Universal Stainless & Alloy Products Inc (USAP) 2009 Q2 法說會逐字稿

Good morning. My name is Tasha, and I will be your conference operator today. At this time I would like to welcome everyone to the Universal Stainless & Alloy Products second quarter 2009 conference call and webcast. (Operator Instructions) As a reminder, today's call is being recorded. Thank you. I would now like to turn the call over to Ms. June Filingeri of Comm-Partners. Please go ahead.

Hi. Thank you, Tasha. Good morning, everyone. This is June Filingeri, and I'd also like to welcome you to the Universal Stainless conference call. We are here to discuss the Company's second quarter 2009 results which were reported this morning. With us from management are Denny Oates, President and Chief Executive Officer; Bill Beible, Senior Vice President of Operations; Paul McGrath, Vice President of Administration; Rick Ubinger, Vice President of Finance and Chief Financial Officer; and Chris Zimmer, Vice President of Sales and Marketing.

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 remind you about 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'd like to turn the call over to Denny Oates. Denny, we are ready to begin.

Thanks, June. Good morning, everyone. Thanks for joining us today.

In the second quarter of 2009, despite a 27% drop in sales compared to the first quarter, we generated operating income of approximately $600,000, a net profit of $0.05 per share, before recording a negative tax adjustment of $0.11 per share.

We executed the operating plan that we discussed in our last conference call, which called for aggressively reducing operating and overhead costs, focusing on cash generation, and rapidly flexing operating levels to meet market demand. We moved quickly in the face of deteriorating economic conditions and substantial destocking in the supply chain.

Our cost control and working capital management yielded operating cash flow of $13 million, a fourfold increase from the first quarter. And we ended the quarter with $34 million of cash versus a total debt of $13 million.

Our cost control efforts did not interfere with our commitment to provide our customers with unparalleled service levels. We continued our strategic capital investment in the melt shop during the quarter, and we kept the project on schedule and on budget. The upgrades placed into service have already produced better product quality and improved material yields, enabling us to reduce costs as well as increase on-time delivery and shorten lead times. We have captured additional orders from our customers as a result.

While there are indications that market conditions have bottomed, short term -- short lead times are critical right now because significant channel restocking has not begun. It is important to note that our order entry has increased each month since April, which was our low point for order entry this year. However, our bookings are still well below normal levels, and our backlog was down to $38 million at the end of the second quarter.

We have also implemented base-price increases for stainless-steel bar and tool-steel plate in the second quarter, which are currently holding in the marketplace.

Before I begin my review of end markets in the second quarter, let me note that we have adjusted the way we categorize some grades of steel internally, based upon recent discussions with our customers about product applications. We want to ensure that we are identifying the right end markets for certain grades of steel for our management purposes as well as for our discussions with you.

In general, we have reclassified certain grades previously reported within our general industrial end-market category to power generation and petrochemical. In addition, we are changing our discussion of tool steel products to service center plate products to allow us to include sales of stainless-steel plate products, a strategic growth initiative for the Company.

Aerospace remained our largest end market in the second quarter of 2009, representing 40% of sales versus 32% in the year-ago period and 45% in the first quarter. Our aerospace sales were down 40% year-over-year and 36% sequentially.

As you have heard from other metal suppliers, destocking in the aerospace supply channel was severe in the quarter, as concerns about aircraft cancellations and build schedules, along with tight credit conditions, continue to weigh on the sector.

While Boeing kept its delivery guidance for 2009 at an estimated 480 to 485 airplanes in their recent earnings report, they also reported adding 57 gross orders to their books in the second quarter, but removing 52 other orders. Continued delay of the 787 isn't helping either, although there has been no real change to the plans for 737 production, which is a positive for us.

As I noted last time we talked, our aerospace customers are largely service centers, and the difficult economic conditions led service centers to significantly reduce inventories during the quarter. At this point we believe that destocking has essentially stopped, and we're seeing some modest order entry gains.

