Universal Stainless & Alloy Products Inc (USAP) 2006 Q2 法說會逐字稿

Good morning, my name is Meredith and I will be your conference facilitator today. At this time I would like to welcome everyone to the Universal Stainless & Alloy Products second-quarter 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 period. As a reminder, today's conference is being recorded. Thank you. Ms. Filingeri, you may begin your conference.

Thank you. Good morning. This is June Filingeri of Comm-Partners and I'd also like to welcome you to the Universal Stainless & Alloy Products conference call. We are here to discuss the Company's second-quarter 2006 results and third-quarter outlook which were reported this morning. With us from management are Mac McAninch, President and Chief Executive Officer; Paul McGrath, Vice President of Operations; and Rick Ubinger, Vice President of Finance and Chief Financial Officer.

Before I turn the call over to management, let me quickly review procedures. After management has made formal remarks, we will take your questions. The conference operator will instruct on procedures at that time.

Also please note that in this morning's call, management will make forward-looking statements. Under the Private Securities Litigation Reform Act of 1995, I would like to remind you of the risks related to these statements which are more fully described in today's press release and in the Company's filings with the Securities and Exchange Commission.

With these formalities out of the way, I would like to turn the call over to Mac McAninch. Mac, you may begin.

Thanks, June. Good morning. Thank you for joining us. As we reported this morning we achieved another quarter of record results. Net income rose 41% to $4.6 million or $0.69 per diluted share exceeding the $0.60 to $0.65 that we had expected. Sales reached $48 million, up 15% from the second quarter and at the high end of our forecast. I'm also pleased to note that our Universal and Dunkirk segments each produced record sales in the operating income for the second quarter.

Our backlog continued to grow reaching a record $128 million versus $118 million at the end of the first quarter. Four main factors drove our performance in the second quarter, the first is the powerful aerospace demand and the ongoing strength of all of the end markets on which we focus. The second is the benefit we are reaping from our capital investments, i.e., the addition of our sixth VAR furnace located in Bridgeville; two new milling machines; and a new plate flattener and more equipment for our laboratories.

The third factor is the addition of personnel to our workforce primarily in Dunkirk but also in Bridgeville which is enabling us to get more product processed onto trucks and shipped to our customers. The fourth factor is the effectiveness of our pricing strategy which I have discussed with you for many quarters. It remains equally important today, raw material costs continue to be volatile, in fact nickel reached $14 a pound this month which also directly impacts the cost of our scrap. Without the surcharge mechanism we have in place, this type of an increase would take a major toll on our profitability. Even with the surcharge, we needed to increase our base prices for all of our premium melted steels and tool steel during the quarter as well as adding a surcharge for copper based on the volatility that has recently occurred in that market.

All of the increases were accepted by our customers who continue to have an acute need for our products. And they remind me of that on a regular basis. To respond to this need and our record backlog, the bulk of which is for remelted steels, we are working steadfastly to advance the timetable for the startup of our seventh vacuum-arc remelt furnace which is also located here in Bridgeville. The added benefit is that the production of VAR product in Bridgeville results in faster turnaround time as well as saving the trucking of the material to Titusville and back to Bridgeville. With the capital investments in Bridgeville as well as more staff in the laboratory here, we have improved the flow of material with a direct benefit to Dunkirk and to all of our customers which now has a constant flow of material.

Looking more closely at our operating segments, the combination of these factors and the shift in our product mix to higher value added products enabled Universal Stainless & Alloy segment to achieve a 23% increase in sales compared with the second quarter of 2005 and a 17% increase over the first quarter of 2006. Operating income rose 60% over last year and 18% from the previous quarter.

Turning to Dunkirk, sales increased 31% and 16% over the 2005 second quarter and first quarter respectively. Operating income increased 23% from 2005 second quarter and 54% from the first quarter of 2006 which I will remind you, the first quarter was impacted by higher cost of raw materials at the time the feedstock was procured.

Turning to our end markets, our sales to the aerospace market rose 60% from the second quarter of 2005 and 18% from our very strong first quarter. Market demand is as good as the headlines that Boeing suggests and we are seeing no affect in our marketplace from the recent announcements coming out of Airbus' A380 problems. Last week Boeing forecast that the market for new commercial airplanes would total $2.6 trillion over the next 20 years. While I cannot vouch for that number, there are many compelling factors that should continue to drive the commercial aircraft demand.

One of the main drivers is the need to replace the very large fleet of older fuel inefficient aircraft. As I said recently, we will not be seeing $2 a gallon gasoline in the near future. And the airlines will have a very strong financial incentive to replace those aircraft.

