Unifi Inc (UFI) 2012 Q2 法說會逐字稿

Good morning. My name is Therese and I will be your conference operator today. At this time, I would like to welcome everyone to the Unifi second-quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

Thank you. I would now like to turn the call over to Ron Smith, CFO. You may begin.

Thanks, operator, and good morning, everyone. Joining me for the call today is Bill Jasper, our Chief Executive Officer, and Roger Berrier, our President and Chief Operating Officer.

During this call, we will be referencing a webcast presentation that can be found at Unifi.com. The presentation can be accessed by clicking the second-quarter conference call link found on our home page.

Before we begin, I need to first advise you that certain statements included herein may be forward-looking statements within the meaning of federal securities laws. Management cautions that these statements are based on current expectations, estimates, and our projections about the markets in which the Company operates.

Therefore, these statements are not guarantees of future performance and involve certain risks that are difficult to predict. Actual outcomes and results may differ materially from what is expressed, forecasted, or implied by these statements. I direct you to the disclosures filed with the SEC and our Form 10-Qs and 10-Ks regarding various risk factors that may impact these results.

Also, please be advised that certain non-GAAP financial measures, such as adjusted EBITDA, will be discussed on this call and a non-GAAP reconciliation can be found in the schedules to the webcast presentation.

Before we begin the financial details for the quarter, I would like to turn the call over to Roger, who will provide you with an overview of the markets and the raw material trends.

Thanks, Ron. The Company's diverse business means that we are tracking conditions in multiple market segments. Apparel and hosiery represent approximately 48% and 17% of our domestic revenue, respectively, and are segments that compete heavily with imports. Furnishings account for approximately 15% of our domestic revenue, and although this segment has been hit hard by the crisis in the housing market, retail inventory days in this segment are just now beginning to return to prerecession levels.

The automotive and industrial segments represent 5% and 12% of our revenue, respectively, and these segments are more defensible against imports due to quality, specifications, and the just-in-time delivery requirements.

Retail sales of apparel in the US were up 4.8% in the December quarter compared to the prior-year quarter, and just over 6% for the 2011 calendar year. These increases in retail sales dollars continued to be largely driven by price inflation rather than real growth in units. And we estimate that unit sales at retail for the year were flat to only a slight decline.

Although the overall holiday apparel retail season was good, it was not as strong as expected. Retail, wholesale, and producer inventory days all decreased by one day in the December quarter compared to the September quarter. And while that is a step in the right direction, it is not quite the pace of decline that we would have anticipated resulting from the holidays.

We do expect additional supply chain inventory destocking to take place in the March quarter, especially if we get some colder weather, which would help retailers move their winter apparel and make room for their spring merchandise.

The decision we made to adjust production in the December quarter to levels lower than our sales rate helped to reduce the Company's inventory levels by nearly $22 million and has aligned our inventory with the current business environment. Looking forward, we expect to see improving volume as we move through the second half of the fiscal year 2012, as market demand continues to improve and as inventory throughout the apparel supply chains returns to more normal levels.

Retail sales of home furnishings increased 4.8% in the December quarter compared to the prior-year quarter and grew by 2% for the calendar year based on a slight rebound in the housing market. December figures for single-family housing starts increased 4% from November and are nearly 12% higher than December 2010 figures. Building permits for single-family homes in December were flat versus a year ago, but showed an increase of 2% compared to November.

An additional positive trend that we are seeing in the home furnishings segment is the continued decline in inventory days, which are now at 109 days compared to 115 days at the end of the December 2010 quarter.

Calendar-year 2011 sales of autos increased by 9% compared to the prior year, and production increased by 10.5%. The recent announcement by Ford to introduce the use of REPREVE-branded yarn in seats fabric for the Focus Electric is helping build awareness for the REPREVE brand among consumers. Although the program brings relatively modest volume to the REPREVE product family, we are excited about this development, and believe that Ford has confirmed the value we see in continuing to support REPREVE as one of our core premium value-added products. We also expect to grow into other Ford vehicles and other car manufacturers over the next several years.

Recent bottle-collection events at the Auto Show in Detroit and the Consumer Electronics Show in Las Vegas introduced thousands of consumers to the REPREVE brand and engaged them with the brand's positioning.

