Olympic Steel Inc (ZEUS) 2007 Q2 法說會逐字稿

Good day and welcome to the Olympic Steel second quarter 2007 conference call. Today's call is being recorded.

At this time for opening remarks and introductions I would like to introduce Mr. Michael Siegal. Please go ahead, sir.

Good morning and welcome to our call. On the call with me this morning is David Wolfort, our President and Chief Operating Officer, and Rick Marabito, our Chief Financial Officer. I want to thank all of you again for your participation and interest in Olympic Steel. Let me remind you that forward-looking statements on this call are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995, and please refer to Olympic Steel's SEC filings for further information.

I'm pleased to report our sales and earnings for the second quarter of 2007. For the quarter our sales totaled $277.4 million, which is an 8.3% increase over last year's second quarter sales of $256.2 million and a 6.9% sequential increase over our first quarter 2007 sales of $259.4 million. For the first six months of the 2007 year, our sales totaled $536.8 million, which is 8.4% higher than last year's first-half sales of $495 million. Our net earnings also improved year over year and sequentially. Our second quarter net income totaled $9.4 million, or $0.88 per diluted share, compared to net income of $8.4 million or $0.79 per diluted share in last year's second quarter and $5.3 million or $0.49 per share in the first quarter of 2007.

Our second quarter sales increase was achieved on a 1.9% overall less tons sold and processed, as we shipped 336,000 tons in the quarter compared to 343,000 tons in last year's second quarter. Sequentially, we did ship about 8% more steel in the second quarter compared to the first quarter. For the first half, our tons sold totaled 648,000 tons compared to 681,000. Our year-over-year tonnage decline of 4.9% is better than the 8.7% drop seen in industry-wide flat rolled service center shipments in the first half as reported by the Metals Service Center Institute's market activity report. Our direct sales tonnage actually increased between years. The 2007 tonnage decline is attributable to lower toll processing volume for automotive customers and lower sales to service centers in the spot market this year, due to the industry-wide inventory reduction, predominantly at the service centers that we've seen in 2007.

We are looking for a potentially improving marketplace in the second half of the year once we move past the normal summer seasonal slowness. Our outlook is being driven by continued low levels of imports, service center inventories that continued to decline in the second quarter, and now to be -- appear to be balanced with demand, and I think that is the eighth consecutive month that it has declined. And we anticipate steady demand, if not improving demand for the balance of the year. On a longer-term view, we remain committed to investing in value-added services and supply solutions for our customers, including adding and increasing to our existing facilities, equipment and technology to support our growth of value-added processing, and gross margin expansion. As such, we have committed for capital to investments than in previous years. In the first half of 2007 we spent $5.5 million for capital projects in progress, including: A new red bed stretcher leveler cut-to-length line in Minneapolis; new laser plasma machining and quality testing equipment in Cleveland and Chambersburg, Pennsylvania; and a 54,000 square foot addition to our existing Iowa facility. We also remain focused on the implementation of our new information system, which is progressing on time and on budget.

In addition to those system implementation costs that are being capitalized, we have incurred significant incremental operating costs in 2007 associated with the system implementation that have been absorbed into our current-year earnings. Since we started the system project in July 2006, last year's operating expenses do not include any such costs. So I would state that our strategies of increasing market share, growing gross margin per ton, managing expenses tightly, and disciplined debt and cash management are all being accomplished. I'm also pleased to report that Olympic Steel's board of directors has acknowledged rewarding our shareholders by approving an increase in our regular quarterly cash dividend up to 4% per share. The dividend will be paid on September 17, 2007 to shareholders of record on September 3, 2007. This represents an increase of $0.01 per share from the previously -- from the previous regular quarterly dividend of $0.03.

I will now turn the call over to Rick to comment on some of our financial results in detail.

