to operate with extremely low debt leverage.

We're very pleased with the performance of our business during the first six months. We began the year with solid results, built upon a diverse product offering, customer base, and geographic presence.

Our margins are good and while we are experiencing higher raw material costs, we've demonstrated our ability in recent years to adjust our prices to compensate for increases in raw material costs.

Our project to expand our supply capabilities in the Far East is proceeding and we have started shipping product from that location.

We expect to continue to perform well for the remainder of the year, subject to the normal fluctuations associated with this business.

Please note that last year's third quarter was an exceptional and unusual one for our petroleum additives business. We expect business performance in the third quarter of 2010 to be strong and in keeping with current order patterns and growth rates, but we do not expect it to match last year's third quarter.

While we will be integrating our latest acquisition into our business this year, we continue to have acquisitions as a high priority for the use of our cash and borrowing capacity.

Our primary focus for acquisitions remains in the petroleum additives industry, as we believe this will have the highest probability for success.

Within petroleum additives, industrial lubricant additives and fuel additives are our main focus. This is a small space, however, and there isn't an abundance of targets, so patience continues to be an operative term.

We will also continue to evaluate alternative uses of cash. We're pleased that we've been able to repurchase about 3 million shares of our stock over the last three years, and we will continue to evaluate stock buy-backs as well as maintaining a strong dividend.

That's the end of my planned comments. Lisa, we can open the lines for questions.

Thank you. We will now be conducting a question and answer session. (Operator Instructions).

Thank you. Our first question is coming from the line of Saul Ludwig with Northcoast Research.

Good morning.

Good morning.

Good morning.

Volume has been pretty good. I know there's a batch operation where you base the products, but are you to the point where you're starting to have any capacity limitations on further growth in volume?

Saul, we are at that point in some of our product lines and we continue to look at ways to get more out of what we have. And the expansion in Singapore is going to help relieve some of that stress.

Could you handle 10% more volume if it's in your way or would you be stressed to handle that much more volume?

Can't really put a number on it like that. It would depend on the product line in particular.

Okay. And then, David, I wonder if you might comment on the increase in the G&A and what we can look for for the year and why was it so strong in the quarter and what's the second half look like?

Sure. When you read the 10-Q there's a little more color on this.

This was the first quarter that the Polartec business showed up in our results. And we didn't break out the Polartec P&L because we're just assimilating it into the rest of our industrial lubricants portfolio.

But the lion's share of the bump that you saw in S&A was due to Polartec. And future quarters will be more representative. We looked at like the second quarter as opposed to the first quarter on that one line item.

Okay. And with regard to the shares outstanding, we don't know what you might buy going forward, but if you look at your shares at the end of the quarter or what you may have bought so far in the third quarter, what's the maximum number of shares outstanding that would be possible in the third quarter?

Well, the board gave us a $200 million authorization. So I guess the maximum is $200 million divided by whatever your guess --

What I meant it is if you didn't buy anymore stock, if you just looked at where you are now before buying back the stock, would you be at [14.4], where would your number be?

Yeah, 14.4, [14.390].

Okay, that's where you are now?

Correct.

And then finally, what was your increase in unit raw material costs in the quarter over a year ago, because you mentioned that sometimes pricing lags raw material costs.

So what was the issue that maybe impeded your margin to some extent in raw material costs in the second quarter and then what do you see the price/cost relationship being going forward?

I don't have the unit in front of me, but you should have the image that we had great volume improvement. You didn't see the exact same improvement in profits because raw materials ran up. And we are in discussions to recover those increases in the marketplace right now.

Great. Thank you very much.

You're welcome.

Thank you. Our next question is coming from the line of Mike Sison with KeyBanc. Please proceed with your question.

Hey, guys.

Hello.

Good morning.

In terms of the margin decline, second quarter versus first quarter, was that largely the [decrease] from base oil prices.

Base oil and other raw materials, yes.

Okay. And if you're successful in getting the price increases through, heading into the third and fourth quarter, would you recoup that delta?

Yes. And we're confident that we will.

Then as you head into the second half of the year, we've heard from others that volumes look fairly good in terms of demand as you noted, what's sort of the run rate, volume growth we should see [clearly happening to plus 20 again.]

Is it low single digits, is it mid single digits?

Yeah, Mike, eventually we're going to get back to industry growth plus whatever business we can earn on top of that. So, low single digits, yes.

And you did see this morning that Exxon and Valero reduced their, or rescinded the mid-June increases for base oil. Is that going to be an issue, or is that sort of a positive? What do you see base oil heading into the second half of the year?

