Worthington Enterprises Inc (WOR) 2007 Q1 法說會逐字稿

Good morning and welcome to the Worthington Industries first quarter earnings results conference call.

All participants will be able to listen only until the question-and-answer session of the call. This call is being recorded at the request of Worthington Industries. If there are any objections, you may disconnect at this time.

I'd like to introduce your speaker for today's conference, Ms. Allison Sanders, Director of Investor Relations. Ms. Sanders you may begin.

Thank you, and good morning, everyone. Welcome to our quarterly earnings conference call.

Before we begin our presentation, I want to remind everyone that certain statements made in this conference call are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties which could cause actual results to differ from those suggested. Please refer to the press release for more detail on factors that could cause actual results to differ materially. For those who are interested in listening to this conference call again, a replay will be available on the home page of our Web site at www.worthingtonindustries.com.

With me in the room are John McConnell, Chairman and Chief Executive Officer, John Christie, President and Chief Financial Officer, George Stoe, Executive Vice President and Chief Operating Officer, and Richard Welch, Controller. John McConnell will begin. John?

Well thank you, Allison, and good morning, everyone. Thanks for joining us at an early time today.

We hope you had the opportunity to read our earnings release which we distributed after the market closed yesterday. We had a very good first quarter for fiscal '07 in which we increased our earnings by 50% from the previous year. Our management team and employees performed very well in a slowing economic environment to help maximize our results during the quarter.

Our format for the call will be the same as it was last quarter with John Christie, our President and Chief Financial Officer, and George Stoe, our Chief Operating Officer providing more detail and color on the quarter. I will follow with some summary remarks and address any questions you may have after that. So let's get started with John Christie. John?

Thank you, John. Good morning everybody.

For our first quarter of fiscal 2007 which ended on August 31, 2006, we reported earnings per share of $0.48, an increase of 50% from the $0.32 per share earned in the first quarter of fiscal 2006. First quarter sales of $779 million were a first quarter record and were up 12% from the $694 million for the same period last year. The sales increase was due to higher pricing. Total company volumes were stable as volume increases in Steel Processing were offset by declines in Metal Framing and Pressure Cylinders. The gross profit margin expanded significantly from 10.9% to 15.6, as a result of wider spreads between raw material costs and selling prices in all three segments. SG&A expense increased both in absolute dollar terms and relative to sales rising $19 million to 8.6% of sales compared to 6.9 last year. Most of the increase is due to greater compensation expense which includes a significant profit-sharing component that rose with higher earnings.

Quarterly operating income doubled from $27.5 million, or 4% of sales to $55 million, or 7% percent of sales. Operating income does not include the equity income from our six unconsolidated joint ventures which continue to be a significant and consistent contributor to earnings. Early results from the joint ventures were very strong at $18 million, up 38% from last year's $13 million. WAVE had another record quarter and TWB and Aegis had record first quarter results. As a group the joint venture generated approximately $175 million in sales during the three months corresponding with our first quarter. During the quarter we received $8 million in dividends from these ventures.

Collective pre-tax return on committed capital is now averaging in excess of 50% for these ventures. Interest expense declined $2 million as a result of lower long-term debt levels since the May repayment of our maturing bonds. Income tax expense rose significantly, $19 million to a more normal level. If you recall, last year's first quarter was benefited by changes to the State of Ohio's corporate tax laws amounting to $5 million, or $0.06 a share. We expect that our tax rate for fiscal 2007 will be about 35% excluding audit resolutions that occur in the normal course of business.

Now to the balance sheet. Net total debt was $359 million and our debt to capitalization ratio was 27.9% at quarter end. Debt rose from the prior quarter end primarily to fund our acquisition of Precision Specialty Metals and working capital needs. Compared to the year ago period, overall inventory levels are pressing our comfort level. On a unit basis, most of the increase was in Steel Processing with Metal Framing up slightly while Pressure Cylinders was actually down. Much of the increase in Steel Processing is a result of select purchases at attractive prices. The good news is that these incremental tons are at prices well below current market levels. We would expect to see inventories drop from the current level in the next several months generating cash. Capital spending was $17 million in line with depreciation and amortization of 15. We expect that Cap Ex will approximate or slightly exceed depreciation and amortization expense for the year.

