Stepan Co (SCL) 2003 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Stepan third-quarter 2003 earnings conference call. During the presentation, all participants will be in a listen only mode. Afterwards we will conduct a question and answer session. [Operator Instructions].

As a reminder this conference is being recorded Monday, Oct. 27th, 2003. I would now like to turn the conference over to James Hurlbutt, Vice President and Corporate Controller. Please go ahead, sir.

Good afternoon and thank you for joining us. Before I begin briefly on forward looking statements, please note that information in this conference call contains forward-looking statements which are not historical facts. These statements involve risks and uncertainties that could cause actual results to differ materially including, but not limited to, prospects for our German developing operations and certain global and regional economic conditions and factors detailed in the Company's Securities and Exchange Commission filing.

I will take a few moments to review our operating results. Net sales for the third-quarter of 2003 rose by 1 percent to 196.1 million from 193.3 million reported one year ago. The biggest impact on sales was the currency translation effect which increased sales by 4.8 million for the 2003 third-quarter.

Higher selling prices also contributed to the increased sales results.

During the third-quarter sales volumes declined 8 percent compared with last year's third-quarter. Net income for the third-quarter declined 1.3 -- to 1.3 million or 12 cents per diluted share compared to net income of 5.7 million or 58 cents per diluted share last year.

Gross profit declined by 4.1 million, or 13.2 percent primarily due to lower sales volume on surfactants in North America. A production outage within our polymer group in the manufacture of phthalic anhydride also contributed to the decline in earnings.

For the first nine months of 2003, net sales increased 4 percent to 583.6 million from the 563.3 million in the same period last year. For the nine-month period higher sales were mainly due to currency translation which increased year-to-date sales by 14.4 million. Net income for the 2003 nine-month period was 8.3 million or 85 cents per diluted share, compared with 17.7 million or $1.81 per diluted share last year.

This decrease was due to lower surfactant sales volume and higher raw material and energy costs, particularly during the first quarter of 2003.

Our sales for this most recent period were negatively impacted by two customers taking business into their own internal production facilities rather than outsourcing the products as they had done in the past. We are currently not aware of any further plans by customers to internally produce significant additional surfactants volumes.

Now I would like to highlight the performance in each of our three segments.

Starting with surfactants which accounted for approximately 77 percent of the Company's sales for the first nine months of 2003. Surfactant earnings were lower mainly due to a 10 percent decrease in volume for the quarter. Volumes decreased by 16 percent in our North American operations. This is where we saw production at two customers internalize. We also experienced some weakness in laundry and cleaning product demand.

On a positive note our European business posted increased growth profit coming from strong sales volume in France and the UK.

Turning to polymers, which represented 20 percent of our revenues in the first nine months of 2003. Polymer earnings were also lower for the greatest impact here can from a production outage in related repairs in outsourcing cost that lowered pretax earnings by 1.3 million. This was related to phthalic and anhydride business. Polyurethane Polyols earnings were slightly higher due to higher volumes including continued volume growth in Europe. The new polyol reactor in Germany is running well and most customer product approvals have been completed.

Earnings from polyurethane systems were also higher, based on improved volume and better product mix. And, finally, specialty products which accounted for 3 percent of the Company's year-to-date sales had weaker earnings on lower volumes sold to food and pharmaceutical customers.

Turning to expenses. Operating expenses were up 10 percent during the quarter. The large increase in the administrative expense was mainly due to higher pretax, legal, and environmental charges of 1.5 million for potential remediation costs at a site that we still own in contingent remediation liabilities and another site that we sold over 20 years ago.

Administrative expenses also included a 1.3 million increase in deferred compensation expense. Third-quarter deferred compensation expense was .3 million compared to income of 1 million in the third-quarter of 2002 due to fluctuation in the value of the assets maintained in the deferred compensation account.

On a positive note, our continuing cost-cutting initiatives resulted in lower marketing and R&D expenses for the quarter. Net interest expense increased 10 percent due to a higher proportion of fixed-rate debt. We secured more long-term fixed-rate debt during 2002 to lock in lower interest rates for the long-term although at a higher cost incurred short-term interest rates.

Looking at other income. Income from the Philippine joint venture declined due to a less favorable sales mix.

Turning to the balance sheet. Total debt on September 30th, 2003, was 116.5 million, down from 122.5 million at June 30, 2003, and a 117.7 million at December 31st, 2002. Capital expenditures were 6.2 million for the quarter and 24.7 million for the nine-month period. We have lowered our full year capital expenditure projection to a range of 34 to 36 million. Our long-term debt to total capitalization at the end of the quarter was 37.8 percent, down slightly from 38.7 percent at June 30th, 2003, and 39.6 percent at December 31st, 2002.

