Silgan Holdings Inc (SLGN) 2004 Q3 法說會逐字稿

Good day ladies and gentleman and welcome to the Silgan's Third Quarter Holdings Results Conference Call. My name is Liz and I will be your coordinator for today. [Operator Instructions]

Your speakers for today's conference are Phil Silver and Greg Horrigan, Co-Chairman and Co-CEOs, Tony Allott, President, Bob Lewis, CFO and Malcolm Miller, Treasurer. I would now like to turn the conference over to your host for today's presentation, Mr. Malcolm Miller, Treasurer. Please proceed sir.

Thank you Liz. Before we begin the call today we'd like to make it clear that certain statements made today on this conference call may be forward-looking statements. These forward-looking statements are made based upon management's expectations and beliefs concerning future events impacting the company and, therefore, involve a number of uncertainties and risks. Including, but not limited to, those described in the company's annual report on form 10K for 2003, and other filings with the Securities and Exchange Commission.

Therefore, the actual results of operations or financial condition of a company could differ materially from those expressed or implied in the forward-looking statements. With that, let me turn it over to Tony.

Thanks Malcolm and welcome everyone to Silgan Holdings Third Quarter Earnings Conference Call. Our agenda for the call today is to provide a brief summary of the quarter, to review the financial performance for the quarter and nine months, and then to make a few comments about our outlook for the fourth quarter. After that Phil, Greg, Bob and I would be pleased to take any questions.

As you have seen by now, from the press release of this morning, Silgan had another solid quarter earning $2.06 per diluted share, which is at the high end of our range and exceeded the results in the third quarter of the prior year. On a YTD basis, we've added earnings of $3.64 per diluted share, as compared to $2.42 for the same period of 2003.

The key drivers for the quarter and nine months have been the successful integration and cost reduction programs of the closures business, which was acquired early last year, including the shutdown of the Chicago facility and the integration of many of the administrative functions of that business into our metal container business.

Secondly, driving the results were the positive performance and results from capital investments that we made over the past several years to increase the sales of value-added product, such as our quick top convenience end.

And moving on, the significant reduction in interest expense that we experience through the refinancing that we did last year and the debt reduction program. In addition, you should note that in 2003 the numbers did include rationalization charges of $7.7m, or $0.25 a share for both the quarter and in the nine month period.

Before we get into kind of the specifics on the quarter, let me try to preempt any questions regarding steel costs on canned pricing. During the quarter we did begin to experience increases in steel costs. What's important to remember, however, is that 90% of our food can business is under multi-year contracts that provide for the pass through of steel increases. Therefore, we did increase prices during the quarter sufficient to pass on these increases to customers, to the contract customers as well as to the non-contract customers.

While we have heard talk in the market that steel costs could increase in 2005, we've received nothing specific from our suppliers. What continues to remain important, however, is that we do have the ability and do expect to pass through any increases that we may experience as we look forward. While I'm sure there are probably other questions that people want to ask on steel, this is really all we intend to say on the steel pricing matter.

With that said, let me-- one of the important changes for the company during the quarter was the addition of Bob Lewis as our new CFO. For those of you who have not had a chance to meet Bob, he joined Silgan with an excellent background as a hands-on CFO with publicly traded manufacturing companies. He shares our focus of shareholder value creation, and we're confident that Bob will make many contributions at Silgan. With that I want to turn it over to Bob to review the financial results in a little bit more detail.

Thanks Tony. Good morning everyone. As you know the third quarter is seasonally our largest quarter, and given the magnitude of this quarter to the full year numbers, we're very pleased with our strong year over year performance.

Net income for the quarter was $38.4m, or $2.06 per diluted share, compared to third quarter 2003 net income of $26.8m, or $1.45 per diluted share. This represents about a 43.3% increase in net income versus the prior year.

Our net sales for the quarter were up $23.8m, or 3.1%, to $784.8m. This increase is primarily due to higher average selling prices as a result of the pass through of higher raw material costs in both the metal food containers business, as well as the plastic containers business.