Now to talk more specifically about the first quarter results for each of the three business segments beginning with Steel Processing which represents 51% of our revenues this quarter. Steel Processing's quarterly sales rose 14% to $401 million from $352 million in last year's first quarter. The increase was due to higher volumes, up 7% and higher pricing, up 6%. The largest customer group served by this segment is automotive. As most of you know, July is traditionally very slow for this segment because of automotive shutdowns and model changeovers. July of 2005 was one of the worst July's ever making a somewhat easier comparison this year.

In addition, we continue to grow the Steel Processing business as we benefit from our customers’ efforts to consolidate their supplier base, introduce new products such as Primacoat and expand geographically. Despite these successes, announced production cuts among the traditional Big Three for the balance of the calendar year will make for a challenging environment. Operating income from Steel Processing rose to $21 million from $8 million in the year ago quarter and the operating margin also rose from 2.4% to 5.2%. The increase was due to higher volumes and a widening of the spread between average selling prices and material costs as a result of lower priced inventory in a rising price market. This contrasts to last year's first quarter when the reverse was true.

Turning now to our Metal Framing segment which represented 27% of revenues this quarter, first quarter sales of $212 million were up 3% from last year's August quarter when sales were $205 million. Selling prices improved 15%, more than offsetting a volume decline of 10% as measured in tons. Approximately one-third of that volume decline was attributable to the new UltraSTEEL product which is lighter than traditional metal framing products per linear foot. During the past year, prices of galvanized steel, the raw material used to make metal framing, has risen significantly. According to CRU, they're up $260 per ton, or 46% since August of 2005. Because of the steady increase in prices to near record levels, we lost some volume to alternative building materials such as wood and concrete and sacrificed some in order to maintain and improve profit margins. Operating income rose from $10 million to $18 million as a result of wider spread between selling prices and material costs and operating margins also rose from 5.1% to 8.4%. Demand appears to be softening in the construction markets served by metal framing. Possible reasons include the uncertainty regarding the economy and interest rates coupled with higher material prices which have resulted in deferred project starts, attractive relative pricing for wood framing material which have fallen by roughly 25% year-over-year, and the residential slowdown which impacts approximately 20% of this segment's volume.

Finally, in our Pressure Cylinder segment which represented 16% of total company revenues, sales for the quarter were up 13%, or $14 million from last year. More than half of the increase is due to improved sales in our European market and the balance is due to higher volumes of our 20-pound propane cylinder on a year-over-year basis. We are doing well in Europe because of the tight market conditions there and also because of our successful inroads into new product lines such as air tanks and compressed natural gas cylinders. These successes more than offset a 12% reduction in sales of our small cylinders product line used for such items as camping stoves, portable heaters and handheld torches. Demand for these products in the prior year was driven in part by the increased number of hurricanes in the U.S. The handheld torch volume has also been impacted by an inventory reduction program at our largest cylinders customer. Operating income in Pressure Cylinders more than doubled, increasing $9 million from $8 million in the year ago quarter to $17 million. Consequently, the operating margin rose from 7.4% to 13.7. We believe that the strength we have seen recently in Pressure Cylinders due to Europe, consolidation savings, and new products is sustainable in the foreseeable future.

In conclusion, Cylinders, Metal Framing, Steel Processing and our joint ventures have contributed significantly to what was the second best first quarter in our company's history.

George?

Thanks, John.

Our strategy at Worthington is to drive long-term growth by leveraging our core competency in Steel Processing with higher value-added downstream businesses. We are accomplishing this by optimizing existing operations, developing and commercializing new products and applications, pursuing strategic acquisitions or joint ventures.

First I'd like to talk about what we're doing in some areas on optimizing operations. First and foremost in our mind is safety. We've spent a great deal of time and effort over the last few years in trying to work on the safety matters inside the Company. During the first quarter of this fiscal year, we had an improvement of 119% from the year previous quarter in our rate for lost time accidents. Obviously, from the well being of our employees, that's important and we greatly appreciate the efforts that they've made in that behalf, but from a financial standpoint, it also has had a significant impact for us as our worker's comp costs are down dramatically and our healthcare costs are down accordingly as well. We've also looked at ways at each of our businesses in trying to identify specific business opportunities to reduce our costs. As some of you know, I came from the Cylinders business earlier this year and we made a practice of, at the beginning of each year, identifying specific projects that we thought we could save money on and reduce our cost.