Now for our guidance. Looking forward to the rest of 2003 and beyond, our near-term priority is to improve earnings through cost reduction, aimed at eliminating discretionary spending and reducing headcount through attrition and functional reorganization. We're also implementing a salary freeze effective for calendar year 2004.

Domestic health care cost should decline in 2004, due to plan changes implemented in 2003. Pension expense, however, will continue to rise due to the decline in interest rates allowed for discounting pension liabilities coupled with a decline in pension plan asset values during the stock market decline.

While the Company is still in the process of preparing 2004 expense budgets, total expenses in 2004 should be lower than 2003. We're also committed to topline growth with focus on polyester polyols, fabric softeners and specialty surfactants for functional markets such as agricultural products, plastic and fiber additives, additives for emulsions and polymers and oilfield and lubricating applications.

Continued growth in these products in 2004 - combined with lower costs - should result in improvements and earnings over 2003. Fourth-quarter 2003 earnings should be in line with last year's fourth-quarter net income of 2.4 million.

This concludes my prepared remarks. At this time, I'd like to the call over for questions.

[Operator Instructions].

John Roberts from Buckingham Research.

When do we anniversary the two customers that have taken the business in house -- I forget now the exact comment of when those got pulled in?

It was gradual so we will see some of the effect still trailing out and probably into the first two quarters of next year.

By the third-quarter (indiscernible) completely anniversary (indiscernible).

Yes. The lion's share of it - yes.

Most of it go in the first quarter or sort of linear here [indiscernible]?

We saw the largest impact in the third-quarter of this year.

Right now.

Yes.

It won't be till the end of the second quarter [indiscernible]

Yes.

Beverly Mattinger from Grace & White.

I was wondering if you could talk a little bit about what's happening as far as the fabric softener initiative - seems that we have been hearing about this for a while but nothing really to be proud about yet so can you just give us some (indiscernible) -- where you're at?

Absolutely. You know we've been very strong in fabric softener growth in Europe, but we -- the hope for growth in North America has really been delayed and we believe a lot of it is still going to occur. It's just the rollout's going to be longer than we anticipated. Conversion -- formulation conversion by customers - one in particular - has been delayed till next year. We had hoped that conversion was going to incur in 2003 and it did not. That volume was actually expected to kick in the third quarter of 2003.

What's holding people up from making the transition?

Both getting specifications approved in the formulations, getting their market testing (indiscernible) back, they're reluctant to change a branded product until they're satisfied that the consumer tests meet their targets for conversions. So it's a handful of factors, but we don't believe any of them are insurmountable. And we -- and fortunately we're not talking about one opportunity. We're talk about multiple opportunities so this is not an all or nothing situation. And we still believe we're going to grow the fabric softener in North America fairly significantly next year.

I was also wondering with some of the cost of reduction initiatives that you announced, will there be a charge in the fourth-quarter for headcount reduction or anything like that?

We're not planning. There will be one, we do not expect it to be significant. We believe it is going to be handled without a significant type of workforce reduction, severance cost. The attrition that we referred to has largely been in progress. It wasn't just an immediate reaction to this quarter. We've been holding open headcount vacancies open.

We're not going to feel these. We're going to continue to look at further attrition over the rest of the year but we are going to be looking at specific headcount eliminations, some of which may be involuntary and may -- we're probably going to structure this in a way that we're not anticipating a significant charge in the fourth-quarter.

And also given that the volume is down significantly in I guess it's North America, are your facilities -- I guess they can't possibly be running at their optimal efficiencies. Are there any plans to close down or to do a Christmas closing or how does operate in your industry?

You know, we have the five plants in the United States and they're all still up and running. We have specific areas - production areas within plants that are below capacity. We've reallocated production to the most optimum for a freight savings both for our raw material supplies as well as for our customers' regions. And that left the largest excess capacity at our large plants in Joliet, Illinois. And we have looked at -- we're not looking at plant closures by any means but we are looking at optimizing the use of the equipment within those plants.

(indiscernible) has roughly seven sulfination (ph) units and we may not need to run seven units and we made be able to look at running some of them five days a week instead of seven days a week and get a work savings on the weekend.

So, yes, we are looking at specific pieces of equipment within our plants but we're not looking at a complete closure of any facilities.

And also in order to perhaps regain some of this lost sales business as the [indiscernible] go in house do you have any acquisitions on the burner? I know Quinn has been big on acquiring a little here, a little there. So anything that we might be looking forward to in, perhaps, the next six months? Or is that on the back burner now that things are just sluggish in house?