Thanks and good morning, everyone. First I'll cover some of the income statement items that Michael has not yet covered. Our second quarter EBITDA totaled $18 million, which is up from first quarter of $11.6 million and comparable with last year's second quarter total of $18.1 million. For the first half of '07, our EBITDA totaled $29.6 million, and that's compared to $33 million in last year's first half. Our operating expense ratios have remained in line at 14.4% of second quarter sales and 14.5% of first half sales. That's compared to 14.6% and 14.5% respectively in the prior-year periods. In terms of the real dollars, the expense increases were, as Michael said, attributable to the inclusion of items that we had this year that did not exist last year. Number one, PS&W's expenses this year -- and as a reminder, we had acquired PS&W in June of 2006 -- and secondly, as Michael highlighted, the incremental costs associated with our new IT system project, which also did not start until July of 2006.

Interest expense for the second quarter totaled $853,000 and that compares to $345,000 for last year's second quarter. For the first half, interest expense was $1.9 million, compared to $499,000 in 2006. So the increases in interest costs are due to higher borrowings in 2007 in support of our higher sales and our higher working capital levels. Our effective tax rate for the first half of 2007 was 37.2% compared to 37.7% last year, and we anticipate that our effective tax rate will continue to be in the 37% to 38% range for the balance of this year.

Now, let's turn to the balance sheet. We ended the quarter with $121 million of accounts receivable compared to $86 million at year end. The increase in receivables is due to the higher sales levels, as our accounts receivable day sales outstanding remain very strong at 38.7 days in 2007 and that's comparable with the prior year. Our inventory at the end of the second quarter totaled $197 million, and that is $13.7 million lower than year end. It's up a little bit from the end of the first quarter. We turned our inventory 4.6 times in the first half, and we have already lowered our inventory position and improved our turnover in July. All of our debt is revolver borrowings. Our working capital at June 30th totaled $228 million. That's a $12 million increase during the first half of 2007. So despite the working capital increase and the $5.5 million we spent on capital expenditures, our debt is actually decreased by $4 million to $64 million at the end of the second quarter. That's during the six-month period. We ended the first half also with $64 million of unused availability under our credit agreement, and like inventory, we have lowered our debt in July.

In terms of our capital spending, Michael covered how we spent the $5.5 million in the first half, and as indicated, we are investing in more downstream strategy, and we would anticipate spending as much as another $10 million to $15 million of CapEx in the back half of this year. Our capital structure remains strong and flexible, with the debt-to-equity ratio of 0.25 to one, and a trailing 12-month debt-to-EBITDA ratio of less than 1.2 times. And effective with a recent July amendment, we permanently increased the size of our revolver to $130 million, and our credit agreement also contains an accordion feature which allows us to add another $25 million to our borrowing capacity. So we have good room in terms of the ability to spend some money and have capacity on the line. Lastly, our shareholders' equity per share increased to $23.65 at June 30th.

And now, I'll turn the call over to David.

Thank you, Rick, and thank everyone for being on the call. In summary, Mike talked about our investments in value-added equipment to support our long-term value creation strategy and enhance our gross margins. Our strategy is indeed paying off, as we have steadily increased our gross margins per ton over the past few years. Let me take a moment to provide some details of our capital deployment projects, which will highlight the areas that will provide future margin enhancement as we have designed. We have a new big bed laser in Cleveland that was just installed in July, making that our fourth large bed laser here in Cleveland. Our Chambersburg facility is awaiting delivery of a new high-definition plasma machine, which should become operational in the third quarter, and I would remind you that we added 150,000 square feet -- a second building, to that facility last year, first quarter of '06, and that is running well. Additionally, our 54,000 square foot addition to our existing facility in Bettendorf, Iowa is ahead of schedule and the new space should be production-ready by the end of 2007. The new area will provide more production space to serve our customers from this facility, which already houses a temper mill laser processing facility, shotblaster and oxygen burning.