In 2007, fiscally, Cylinders as an example, has identified $3 million in cost savings projects which they are well on the way to achieving throughout this fiscal year. The other business units are identifying those same kind of opportunities and making efforts in that vein as well. Our base loading efforts with other Worthington business units continues to grow. Dietrich Metal Framing is now Steel's third largest customer and their purchases are up 27% from the year ago quarter. We recently just approved a project at our successful European cylinders facility that will expand our capacity there by approximately 25% by fiscal 2008.

A little bit about the new products and applications that we're developing throughout the Company. We've talked several times in the past about UltraSTEEL in our Dietrich Metal Framing company. They have now converted 65% of their drywall roll forming lines to the new UltraSTEEL product. UltraSTEEL recently received awards from two highly regarded trade publications, one naming it the new product of the year. Our sublicensee has started the conversion of their facilities to UltraSTEEL and that will be proceeding throughout this year and into next year. Our steel pallet is in full trial with a major retailer. We anticipate evaluation to be complete by the end of the year. Steelpac is continuing to grow in the specialty packaging arena and is now recognized as the resource for improving methods of transporting high cost parts and products. In Steel Processing John mentioned earlier, Primacoat. We've begun shipping this product, which is a new acrylic chrome-free and corrosion resistant coating. It is now being used in 15 end product applications, primarily construction related. We're also in the final stages of developing a version which is heat resistant.

We also have talked in the past about pursuing strategic acquisitions and joint ventures. We announced in July that Dietrich was forming a joint venture with NOVA Chemical Corporation to develop and manufacture durable, energy saving, cost effective, composite construction products and systems. We expect these insulated metal framing panels to overcome existing obstacles to using steel framing products for exterior walls.

John also mentioned in August we purchased Precision Specialty Metals, a privately held company based in Los Angeles. They have a 30-year history in the specialty stainless steel processing business with customers concentrated in the construction and service center industries. The transaction met financial hurdles without any synergies but it is especially attractive to us because it gives us a West Coast location to serve Dietrich and WAVE's processing needs and provides us with a new product line that could potentially be expanded to our other steel processing locations.

In conclusion, all of our businesses are working to improve their operations and take costs out. We continue to develop creative new products and processes to differentiate ourselves in the marketplace. We also continue to look for complimentary businesses to grow and expand.

George, thank you and John, thank you.

Again, we're very pleased with our performance this quarter. As you've heard from John and George, we are operating well and our internal value-added growth initiatives continue to move forward nicely. As you know, the introduction of new products is a time consuming process but with every adjustment from what we've learned in our field trials, our products improved as well as our confidence in their acceptance and future contributions.

Now in addition to Steelpac, Primacoat and our joint venture with NOVA Chemical, that George mentioned, I'm also pleased to report the completion of our mid-rise apartment building in China. It is fully framed using our light gauge galvanized steel techniques. The building is now in a testing and assessment phase working in concert with the Ministry of Construction. We've also been working with [Dankur], the largest builder in China to introduce exterior curtain wall construction. We have completed one project to date and the second is underway that should be complete in mid 2007. They are very pleased with the results so far. And while it's too early to predict the results of our building efforts in China, as with our other internal initiatives, each hurdle that we pass takes us closer to understanding the true magnitude of the opportunity that lies ahead.

Now in our news release and throughout the call, we referred to a slowing market condition as the first quarter developed. In our release we also added, as we have on occasion before, an outlook section specifically addressing automotive and office construction markets. While it's impossible to project the exact impact of these markets on our second quarter, we may be below our expectations as well as yours. We expect most of the shortfall to fall on Metal Framing where between 10 and 20% of planned projects are currently on hold.

Now there's a lot of data on the construction industry. Our primary end market in Metal Framing is office construction. If you were to look at the dollar volume in office construction as reported by Dodge, the market would appear relatively flat. But if you were to look at the square footage being built, the market is off between 10 and 20%. At this moment, dollar volume is misleading in part due to the high cost of steel and other raw materials. A belief that steel prices may fall over the next few months is clearly one of the reasons many projects are on hold in a temporary basis. We believe these projects will be released during this quarter but it's difficult to say with certainty when. While the second quarter will be challenging our overall overview remains very positive. The Company is operating well and we believe the overall economy will continue to grow. We are nearing the goal line on several of our internal growth initiatives, any one of which can add strong earnings growth. And last, we continue a sharp focus on acquisitions. We have been very active on this front and we continue to have a full pipeline of identified opportunities. I'm confident that we will succeed in finding and making strategic additions to our business mix over the next six to 18 months.