The power generation market has passed through the mid-year flux and some industrywide inventory corrections. As a result, our power generation sales were up 11% from the first quarter but were 5% below the second quarter of 2005. I expect that that market will continue to get stronger in the second half of the year and beyond.

I also expect there will be an opportunity for us late in 2007 and going into 2008 for nuclear turbine business coming from the GEs and the rest of the manufacturers of the world. Our sales to the petrochemical market increased 4% over the second quarter of 2005 but were off by the same amount from last quarter. We continue to pursue this opportunity that we see in this market and our salespeople are aggressively spending a substantial amount of their time focusing on this market.

We achieved a noteworthy increase of 70% in our tool steel sales compared with the second quarter of 2005 and a 28% increase over the 2006 first quarter. The addition of the new plate flattener and more people in the laboratory enabled us to respond to our customers more quickly. We expect the market to continue to be driven by the strength of the machine-tool builders and heavy equipment manufacturers.

Our forecast indicates that the third quarter of 2006 should be another strong quarter for us. We're also optimistic about the balance of the year and beyond. Rather than be complacent with the very favorable conditions of our market, we are aggressively seeking new opportunities.

I'm heading to India shortly to explore opportunities with several power generation manufacturing companies that produce steam and gas turbines. I will also visit some bearing manufacturing companies plus any other companies that I might find while I'm there for approximately 1 week's time. We view the India market as more productive for us than what we have found in China so far.

We also recently met with a team from GE's jet aircraft engine division to review their needs for 2007 through 2009. That division is obviously benefiting from the same trends in the aerospace market that we are and just reported a 30% increase for the first half of this year. Their interest in Universal Stainless is based on the mix and range of products that we offer to the marketplace. While we believe our products have shipped to them over the years through their subcontractors and product that they purchased through service centers, this would be our first direct agreement with the GE aircraft engine division.

There are many more exciting opportunities in our markets. We plan to focus and concentrate on them and capitalize where we can. We also remain focused on better responding to the needs of our current customers and on converting more of our record backlog into sales and profits. We have strengthened our manufacturing processes and operations and we have the capacity to produce more. There is also more that we can do.

We will also continue to shift our product mix to the higher value-added products. We will continue to make capital investments as immediate need and long-term market demand and opportunity warrant. Let me assure you that all of our decisions are based on returning value to our shareholders.

This concludes my formal remarks. We are now ready to take your questions.

(OPERATOR INSTRUCTIONS) Michael Gallo with C.L. King.

Good morning and very nice quarter.

Good morning, Michael, and thank you.

A couple of questions. First I was wondering if you can expand at all on what you see is the potential global opportunity for your Company? I know you've talked about that as an area for some time and you mentioned India I think for the first time in your opening remarks. I was wondering if you could talk about when you look out longer-term, what kind of opportunity you see for USAP on a global basis whether it be for power gen, for aerospace, etc.? And how long you think some of that stuff might take to begin to come to fruition?

Well, let me address a couple of particular customers who will remain nameless for obvious reasons. But I had the president of a company come in and visit me this past week. And of course he was talking to me about why we were so late on shipping a vacuum-arc remelted graded steel to him -- that was his primary reason for visiting. But we also talked extensively about his encouraged attitude as far as aerospace, the aerospace business globally. And I'm going to talk primarily about the work that the Israeli Aircraft Company is doing in building not only aircraft for their own country but it is my understanding they are also building aircraft for Gulfstream. And so we talked extensively about increasing our participation through them for this business.

And the other encouraging visit that I had was with a president of a company that is very much involved and is in the process of putting together an agreement with the government on supplying again mostly remelted steels but will end up in nuclear driven vessels i.e., ships, submarines and stuff like this. And he expects that his business is going to at least triple over the next couple of years.

So the simple fact that I was invited to make this trip to India because I can guarantee you I have very little interest in spending 14 hours on an airplane to fly from Newark to New Delhi to make this kind of a visit. But I was so encouraged that I just felt that I had to make this trip. And I'm going to be there for a week and I'm certainly going to pursue any potential opportunity. I'm going to try to capitalize on India because we are all familiar with the growth that China has experienced and from everything that I hear, India is going to be the next big one following right along behind that. And I would certainly like to capitalize on that.

Great. I was wondering if you can comment at all on just the OE side in terms of aerospace? Where you stand in terms of any relationships with Boeing potentially or down the road Airbus or just kind of what you are doing on that front?

