Olympic Steel Inc (ZEUS) 2008 Q2 法說會逐字稿

Good day everyone and welcome to the Olympic Steel second quarter 2008 earnings conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I'd like to turn the call over to Mr. Michael Siegel. Please go ahead, sir.

Thank you, Dana. Good morning. Welcome to everyone. On the call with me this morning is David Wolfort, our President and Chief Operating Officer, and Rick Marabito, the Chief Financial Officer. I want to thank all of you for your participation and your interest in Olympic Steel.

Let me remind everyone that forward-looking statements on this call are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Please refer to Olympic Steel's SEC filings for further information.

I will cover our financial results first, and then I'll talk about our two dividend announcements that we also made this morning.

We are pleased to report record sales and earnings for both the second quarter and the first half of 2008. It was especially gratifying to achieve these results while also gaining market share. Our second quarter sales totaled $364 million, up 32% from the $275 million recorded in the first quarter of this year and up 31% from the $277 million of the second quarter of 2007.

For the first half, our sales increased 18.9% to $638 million compared to $537 million in the first six months of 2007. Our second quarter volume totaled 353,000 tons compared to 315,000 tons shipped in the first quarter of 2008, and 336,000 tons for the second quarter of 2007.

For the first half, our shipments increased to 669,000 tons from 648,000 tons. Our second quarter volume increased by 5.1%, and our first half volumes increased by 3.3%. This compares favorably to the year-over-year decline in service center shipments of 3.8% for the first half as reported by the Metals Service Center Institute.

We are pleased that our efforts resulting in greater market share for Olympic Steel as we are moving closer to our customers both in business alignments and physical presence. Our second quarter net income more than tripled to a record $29.6 million, or $2.70 per diluted share compared to $9.4 million or $0.88 per share for the second quarter of 2007. This brought our first half net income to a record $42.8 million or $3.93 per diluted share, compared to $14.7 million or $1.37 per diluted share last year.

We believe we are appropriately positioned in terms of inventory, valued added processing capabilities, and liquidity to perform well through this historical seasonally slower sales period of the third quarter. Maintaining our everyday disciplines of managing working capital turnover provides us with a very strong balance sheet which is beneficial in the current steel market where carbon prices and liquidity needs have risen to unprecedented levels.

Before Rick covers the financial results in more depth, I would like to spend a few minutes reviewing the two dividend announcements we made this morning. I am pleased to report that Olympic Steel's Board of Directors has approved both an increase to our regular quarterly cash dividends and a nonrecurring special dividend.

Our Board approved an increase of $0.01 per share on our regular quarterly cash dividend to $0.05 per share. The Board of Directors also approved a special nonrecurring dividend of $1.00 per share. Both dividends are for the shareholders of record of September 1st, 2008, and both are payable on September 15th, 2008. The dividends were approved as a result of the company's extraordinary performance during the first half of 2008.

Given the company's strong balance sheet and cash flows, our ongoing increased capital spending initiatives that David will cover later in the call and the company's commitment to growth, it was deemed appropriate to reward shareholders at this time.

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

Thanks and good morning, everyone. Our gross margin increased to $291 per ton in the second quarter, which is up from $200 per ton in the first quarter of 2008 and $166 per ton in the second quarter of 2007. The margin strength results from higher pricing and growth in our value add business and a sales mix of less toll processing volume in the second quarter.

Our operating expenses totaled $55.6 million in the second quarter. That compares to $39.8 million last year. The increase is primarily due to increased variable performance based compensation, higher transportation costs associated with the increased volume and escalating fuel costs, and increased investments in IT systems, value add processing facilities and equipment.

Our operating income for the second quarter totaled $47.3 million, or 13% of sales, compared to $15.9 million, or 5.7% of sales, last year.

Interest expense for the second quarter of 2008 was $160,000 compared to $853,000 last year. For the first half, interest totaled $187,000 compared to $1.9 million last year. Our low levels of debt, lower rates, and capitalized interest on certain long-term capital projects are resulting in the lower interest costs this year.