Operating income grew 16.1%, or $10.7m to $77.1m for the third quarter of 2004. The year over year comparison that benefited due to the inclusion of rationalization charges of $7.7m in 2003, and better margins in the metal container business, resulting from improved product mix and strong performance at Silgan Closures. These benefits were partly offset by declines in the plastic container business due to last year's price concessions and a less favorable mix of product sold.

Third quarter 2004 interest expense was $8m lower than the same quarter a year ago. This reduction in interest expense is driven by a lower average outstanding borrowings, and a lower cost of borrowing resulting from our recent financing activity and pre-cash flow generation.

For those of you at cash liquidity metrics, depreciation and amortization for the quarter was $30.9m versus $30.1m in the third quarter of '03. On a YTD basis depreciation and amortization on '04 was $90.7m compared to $86.2m in 2003.

CAPEX for the third quarter of 2004 totaled $26.3m compared with $24.1m in the prior year quarter. Year to date CAPEX totaled $72.8m, compared to $79.1m in '03. Included in this quarter is $5.5m relating to the two tube manufacturing lines with parts of Amcor. Additionally, we paid our second quarterly dividend of $0.15 per share in September. The total cash cost of this dividend was $2.8m.

I would like to now provide some specifics regarding the performance of each of our two business franchises. Third quarter sales in the metal food container business increased 3.4% versus the prior year quarter to $642.7m. The pass through of higher raw material costs was the primary driver here. Lines were flat for the quarter as we experienced a reasonably good pack in both the third quarter of '04 and the third quarter of '03.

Income from operations in the third quarter of 2004 was $69.2m, up $5.7m for the same quarter in 2003. Operating margins also increased over the same period from 10.2% to 10.8%. The benefits resulting from the rationalization and integration of closures, as well as improved product mix, were partially offset by higher manufacturing costs.

Sales of $142.1m in the plastic container business were up $2.8m, or 2% in the third quarter of 2004. The top line benefited from the pass through of higher resin costs, however, the price concessions made late last year resulted in unfavorable comparisons on a year over year basis. That is due to the fact that our product mix is less favorable in '04 due to weaker demand by certain customers in the personal care market.

Income from operations in the plastic container business was $9.8m, up $5.5m from the third quarter of '03. However, 2003 included a rationalization charge of $7.1m. In addition, 2004 operating income included the negative impact of prior year pricing activity, a less favorable sales mix and higher manufacturing costs.

As indicated in previous guidance, we believe that using our free cash flow to pay down debt will enable us to optimize our capital structure. To this end we will remain committed to our debt reduction program and expect a total pay down of between $200m and $300m through 2006. However, we expect to be ahead of our initial goal for 2004, and have increased our guidance indicating a debt reduction of approximately $100m this year.

As indicated in the press release, we have confirmed our full year earnings outlook by heightening the range of net income per diluted share from $4.06 to $4.26. It's important to [note] that this range includes the rationalization charges of $0.04 previously recorded in the year.

Accordingly, net income guidance for the fourth quarter of 2004, is a range of $0.42 to $0.62 per diluted share. We expect reduced fourth quarter pack sales as compared to the prior year from our release from pack customers in the West. As for '05, we are currently in the process of developing our operating plan, and expect to provide guidance for '05 at the time we release our year-end earnings. At this point we anticipate modest improvements in both the metal food container and the plastic container businesses.

That concludes our prepared comments and we can open it up for questions and answers. Liz would you please provide the directions for a question and answer session.

[operator instructions]

And your first question comes from the line of Edings Thibault of Morgan Stanley. Please go ahead.

Thank you very much and good morning gentleman.

Good morning Edings.

Good morning Edings.

A question on some of these product mixes. Perhaps if we could get some more detail, if you don't mind, on both the metal food container side, as well as on the plastic container side. Was the driver on the metal side the easy open ends or was their something else occurring there?

Well we indicated in our release headings that, this is Greg Horrigan by the way.

Oh, hey Greg.

Morning. We indicated that the driver there in terms of the revenue change year on year was primarily metal price. But the mix, in fact, was favorable. We continued to sell more easy open ends year on year, you know, this year than we did last year, and we expect that trend to continue well into 2005.