Our premium value-added products represent approximately 18% of our consolidated sales volume, and REPREVE continues to grow at a faster pace than other PVA products. Our REPREVE recycling center, which was built with growth in mind, is currently running at 65% capacity utilization, leaving us with plenty of reserve capacity for the new programs that we believe will come online in 2012 and 2013. We remain committed to being the global leader in recycled polyester, and we are very encouraged by the size and the scope of the development programs that we are working on with our partners that incorporate REPREVE.

Turning to our global business, we are continuing to work through the volume and conversion margin issues in Brazil caused by the strengthening of the Brazilian real over the summer and higher-priced raw materials in the past few quarters, which have made imports of competing fibers, fabric, and finished garments more competitively priced. These imports had a negative impact on our sales volumes in the September and December quarter. The Brazilian real weakened in November and December and raw material pricing started to be stabilized, and we would expect to see some recovery in our results in the second half of fiscal 2012 if these trends continue.

In North America, which includes Central America, regional share of synthetic apparel consumed in the US has remained steady at approximately 18% over the past three years, and we plan to continue our commitment to Central America with an increase in our texturing capacity there.

Our business and volumes in China have also been impacted negatively by the inventory destocking across the supply chains. However, we continue to remain encouraged by our underlying business in China and our PVA strategy in this region and expect the second half of the fiscal year to be better than the first half as we are starting to receive more orders for February and March delivery.

Before I turn the call over to Ron, I would like to talk about polyester raw material pricing. The PX supply issues that drove polyester raw material pricing up in the September 2011 quarter continued to impact pricing in October. Since then, raw material pricing decreased in November and December; however, the industry experts predict raw material prices to gradually increase again during February and March.

In addition to the margin pressures caused by rising raw material pricing, the wider-than-normal raw material pricing gap between US and Asia during the second half of the calendar 2011 resulted in increases of imported polyester textured yarn, which led the Company to exit certain commodity business at the low end of our product offering.

The Company believes it will be able to recapture lost margins in the second half of the fiscal year by aligning pricing with the current predicted raw materials in the March quarter, and that we will regain volumes as the US-Asia pricing gap returns to more historic levels.

With that as a backdrop, I will turn the call back over to Ron.

Thanks, Roger. I will now begin the review of our preliminary financial results for the December 2011 quarter, which began on page 3 of the presentation, with the volume and pricing highlights. As Roger noted earlier, volumes remained soft versus the September quarter and are down 9% on a consolidated basis as a result of lower demand in the US apparel supply chain during the quarter, import competition in the Brazilian textile market, and a higher-than-normal US-Asia raw material gap, which impacted a portion of the Company's low-end commodity business.

The quarter-over-prior-year-quarter volume decreases were offset by a combination of increased pricing that was primarily related to higher raw materials costs that Roger spoke about earlier and mix enrichment in certain segments, as PVA products became a higher percentage of our sales mix. The combined effect of each of these factors resulted in a quarter-over-prior-year-quarter increase of $5 million in net sales, as shown on page 4 of the presentation.

Other income statement highlights include the Company's reporting a net loss of $7.6 million, or $0.38 per share, for the December quarter, compared to net income of $5.4 million, or $0.27 per share, for the prior-year quarter.

Gross margin in the December quarter declined by 550 basis points as a result of lower sales volume and the following items. Higher raw material prices resulted in lower conversion margins in the December quarter, as higher-priced inventory from September and October moved through our operations. Lower capacity utilization as a result of our decision to reduce inventory levels further starting in September and continuing through the December quarter drove (technical difficulty) costs higher. And internationally, inflation pressure increased manufacturing costs compared to the prior year.

These negative items were partially offset by year-over-year improvements in SG&A expense and interest expense, as we continue to realize the benefits of our deleveraging strategy and the retirement of $55 million of our 11.5% Senior Secured Notes since June 30, 2010.

During the quarter, results were also negatively impacted by a $3.8 million decline in the Company's share of earnings in Parkdale America, which I will discuss when we get to the equity affiliates slide; and an impairment charge related to the carrying value of the Company's investment in REPREVE Renewables.

In October, the Company purchased an additional 20% membership interest in REPREVE Renewables. This additional membership interest provides the Company with a 60% controlling interest in REPREVE Renewables, and going forward, the Company will no longer report the results of REPREVE Renewables in the equity affiliates section. Starting this quarter, the REPREVE Renewable results will be included in our consolidated results, and a non-controlling minority interest will be shown separately to reflect the impact of the other 40% membership interest.

