Stepan Co (SCL) 2008 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Stepan fourth quarter 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 Wednesday, February 11th, 2009.

I would now like to turn the conference over to Jim Hurlbutt, Vice President and Chief Financial Officer. Please go ahead, sir.

Good afternoon, and thank you for joining us. Before I begin, 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 foreign operations, global and regional economic conditions and factors detailed in the Company's Securities and Exchange Commission filings. We are pleased to report record earnings for 2008 that represent the culmination of focus on our core business growth and diversification opportunities, combined with a disciplined approach to our cost structure. We are also proud to have delivered to our shareholders in 2009 our 41st consecutive year of increased common stock dividend payouts, despite these challenging economic times.

At this point, let me walk through our fourth quarter and full year 2008 results. Starting with the top line, total net sales for the full year 2008 were $1.6 billion, up 20% year-over-year, benefiting primarily from higher selling prices which accounted for 21 percentage points of net sales growth and the positive effect of foreign exchange currency translation which accounted for 1 percentage point of the net sales growth. Both factors were partially offset by a 2% decline in year-over-year sales volumes. Total net sales for the fourth quarter were $365 million, up 7% year-over-year. Quarterly sales also benefited primarily from higher selling prices, as sales volume declined 7%.

Net income for the full year 2008 increased to a record $37.2 million or $3.52 per diluted share, compared to net income of $15.1 million or $1.50 per diluted share in the year-ago period. Net income for the fourth quarter was $1.7 million or $0.15 per diluted share, compared to net income of $1.6 million or $0.15 per diluted share in the year-ago quarter. Full year 2008 gross profit increased by $28.1 million or 20% year-over-year on improved Surfactant segment profitability. Fourth quarter 2008 gross profit declined by $2.7 million or 8%, as volume declined 7% and higher priced raw material inventory was consumed.

Turning to operating expenses for the full year, we saw operating expenses rise by $10.3 million or 10%. Over $3.7 million or 36% of the increase was due to higher provisions for performance-based incentive compensation and the result of the record earnings. Higher bad debt charges, pension expense and the effect of foreign currency translation also contributed to the higher level of operating expenses. Operating expenses for the fourth quarter declined $4 million or 15% versus the year-ago period. Excluding deferred compensation expense, the remaining fourth quarter operating expense increases were attributable to higher performance-based incentive compensation and bad debt provisions for the quarter.

As we discussed last quarter, our full year 2008 operating income includes a $9.9 million pretax gain on the sale of urethane system product line and an $8.5 million pretax gain on the sale of farmland which was used to acquire an office building in a tax deferred like-kind exchange. The full effect of our deferred compensation plan on pretax income was $4.9 million of expense, versus $1 million in the prior year. The accounting for the Company's deferred compensation plan results in expense when the price of Stepan Company stock or mutual funds held in the plan rise, and income when they decline. The Company also recognizes the change in the value of the mutual funds as investment income or loss.

Let's move to our view of the performance of our three key business segments. First, we'll look at Surfactants, the largest segment of our business. Sales increased 23% for the year to $1.2 billion, accounting for 75% of total net sales in 2008. Volume declined 1% for the year, and declined 3% for the fourth quarter. The decline in volume was largely attributable to the lower biodiesel sales volume. Excluding biodiesel, sales volume was relatively flat for the year.

Improved laundry and cleaning volume in North America was partially offset by lower European volume. Surfactant gross profit increased $30.1 million, or 33% for the year. The full year improvement was driven by improved customer and product mix, coupled with partial recovery of higher raw material costs and selling prices. Full year gross profit on sales of higher value added Surfactants and the specialty blends, agriculture and oil field markets more than offset weakness in biodiesel and building product applications.

Fourth quarter 2008 Surfactant gross profit declined by $1.2 million or 5% on a 3% decline in volume. The biodiesel product line reported a $2.5 million negative gross profit for the quarter, due to lower selling prices, brought on by falling crude oil and diesel prices. High priced soybean oil inventory or feed stock for biodiesel was consumed during the quarter, resulting in the loss. The remainder of the Surfactant segment continued the year-long trend of improved customer and product mix, and recovery of a past margin erosion.

During the fourth quarter, Stepan's European subsidiary purchased two small product lines, used primarily in fabric softeners from [Seeka], a subsidiary of Arkema in France. Stepan did not purchase any manufacturing assets. Manufacturer of the products will be transitioned to our Voreppe, France facility over the next three to six months.