Edings this is Phil. On the plastic side the mix went against us primarily because of a less strong quarter, and for that matter YTD, in the personal care market versus the other markets we serve. So the mix, I would've guessed, was because of that. That was related to specific customers and their year-to-year demand.

Is there a way to maybe, you know, sort of by container to sort of shut that? I mean, is there fewer shampoo bottles, more of another kind of bottle there? Because most of that business is personal care, am I correct so?

Yes, thank you. That'd be a good way to look at it. Fewer shampoo bottles and more bottles say for household chemicals.

Okay.

That's just an example.

W. Edings Thibault. Okay. And, you know, also if you wouldn't mind chatting on the acquisition of the Amcor tube lines there. Can you talk about the potential revenue impact of that in the fourth quarter or, you know, what you think the revenue run rates were in that business for the full year. Whether or not that's accretive to margins, dilative to margins, how should we think about the impact of that purchase?

First of all it's a plant we bought from Amcor that has, it's a start up plant, a new plant to enter the business, the tube business in the United States. They had an operation in Canada and this was for entering the United States. We found the opportunity to acquire that plant, because they had changed their strategy and decided not to participate in market, at a cost well below replacement cost on the equipment.

The run rate on revenues in the fourth quarter will be probably well below what the run rate next year will be, as we sort out the commercial side of this. We have some frustrated demand, in other words, we need capacity in our basic business and we'll be moving business into this. Looking into next year we think it could add something like $7m, maybe $6m, $7m of revenue. It'll be accretive we believe, but it's not going to be significant at that level. It increases our capacity to go to the market by about 20% to 25%.

Okay, and is that sort of $6m to $7m range would that, I think you mentioned perhaps, you know, 25% to 30% and the 30% increase I think was the number on the press release in the tube manufacturing capacity. You said do you have the business? Do you expect to be able to fill that capacity or is this going to be--

No, we think we have the business. We need the capacity so we think it will be filled.

But that's a good question, Ed. This was more, you know, I think of it first of all asset purchase and an equipment purchase as much as anything. We'll fill the sales into the business as we would in any other kind of equipment purchase.

Yeah, this is a bargain equipment purchase on our part. We needed the capacity and this was the best way to get it.

Right, and it sounds like, you know, there's a pretty strong backlog. If you could, I mean, it's a fairly large capacity increase, you know.

It came, they had business associated these assets that was significant to begin with. So it's not like we have to pull them up entirely, its business is coming with it.

Okay, great. Thanks very much.

And your next question comes from the line of Amanda Tepper of JP Morgan. Please go ahead ma'am.

Good morning.

Good morning Amanda.

Morning Amanda.

You said at the end of your script that when you give guidance you will be looking in '05 for a modest improvement in your two main business lines. Is that more on the margin side, or on the revenue side, or some combination of the two?

I would, you know, Amanda, I would, first of all we're in, as we said, we're kind of in the process so I don't think we can shed a lot of light for you. As we've talked to you about for a while, a lot of what we talked about has been kind of on the margin side. Particularly on the side of can closures, you know, that's much more kind of a margin driven as we look [inaudible] business, etcetera. So on the plastic side, you know, it'll be probably some of both and it'll depend on, you know, the kind of decisions we make about how move forward in that business to grow, as [inaudible] as well.

Okay, and then on the plastic side, you mentioned the negative mix and it just sounds like it's a tougher business certainly than cans, and I'm wondering a couple of things. First, on your price give up that you had to do last year, when do you anniversary that, and when and how do you think you can work to get that back, even on top of the accelerating resin prices? Or is that pushing customers perhaps away from using plastics on the margin because the resins are pass-through and they've gone up so much?

Amanda, this is Phil. I think the impacts on a year-to-year basis that are important or significant are behind us. The fourth quarter on a year-to-year comparison wouldn't have nearly the impacts we saw in the third quarter, in terms of the price discount and the impacts of competitive activity. The business is certainly going through some challenging times now, especially competitive activity related and it's been there for three or four years.