Based on the implied value from the October purchase of the additional 20% interest, the Company recorded a $3.7 million impairment charge to reduce the carrying value of its previous investment in REPREVE Renewables. Despite this non-cash charge, based on the implied value of the latest purchase, the Company remains optimistic about the progress of the venture and continues to make progress in the commercialization of Freedom Giant Miscanthus. We have developed proprietary processes related to the variety and are excited about the prospects of expanding our foundation stock during the 2012 planning season.

Turning to the income statement, highlights for the first half of the fiscal 2012 year are on page 5. Net sales increased $892,000, or less the 1%, to $338 million in the first half of the fiscal 2012 compared to a year-ago net sales of $337 million. The $22.9 million swing in net income is primarily attributable to the $18.3 million decline in gross profit, which was driven by raw material pricing and unabsorbed variances due to lower production volumes, and an $8.6 million decline in the earnings associated with the Company's share of Parkdale America. These declines were offset by a total of $2.8 million in improvements to SGA expenses and net interest expense.

Turning to our working capital highlights on page 6, our investment in adjusted working capital decreased by $14.4 million in the December quarter, based primarily on the $21.8 million reduction in inventory that we made in the quarter, which was a result of lower raw material prices and the reduction in unit volumes discussed earlier. This decrease in accounts receivable and accounts payable during the December quarter were primarily related to the combined impact of our working capital reduction programs during the quarter and the holiday shutdown.

Looking forward, we expect the impact of working capital on our cash balances to be neutral for the second half of the fiscal year. We expect our receivables and payables to return to more a normalized level as our production levels return, and we expect to hold inventories at or below the current levels.

Turning to our balance sheet highlights on slide 7, as of December 25, cash on hand was $24.7 million, an increase of $5 million from our balance as of September 25. Long-term debt consisted of $124 million of 11.5% Senior Secured Notes due May 2014 and $35 million under our revolving credit facility.

Total liquidity, defined as cash on hand plus net availability under our revolving credit facility, was $69 million as of the end of the December quarter. Going forward, we expect to continue our deleveraging strategy and use excess operating cash flow and availability under our revolving credit facility to continue redeeming additional amounts of our Senior Secured notes, with our next redemption likely occurring in May 2012.

Turning to our equity affiliates highlights on page 8, the Company recorded net earnings of $844,000 from our equity affiliate partners, a decline of just over $4 million from the prior-year quarter. The primary driver of this decline is a $3.8 million decrease in our earnings from Parkdale America, who's dealing with similar issues as our domestic business. Volume has been off due to the impacts of the inventory destocking occurring across the supply chain and higher-priced cotton is putting pressure on margins.

Now that cotton pricing has reduced significantly, although not back to normal levels, Parkdale America's volumes are expected to improve and we are expecting a significant reduction in their investment in working capital over the next six to 12 months.

Turning to page 9, the Company is reporting adjusted EBITDA of $7.3 million for the December quarter, which reflects the negative impacts of market softness, lower capacity utilization, and higher-price raw materials that we have been discussing. Adjusted EBITDA for the first half of the fiscal year is $15.5 million, an $18.7 million decrease from the prior year.

Now before I turn the call back over to Bill, I would like to provide a brief update on some key dates for the March quarter. We expect to file our 10-Q for the December quarter tomorrow, February 3, and our quiet period for the March quarter will begin on March 23 and extend through our earnings release conference call, which is currently scheduled for Thursday, April 26.

With that, I would like to turn the call back over to Bill.

Thanks, Ron. Well, first, the December quarter was the first quarter reporting a loss in over two years, and that's certainly disappointing. Factors which negatively impacted our September quarter, which we discussed on our last call, continued to affect our results in this December quarter.

Raw materials pricing hit historic highs in October before beginning to abate. The apparel supply chain continued destocking of high inventories, resulting in demand below retail sales. A higher-than-normal US-to-Asia polymer pricing gap negatively impacted volumes of the more commodity portion of our business. And an Asian import surge of fabric and finished apparel into Brazil this past summer, which was driven by a temporary strengthening of the real, slowed the domestic textile industry there.