In the area of enhanced oil recovery, our joint venture with [Nalco] continues to move forward with a series of pilot field tests for improved oil recovery yields. While oil prices dropped notably in the fourth quarter, these pilot tests are focused on supporting long-term oil recovery yields. While we do not expect any contribution to profits in 2009, we do believe there's a strong need for EOR technology that will generate future profitability.

Turning to the Polymer segment, full year sales increased 12% to $359 million, representing 22% of total sales. Fourth quarter net sales of Polymers declined 12%. Polymer volume declined 2% for the year and slipped 22% quarter-over-quarter, due to lower sales volume of phthalic anhydride, used in the end use markets of automotive, boating and housing. Polymer gross profit for the full year 2008 declined by $1.6 million or 4%. Fourth quarter Polymer gross profit declined by $2.1 million or 22%. Higher raw material costs, higher freight and maintenance costs related to a fourth quarter scheduled maintenance shutdown caused the lower earnings.

Our more profitable Polyol product within this segment saw gross profit grow by 2% on volume growth of 10% for the full year. Fourth quarter Polyol volume and gross profit declined by 8%. The majority of the Polyol is sold into the commercial flat roof insulation market. And the growth was driven by energy efficiency and the strength of replacement roofs on commercial buildings versus the residential construction market.

Fourth quarter Polyol sales volume declined as the global recession worsened and customers delayed purchases in anticipation of lower announced pricing for January of 2009 as raw material feed stock prices declined rapidly. While recessionary economic factors led to lower sales of PA, PA sales represent less than 5% of total Company sales. PA profitability declined due to the lower sales volume and the higher maintenance costs.

The previously announced expansion of our Wesseling, Germany Polyol facility which will provide additional long-term capacity beyond the current debottle-necking production gains has put on an extended time line to achieve cost savings from falling input costs. We still believe the additional capacity will be needed in 2010 and beyond. Finally, turning to our Specialty Products segment, sales rose 27% year-over-year with the segment sales accounting for 3% of the Company's total net sales for the year. Specialty Products full year gross profit rose to $9.1 million, up 2% for the year.

Turning to other income and expenses, interest expense declined 15% for the quarter and 2% for the year due to lower interest rates, offsetting the effect of higher average debt levels. Higher working capital requirements due to rising raw material costs during 2008 which started to decline during the fourth quarter. The loss associated with our 50% equity stake in the Philippine joint venture totaled $2.3 million versus a loss of $0.4 million a year ago. The primary factors negatively impacting the joint venture's results were significantly higher foreign exchange losses and bad debt provisions, as compared to foreign exchange gains in the prior year. The year-over-year operating loss declined on improved volume and margins.

Moving on to other net income and expense, we recorded a loss of $2.1 million for the quarter and $4.7 million for the year, associated with mutual fund investments held for our deferred compensation plans. Partially offsetting this expense is foreign exchange gains of $0.5 million for the quarter and $1.1 million for the year, attributable to the strengthening of the US dollar. Our effective tax rate for the full year was 32.1%, compared to 36.6% in the prior year. The decline in our tax rate was primarily attributable to the recording in 2007 of UK goodwill impairment for which no tax benefit was realized.

Looking at the balance sheet, consolidated debt as of December 31st, 2008, was $143 million, up from $128 million in the year-ago period. Our total debt to total capitalization at the year end was 40.7%, compared to 38.3% a year ago. Capital expenditures were $14.2 million in the fourth quarter, up 35% from the same quarter last year. This was mainly due to capital associated with the previously discussed maintenance shutdown in the Polymer segment. Full year capital expenditures totaled $49.8 million, in line with our projected range. Looking forward, we expect our 2009 full year capital expenditures to be in the range of $45 million to $50 million.

Turning to cash flows. For the year, Stepan generated total cash from operating activities of $29.1 million, down 38% year-over-year due to higher working capital requirements in 2008 caused by rapidly escalating raw material prices. We expect lower levels of working capital in 2009, due to falling commodity prices. At December 31st, 2008, the Company had trade days sales outstanding of 47.3 days, compared to 46.8 one year earlier with comparable customer payments continuing thus far in 2009. Bad debt provisions were higher in 2008, and we were vigilant on customer credit as the recession worsens.