In July, we completed the integration of our two fabricating facilities into one in Siler City, that's the PS&W acquisition of June 2nd of '06 that Rick referred to earlier. The facility's consolidation will provide enhanced productivity and lower our cost base there. Additionally, we also anticipate that our new stretcher leveler cut-to-length line to be located in our Minneapolis coil facility will be installed by year-end and operational in the first quarter of 2008. This equipment will serve customers with high-quality sheet product, as well as feed our downstream value-added laser equipment, and free up more processing time on our Iowa temper mill, which is currently running at capacity and again, will enhance volume there with the addition to that facility that I just mentioned. Our new laser punch equipment is now operational and adds value-added processing capabilities to our Chicago operation.

As Michael indicated earlier, we are also investing heavily in new information technology and infrastructure upgrades, which will support our future growth. Our three-year systems project commenced in the third quarter of 2006, and again, as we mentioned earlier, it is proceeding according to plan and on budget. We are now successfully operating our own trucks in our Pennsylvania facilities, which are both Philadelphia and Chambersburg, which are enhancing our productivity and customer service while lowering our transportation costs. We expect to add more trucks to service our Cleveland and Iowa customers yet this year.

In summary, we are pleased with our first half financial performance and our position in the marketplace. Our management team has performed well in a very competitive 2007 environment. Our strong balance sheet, as Rick indicated, affords us the opportunity to make investments in our future. We continue to explore new locations for further transformation of flat rolled steel into parts and subassemblies for our OEM customers. We are analyzing both domestic and foreign service center and fabrication acquisitions, while also investigating greenfield opportunities to gain a closer relationship with major OEM customer activity. Lastly, as Michael indicated, our second half outlook for the market is favorable despite the seasonally summer softness in demand that we are still experiencing. U.S. service center inventories are now at a 16-month low, and through June inventories have fallen for eight consecutive months. Imports are low and are not expected to be impactful for the remainder of the year. We are optimistic about the steel market, and the opportunities that lie ahead for Olympic Steel yet this year.

This concludes our formal comments, and we will now open the call to your questions. Thank you.

(OPERATOR INSTRUCTIONS) And we'll take our first question from Timothy Hayes with Davenport & Company.

Good morning.

Good morning, Tim.

Hi, Tim.

Just a few questions. On your inventory, on -- from Q1 to Q2, did your actual tons of inventory go down during the quarter?

The tons remained pretty flat.

Okay. And then on -- question on the plate market. There's a facility in Gary, Indiana, I think it's Middle, is bringing back some capacity in the plate market. Any idea what impact that might have on price? Is that something that could actually close the gap between play prices and hot rolled sheet?

Well, Tim, Dave Wolfort, here. The Gary plate mill that Middle is bringing up is the old U.S. Steel facility and they are allocating some of that to export, some of it to specific marketplaces, and then about 25% or so to the general marketplace. Demand for plate is strong, and continues to be strong. I think also in the wake of the recent disaster here in Minneapolis, St. Paul, you're going to see even greater strength in the plate market as we move forward. There's a recognition here domestically and obviously the infrastructure of the United States needs massive improvement. The governor of Pennsylvania just signed a bill yesterday and we would expect to see continued strength and the renewed vigor, particularly in fabrications and big structurals and plate.

Okay. And then last question, the IT spending in the second quarter, how much was that?

Well, part of the IT spend is capitalized and part of it is expensed. We've-- the expensed portion is more than $1 million in the first half of this year and the capitalized amount's about $1 million, too.

Okay, thank you.

You're welcome.

Thanks, Tim.

We'll take our next question from Mark Parr with KeyBanc Capital Markets.

Hey, good morning.

Hi, Mark.

I had a follow-up question to Tim's on the operating expenses. There's about $1 million sequential increase in administrative and general expenses, and was wondering if that's a temporary bump up or if there's anything permanent there that would continue to impact the second half?

Well, I think the run rates in terms of the second quarter are pretty indicative of -- on G&A what we'd have going forward, Mark. Part of the admin expense, as you know -- we've mentioned before -- is incentives. Our incentives are -- mainly reside in that line and as profits go up, that bumps up a little bit. And then I think we did have a little bit more expense on the IT project in the second quarter versus the first. But you got pretty good run rates in terms of looking at second quarter and what we'd expect going forward.