One of our accomplishments during the second quarter was the achievement of AS9100 certification for our larger facilities in Bridgeville and Dunkirk, New York. Our Titusville facility has had AS9100 since 2005. The AS9100 certificate is a big plus as we pursue new opportunities in the global aerospace market.

Our sales to the power generation market represented 26% of second-quarter sales, versus 16% of sales in both the year-ago period and in the first quarter. In the second quarter of 2009, our power generation sales were down 21% year-over-year, but they rose 20% sequentially, due mainly to our improved lead times. Our customers want to avoid holding inventory in their books any longer than necessary.

While we're optimistic we can win more business because of improved customer service, power generation demand isn't growing at the moment. In fact, our customers are working off backlogs that are not refilling quickly, and G.E.'s second-quarter report shed some light on why. G.E. received 26 orders for gas turbines in the second quarter of 2009, versus 58 in the same quarter last year.

Our sales to the petrochemical market represented 19% of our sales in the second quarter, versus 22% in the year-ago period and 21% in the first quarter. Petrochemical sales were down 60% year-over-year and 36% sequentially. The decrease is due to the continued decline in exploration in the oil and gas markets.

Schlumberger reported that the North American recount declined approximately 27% in the second quarter, while gas drilling in both the US and Canada reached a five-year low on continued weak demand and high inventories. We expect to see more destocking in the oil and gas channel.

Our service center plate sales represented 9% of sales in the second quarter, versus 18% in the year-ago period and 11% of first-quarter sales. Lower shipments of tool-steel plate were partially offset by an increase in stainless-steel plate shipments. As you may recall, we have expanded our plate processing facilities over the past several years in our Bridgeville facility to further penetrate the tool-steel and stainless-steel plate markets.

The global recession and auto industry woes have significantly reduced industrial manufacturing and tool-steel demand. For example, industrial bellwether Caterpillar not only reported a 41% decline in second-quarter revenues, but also said their dealers have deeply reduced their machine inventories.

It is our opinion that service centers have finished their destocking of tool steel, and we are beginning to see some light returning to the market based on increased tool-steel orders in recent weeks. Higher automotive production and car model changeovers should also help demand. We expect 2010 to be a better year for tool steel than 2009.

With that, let me turn the call over to Rick at this point for his comments on the financial performance.

Thanks, Denny. Sales for the second quarter of 2009 were $30.8 million, compared with $63.5 million in the 2008 second quarter and $42.2 million in the 2009 first quarter. The decline in sales in comparison to the year-ago period was attributed to the 40% decrease in shipments and lower surcharges, partially offset by base-price increases that Denny mentioned. The sequential decline in sales was attributed to a 29% decrease in shipments, as well as a lower percentage of finished products shipped during the quarter.

We recorded a net loss of $400,000 or $0.06 per share in the quarter, which included a $742,000 negative tax adjustment, equivalent to $0.11 per share, primarily for the reconciliation of tax balances to the 2008 federal and state income tax returns to be filed in the third quarter of 2009. A component of this adjustment relates to the reduction of our estimated annual effective tax rate for 2009, from the 40.3% utilized in the 2009 first quarter to 37.2%.

In comparison, we recorded net income of $5.3 million or $0.77 per diluted share in the 2008 second quarter, and a net loss of $3.8 million or $0.57 per share in the 2009 first quarter, which included unusual charges of $3.6 million or $0.53 per share.

As a reminder, the 2009 first-quarter, pre-tax, unusual charge of $6 million can be further segregated between cost of goods sold, with $3 million allocated to the Universal Stainless segment and $900,000 allocated to the Dunkirk segment, and selling and administrative expense of $2.1 million. My further reference to the 2009 first- and second-quarter results will exclude the impact of these unusual charges.

Universal Stainless segment sales were down 49% from the second quarter of 2008 and 27% from the first quarter of 2009. These declines were primarily due to reduced shipment volumes and lower surcharges in comparison to the prior-year results.