In terms of returning value to our shareholders, in 2008 Stepan paid out a total of $8.9 million in cash dividends to its common and convertible preferred stockholders. Yesterday, the Board of Directors also authorized the Company to repurchase up to 500,000 shares of its outstanding common stock or the equivalent in Stepan preferred stock. This repurchase authorization replaces 300,000 share authorization approved in 2004 of which the remaining unutilized repurchase authorization of 111,000 shares is cancelled.

Stepan will repurchase shares from time to time for cash in open market or private transactions in accordance with applicable securities and stock exchange rules. The repurchase authorization represents approximately 4.6% of the Company's total shares of common stock outstanding. The timing and amount of repurchases will be determined by the Company's management, based on their evaluation of market conditions and share price.

Turning to 2009, before we open the call up for questions, let me provide some perspective on Stepan's outlook for 2009. Based on our present day expectations around the current global economic slowdown in 2009, we believe we will see an effect on our sales volume, particularly in the Polymer group. As a significant portion of our Surfactant sales are tied to consumer spending on laundry and personal wash products, we feel Stepan remains well-positioned in some attractive and defensive from a recession perspective customer segments. These segments have historically proven more recession-resistant than the broader economy.

Our Surfactant business will continue to focus on profit growth in higher margin segments, innovative product opportunities and cost reduction opportunities. While 2009 appears to be full of uncertainty, we believe it is also full of opportunity. We will continue to stay close to our customers within our core markets while we focus on innovation and cost reduction opportunities. This concludes my prepared remarks. At this time, I would like to turn the call over to questions. Operator, please review the instructions for the question portion of today's call.

Thank you. (Operator Instructions). Our first question comes from the line of George Gasper with Robert Baird. Please proceed with your question.

Good afternoon.

Hi, George.

Question on the biodiesel outlook. In terms of your cost structure, looking forward versus what you experienced in 4Q and last year. And also, what you're dealing with on the sale price side, what do you see the variances are here, looking forward versus the past year?

Are you talking specifically about biodiesel now?

Yes, yes.

Because -- just for everybody to understand, biodiesel is a very small part of our business. We opportunistically took advantage of some assets we had to make the product. We actually made money in the first three quarters last year, based on margin spread coupled with including more tallow-based feed stock. Unfortunately, in the fourth quarter when the world went topsy turvy on crude oil, we were holding higher priced raw material inventories so the fourth quarter pretty much wiped out whatever profits we had had made and then some for the year.

Today, we don't see significant improvement. We see modest improvement in the biodiesel margins, but I would not expect a full year profit on biodiesel. Our priority would be to use those assets preferably for higher value-added products to the extent we can. There may be opportunities on a spot basis to jump in and make higher margins during the year which we would do. But we certainly don't have a long-term view, unless legislation comes out of Washington that would change the picture, that biodiesel margins are going to return to the levels they were at over the prior two or three years.

Okay. All right. And then on the CapEx outlook, you mentioned that you were looking at about a $45 million to $50 million CapEx range for '09 which was pretty similar -- you had close to $50 million for this past year.

Correct.

How do you view -- what are you going to be doing on this CapEx side -- specific projects versus last year and you? It surprises me a little bit that it's that aggressive, considering the economy and everything. Just interested to know what you're planning on doing and how, based on your cash flow projection or my thoughts on cash flow versus what you had this last year, how will -- you'll be increasing your credit financings to accomplish this?

On the last point, no. We certainly hope that we would by the end of the year see lower debt levels, so we would finance this from internal cash from operations and a reduced investment in working capital. Because we are seeing a significant reduction in working capital.

I see.

Due to the falling crude oil and resulting raw material costs. Our plan is to not increase debt during the year, but to fund from within from operations. The CapEx issue as to whether we would hold back if the economy continues to deteriorate, yes, we would try and look at ways to defer and slow down the rate of spend. We're off to what we think is a relatively good start in 2009, so it would be premature for us to hold back on -- base spending that is necessary to really keep our plants in good shape.

The only two expansion opportunities that are in that budget are the approved expansion in Brazil of a neutralizer to expand our product portfolio in Brazil, which is something we've been needing to do for quite some time to penetrate that market. We're pretty excited about the opportunity in Brazil and do not want to delay that neutralizer. Then we also have -- while we have slowed down the German Polyol project, we have not discontinued it. We still believe that in 2010 and '11 at some point, we will definitely need that capacity.