Okay. All right, that's also -- that's helpful. And Michael, I ask this question occasionally, I just ask it again, do you think -- looking at the gross profit -- the gross margin line or the gross profit per ton, do you think that there's a reasonable opportunity for further upside to that in the second half? And could you give us any color on where it might come from and how much it might be?

Yes. Well, I don't know how much it might be. It's a factor of mix, as you know, Mark. Obviously, I think it's impressive that through the first half of the year our gross margin per ton has increased about $10 a ton from the previous year.

Yes.

That's in light of a declining steel market, and a significant decline in the stainless market, particularly on the pricing side.

It really speaks well to your internal programs, it really does.

Well, thank you. And so again, as those particular markets flatten out from a pricing perspective, there could be margin expansion from the steel side. So what you're seeing, Mark, is from the pure steel side, with the margins squeezed, we've still been able to accomplish a pretty substantial gross margin increase, which speaks to the strategy of getting more value out the door in the steel that we do provide. So I think we're all pleased with our efforts to create a value equation for our customers.

Okay.

There is substantial opportunity to increase that as we go forward.

All right. So I mean and you would put that in the context of the second half of the year, I think, is where you're coming from as far as the time frame, is that fair?

I would hope it more than that, Mark, I hope it's every year. Obviously, like I said in the second quarter where you saw that -- you saw squeezing pricing, we think that -- the parts that we're providing and the opportunities. As our large-end use customers consolidate, they're looking for solutions on a national and global basis, as opposed to having hundreds and hundreds of fabricators to them, they really want to slim that down and we've been able to take some advantage of that.

That's really helpful. I was just also wondering, Dave, you had mentioned that there's -- that this Minnesota situation is -- it may be the straw that breaks the camel's back as far as getting money set loose for infrastructure renewal, and I'm just wondering if you have any data or if you could point us in any direction where we might be able to get some sense of pending backlog that could potentially get let loose here in the next six to 12 months?

Mark, I think there's an overwhelming consensus in the -- just in the general climate that we have been negligent as a nation in curing our infrastructure roads. I don't know specifically what piece of data to point you to, but as you well know, it's a constant battle getting federal funds released for highway and should come forward here, but the grading of our bridges throughout North America by independent resources has us rated at substandard relative to the developed world, and I think you're going to see a tremendous pull on that.

Mark, there was an interview with Governor Rendell of Pennsylvania yesterday afternoon. His number was he expects a $20 billion federal funds release this year, which he was very disappointed by. He said we have over a $20 billion need in Pennsylvania alone, so a billion dollar Pennsylva -- national is not nearly enough. But as more unfortunate tragedies may occur -- you had the big pipe in New York City, you've now had this bridge in Minnesota -- I would anticipate as these things occur that you will find more money for these infrastructure projects in substantial portions in the very near term.

Okay, that -- I think that's very encouraging. One other thing I'd ask, Michael, July is always kind of a funny month. Sometimes it can be really difficult, other times not so bad. Is there any color that you can give us on what your markets are looking like in July?

Was that Joe Pesci funny, HA-HA? No, I'm sorry. (LAUGHTER) No, I would tell you that we've lived through a lot of different Julys'. I would characterize this one as surprisingly better than we would have anticipated.

Okay. That's really encouraging. Congratulations on the great progress, you guys really seem to be doing the kind of blocking and tackling that's going to add long-term structural value and it's -- I think it deserves to be acknowledged in the market.

Well, thank you, Mark. But just be careful when you drive over the Detroit Superior Bridge on your way --

I think they just rebuilt that one. (LAUGHTER) I shouldn't laugh about that. Thanks again.

Thank you, Mark.

And we'll take our next question from Matt Kellogg with Next Generation Equity Research.