Gross margin for the 2009 second quarter was $2.3 million, or 9% of sales, versus 14% in the second quarter last year and 2% in the first quarter of 2009.

Material cost as a percentage of sales improved to 39%, from 54% in the year-ago period and 49% in the 2009 first quarter. This improvement is directly related to a better alignment of material costs and related surcharges assessed and yield improvements recognized on shipments late in the quarter. However, our operation cost of sales per ton shipped increased in the current quarter due to the lower production volumes.

Dunkirk segment sales were down 52% from the second quarter of 2008 and 10% from the first quarter of 2009. These declines were also due to reduced shipment volumes and lower surcharges in comparison to the prior-year results. Dunkirk's gross margin for the 2009 second quarter was $368,000, or 4% of sales, versus 14% in the second quarter last year and a negative 7% in the first quarter of 2009.

Material costs of 62% of sales were in line with the year-ago period and improved from 71% in the 2009 first quarter. Our operation cost of sales, which were higher in comparison to the year-ago period due to production volume, improved sequentially due to the cost reduction initiatives implemented during the first quarter.

Our selling and administrative expenses dropped as a result of our cost reduction initiatives, from $2.6 million in both the 2008 second quarter and the 2009 first quarter to $2.1 million in the current quarter. Most of the reduction is related to the 20% reduction in salaried personnel during the first quarter.

Finally, during the quarter we generated cash flow from operations of $12.7 million. We reduced our managed working capital, consisting of accounts receivable and inventory minus accounts payable, by $11 million. This was achieved through a 22% reduction in pounds of work-in-process inventory, mainly consisting of higher-priced material.

Capital expenditures during the quarter were $3.9 million, of which $3.2 million related to the Bridgeville melt shop upgrade.

That completes my review of the financials. I will now turn the call back to Denny.

Thanks, Rick. The quick aggressive actions we took in the first quarter enabled us to generate an operating profit and attractive cash flow in the second quarter. You can expect more of the same in the third quarter. We are confident we will maintain our strong financial position despite the current low-volume environment. Additionally, we are continuing to build for the future by making strategic capital investments, enhancing customer service levels, and expanding product offerings.

That concludes our formal remarks. We're now ready to take your questions.

(Operator Instructions) Your first question comes from the line of Michael Gallo with CL King.

Hi, good morning.

How you doing, Mike?

Good. My question, Denny, is on the aerospace market. I was wondering if you can give us your view on where you think we are right now. I mean, it sounds like the destocking has largely run its course, but I guess the question is, where do you see us on end-market demand? Obviously there's been some recent commentary from companies like United Technologies indicating that they think Boeing and Airbus may have to cut their production next year. So, wanted to get your thoughts on whether you think, in the next 12 months, aerospace kind of bounces along where it is here, whether you think it might get worse, or whether you think the bottom is it and think things start to improve.

Our view is -- when we look at the aerospace market is that we'll be moving sideways for the next six to 12 months, from where we've been the last couple months, as an industry. Now, what does that mean to a mill like Universal? We've been suffering through a fairly dramatic destocking of metal in the supply chain, so I don't want you to take that view to mean that we won't see some higher shipment volumes in the aerospace business.

What we're seeing is the destocking essentially, as you said, seems to be over. Our customers are basically buying for their needs, and they're being very conservative in their buys, not doing anything longer than a month or two out, and basically playing things close to their vest. So I would expect to see our shipments to the aerospace market and, of course, we won't have the destocking, but the overall end-use demand -- the chew-up rate as some people -- the term some people would use -- I don't see increasing significantly over the next six to 12 months.

Okay, great, very helpful. And then, just a question on the power generation market. I mean, you mentioned you saw some destocking ahead. I mean, any feel for how much excess inventory there is in the supply chain and whether you think that's something that happens pretty quickly or whether you think it's fairly protractive?