Our business was further impacted by our producing much less product than we sold as we reduced our inventories based on improvements made through lean manufacturing. This negatively impacted our manufacturing costs last quarter.

Despite these negative factors impacting our business, the Company made significant improvements to its balance sheet in the December quarter, including increasing cash by $5 million, improving adjusted working capital by over $14 million, and reducing net debt by nearly $10 million.

Looking ahead, I am encouraged by signs that point to a recovery for the Company in the second half of fiscal 2012. Although we would characterize the holiday selling season at retail as good, but not great, current volumes and forward-looking orders for the Company have improved and we anticipate higher sales volumes into the foreseeable future. Couple that with production being matched to sales volumes now that our inventories are at more efficient levels, we are seeing significantly improved capacity utilization, which should improve our cost position.

The historic increases in raw materials did reverse themselves somewhat in November-December, and this decline in raw materials pricing is anticipated to allow us to recover some lost margin in the March and June quarters.

I'm also encouraged by improving trends in Brazil. As higher-priced inventory works through our pipeline, we expect to recapture lost conversion margin there. The weakening of the real over the last few months should help make domestic textile market in Brazil more competitive with imports, which should result in improved volumes and performance in the second half of the fiscal year.

In the North America region, synthetic apparel imports into the US from NAFTA and CAFTA maintained share at about 18% of the US apparel consumption for the third year in a row, which provides further evidence of a stabilization of regional share. This stabilization is primarily a result of the developing textile infrastructure in Central America, and our operation there continues to meet expectations, to the point where we are increasing our texturing capacity by 50% to meet the increased demand we are seeing there.

Demand of our PVA products in both the US and China is growing as demand has returned to US and Europe. Couple that with an improving global economy and current and future high-profile placements of our branded products, and we expect UTSC, our operation in China, to be on an improving trend going forward.

We are also maintaining our R&D and marketing investment levels through this fiscal year and remain on track to double PVA sales in the three years ending in June 2013. This, along with our recent purchase of a majority interest in REPREVE Renewables, indicates our commitment to long-term revenue growth and earnings improvement through our sustainability-focused businesses.

After a challenging start to the 2012 fiscal year, we do expect to see financial improvement in the second half, as I've indicated. Adjusted EBITDA for the March quarter is expected to be $9 million to $11 million, and we expect continued improvement as we work through to June 2012 quarter, ending this fiscal year with approximately $40 million of adjusted EBITDA. And that assumes no drastic changes in market conditions or raw material prices.

In summary, the Company effectively managed its working capital and cash during a quarter negatively impacted by supply-chain issues and historically high raw material pricing at the start of the quarter. We are beginning to see recovery in market conditions, which we believe will allow us to continue to strengthen our balance sheet, improve cash flow as we pay off high-interest-rate debt, and execute against our operational strategies.

With that, I will turn the call back over to the operator for questions from investors. Thank you.

(Operator Instructions) Chris McGinnis, Sidoti & Company.

Good morning. Thanks for taking my question. I guess just a couple things. First, just in Roger's comments about -- if weather conditions don't change, there may be an impact on retail sales. And I guess thinking about that inventory destocking, do you need that to change much? Do we need that colder weather to really to help that? How much of that is kind of baked into your thoughts of that $40 million of EBITDA?

I will address the inventory destocking. Certainly, what we are hearing from retailers and brands is there's still a lot of winter merchandise in the stores. And with the colder weather, they are able to move that winter merchandise to make room for their spring merchandise. Certainly, if they have the confidence of moving that apparel, then they will take maybe a little more aggressive position with their spring and summer line.

So we have seen a decline in inventory in that retail and wholesaler inventory days. So again, just with the colder weather, it will help improve the situation.

I think the other part, Chris, when you think about the 40, is Bill probably said in his comments that sort of our volume since the beginning -- since the return from the post-holiday shutdown and our forward-looking orders have been very encouraging. So even without that cold spell that came through that has really cleared out that winter inventory -- which, as Roger is saying, could have an additional boost to it -- even without that, we have seen a strong piece of our business -- or big pieces of our business come back pretty strong after the post-holiday shutdown.

I think we have said more than once on this call that sort of how this textile business domestically returns from the July 4th shutdown and how it returns from that December holiday shutdown, both of those are good indicators for how strong the business is and where the inventory levels are. And just from what we are seeing here since post-holiday shutdown, things have came back pretty strong, and the forward order book is pretty strong as well.