Hi guys, just a couple of quick ones. First of all, I mean, obviously I know Ingersoll's a big customer of yours, I'm just wondering what, if any, impact the sale of Bobcat might or might not have for you guys?

Matt, Dave Wolfort here. It's been anticipated, obviously, since Herb Henkel announced it, We think his selection, Doosan -- the old Daewoo -- is as good a selection as any. We're an integral part of their manufacturing. And obviously, we wouldn't have any knowledge of what Koreans have in mind or in store for that product line. However, we continue to service them today at an increasing rate and we would hope to enjoy further participation. You'll also remember, in their road machinery division, which was sold to Volvo earlier this year -- as a matter of fact I think it closed in May -- we've had a seamless transition there and we continue to supply those entities and welcome Volvo as an owner to -- again, to those entities. So again, we haven't -- we've only enjoyed progress, so we would anticipate doing the same here.

Okay. You said increasing rate, not decreasing rate, correct?

Right.

Make sure I heard you correctly. And then just on the CapEx spending, did you guys, I think -- did you say $10 million to $15 million, is that going to be the full year or that's going to be the second half?

Second half. Some of the projects that we talked about are in process, like the expansion to the building and the stretcher leveler line, so we've made down payments on those, and as we progress and finish those projects, we'll be paying more money out on those.

Okay. So we're looking at a full year, sort of $15 million to $20 million.

Yes, right in there.

Okay, that's helpful. And I just -- outside of inventories, what gives you guys the bullishness that I think you guys have talked about for the second half that may be a little bit more than some of the other guys that I've talked to or that some of the other service centers are saying out there? It sounds like you guys are a little bit more optimistic. Outside of the inventory position and the service (inaudible) centers, is there anything else that gives you that outlook?

Well, again, I'd just like to say our customers are the ones that are telling us that their outlook is good, and we're only a reflection of them. In some of the markets that are softer, domestic automotive, we're not a major player. The housing markets, we're not a major player, we don't play in the appliance markets. So those markets, which have been softer to date have really not impacted us. And in some of the cases where we're -- where we are large, which is the road construction and the farm industries and the alternative energy markets, are looking pretty good back half of the year. So it's just a reflection of what we're hearing from our customers.

Okay, fair enough. Great, that's great. Thanks guys very much.

(OPERATOR INSTRUCTIONS) We'll take our next question from Aldo Mazzaferro from Goldman Sachs.

Hey, Michael.

Hi, Aldo.

Good, how you doing?

Good.

Sorry, I think there's a little static in my line. I hope you can hear me okay.

Yes, you're fine coming through.

Okay. The question I had was on your average selling price for the steel. This is one of the few times that you've gone contrary to the market, it seems, with second quarter having risen, I think, on general hot rolled coil pricing and your second quarter seems to have (inaudible) a little bit sequentially, and I'm wondering if you can -- is there a mix change that would have accounted for that and what might be your relationship, you think, to market pricing going forward?

Well, I think it's -- what you see, if you look at the tons sold, Aldo, you see a degradation in towing tons.

Right.

So I think probably the most significance there is just the mix of direct sales versus towing tons. Therefore, obviously if we're selling more and not doing to towing, our selling prices go up, because towing is $30 to $60 a ton, or $80, whatever the number is, so just a service nonsteel component will change the selling price in on itself.

So if I were to assume that next quarter that these market price for steel was down say $30 in the second quarter, would you think you'd [attract] that or you think you might be able to hold your pricing?

Well, again, you're talking about a spot market reduction --

Yes.

-- Aldo, and again, as we indicated earlier, our sales to other service centers, which are probably the spot market participation at its greatest, we're already seeing a pretty significant degradation. So while there's always price pressure in the market, I would not anticipate the prices falling in a general sense, but there's certainly a price pressure out there. Our organization does a very good job in selling value as opposed to price, so I hope we can maintain that. And again, if we see towing tons come back in on itself, it will lower the average selling price, Aldo, but it is a very big mix issue. And obviously, stainless pricing is still very questionable in terms of what its net price will be from now to the end of the quarter. So surcharge there has an impact, the towing tons has an impact, but value selling, hopefully, with good performance to our customers, it helps mitigate the volatility in the pricing market, which is our strategy.