As we look at our YTD and performance for the third quarter, we had modest volume growth and we had some margin slippage due to the mix we talked about earlier, and competitive discounts we just talked about, and then of course there's the affect of resin inflation on your percentage margin, which is kind of the accident of arithmetic. But also third quarter YTD we've had some disappointing manufacturing performance. We didn't expect-- we never expected, and we didn't expect it in this case.

The near term outlook I think will continue to be a modest volume growth in this business because of the strategy we're following. We think there's going to be some continuing resin inflation, and we think we can and will turn around the manufacturing difficulty we have in the very near term, that's basically what we do. And I believe that we're also going to see stabilizing margins, partly because of the manufacturing turnaround we're talking about.

As you know, longer term, as we face the challenges in the market here, we have taken a strategy focusing on returns on capital over growth. We have accentuated and held our focus on value added segments of the market, as opposed to more commodity segments. And we continue to focus on improving our manufacturing productivity as a longer-term strategy and it speaks to this point that we've had in the last few months. And also, taking a very disciplined approach on the capital we put into this business.

We believe it's important to be patient and disciplined in this market environment, and having said that, we enjoy good returns on our capital in this market, in this investment, and we have a very strong market franchise. So we feel good about our investment here. I'd feel better if we hadn't of had what's been going on the last three or four years, but I'd like to make the point that after that three year period that we've been going through, we have a strong position and we're getting good returns on this investment.

Okay, and do you think the environment may start to get better now that Graham just did that big asset purchase from Owens and Amcor is talking about rationalizing their capacity?

I sure hope.

Do you think it's starting to turn?

I sure hope so. We believe that the market would benefit by a capacity rationalization. In fact, as you know, we did that ourselves last year closing a couple of plants. I think it would be a good thing for the market. It gets marginal capacity out of the market. I don't know what Graham may do. We have a lot of respect for their management, they're savvy people, and we're very interested in what they do and it could be helpful to us. But until we know for sure they may do something that we would see as not helpful. We just don't know.

Okay, great. Thank you very much.

Your next question comes from the line of George Staphos of Banc of America Securities.

Good morning.

Good morning George.

Hey, I just want to then piggyback on Amanda's question. Then just to conclude then you will have anniversaried, do you think the profit will hit by the fourth quarter in plastics, or is it really some time in '05?

Well I think the fourth; the third quarter was where we had a lot of impact because of the competitive activity. We shut a plant down at the end of last year that threw the third quarter because it was selling at prices before the competitive level, which we wouldn't need, that was pretty profitable. That plant simply wasn't here this year and had an impact. That will not be the case in the fourth quarter and just the normal anniversary dates of these price concessions, as we see it, are pretty well petering out.

Gotcha.

I just hope that I don't have to say that we've got more to talk about later, but there's nothing on the horizon that is [inaudible] all that we've experienced.

I appreciate that Philip. Now, I thought I heard Bob talk about some manufacturing variances in food. Could you give us a little bit of flavor into what's going on there and if I heard that right?

Yeah, and I think the big ones that are kind of somewhat obvious I guess are going to be in the energy side. Obviously you're paying higher energy costs right now, and then freight, which is also impacted by cost of diesel and fuel. So those are kind of the big ones. So, you know3/4

Tony, can you give us some flavor, you know, quantify that somehow or another in terms of what it meant in your numbers?

Well, I don't have the exact number for you. We typically don't get into that level. But what I can tell you is that if you talk about kind of energy cost to the can business, let's say, can and closures business, it runs about 2% to 3% of our total cost structure.

Right.

So and you could probably go off and figure out what kind of inflation has been in those categories. And that ignores obviously the freight side of it. The freight surcharges are out there enough. So you get a hefty piece there as well.

Okay, that's helpful. Remind me, is there any significant amount of business that's intra segment? In other words, you know, plastic sales to metal or metal sales back to the plastic business or are they virtually separate?

Philip Silver They're virtually separate. Virtually nothing.

Okay, good. Let's see if there's anything I want to ask in this round. No, that's it. I'll turn it over. Thanks.

Thanks George.