While we face transitory market conditions particularly in Metal Framing, we are a solid business operating under a proven business model with a strong --

[Technical difficulties] Please stand by. The conference will resume momentarily.

If we're back, I apologize. I have no idea what just happened there but if you didn't hear me, I said we are ready for any questions that you might have. I think, are we on?

Yes, sir, and thank you. At this time we're ready to begin the formal question-and-answer. [OPERATOR INSTRUCTIONS] One moment, please. Our first question is Michael Gambardella. You may ask your question.

Yes, my question is, how much of the softening in your construction business do you see from competition from alternative materials for steel studs?

It's definitely there. It is impactful in all construction commercially under three stories. Once they go above that level, metal framing is required by code, so any of those kind of structures you'll see where you see one or two story office buildings going up or a low level commercial space, they can convert to wood and some have. It's difficult to give you an exact percentage of that impact but, clearly, that's been impactful for those lower rise buildings.

You mentioned that about 20% of your steel stud business is residential. Of the 80% that's non-residential, about how much is, you know, would fall under that three story limit where there is substitute capability?

Again, I don't have a good grasp on that data point, but I can say that while -- and the residential part may be confusing to people because we often talk about our efforts to further penetrate single family homes and that's, when we do that, we're talking about full framing. So much of the residential impact comes in multi-story family residential and a lot of accessory products that we have end up in single family residential from corner bead to lap and products like that. About 60% of our studs end up in this office construction market and that's a crucial market for us.

So you're saying that 40% is residential then?

No.

All right, then what's the 60%?

That's if you looked at a portion of our revenue that we rely on, metal studs being sold in through the commercial construction markets that are over three stories and, well, I shouldn't say over three stories, into that market generally, most of which is over three stories for us, and much of that is in office construction.

Okay. Thank you.

Mark Parr from KeyBanc Capital Markets, your line is open.

Thanks very much. Good morning.

Good morning.

I have a couple of questions. First, could you talk about your pricing strategy for the UltraSTEEL process in terms of incremental value you may be realizing as opposed to the standard studs?

The answer to that is we are really using UltraSTEEL at a market competitive price. We definitely have some additional margin pick up at that price from a traditional stud simply because we get more linear feet out of every coil and therefore more studs out of every coil.

Okay. Can you give me some idea of the approximate increase in lineal feet per ton?

I don't have that.

I think that it's about 13 to 15%, somewhere in that neighborhood.

Okay. All right. That's helpful. I had one other question if I could on the metal processing business. Could you talk a little bit about the sources of your unit volume growth? Is that share gain? Is that an increase in toll processing or could you give us some more color on the growth that you're achieving there?

In Steel Processing, Mark?

Yes.

We actually have, because of the consolidation to financially secure suppliers, our volume is up 7%. We have actually increased our penetration into the auto industry and our new product introductions, like Primacoat, has also allowed us to enter new areas of the construction market, so it's spread across but I would say that in the auto industry, we are getting a bigger share than we did in the past.

Okay. And one last question, if I could. Is the source of your below market steel inventory foreign or domestic?

It's a mixture of both. Also, on the sales growth, remember George talking about increased sales internally to Dietrich as well.

Okay. Terrific. Okay. Thanks again, congratulations.

Thank you.

John Tumazos, Prudential, your line is open.

Good morning. Congratulations on all of the products and progress.

Thank you, John.

I want to make sure I understood what you said in your remarks. Did you say that you increased your inventory of steel deliberately because the suppliers had something like a back-to-school sale?

I don't believe that was said. No.

Well, but you said you bought at prices lower than the current prices.

That is correct. As the opportunity came. It was not a back-to-school sale, however, and that inventory is across all of our divisions, the bulk of it is in Steel Processing. From a year ago quarter, from the end of the quarter of May 31 or end of our year, we're up 70,000 tons across all of Worthington Industries and, as you know, we probably pass through here over 250,000 tons a month, more than that, so we're a little higher in our comfort range but it is not in total excess.

So you're carrying about ten days worth of sales in extra inventory?

That's correct.

And what sort of inducement would be enough to cause you to relax your inventory discipline? $50 a ton?

No. We're going to, John, and when we went through the more volatile periods over the last few years, we have stressed we're going to try to remain very focused on controlling our inventories and not get into playing with the market. We do believe that the market is going to be much more stable. I think there will be some downward movement in pricing, I don't expect it to be significant and, therefore, as we go forward and get more confidence in that, maybe we look at carrying a little more inventory than we have in the past so that our service people, if the opportunity came up or a situation did, we probably would but I think we want to see that market prove out what we believe will happen and become a reality before we relax what we're trying to do here.