In the carbon steel market right now, are you seeing any changes in the last few weeks in lead times?

In lead times?

Yes, lead times.

Not really. I mean, mill by mill they're a little different but overall I would tell you that they've been shorter than historical and remain at that spot today.

How soon do you think you could see the seasonally impact start to show up in the order books?

Hoping tomorrow. (LAUGHTER) How soon? You know --

It's happened in the past as early as -- I mean, it's happened in August quite easily sometimes, I'm just wondering whether --

I don't know. Again, I think because -- there's a number of factors out there, Aldo, what -- when does the bell ring? Typically it's somewhere around the third week of August. Could that be pushed back into September? The answer is yes. But it's a question of -- our belief as always is trying to create value to the customer. The mill lead time is short, there doesn't seem to be any cause for people to go in and rush in orders when the mill lead times are so short. So it's a chicken-and-egg theory. The orders come in, the lead times jump out and all of a sudden everybody gets on the band wagon. That could occur at any time. I would tell you the mills probably have a better handle on that than we do in terms of when that might change.

Okay. A final question, maybe for Rick or you, Mike, or Dave, is you look at your inventory right now and you try to anticipate the cost of goods sold going through the third quarter, do you think your average cost of goods sold per ton goes up or down in the third quarter?

And at this time we have no further questions.

Hold on, we haven't answered the question, James. (LAUGHTER) Hold on.

Aldo, I don't know what I'm allowed to answer. (LAUGHTER)

We didn't prompt James to jump in there.

Tell you what, I would guess it's going to go up a little but I don't know?

You know, our inventory, Aldo, is appropriately priced for the marketplace today. We spend a great deal of time, as you well know, trying to understand the marketplace and indeed understanding it and anticipating the cyclicality. We understand that service center shipments in general have been down relative to where they were last year, inventories have fallen, but because the daily shipping rates have dropped we probably don't see quite the snap that we expected to as early as we did. However, that is all catching up to itself and I would tell you that our inventories --again, answering, I think, to the best of our ability, the value of our inventory is appropriately priced for the marketplace today and we are optimistic about the back half of the year as we stated in our comments.

And the other thing I'd add to that, Aldo -- it's Rick -- is we're pretty consistently turning our inventory five times. So if you kind of look at the price -- market pricing in the second quarter and you probably made that comment because pricing, it sort of peaked in the May time frame, and -- but we're turning it five times. So we -- on average, we've got a couple months' worth of inventory on hand and so some of the high stuff -- the higher [costed] stuff from when the market had peaked has already started going through in the second quarter and beginning the third quarter, and prices went down a little from there. So I think on average it's probably going to be pretty close.

It's average.

Yes.

Sounds good.

Thank you, Aldo.

Thanks, take care.

Now, James.

And now we have no further questions. Back to you, gentlemen.

Before the wrap-up, I hope all the stakeholders listening are aware that one of our core values at Olympic Steel is corporate citizenship. We have been proud of the fact that our employees and Company have been a major supporter of the Make-a-Wish Foundation. In 2007 we sponsored seven wishes to children and their families. I wish to express our condolences to the family of Nathan Hornbuckle, one of the recipients, who unfortunately passed away before he could receive his wish. Three year old Nathan was a fighter and struggled through his disease, but it's a real tragedy when any child dies and he passed away Wednesday and our condolences go out to his family and to his friends. So with that, as a reminder, I would like to remind everybody that our policy is not to provide forward-looking earnings estimates for the upcoming quarter or year, and not to endorse any analyst sales or earnings estimates. We anticipate releasing our third quarter 2007 earnings on or around November 1st, and this concludes our call. And thank you for your interest in Olympic Steel.

That concludes today's presentation. We thank you for joining and have a wonderful day.