It's anybody's guess. Our current view is that we're going to see less rise in the second half than we've seen in the first half.

Okay. And final question, in terms of the loss from interest rates loss, do you expect any losses or gains in the second half of the year?

If you tell me what treasuries and foreign rates are going to do, I could answer your question precisely.

How long is this [block enduring?]

It's got another 13 years on it.

13 years. Okay, thank you.

You're welcome.

Thank you. Our next question is coming from the line of Ian Zaffino with Oppenheimer.

Thank you.

David, I believe you mentioned something about margins being sustainable in the, I think you said high teens.

That's correct.

And then Teddy had said that he feels very confident in kind of recouping the increase in base oils just recently.

And that was a helpful comment. I was just wondering if you could give us any other type of color as to what gives you confidence that that margin can stay in the high teens, because it was down the first quarter.

And again, maybe that's a timing thing, but as you look further and further out, are negotiations with your customers becoming very linked to what the price of base oil is so you're able to pass that quickly through, plus the margin of your high teens? Is that what's going on? Or any type of detail or color on that would be helpful, thanks.

We're confident because of discussions that have essentially already taken place. And I don't really see anything fundamentally different in our marketplace today than say three months or a year ago that would lead us to think that our ability to recoup costs has changed.

I think it's a pretty clear picture in the industry right now. And I do think that, I do expect raw material increases to kind of taper off in the second half, but it's really anybody's guess as to what will come.

Okay. And as we look at your business, is it better to be in an inflationary environment, deflationary, or really that kind of high teens margin hold regardless, barring temporary mismatches?

Ian, I guess we really don't have much experience with deflationary, but I think for now we would answer probably it doesn't matter.

Okay. Thank you very much.

You're welcome.

Thank you. Our next question is coming from Dimitri Silverstein with Longbow Research.

Good morning, gentlemen. A couple of questions to follow up.

You talked about seeing good growth in volumes across the geographies, was there much difference between growth rates in Asia versus Europe versus North America, or were they all equally strong?

No, I think they weren't all equally strong. We're comparing Q2 of '09 to Q2 of '10 and in our particular mix, Asia, on a percentage basis, Asia and Far East and then Latin America were stronger. Europe was strong and then North America was the least of those.

Okay. So Europe was actually strong. So you're not seeing any evidence of any kind of a slow down in European demand, whether in your specific industry or in the broader industry, the broader economy, that would give you cause for concern about the second half of the year.

Obviously, I can only speak to our business, the answer is no. We have not seen any slow down in demand that would give us cause.

Okay. Alright, great. In terms of the price increases that you're negotiating now, was this something that was announced and kind of went out, that you went out to the market with in the second quarter? Or was that the beginning of the third quarter?

It's an ongoing process of -- it was second quarter.

Second quarter, okay. And it typically takes you about a quarter, if I'm correct, you need a little bit more to get pricing fully into the market, correct?

Yes.

Okay. You talked about, obviously there's things that are inflating in your raw material [desk] beyond base oil and you also mentioned some shortages that you were experiencing in the quarter.

Can you talk about some of the other key raw materials that maybe [have] supply constraint and what's going on there now and the expectations for the second half of the year?

I really can't speak intelligently about those. It's just around the shortage that we're seeing and the way the refiners are using natural gas instead of crude to get to where they want to wind up. I really can't add any more color than that.

Okay. So you're able to get raw materials. It's not limiting your growth. It's just that you have to scramble to find it and perhaps, the costs, obviously are corresponding to the scarcity.

That's [accurate], yeah.

Okay. And then final question, I'm assuming that since you're rolling your recent Polartec acquisition into the P&L, that it also had a contribution to top line of the 21% or so volume that you saw year-over-year in the second quarter. How much of that came from the acquisition?

We didn't break it out. But as we disclosed when we bought the business, that business did a $45 million revenue in 2008. So it's safe to assume it's grown some from that and take a fourth of it and that's how much the revenue hit, and the margins are representative of the rest of our business.

Okay. Okay. That's helpful. Thank you very much.

You're welcome.

Thank you. Our next question is coming from Todd Vencil with Davenport and Company.

Thanks a lot. Good morning, David.

Good morning.

Staying with Polartec for just second, are we going to see any sort of increase in [TD&A] from that, the addition of that company?

We've done a fairly good job of putting it in this quarter. So this quarter will have it in there.

And you'll notice when you do read the Q, we have $28 million of PP&E and $6 million of intangibles that this business brought along.