I don't see that supply chain as overstocked as the aerospace business was, for example, or the oil and gas business appears to be today. As we talk to our customers and our customers' customers, the general feedback is that backlogs are being worked off here as we go through 2009. People are fairly comfortable, given their current backlogs, with business levels through the first quarter of 2010, but things get a little murky after that. They're not seeing the amount of replenishment coming in -- new order entry, new contracts, new projects, and things of that nature. So it gets a little murky.

I don't know that I can put a number on that, but we're not expecting it to be as dramatic as what we've seen in the aerospace market in terms of destocking. And the other thing we've been able to do with some of the changes in our operating practice is to capture some additional business with shorter lead times.

Okay, great. And then, just sort of putting all those comments or tying them together, between the inventory destock, end-market demand that's kind of moving sideways on the aerospace side, would you expect to see some modest sequential improvement in revenues as you get to Q3 and Q4 off of -- be it off low levels? Any view on that? I mean, I know you obviously haven't given any guidance the last couple of quarters, but just kind of trying to get a feel for direction whether Q2 is the bottom and do we just go sideways from a revenue perspective? Or do you think we start to see things ratchet up now that the inventory's cleared through?

Well, let me put one caveat on everything. There's an awful lot of uncertainty out there. But our view of the business over the next couple quarters is that we will see -- and we've used the exact term you just used, Mike -- modest improvement. Modest improvement in third quarter, a little better in the fourth quarter. As we come through the summer months, which is normally slow -- there's a seasonal element here -- we would expect to see some improvement in order entry as we move through the tail end of the third quarter into the fourth quarter.

Okay, thanks a lot.

You're welcome.

Your next question comes from the line of Nat Kellogg with Next Generation Equity Research.

Morning, guys. Congrats on a pretty nice quarter, especially given the environment.

Thank you.

Just on the material cost of sales -- I mean, I know you guys talked about it back in Q1 and then in here in Q2 about sort of aligning, obviously, the cost you guys have in inventory with where market prices are. And just curious if you could give maybe a little bit more -- I mean, obviously, it was a nice improvement in the quarter. And just if you guys could give a little more color on sort of are you guys -- are those now in the line? Is there still a little bit farther to go as far as working through higher-cost material, or are we at the point now, with nickel prices moving up again, that you guys are starting to be spending a little bit more on materials because nickel's moved up and all the rest of it?

I think if you look at that bubble of high-cost inventory that we were working off in the first quarter, at the last conference call, I indicated that by the end of the second quarter I would think we'd be largely through that, and we essentially are. If you look at our Bridgeville facility, our semi-finished products, I think we definitely are. If you look at some of our longer-lead-time finished products that ship from our Dunkirk facility, there's still some of that higher-cost material in inventory, but it's not that material.

Okay.

So I'm pretty comfortable telling you that's largely behind us.

Okay. And so where we are in the quarter we saw -- that's probably sustainable going forward?

Yes.

Okay, that's helpful. And I know you guys touched a little bit in the press release, but just sort of a little bit of update maybe on where you guys are as far as CapEx spending surrounding the upgrades and sort of how much more to go. I know, on a timing base, you guys gave us some sense, but just sort of cash out the door, how that's looking right now.

As far as the capital spending goes, the vast majority of that is on our investment in our melt shop. As Rick indicated, out of the $3.9 million, I believe $3.2 million of it was for the melt shop.

Okay.

If you look at that project, that'll still be the main driver of our capital spending for the next several quarters. We anticipate wrapping that up in the spring of 2010. So do you have a specific forecast?

Our forecast for the balance of the year for the melt shop project is about $6 million to $7 million will be spent.

Okay.

And then the balance of the monies would then be spent in 2010.

Okay. Which would be about how much?

About $2 million.

$2 million? Okay, that's great. And will you guys at some point have to take -- I mean, at some point, will there be any shutdowns associated with that over the next six to nine months? And will you need an inventory build in front of that, or is that not going to happen?