John, also a part of the inventory increasing, I said the primary part is processed steel. We do have a little buffer inventory in our Metal Framing division because of the conversion from normal studs to our UltraSTEEL studs, so as we rolled that out, we had to have some buffer inventory.

Thank you.

Our next question, Chris Olin, Cleveland Research. Your line is open.

Good morning.

Good morning.

Have you, or I guess a better way to say it, are you seeing more Asian sheet offers today? I'm wondering if the mills overseas may be trying to export more product related to the VAT tax [chain]. I'm just wondering if you're buying.

We have not seen anything outside of galvanized where you're getting the opportunity to bring much in that fits what we do. We have done some exporting, or importing, excuse me, of galvanized products primarily around our WAVE product and a little into Metal Framing going forward.

Thank you.

[Dan Weyland] of Bear Stearns, your line is open.

Good morning everyone.

Good morning. I missed who was on the call here, please.

It's Dan Weyland from Bear Stearns.

Good morning.

Just a quick question regarding the weakness in commercial construction. Are you seeing regional pockets of particular weakness or is it pretty broad-based?

I think it's pretty broad-based and maybe a better way to look at it is that the coasts are probably stronger than the rest of the country, and I think that holds up pretty well. Everything else I'd say is pretty flat. There is clearly some residential pockets that are remaining stronger than other areas of the country and we expect the Gulf Coast and coastal areas to continue to improve in the year ahead.

Okay. Great. Thank you.

[Frank Duno], Adage Capital, your line is open.

I want to just follow-up on something John Tumazos was asking you.

When you said that you thought pricing would be relatively stable going forward which would allow you to increase your inventory to service your customers better, I don't know but most people I know if they were confronted with what they thought was a stable situation, I don't know about most, but a lot of people would reduce inventory just because there's no reason to carry inventory if you don't have to because that implies you don't have a problem getting supply either and so you don't need to carry as much inventory. I'm just trying to figure out why you wouldn't do that instead.

Well it's really -- and, again, I didn't say we would plan to, I said if we got into certain situations where supply was a critical issue and we thought it was, we were better off to carry some additional support inventory to service a particular customer we would be more willing, basically, because there wouldn't be much fear that the price would turn and give us a problem with a higher priced inventory than the market condition.

Right.

So it gives us more flexibility in that regard. But we intend to, because it is, obviously, a very expensive part of our business, carrying inventory, to keep a very tight reign on the amount of inventory we carry in our businesses.

And I guess I'm just trying to reconcile, you know, we're -- being worried about supply and stable. I mean if you're worried about supply that implies the lack of stability somewhere.

Well, I'm not worried about supply, so I'm not sure what I said that made you think so.

Okay.

I think that part of how pricing will stabilize is a fluctuation in the available supply.

Okay.

I don't think, you know, they will just try to keep tonnage production to what they believe market demand is.

Okay. Thanks.

So it will keep good balance going forward.

Thank you.

[OPERATOR INSTRUCTIONS] Timothy Hayes, Davenport, you may ask your question.

Hi, good morning.

Good morning.

Just wanted to, for the Steel Processing segment and the Metal Framing segment, how much of the quarter's profitability was due to the sort of the so-called inventory gains with the rise in steel prices, you know, similar to what we saw in calendar '04 with prices going up, you had the, some what we call temporary inventory gains just from carrying material and selling it at a higher price.

For the entire Worthington Industries it was a little over $0.06.

And could you break that out by the two segments?

Probably I would say two-thirds Steel Processing, one-third Metal Framing. That will be close.

Okay. Thank you.

And at this time there are no further questions.

Well, again, I want to thank you all for joining us at an early hour this morning. We have given you an outlook for the second quarter that says it's going to be very challenging, largely in metal framing. This is a temporary situation. I believe that there is buildings on the books that are going to be released here over the next 30 to 60 days but, again, that's not in our control. And another thing that we often look at is the architectural building index. While not specific to office construction it shows to be a reliable indicator of forward movement in the markets. And in August, after three months of being negative, which was also a precursor to this moment, it has jumped to its highest level in over a year so, again, we are looking forward to these markets returning to good, strong levels for us and we will have to wait and see how long these buildings and projects that we know about stay on hold and therefore what the impact will be in the second quarter.

Thank you again. Hope you finish your day well.