But again, the first quarter results had those kind of things already happening. The second quarter, I'm sorry, second quarter results already have them in the numbers.

Got it. And just to clarify a similar point, you said that that was the big impact on SG&A and that the second quarter run rate of SG&A is kind of a good model to use going forward?

Yes, I'd say it's much better than the first quarter.

Got it. David, what are you looking for for tax rate this year?

I think we were 34 in the quarter. Pick a number between 33 and 34.

Okay. That's a good range.

I don't know if Congress is going to put the R&D tax credits back in or not. There's a couple moving parts. Absent that, use 34.

Okay. Okay. And then just to clarify, you said the swap charge was $0.40?

Yeah, that was my arithmetic, yes.

Okay. Good, that's all I've got. Thanks, guys.

You're welcome.

Thank you. Our next question is coming from Harris Arch with DuPont Capital Management.

Hi, good morning. Just a few questions.

You mentioned that Polartec's margins were similar to the existing additive business. Other acquisitions that you are potentially considering, are the margins there, again, similar to the existing additive business margins?

Yes. The acquisitions that, where we're looking for acquisitions is almost purely in the petroleum additive areas. So you would assume that the margins would be similar to our existing ones.

Okay, in that mid to high teens.

You mentioned earlier in the Q&A that you think the industry volumes, now that we're at pre-recession levels, can grow low single digits. Any color, are we talking about maybe once at 3%, is it mid at 5%? Does this assume any market share gains for NewMarket?

We think the industry growth is in the very low single digits, call it 1% to 2%

Okay.

We hope to do better than that mainly because our markets share is still fairly low in certain regions and in certain product lines. So as we look to the future, we're looking to expand our geographic presence and we're looking to expand our product lines into adjacent spaces.

Okay. A question of raw materials. Do you think given the rise in base oil pricing, is base oil pricing right now kind of equivalent to $80.00 oil, or if $80.00 oil crude holds, we could see future increases in base oil? The current base oil pricing, what do you think that is equivalent to for oil?

That's a good question and I really don't have an answer for it. But we are seeing signs that base oil might be stabilizing or even possibly easing a bit.

And if it was to ease a bit, would that be because crude oil could come down or even if crude stabilizes we could see base oil decrease?

The two do move directionally a similar way, but there are separate supply and demand issues in the base oil market that don't tie directly to crude.

Okay. And then one last question on the margins and pricing. You've mentioned historically that when there are raw material increases you will work with customers to increase pricing.

Is there a point, given where margins are relative to history, is there a point where customers may say, we can see where your margins are. You're a publicly traded company. What I'm trying to get at, is there a limit to increasing pricing where maybe you would have to absorb some of the increases? Or will you always be able to push through pricing? I'm just trying to get a sense of that dynamic.

All I can say is that we've seen crude over the last couple of years go from 45 to 150 and bounce back and forth in between and drive our raw materials all over the map.

And through that entire cycle, we've done okay. So I expect the future will be similar to what we've seen in the recent past.

Okay. I think that covers all the questions I have. Thank you very much.

You're welcome.

Thank you.

Thank you. Our next question is coming from Mario [Cavalli], with Cavalli and Company.

Hey, David thanks for taking the call. I'm grazing on a lot of calls this morning.

Could you go back and tell us how much cash you put into the real estate development project there at, I call it affectionately the Westvaco building.

Since the beginning of time, or this year?

Whatever you want to tell us. Start with the beginning of time. You've got a good historical observation.

At one point, I seem to remember 110, (inaudible.)

Alright. There's another building in your area that I'm told us up for sale and the cap rates have come down materially. What's your current thinking about monetizing, or how are you handling the equity value in your real estate? Spinning it off in [MLP], anything else that we should think about?

Yeah, current thinking is just to collect the rent stream and be a good landlord.

If you put a 6% cap rate on that, what do you think the [mark] to market valuation would be? I don't know the numbers, apologizing --

I'll apologize too because I haven't run that.

It's not complicated. You must think at night how much you're worth.

David, on the second subject, on Polartec, I missed this. Did you file an 8-K with all of the historical numbers?

We did not.

Do you plan on doing that?

We do not. It's not material when we roll it into the total company [spend].

I'm just asking the question. Thank you very much. And thanks for making my clients money.

You're welcome.

(Operator Instructions).

We're showing no further questions in queue at this time.

Well, thanks everyone for joining and we'll be chatting next quarter. Have a good day. Good-bye.

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