Great. Second, on the gross margin decline, of the 540 in the basis points, can you just walk through maybe how much was manufacturing, how much was raw material impact?

It is -- I don't have that number right in front of me right now, but I think generally speaking, the manufacturing was a small piece of it. I think one of the things we were encouraged by was when our volumes were off, our variable converting -- our variable unit costs, we did a very good job of getting out the variable costs, but we are still high fixed cost business. So that higher fixed cost created unabsorbed variances.

And one thing that we didn't mention on the call was that those variances, we treated them as period costs, because of our accounting processes and the way we go through that process. Those aren't hanging on the balance sheet that's going to negatively impact the March quarter. Those all went through as period costs. So that would be the smaller portion of it.

Sort of the bigger portion of it would be -- we have been working off our -- we have been working off sort of -- raw materials hit their peak back in April. They fell off over the summer. They went back up in August, September, and October, back up to that peak, maybe slightly higher than that peak. So that sort of unexpected bubble there in August, September, October really was what had that conversion margin impact. So that piece of it was by far the biggest impact.

And I would tell you the third piece of it was Brazil. Brazil has similar price structure to Asia, so they didn't feel quite the same peak that we felt. But with currency going where it did there in that July/August timeframe, that really opened up some imports of textile and fabrics -- some fabrics and apparel down there that hurt volumes in that business. And similar to us, they are seeing improved volumes coming back from their post-holiday shutdown as well.

So sort of what we are saying is the volume -- the impact of Brazil of currency, the impact of the higher raw material prices and then the impact of the converting costs all banged the quarter pretty hard, and we are sort of reversing on that as we move here in the second half.

Sure. Just on that, on the point on Brazil, historically, I think it was a little bit better margin business. Does that change depending on the currency rate? And I guess if historically, it was a little bit higher, now maybe this 1.70, 1.80 range, is it a little bit -- maybe the margins a little bit more in line with the rest of the business?

Yes, I know exactly what you're talking about. That business down there is -- I will back up one step and say, that's typically a pretty protected market that has duty rates, imported duty rates on yarn, whether it's POR, DTY, a lot higher than what we have here. So that has been a protected market, and margins in that market have been a little stronger than what margins in our business have been. That's a fair statement.

I think where -- what we saw down in Brazil was more of a volume issue and less of a margin issue. I think there was a margin issue, because it had some spikes in raw materials and prices are at high levels. But it was much more of a volume issue, and it wasn't volume of yarn; it was volume of fabric and apparel. And Brazil is reacting to that. The Brazilian government is reacting to that, to try and support some of the domestic economy. And we are pretty hopeful over the next six to nine months that there will be some additional steps that are taken in order to help get that business back on track.

The last point I will make is that our record year in Brazil was back in 2010. And the record year, the average currency exchange rate for that year was 1.83. And so we are sort of in that 1.75, 1.80 range. It's not currency that's the problem now. It was currency at 1.52 or 1.55 that was the problem back in August.

Great. Thanks for that. Just on the SG&A real quickly, I saw I was looking at an increase in non-cash comps. Is that an anomaly? Was it maybe selling volumes --?

It was an anomaly of the quarter, but it's going to happen sort of this quarter every year. It was the restricted stock units that -- our Board doesn't get cash compensation; it gets restricted stock units. So it was the non-cash portion of expense related to those restricted stock units that vested here in October.

So it will be every second quarter, but it won't be for the remainder of (technical difficulty)?

Correct, it would be a peak in the second quarter. There will still be some, because there's restricted stock units as a part of the compensation package across the Company. It's more -- not straight-line, but more straight-line. But the Board piece of it will have spikes here in the December quarter.

And then just lastly on Parkdale, I think in the past in talking about it, I thought the margin rate there was a little bit more contained in terms of they had a set supply agreement, or I guess maybe almost a contracted margin. Could you just walk us through that? I thought that was the way it was set up. It sounds like there's maybe a little bit more pressure there on the margin side, just because of the change in the cotton price.

I will put two comments out there, and then we will see where we go from there. I agree with you -- typical margin model for Parkdale is they set -- over the long term with the customer, they lock in price. And when a customer locks in price, that gets locked in back to the bottom -- that gets locked in back to the -- at the cotton level. So there is that sort of margin protection out over a long period of time. That is their normal business model.