Well, we are still in the development stage of rolling some -- and I might add we have been successful in rolling some of the titanium shapes for that 787 Dreamliner, and based on a conversation I had with our plant manager at Dunkirk where all of this is taking place, I would expect that shortly after I get back from India and he has already had some preliminary discussions about setting up a meeting with the personnel at Boeing to formalize this. We are going to try to get closer and closer to those end-users. And I don't give a damn if it is Boeing or if it is Seamans ABB in the power gen side or Toshiba or whomever. That is where we are focusing our efforts to try to build that relationship with those customers that are so important to the future of Universal Stainless & Alloy Products.

Great, thanks a lot.

Alan Fournier with Pennant Capital.

Good morning. Great quarter. I wanted to ask you, Mac, a question about your supply demand situation and potential investments that you could make in order to improve your ability to supply customers. And I guess specifically what I wanted to explore with you is whether or not there may be an opportunity given the market's concern over supply to have some of your customers help you invest in increasing capacity in some of the higher margin, higher value-added products?

Sure, Alan. You know us pretty well and we are constantly looking for every opportunity and trying to turn over every stone that is out there for an acquisition if it would complement the core business that we are in. As far as making additional capital investment, you know, I kick myself every time I think about the fact that I didn't order two VAR furnaces when we ordered the first one. But I've also been in this business for many, many years and with the number of VARs around the world that are coming on stream, my concern on adding additional VAR capacity is that one of these days, because you are well aware of we are in a cyclical business, this demand is going to go away and people who have VAR capacity sitting there idle.

Fortunately with the decision that we made in installing the new VARs, the two that we are in the process of installing here in Bridgeville, longer-term that was the right decision to make because it will save us money in producing any vacuum-arc remelt. We're not going to have the freight and the inventory carrying costs that would be associated with trucking it to Titusville and back.

The other think that I can assure you and I'm encouraged from what I see and from what I hear on the power generation side of the marketplace, I believe that we are in the midst of a tremendous upturn in that side of the business. And we are certainly going to keep our eye on that ball and if there is an opportunity for us to make an investment that would better position us to capitalize on that product, we're sure as hell going to look at it.

I would think in both the aerospace side and on the power gen side we have a very strong at least two to three years here if not more which was sort of suggesting that maybe clients would at least give you some kind of commitment in terms of business levels, in terms of increasing capacity at Universal?

I had talked about in my presentation a little bit about the visit that I made to GE Jet Aircraft Engine. And the discussions that we had and of course I've dealt with General Electric for many, many years and I know what they like to do. The initial discussions were that their intent was to go out five years. And I said well, hey guys I'm just a rookie in doing business directly with GE Jet Aircraft Engines; I would be more in favor to take this out for three years to make sure that you and I both enjoy d the dance that we are about to embark on. And they were receptive to that.

The commitment that I made to them was that even though we had not had a history of having a good supplier customer relationship in the past that I have an exceptionally good relationship on the power gen side and my commitment to them was that I want to build that same type of a relationship going for it. And as we go into this proposed, my proposed three-year agreement, I would be open to reviewing and extending that if it made sense to both parties.

Right. Well thanks, Mac. Keep up the good work.

[Kevin Money] with Cleveland Research.

Good morning, thanks for taking my call. It looks like inventories have been rising up a little bit. Do you have any concerns about [filling] up any certain product categories?

You bet your bippy I do. I talk about it on a frequent basis. Unfortunately which we have zero control over. We have 100% control over and at times we're not doing a very damn good job in making sure that the materials flowing through the manufacturing operations as quickly as they should be, okay. But I think we've worked on the key ingredients, i.e., we've added people and added some new equipment and stuff like that to take care of that. But the other key ingredient is I've mentioned in my formal remarks that nickel hit $14 a pound this month. Chrome is escalating, moly has moved back up. Everything that we touch or that we consume in producing the sophisticated product that we're taking to the marketplace, those alloys are going in the wrong direction, you know, which really builds the value of the inventory that we have on our (indiscernible). And our challenge is to turn that damned inventory as quickly as we possibly can.

The one area that I can tell you that we do do an outstanding job in and that is turning the raw materials that we buy to feed our electric furnace [shop]. Our inventory turns out there probably 24 to 30 times a year. I can't say that for the rest of our inventory but we need to produce more product in a shorter period of time and keep it in suspension rather than letting it sit behind each of the individual operating units.

And when I had my meeting with -- 7:00 meeting this morning with our hourly employees here at the Bridgeville plant, I focused on the amount of material that we had in process here at Bridgeville and the amount of late material that we had in process. So there is a hell of a lot of emphasis being placed on that and everyone certainly has my attention and they understand where we are coming from.

Great, thanks. That's all the questions I have.

Larry Southam with Detwiler, Mitchell.