We've slowed down the rate of spend. We've bought long lead time equipment and then we will take a delay in the project to go back and try and reduce the costs of the project. Because certainly steel prices and other inputs for that plant have been falling in price so we think there's an opportunity not only to delay it to conserve cash, but to actually get an all-in cost that will be lower than first projected.

Okay. On the project costs that you're talking about, international -- domestic versus international in the projected CapEx area this year versus last year, what will the variance be?

It's probably running at about the rate of 30% in North America. I'm sorry, 60% in North America, 40% outside; with the outside portion being largely Europe except for the expansion in Brazil.

Okay. And will that -- would that parallel last year's percentage comparisons?

Yes. It's not too dissimilar.

Okay. All right.

Because last year we still were large -- there were no major projects. We completed a winder Georgia fabric softener expansion, but there was no major capacity expansion projects last year.

Okay. Thank you.

Thanks, George.

(Operator Instructions). Our next question comes from the line of [John Bayer] with SKA Financial. Please proceed with your question.

Thank you. You had indicated in your release here that there was some deferrals of orders as people anticipated or companies anticipated a drop -- lower pricing. I'm wondering if you've seen some stabilization there and if their ordering trends have gotten back to what you would say would be quote, unquote, normal.

We've seen a resurgence in volume in January versus the November and December levels. We're cautiously optimistic that, yes, that the falling commodity raw material prices in the fourth quarter that led us to announce price decreases, as did all our competitors, precipitated some movement of volume into January now. What we would hope -- it's a little premature to say what the recession has in store for the balance of the year, but we're pretty optimistic by what we've seen in terms of volumes so far this year.

Are you still seeing the pressures on pricing that are going to push you in the direction of having to lower those offerings again or -- ?

So far, the industry has been relatively disciplined about not letting margins erode at this point. That is certainly one of our number one goals this year because there's probably minimal upside on volume growth this year. We certainly do not expect volume growth and we're cautious that it could be down slightly in 2009. Hanging onto margins is going to be of paramount importance to us this year, as raw materials decline. We would expect that there will be some further declines over the year, but not to the magnitude of what happened after crude oil plummeted from $140 down to the $40 range.

In answering a previous question, you had said you had hoped that your overall debt levels would be down by the end of the year. Do you have any target number there or can you quantify that to some extent?

I think our target would be certainly in the -- at least in the $10 million range of reduction.

Okay.

Hopefully we could beat that, depending on what the year -- what this economy has in store for all of us.

Sure. Right. Also along the lines of debt, you had indicated there was some bad debt issues out there. Are those issues stabilizing also or -- and can you quantify that at all?

In the year, I think our bad debt provision was up about $2 million last year which is significant for us. That's much larger -- we have very low bad debt experience. We had in particular out of that number, there was really three bankruptcies that accounted for a significant part of that increase in the bad debt provision.

That's $2 million total that you have right now?

Increased our provisions last year by and -- but on our overall broad customer base, we're not seeing a significant problem yet. Now, we hope the economy continues to churn along and that our customer's liquidity continues to improve. I think the lower working capital is going to help. It's certainly helping us. I think it's going to help our customers as well.

If they can withstand the recession, hopefully their liquidity is going to continue to improve and we won't see any increased problems. But it's something very high on our watch list. We've got very vigilant credit procedures in place right now to try to minimize that exposure. Historically, our business has had very low bad debt provisions and exposures.

Two other quick questions, then I'll get out of the way. You seeing any pressures on the demand for your energy efficient products? I know that most of the reroofing thing is something that if you get a bad roof, you've got to get it fixed. But are you seeing any slowdown in the demand in that area?

We did in November and December. It's hard to get a firm handle on how much of that was due to customers holding off on reordering until the prices dropped on January 1st, as opposed to their underlying business slowing down. We do slow down normally in the winter months because less of that work occurs in the winter months. Our customers are not indicating that they expect a significant falloff this year in demand. Significant -- I would say maybe up to 10% decline but we're not like the commodity chemical guys that are down 30%, 40%. We're not hearing of those type of expectations. Hopefully, the energy efficiency and the need to replace a roof will hold true this year and continue to drive consumption of our product.

Okay. One last question then I'll get out of the way here. With regards to your oil field projects, I would think that -- given that considerable amount of the oil production in this country is from stripper wells -- those 10 barrels a day and less. There would be a much more greater interest in enhanced oil recovery for these older fields. I'm wondering if the drop in in oil prices has increased your inquiries or interest in that -- given the fact that in so many of these independents are scaling back their exploration budgets and so forth.