Well, it's very much on the front burner but we don't have -- I can't say that we have any opportunities that are -- we have a high degree of confidence we will result in a deal coming to fruition in the near term. But no we feel strongly that we're always out looking if we can broaden our product line further diversify our customer base particularly where it's synergistic with our own sales force, R&D capacity, and fits well, hopefully, within our existing manufacturing facilities, we're very much interested in pursuing those opportunities.

I am sort of curious. Do any of the sulfers (ph) sell their products on the outside market or what they produce is really internal? Are they going to be the competing with you for -- out there in the market?

We rarely see that. You have to remember when I say that we are talking about in the finished - in the the intermediates that we sell into the surfactants market, Procter & Gamble has a very large chemicals group that make a lot of alcohols that do end up in surfactants. We buy alcohols from them. They sell alcohols around world. But in terms of competing directly with our merchant business, no, they usually do not go downstream to that level. And on a spot market basis around the world you may see a little bit of that, but it's -- certainly the people they would sell to don't really think highly of buying from their competitors.

Gary Lindhoff (ph) from Brickulir.

Jim, can you give us an update on [indiscernible] going on in China with (indiscernible) discussions and is there -- can you talk a little bit about whether there is a surfactant opportunity in China long-term?

The first question is yes, we still -- I think we've initialed a tentative agreement. I don't know if that would constitute a [indiscernible] but I guess we're getting close with the Chinese for a Polyols plant outside of Nanjing (ph)[indiscernible]. That would take 12 months to construct so I would not expect a Polyol joint venture in China to be accretive to earnings in 2004. But we are vigorously pursuing that opportunity. As far as surfactants in China, we already are having some surfactants still produced in China as we try and pursue global contracts with our customers to supply around the world. If it's needed we will look at polling third party manufacturers to provide that material for our customer and we already are having some of that done in China today. And as that volume grows and other markets within China become attractive, we would look at expanding a joint venture relationship or adding a joint venture relationship to manufacturers surfactants.

Can you just update us on raw material costs, what you're seeing with the prices, etc. [indiscernible]

A lot more stability recently. And, obviously, that seems to be tied to crude oil being a little more stable than it was in the prior twelve months. Going forward, I think you'll recall we took a fairly large beating on natural gas which we use internally within our plants for production. And we have bought most of our natural gas requirements for the -- through the winter and into a large part of next year so we think we're relatively protected from a wild fluctuation.

So we're [indiscernible] removed that vulnerability from this upcoming winter since not many people are very confident in knowing which direction natural gas is going to go. The raw material we're not seeing nearly as much volatility as we saw last winter and at the beginning of the Iraqi war.

Ladies and gentlemen, [Operator Instructions]. John Roberts from Buckingham Research.

Jim, the environmental charge in the quarter. Was that just part of an annual review and this is sort of where you just true up your reserves or was that triggered by some event?

As far as the site -- the formally owned site, it was based on a claim from the owner under a settlement agreement that we had signed with them over ten years ago that had a contingency attached to it that should [indiscernible] their cost, their remediation costs exceed a certain amount. They would have the right to come back to us for a small percentage of the sliding scale claim and they can go between 3 and 5 percent depending on the other third party recoveries. So that the reserve for that site was based on new information - a claim from that, the owner of that property - and the internal site, our owned site was placed on a voluntary compliance program wherein the New Jersey EPA for voluntary well water monitoring.. Based on the well water monitoring, we've gone -- remediation studies for possible contaminants at that site. And we [indiscernible] based on the current best estimate to remediate those contaminants.

Secondly, and maybe this is just me not knowing the business well enough, but I wasn't aware of your Asian surfactant mix changed all that much. I thought the plant produced a fairly stable set of products.

The Filipino operation has a fairly [indiscernible] product base. They had an export product that declined in volume during the year that was a relatively higher margin product than their domestic assumption.

So the difference in pricing between export market and domestic were --

It was a different product and they sell in the domestic market and it was a higher margin product. They lost -- they contracted the amount of exports for that product. That was not a -- that was a loss for the joint venture but some of that product production was picked up in our other sites around the world to reduce logistic cost.

Ladies and gentlemen, [Operator Instructions]. Sir, there are no further questions, I will now turn the conference call back over to you.

Okay. Since there are no other questions, I'd like to thank you all for participating today. I look forward to speaking to you again in the future. Thank you.

Ladies and gentlemen, that does conclude your conference call for today. We thank you for your participation and ask that you please disconnect your lines.