Good morning, Mac. Obviously delighted with the numbers. I have several questions here. Sort of tied together. Obviously quite pricing up in many areas here. If you could put some kind of a breakdown in how much of the revenue increase reflects pricing versus tonnage? And I know there's a change in mix too, but some sort of an idea of how that is breaking?

Well the price increases that we announced this quarter -- you are really not going to see the full benefits of that until we get into the third and the fourth quarter.

But there were increases in the previous quarters, right?

Yes. To try to break down how much of it is pricing, unless Rick Ubinger can come up with some better explanation I could. I can to you off the top of my head and from my fact base right now I couldn't answer that question.

Okay. Are we shipping more product?

We are shipping more product, yes.

Okay. That would lead toward -- okay. As part of that and as part of -- you mentioned the efforts to get more product out faster, the melt job. What are you seeing in terms of labor market? Are you able to find experienced people. Obviously Pittsburgh was a steel town but I don't know how people are free and how many people are working for anybody else who is growing rapidly.

We have a lot of experienced people within our workforce now. And typically when we bring a new hire in off the street, he is going into one of the lower skilled jobs. The difficult time that we are finding is finding people that really want to work in a steel producing facility. This is not a vacation spot. We expect people to work. And many of the young guys that are out there and available for work, they are not accustomed to working very hard and long hours in heat, which you guys are very familiar with that -- is it as hot there as it is in Bridgeville? I can guarantee you it is warmer here in Bridgeville. You go out in the melt shop and it's probably 130 degrees out there. It's tough to get people to do that. But we are bringing in additional people.

Now if we hire a skill set i.e., an electrician or a mechanic, he comes in at that particular level, you know, he is not starting out in a nonskilled position and we have been successful. Unfortunately at the demise of a couple other companies which are going to remain nameless around here, we've been able to pick up some skilled people.

Again what is happening to your sales force these days? I know you are off to India but who is minding the store locally and who is chasing after these new markets we've got?

As it stands right now, I have a full staff of outside salespeople or the staff that I plan on having in the near future. I still haven't filled the Vice President of Sales as of yet. I'm in the process of doing that and would expect to do that fairly shortly. But I haven't done it yet.

Okay.

Who is going to mind the store when I'm gone?

Essentially.

I just found out that my cellphone works in India.

Okay, very good. However, your timing is off by almost twelve hours.

That's all right.

And that with jet lag makes it tough. Also here in the marketing, obviously aerospace and power gen very big potential. Petrochemical has also been a significant area. What are you seeing happening in your -- what are you serving in the petrol chemical? What are you seeing there?

We are supplying both product out of Bridgeville and the (indiscernible) finished side forging billet and we're also supplying some larger round bar and some of the pH grades for shafting and different applications. And one of the things that we haven't really attacked yet only because our plate is pretty full is the addition of our new plate flattener. We're going to go out and pursue some opportunities in supplying some of the more commodity grades of stainless plate in those thicker sections that fall right into our wheelhouse as far as capabilities are concerned. And see if we can't pick up some additional business there. We can always use a certain amount of what I consider muck iron grades of steel to balance out our melting operation in the melt shop.

But it sounds as though this is more a generalized demand as opposed to specific targeted areas, is that --?

Well, my belief as I said here today it is going to be in the petrochemical, the oilpatch, the power generation side in products that could be used in scrubbers and in the coal industry and stuff like that.

Okay, very good. Let's see, in the backlog obviously been growing -- is that fairly well spread or is some of that long --?

Long leadtime?

Backlog? Overall?

Sure. If you sent in today an order for a vacuum-arc remelt graded steel I'm going to quote you the third quarter of next year.

Okay. That is why --

Having said that I have not opened up booking on this new VAR furnace that comes in because we had a hell of a lot of late orders sitting around here that I need to get produced and shipped to our customers before I start booking additional business on.

Right. Okay. Like you said you hope to have that operational in August. After that how long of a tune-up period before it really --?

Half a day or one heat of steel.

Okay, very good. Having gotten the first one in this one is --?

Well we have five more in Titusville that we operate everyday so we kind of know how to do it.

I realize that. Okay then two other things here. Electrical supply, any problems?

No, other than the fact that it is damned expensive.

That I understand. And I also noted here high temperature alloy steel seemed to be down in terms of sales. Is that intentional --?

No, that is not intentional, Larry, and it is just a timing issue.

Okay. Very, very good.

Okay, thank you.

But no specific capital expenditure plans you had mentioned, right?

I did not mention anything specific.

Thank you.

(OPERATOR INSTRUCTIONS) [John Evans] with Wells Capital.