Now, we've had a series of shutdowns since we began the project. We had one in March. We had one in May around Memorial Day, one in July. We would expect another one around Labor Day. Frankly, this is a good time to be doing this because with volume being down as far as it is, it's not a big problem to manage the time. You don't have a big concern about building inventory in front of the outages and so forth.

Okay, that's helpful. And then, just, I guess last question is, inventories continue to be worked down, but obviously sales have come down faster. But just get a sense of -- it sounds like you guys obviously are expecting things to tick up a little bit over the next couple of quarters. Should we expect inventories to still come down a little bit more, or are they about where you guys want them, considering that business might get a little bit better sequentially?

Let me bounce that to Bill. Bill Beible.

Good morning. We have in our operating plan going forward a continued reduction in our work-in-process inventories, again primarily at Bridgeville, but we expect to see some additional reductions. We're still working on compressing cycle times and expect to take more inventory out.

Okay. That's great. And you don't want to be so bold as to put a number on it, do you?

He may, but I don't.

Okay, fair enough. All right, guys. Well, thanks very much. Appreciate the color, and I'll head back in the queue.

Thank you.

Your next question comes from the line of Phil Gibbs with KeyBanc Capital Markets.

Hi, gentlemen. Good morning.

How you doing, Phil?

Doing well. Metal spreads were up really nice in the quarter as your raw material costs came down and pricing came up, each better than I thought, much better than I thought. What are you looking at as far as 3Q? Do you expect more -- do you expect an increase in pricing realizations and maybe a pick-up in raw material costs? How do you view spreads trending into the third quarter?

Let me turn that over to Chris Zimmer, our VP of Sales and Marketing.

I'll comment on some trends that we see coming in the third quarter. The surcharge mechanism that we have in place works off of a two-month trailing of the metal charges. So a lot of the prices that we saw increasing through the second quarter are going to be realized in third-quarter surcharges that are increasing higher. So from a unit standpoint, I do expect our selling prices to be higher than they were in the third quarter compared to second quarter.

Is there any feel for whether -- for if you can give us -- as a percentage of the transaction pricing, how much of that would be surcharge and how much of that would be base?

That's a very difficult item to answer from the standpoint of -- some of our customers, the surcharge is built into their base sales price because we quote at the time of order entry, whereas some are kept separate. So we don't really have a good feel for that.

Okay. As far as the backlog, it sounds like things are starting to stabilize a bit, like you said, in aerospace, your major end market, and things might be getting a bit weaker in power gen and in petrochem. Were you expecting maybe backlogs go down a little bit in 3Q, but at a much slower rate?

I'm looking at backlogs to move basically sideways, maybe slightly down.

Okay. And then lastly, the CIT phenomenon -- I know you work with a lot of smaller forgers and rerollers. I'm wondering what the impacts of the CIT issues may have on some of your customer base and the industry.

So far, Phil, we have not seen any negative impact from CIT. We did take the big charge in the first quarter for a bad debt reserve. We have not seen any further deterioration of our customer base in terms of their ability to pay invoices on time. So, we -- at this moment, there are no indications that the CIT matter is going to affect our customer base.

Okay, thanks, guys.

Your next question is a follow-up from the line of Michael Gallo with CL King.

Hi, just a follow-up question. Any progress on international sales in the quarter? Thank you.

Given the economic climate there, I can't really say there's been an awful lot of progress. I will tell you that we have continued to work with several customers. We've shipped them trial orders. Our material was approved at one customer in particular. Chris and I were over to Sweden recently, and we feel we have a good relationship there with some customers. We're also been in the Middle East.

So not a lot of volume in terms of shipments. I can't point to anything in the backlog that's going to knock your socks off, but we continue to kind of push that wheel. The overall global economy being down, though, has kind of minimized our opportunities.

Thank you.

(Operator Instructions) There are no questions at this time.

Okay, well, thank you very much for joining us today. We look forward to updating you on our progress at the end of our third quarter. Have a good day.

Thank you. This concludes today's conference call. You may now disconnect your line.