I would tell you where they are at with this quarter is although cotton -- think of the model of you lock in over long periods of time -- although cotton was not at its record high, if you listen to the HVIs of the world and the VFs of the world, this is when that highest-priced cotton that they locked into, that highest-weighted average price of cotton, this is the quarter that came through. And so just the fact that your largest customer is getting its highest-priced cotton it has ever gotten, I think there's margin pressure in that. Even if it's temporary, hey, give it to me here and I will pay you back next quarter or whatever. So I think there was a little bit of that going on.

I think the other piece of it is from an EAP standpoint, those benefits that they got, those benefits were reduced in the quarter because of the timing of CapEx, and that also impacted that margin.

And then thirdly, the top five customers at Parkdale make up 85 -- let me back off of that -- make up a significant part, a very, very significant part of their volume. And because of the way cotton was working out in the quarter -- you had HBI that took four or five weeks out of their operations that use cotton within the quarter. So they had some very big volume pressure in the quarter that led to those negative results as well.

When we look forward on Parkdale, I think Parkdale looks to get back -- looks to start getting back in line with where they were at. I don't think they will be back to that sort of $90 million EBITDA run rate anytime within the next six to nine months, but there certainly will be much improvement on where they were for this past quarter.

I guess touching on that $90 million of EBITDA, what do you think, I guess, the level is at this point, taking that into account? I know you don't have great clarity into it, but maybe you can just give us a data point on what you maybe think it is.

I think if you -- let me back up and say, they felt -- they saw volume fall off a couple months after we saw volume fall off. We are seeing volume pick back up. They are not seeing the same volume pick back up that we are seeing. So we think their -- let me just -- January to June period will be softer than our January to June period. But when you take that into a full year of calendar '12, instead of $90 million, I think you are in that sort of $70 million, $75 million range with that softness in the first half.

All right. Thank you very much for the time.

Allen Zwickler, First Manhattan.

Not bad. Happy New Year. I'm sure you are glad that the year ended.

Absolutely. That was a bloodbath, with raw materials in the quarter, and then adjusting those inventory levels.

But would you say that you are pretty much done with that? It's hard to measure, but do you think the worst of it is over?

Yes, I think from the market standpoint -- and we will talk about this more, as we do sort of -- I think we're trying to do an investor presentation up in March, so we will put out some more detailed information about the different segments. If you go back into sort of inventory days of retail apparel across the supply chain -- so it's not retail -- it's apparel across the supply chain -- what we saw was it peaked in August and September, October, November, December, that weighted average came -- or that average days came down a day or so as it came across there.

So we did see some destocking, like Roger was talking about. It didn't quite get all of it out because of the moderate winter that we have had so far. So there is some -- there will be some slashing and discounting of prices for people -- to move that inventory out to get ready for spring. So there was a destocking. It wasn't quite at the rate we expected it to be.

However, having said that, when retail volumes were sort of flat to off slightly, our business was off 10% to 12%. So the supply chain has taken a lot of inventory out backwards from fabrics into us. And that's what our -- sort of when we put all the pieces of the puzzle together and look at where we are running today and what our forward-looking order book looks like, that's what our expectations are, is that the destocking impact may have not worked all the way through the supply chain, but certainly back to us. We're back to running levels kind of where we were last year, which is very strong.

Now, I have two questions related. One is what prompted you to purchase additional -- I'm not sure what the terminology is -- shares of the business of REPREVE? Was there some obligation to do that? And having said that, you just started this business, what, about a year ago, give or take? And it sounds -- the way you described it is that you were investing at a lower price than what you valued the business at originally, or did I not understand that?

The second -- you understand correctly. Let me walk through it a little bit. Basically where we were at with REPREVE Renewables is we are excited about sort of the opportunity as it has been developed. The investment thesis around the market demand coming, the commercialization of the product, we have done well and we are on track with that.

The original investment thesis also had some regulatory assistance from a program called the Biomass Crop Assistance Program. When we made the investment, that program was at $430 million. Today, it's about $17 million. So a lot of the cash flow that we were going to need to commercialize the variety was going to come through these programs that our product was custom-made for.