Can you talk I guess a little bit if you could give us maybe some insight just from an overall macro standpoint? I think there was an analyst from research that downgraded a lot of the titanium and stainless players because of they thought inventories were building up etc. Can you talk a little bit about inventories and do you think there is much double ordering going on by your customers?

Number one, the only thing that I could do is give you an opinion as to what is going on on titanium. I think that my own personal opinion is that the articles that we have all read as to where and the problems that Airbus has had and the delays that they have had on the A380, my own personal opinion, I think that that blown out of a proportion a little bit. And I also verified with an individual yesterday that is in the titanium business -- his view was it was not to going to drastically impact the business. It may for a very short period of time but the demand is going to be there.

As far as customers double ordering, for as much grief as my customers, and they deserve to give me grief, on getting product produced and shipped to them, I don't think that there is double ordering going on. And from what I hear from some of my competitors out in the marketplace and some of my customers, they don't believe that it is either.

It would seem odd with nickel as high as it is right as one of the key input costs?

Oh, yes. And I think we as an industry -- I think we're a little more astute today about keeping an eye on what the customers are ordering and who is ordering what and things like this. Where I think we are more aware today of that kind of stuff going on than what we have been in the past.

One last question. Do you into your customers or the distributors that you sell to, do have any insight into kind of tons on the ground and if you do, can you give us any kind of insight in what has been happening to tons on the ground? I know dollar values are obviously are going up but --?

I believe it is available to each and every one of us. If you take a look at what has been printed, inventories and I'm just going to talk about service centers, okay. Service center inventories have come down substantially and I'm only talking about specialty steels. I'm not talking about carbon steel.

Got you.

Those inventories have stayed at a relatively low level. And that is their job to keep their inventories down especially with nickel going to somewhere between an $11 and $14 a pound. I don't like to keep that stuff sitting around on my ground either. I think they are managing their inventories a hell of a lot of better than maybe what they had in previous years.

Fantastic. Hey, thank you for your insights.

Thank you.

[Ralph Maresh] with First Manhattan Company.

Good morning. What was the backlog a year ago?

A year ago?

Yes.

I can tell you it was $118 million at the end of the first quarter. A year ago and I think -- don't hold me to this, but I think it was right around $105 million.

Okay.

And growing quickly.

I hope it is still growing.

But based on what my inside sales manager said this morning, she says, I cannot believe the amount of orders that she has received over the last couple of days.

That sounds good.

She knows how to make my day.

The ball bearing business, is that a new area for you? You mentioned that in the (multiple speakers).

We have sold directly and through distribution to a number of the bearing manufacturers here in North America.

And what part of the ball bearing does your product (inaudible)?

The ball bearing. But either the paper bearing or the ball itself. In fact I have sitting here on my windowsill a ball bearing that is about 25,000 in diameter that was manufactured from our product and ultimately it ends up in the drills that your dentist drills your teeth with.

Do you sell to the some of the rollerball manufacturers?

Yes, sir.

Do you sell to the actual ball bearing manufacturers?

Yes, sir.

And the potential business in India, are those local companies or are they companies outside of India that would build plants in India?

It is my understanding and from the information that was given to me by one of our customers that they were domestic manufacturers that had a facility or in the process of putting a facility in India. I'm not going to tell you anymore.

Okay. Then I won't ask anymore. Thank you.

No, no, I mean about the customers that I'm going to potentially talk to in India.

No, I know, that is fine. My questions are done.

Well, thank you anyway.

Michael Gallo with C.L. King.

Just a follow-up. The increase in deferred revenue of about $4 million since the end of the year, what was that?

Go ahead.

Michael, there is two significant customers there. One was -- represents about $3 million of that which was cash we received back in March for orders that we're in the process of making today. The other, the balance of that, we have another customer who orders ingot product from us and it continues to sit on the ground until they decide what sizes they want the ingot to be rolled to.

Great, and then a final question, obviously you've been adding a lot at VAR capacity. I was wondering where you stand on electro slag capacity given your earlier comments that you think power gen could be the next one to really have a surge or significant upturn?

I can assure you based on my trip that I'm going to take next week and the potential that might exist for us on the export market because we have been running our ESR furnaces 24-7, that may be a subject that I will be discussing with the Board of Directors when I get back.

Okay, great. Thanks a lot.

At this time, there are no further questions. Mr. McAninch, are there any closing remarks?

Yes, thank you. If there are no more questions, I would like to thank you for joining us today and for your continued support. There are enormous opportunities in the marketplace for Universal Stainless & Alloy Products and we are working very hard to identify, capitalize on each and every one of them. I look forward to updating you on our progress on our next call. Thank you again.

This concludes today's conference call. You may now disconnect.