It's a mixed result. We have people who -- if they don't have injection wells, as you point out, most of -- a good portion at least in the continental US market is older wells. A lot of those older wells have already gone to water flood technology, meaning they already have injection wells pushing water through their formations. If they have those wells, then the economics of adding Surfactants is probably still attractive.

If they have to make the capital investment in the wells, I think we're seeing less interest in doing that at today's prices of oil. If oil comes back up, there will probably be more active consideration of injection wells. But given the vast number of water floods out there, we still think it's economically viable for people even at today's prices.

Are these pilot projects with the traditional sand reservoir type fields? Or is there any application of your product to either coal bed or some of the shale gas plays.

Yes, we're trying to form formulate for all of those types of fields. The whole reason for forming the joint venture with Nalco was to put together a team with the professional expertise to go in offer the solutions to the various geological formations that somebody is trying to extract more oil out of -- as well as natural gas. There are applications for natural gas fields.

Right. How long are those pilot projects anticipated? Are you looking at three, six, twelve month type or longer?

All of that range. Some people go in and do short tests to see if they can see any difference. Realistically, you probably need a longer three to six-month period to get any high degree of confidence in the results.

I'm sure it depends on the --

And the geology. And now I'm out of my field.

That's part of my background, so -- all right, I'll jump out of the line. Thank you very much.

Okay. Great.

Our next question is a follow-up question from the line of George Gaspar with Robert Baird. Please proceed with your question.

Jim, just pursue a little bit on the pricing side, in terms of your product pricing versus raw material pricing. How do you sense the quarter that you're in here on a relative basis with raw material pricing coming down versus what you're managing to get? If you were to look at that in, say, for the nine months beginning April going forward, do you think there's a decent potential for you to keep a better pricing -- a lesser pricing decline than the raw material pricing decline that may be in the market to you going forward?

We're certainly trying to make sure we protect our margins. If it's a segment of our business where there's a basis, we can justify improving the margins, we're certainly going to try and do that. We feel there's probably more upside, in terms of overall profit improvement in the first half of the year than as the year unfolds. If the economy continues to slide, we'll discipline on pricing -- dissipate and low margins be vulnerable. That's very speculative at this point because we just don't know where this economy's going. But we feel pretty good about where our margins are right now and we hope we can hang on to that for at least the first half of the year.

Okay. Secondly here, on the fabric softener side, as you're looking across the plane this year, is there any increases in your capacity that will take place? International versus domestic,? Is there any specific area that you're concentrating on trying to expand that capacity?

In terms of our -- we were getting very tight on softener capacity. We added a reactor in Winder, Georgia, which in effect loosened up -- freed up capacity in our Matamoros, Mexico plant. Now we do have a little elbow room in Mexico and in the US, because of the shuffling of the production utilization. As far as remaining other capacity, we still are not -- we sill have plenty of room on our Philippine fabric softener reactor for expansion. That's one of the areas we really see an opportunity for improvement in the Philippines, because we don't have a profitable operation there today.

Filling out that softener reactor would go a long way to improving the profitability. As I think I mentioned in the past, the Asian consumption of softener per capita is much lower than in Europe and North America. We still think that's a growing market. We want to sell out that reactor. Before we would consider a further Asian softener reactor, we want to fill out the capacity in the Philippines.

Anything going in Brazil?

No, not yet. This multi-purpose reactor we put in -- completed last year, is really almost sold out and mostly on agriculture and functional products. There certainly may be an opportunity down the road to diversify into softeners.

One last question on acquisition opportunity. Based on the economic fallout and the negative valuation that has come about, do you see any opportunities to make acquisitions that would align you in your field or are you just going to -- ?

We have an active program on to go try and identify opportunities. Because yes, it's very clear to us that multiple -- valuation multiples that had gotten very high two, three years ago, are coming down to a much more reasonable position. Some companies that just flat out have too much debt may be looking to get rid of some product lines. We would be very interested in those opportunities and we intend to pursue them this year.

I see. Okay. All right. Thank you.

Mr. Hurlbutt, there are no further questions at this time. I will now turn the call back to you. Please continue with the presentation or closing remarks.

That concludes my prepared remarks. Thank you all very much for participating today. Bye-bye.

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