When that program got slashed as a part of the Tea Party and part of the whole Solyndra mess and all that, when that program got slashed, that meant that the Partners were going to have to bring to the table dollars to continue the commercialization, and one of the partners didn't have the ability to fund that. So he was in a position where he was going to get diluted and lose control or he could sell out, and he sold out at a discounted value.

Now from our standpoint, the accounting rules want you to use -- the black-and-white implied value is sort of a tough hurdle --

Right, so you had to take the value at that moment in time, right? Given what -- the discount -- is that what you're saying?

Exactly, but now -- and what we tried to say after we said that in here, and walking sort of a thin line there is even though we've taken the impairment, that doesn't change our view of the business has got lots of potential. It is a developing business in a market that's not there today, so it could turn out to be worthless. But at the end of the day, we believe in where the direction is going. And all the positives we had, we feel as strong or stronger about it today as we did a year and a half ago when we [made this].

Okay, now you invested what a year and a half ago, roughly?

The total investment to date is somewhere around $6 million. Our original investment was about $4.5 million.

So what you are saying is you had to put up a couple of million additional dollars?

Yes, it wasn't quite that, because we have had to fund the operations as we came through the business. So -- but the total investment so far to date is somewhere around $6 million -- just over $6 million.

Does the $6 million include the investment you just made?

Yes.

Okay. And now you own how much of that business?

We own 60% of that business.

Okay. And prior to that, you owned how much?

40% of that business.

40%. And who are the other owners? Is that information that you could disseminate?

No, we haven't talked much about who the other owners are. We still have that strategic relationship with Phillip Jennings, who was the one who had -- who originally started down the commercialization path of the variety, and the variety is a licensed variety from Mississippi State University. So that's basically all that's out there in the public.

Okay. And when you talk about the products that come out of there, one of the exciting parts of your business is products that are made with that fiber. How were the sales of the products made with recycled fibers in the quarter? Do you break that out? What percentage of your sales -- I think at one time you did -- came from recycled products?

Let me back up and draw a line here between REPREVE Renewables and REPREVE recycled yarn. When you talk about REPREVE Renewables, REPREVE Renewables can be turned into biochemicals that can be turned into a green polyester yarn. But that's not something that's commercialized, and literally is three, four, five years away.

When you switch back over to REPREVE, which is our recycled yarn, that's the recycled yarn where we're using recycled bottles (multiple speakers) our own internal waste. Basically what we have said about that is it's about half -- a little over half of our PVA business, and our PVA business is about 18% of sales. So when you do the math, it's in that $50 million to $60 million range, sort of 30 million pounds worth of business, is what REPREVE makes up.

Just to be clear, that yarn is not produced in that factory or it is?

Yes, the polymer for that yarn is -- basically the bottle flake, where you take the bottle (multiple speakers) -- we bring in bottle flake, we create polymer out of that in our new recycled facility. And then that polymer goes into our existing operation, our 150-million-pound spinning operation, and that's where -- you make yarn from there.

Right, okay. And so is that a profitable business at $30 million? Do you break it out that way? I'm just trying to understand what the return on the investment is, if you follow me through. Because you've made an investment there. I hate to say, I still have some scars from my Wellman investment from 150 years ago, but they had the same idea, if you'll recall. And they -- well, the rest is -- I don't even know if they're still around.

But anyway, I just want to differentiate in terms of what they did, because they had these same rosy forecasts on what you are doing now, if you understand where I'm going.

I get you. And the only thing we have said publicly about REPREVE, that facility, we were going to invest about $8 million including working capital in our REPREVE business. And that business was going to be about a three-year payback.

Now where we're at in the -- that was back in April, when we came live with our REPREVE recycling center. Where we're at today is we are probably slightly behind in our REPREVE production as we go through the adoption piece of it, but our expectations are still really strong with that business. We feel good about that business. We talked about our PVA is on track to grow, and REPREVE is the driver of that PVA. So this is certainly not a Wellman. Wellman was sort of ahead of its time.

Well, I understand that, but the fact of the matter is that they had a similar way of doing things. That was their idea, was similar to what you are doing. It's just that the market has developed, is what you're saying.

Allen, this is Roger. I think when you look at Wellman and the end uses that Wellman was participating in back 10, 15 years ago, were top-of-the-bed, fiberfill, and a lot of those end uses have moved offshore. The things that we talk about around CAFTA and performance, the outdoor market that is very strong, embedded into the CAFTA supply region, those are end uses and categories that REPREVE is targeting and that the REPREVE filament is being very successful in.