Your next question comes from the line of Robert Silverman of Cardinal Capital. Please go head sir.

Good morning.

Good morning.

There seem to be some remarks at the end there that talked about a reduced pack from customers in the West, and I was wondering if you could expand on those comments.

Yeah, this is Greg Horrigan again. We've had a pack that through the first nine months taken all together, mixing the fruits, tomato and vegetables, you know, wherever those packs occur in the Northwest, California, Midwest, whatever. Taken all together has been flattish. We had a very strong pack last year and we had a good pack this year but some of the pack that we experienced on the West Coast, particularly, was done earlier this year than we experienced it last year. So as a consequence we will be down on the fourth quarter year on year in olives, tomatoes and some green beans and corn up in the Northwest. And a few weeks ago we had been hopeful that there would be a meaningful carryover of the corn pack in the upper Midwest but we got a sharp freeze in Minnesota, right after the close of the quarter, just in early October and that pretty well cut that pack off. So for the year we will have a good year, a decent year. We had a very strong year last year. It will probably net to be something less than that, all in.

Okay, and then it looks like you'll spend kind of in excess of $100m or so in capital expenditures this year. Is the plan to keep it at that absolute level going forward the next couple of years or do you think you'll be able to ramp that up or down?

Well, first of all, you know, we said a little over $100m so far and we'll kind of see how that closes out on the year. But the, you know, our view is that it really depends to a large extend on kind of what happens on the convenience end as you go forward. If there's continued conversion then we would continue to spend capital obviously to make that conversion. Were that not to happen then I think you would see some decline in the capital over the next couple years from there.

And that swing, Tony, it sounds like you answered that, could be $10m to $20m one way or the other, of that magnitude?

Yeah.

Okay, great. Thank you so much gentlemen.

As a reminder, ladies and gentleman, it is star followed by one to ask a question. And your next question comes from the line of Craig Hoagland of Anderson, Hoagland and Company. Please go ahead.

Good morning. I was wondering if the lower margins in plastics had- how that was changing or if it's changing your thinking about investing cash flow in plastics acquisitions going forward? And is that related to the increase in the debt reduction target for the year? Or just an update on your thinking about-

Well, Craig, this is Phil Silver, I think certainly the opportunities that we would find attractive are influenced by what's been going on in the market. So I think the field is narrower that would be likely. We think there's still going to be opportunities in the segments of the market where what we do is well valued and where there's strategic fit in the near term. But I think you're right, I think there has been some narrowing of that field, at least in the near term. I think longer term the market could go through some additional consolidation and that would change. But I don't think that's going to happen in the near term.

I don't believe that really has an impact on our cash debt pay down forecast. We have said that we're leaving room for compelling or strategic acquisitions and that would be the case as related to plastics [inaudible]. So I think you're right that it has impacted our possibilities but it hasn't impacted our guidance on debt pay down.

Craig, let me just follow out of that, this is Greg Horrigan. We spent a long time; we go out and talk to the investment community and how we think about the market and the opportunities and so on. We made the case that organic growth, for example, has been illusory as an opportunity area for investment in our segment, and we've sighted the example of the product back in rigid packaging that has grown the most over the last 20 years or so, has been the carbonated soft drink PET package. And it has been very difficult in that that relatively high-growth segment to get a decent return on a capital investment as a converter because you've just been competing with the better capital coming in, and the equipment suppliers constantly coming up with the next generation of equipment. So it makes it difficult to win.

By comparison, segments that sometimes can appear be troubled ultimately provide real opportunities because it slows down the pace of capital investment and the general attractiveness for all the participants who might want to play in it. So rather than being a problem I would speculate that this could well be and increase the opportunities that we may be looking at for sensible, good return kind of investments, where we could put capital employ it in acquisitions and segments of the plastic container business going forward, that maybe three or four years ago would've been more difficult to do because they were deemed to be more attractive. So, you know, what [inaudible] is not always the most attractive thing here.

Right. That's very helpful. Thanks.

Your next question comes from the line of Edings Thibault of Morgan Stanley. Please go ahead.