Okay, thank you.

[Eric Sari], (inaudible).

Good morning, gentlemen. What can you tell us about Parkdale America's reliance on subsidies and how likely are the subsidies to continue?

The Parkdale America, we've talked about this in several of our public filings. They get a $0.04 per pound rebate for cotton subsidy. That $0.04 per pound goes to $0.03 per pound in August of this year. And from August of this year, it goes another six years at $0.03 per pound. At that $0.04 level, it's roughly $25 million, $28 million worth of benefit to that business.

And what that means is that $28 million that they get in subsidy, they have to turn around and spend that on qualifying CapEx. When they spend it, we get the cash. Let's just use a simple example. They buy the cotton -- consume the cotton in January. They get the cash from the government in February. If they don't spend the capital for six months, we don't -- the cash is on the balance sheet as deferred revenue, but we don't recognize that revenue or they don't recognize that revenue until the qualifying capital expenditures are spent.

That's why in Parkdale's numbers you will see really, really good income one year and less income the next year, because of the timing of those capital expenditures. So the numbers we were talking about earlier about that EBITDA, that's sort of a normalized number if you were spending exactly the same CapEx that you were getting in as EAP benefit, that therefore during that year, you were recognizing one year's worth of benefit.

But that $28 million going down to sort of $18 million to $20 million, it's in the Farm Bill and it's going to be -- it's there for the next 6.5 years. The expectations are, and the history has been, the next Farm Bill, which will be a 2013 Farm Bill, typically resets that sunset clause and goes back to $0.04 for four years and $0.03 after that.

But in terms of the government ratcheting back these kinds of subsidies, just in general as they're looking for money to plug their budget holes, is this at risk?

Yes, it's always at risk. It's a government program. It's like that BCAP program we talked about earlier on the REPREVE Renewables. I think the conversations we have had and our understanding of the process is that's not something that's likely to get cut, just because of the desire to continue to develop the farming structure here in the US, because of the sort of population growth on a global basis and the desire to continue to have a strong farming operation.

So it's not on the table. It has not been on the table. I've not heard anything about it. I don't know if you have, Bill.

No.

Our expectation is that least the $0.03 will be there out into the next six years. But if I had to bet -- and this is probably me personally -- I would bet it gets reset to that $0.04 in the 2013 Farm Bill, just because that's the way it's been for the last 30 years.

Okay, thank you.

At this time, I'm not showing any further questions. One just came in. Jonathan Sacks, Stonehill Capital.

Thanks for taking my questions. Can you just talk a little bit about your capital expenditure expectations, as well as your expectations on cash taxes?

Yes. When you do the model, we are cash taxes -- we've got NOLs out through 2013. So the rest of this fiscal year and the next fiscal year is sort of where our expectations are, until we eat up those NOLs. Then after that, we will be a domestic taxpayer, effective rate of 38%, 39%, unless something changes there.

Back up to the CapEx, what we say typically about CapEx is we will have periods, like over the last several years, where we will spend -- we spent $13 million in '10, we spent almost $20 million in '11. We've made those capital investments. We made those capital investments with the view of growing that REPREVE business.

And so when we look forward, capital investment for this year is going to be more like $7 million, and a normalized capital investment will be more like $10 million out into the future. And that $10 million will be about $6 million of what we call maintenance CapEx, and then about $4 million of what we call strategic CapEx, which are related to sort of PVA products.

With that, I will -- do you have any other questions, Jonathan?

No. That answers it very well. Thank you very much.

Okay, this is Bill again. Just a quick closing remark. Although I was disappointed, as I said, with our first quarterly loss in over two years, I am certainly encouraged, first, by our ability to continue to generate cash in what was really a perfect storm of negative industry conditions. And secondly, I'm encouraged by indicators of improving conditions to our markets.

We have made significant improvement to our business and that improvement has given us the ability to better adapt to the cyclic nature of industry conditions that we have been faced with. It's also given us the flexibility to aggressively deleverage our balance sheet and ultimately drive down our high interest rate costs. With that, I'll thank everybody for being on the call. Thanks.

Ladies and gentlemen, thank you for joining today's Unifi second-quarter earnings conference call. Thank you for your participation. You may now disconnect.