Thanks and a quick follow-up on the packaging. Would it be possible to quantify some of these manufacturing inefficiencies on the plastics side? What should we look for sort of above and beyond as you start to fix those into '04, into '05, excuse me?

I think, Edings, the best way to look at that, had they not been there in the third quarter, the margins would quarter to quarter would have been pretty comparable. So they're significant enough that I'm, you know, that's why I'm mentioning it obviously. And I think that correcting them is the path to the stabilization of margins that I was just talking to, and obviously we hope that a turn around in the margins, but at least certainly stabilize the margins.

Got it. And changing tack a little, as you think about the overall cash flow uses for the company, this is the first year you've had a dividend. You remain committed to the debt pay down targets. Is your sense on the dividend that that's something you think you can- or you plan on increasing in sort of a, on a, probably on a measured pace? But how should we think about that? Is the dividend solid or fixed until you accomplish your debt pay down or are you going to constantly look to potentially raising that a little bit over the coming years?

I think first dividend I think it should be considered as a set piece in the company's capital structure cash flow. The level of it, it will be a function of how, as we look forward, we're comfortable on the capital structure, including the debt levels. I'd say at this point we're pretty comfortable about achieving the goals we've got forward, so we'll be reviewing the dividend level with the board in the future. But consider it as a piece of the cash flow of the company that's going to the shareholders and a stable, but perhaps increasing in line with our earnings is not unreasonable..

Good enough. Thanks very much. Good luck gentlemen.

Thank you.

And your final question is a follow up from George Staphos of Banc of America Securities. Please go ahead.

Thanks. Hey guys.

George.

You know, every year that we've covered you, you know, there's always been some few non-metal threat to your PN market in the food can business. And either for cost or for other reasons they'll take some share perhaps, maybe it'll take away from the incremental growth, but the can business hangs in there pretty well. I mean, you've said as much the [inaudible] that is worth that.

There's some interesting new ideas being tried this year by some of the food companies in the Upper Midwest, you know, the [inaudible]. What's your thought regarding that, whether it's a threat or not to the food can business down the road. Thanks, guys.

Well, George, this is Greg, let me respond to your question here. The threat of substitution has been a factor here, you know, from virtually the time before we got into the business.

Right.

And in fact, in many respects as we go all the way back, we've said that it gave rise when the chairman at the time of Campbell's Soup came on and declared the can was dead back in the mid-80's. The appetite for self-manufacture investment in metal containers diminished quite a lot and I think all the marketers, who were also backward-integrated thought about getting and maybe getting, you know, trying to get out ahead of the sheriff a little bit. And that was about the time we started up our business and gave rise to many of the opportunities that we had for acquisitions.

So this is an issue that's just been there forever, and it's nipped away here and there. I don't see the Recart has anything different save for, and this is just, you know, I'll just replying personally that unlike, say, the example of plastics for juice, where kids are handling it and it's easier, you know, we take off the closure differently than perhaps opening up the can with a church key or something like that, you know, a 46 ounce juice can. I think that the can that Recart is coming after is a pretty formidable competitor.

Right.

In terms of the ability to provide shelf life and security and comfort to a consuming public. You know, they've got a proved product that they want to be shelf stable and secure and impervious from any tampering or anything. So that you look at Recart, they ballyhoo some advantages and, you know, the proof is going to be in the pudding here. We'll see how it goes over time. But I kind of like our side of this particular threat, but we'll see.

Right, and it's not as if you folks have been stuck in the cement in terms of improving you're offering into that market too-

Right.

-in terms of convenience.

Exactly, the consumer's desire for the convenience end has been a real open-end pull here and we continue to be the beneficiaries of that.

Well, perhaps if you gave away some of the equipment too, you'd--

Yeah, there's no question that there is some incentives and somebody trying to create a new market opportunity; we understand that. But ultimately, you know, age-old test here, you have to put it down and consumers have to try it and like it or not and see where it goes.

All right guys, thanks. Good luck the rest of the year.

Thank you George.

Thanks George.

Ladies and gentlemen that concludes your conference call for today. We thank you for your participation and have a great day.