Our effective tax rate for first half of 2008 was 37.5%, and that compares to 37.2% last year. We expect our effective tax rate for the remainder of the year to be relatively constant with the first half rate.

Now, taking a look at our balance sheet, we continue to manage credit in our accounts receivable very well. We ended the quarter with $135.7 million of accounts receivable, and that is up $47.3 million from the end of 2007. The higher receivable level was due to the stronger sales and higher pricing. Our receivables days sales outstanding, or DSO, remains very strong at 38.5 days in 2008.

Our inventory totaled $237 million, and that is up $58.7 million from year-end. Year to date, we have turned our inventory in 2008 an average of 4.8 times, and that is slightly better than what our turnover rate was in the first quarter of 2008.

Despite a nearly $54 million increase in working capital levels over December 31st, we have only seen our debt increase by about $15 million since year end, and that is a result of our strong cash flows. We finished the quarter with about $97 million of unused availability on our credit agreement.

We spent $14 million in CapEx in the first half of 2008, and that's on a $40 million spending plan for 2008. And David will provide some details of how we're spending that money and he will outline some of our growth plans in a few minutes.

Due to the timing of completing and paying for these projects, some of the $40 million will not actually be spent until 2009. So, some of it'll slip into 2009.

Our current quarterly dividend payment of $0.05 per share equates to an annual cash payment of about $2.2 million, and a special nonrecurring dividend of $1.00 per share equates to a cash payment of about $10.9 million.

Our capital structure remains strong and flexible. Our debt to equity ratio is 0.1 to 1, and our trailing 12-month debt to EBITDA ratio is 0.3 times.

And finally, our shareholders equity per share has increased to $28.46 at June 30th.

And now, I will turn the call over to David.

Thank you, Rick, and good morning to all. And as Mike said at the onset of this call, it is indeed gratifying to be able to speak about our second quarter results and the strength of them.

As we have noted before and articulated earlier, our -- we have strategically built a very strong balance sheet which is allowing us to fully participate in a steel market that has reached new pricing heights.

While the credit crunch and high steel prices are constraining many of our contemporaries and competitors, we are positioned well to take advantage of the investing opportunities in 2008 and beyond. We are in the midst of one of our most ambitious capital spending plans in the company's history. And, as Rick noted earlier, we'd planned a $40 million capital spending program for 2008 and we are well into it.

And while this is quite a substantial amount, we are spending the money wisely and strategically on new value added processing equipment, new systems and technologies, and locations and penetration and additional geographies that bring us closer to our customers.

Let me review our first half spending followed by some of our future growth plans. I'll start with new facilities.

We recently announced that we will be opening -- operating, excuse me. We recently announced that we will operating from our new value added satellite facility in Dover, Ohio and in Sumter, South Carolina. We will build 100,000 square foot facility in Sumter, South Carolina, while the 62,000 square foot facility in Dover is an existing building that we have agreed to purchase.

Those two locations will allow us to better serve our OEM customers in central Ohio and South Carolina by locating closer to their plants and providing just in time deliveries of steel component parts multiple times a day.

As Mike described earlier, we like the strategic model of adding value added satellite facilities which move us closer to our customers, both in terms of physical presence and business outsourcing and alignment.

We envision expanding our footprint with more of these satellites in the near future. In addition to new satellites, we are currently -- have approved plans to expand certain of our existing facilities and add floor space and equipment to accommodate customers. And if you'll remember, we added two additional facilities in 2006. We spent the following year absorbing those and bringing them up to our standards and profitability. That was an additional 150,000 square feet in Chambersburg in 2006, and of course our purchase of Siler City, North Carolina.

We expect to be operating from the Dover facility, the 62,000 square feet, yet this year. And we are currently servicing our customers from South Carolina through temporary leased space while our new Sumter facility is being constructed.

These two new operations enhance our processing and fabrication capabilities in their respective regions as we plan to perform plasma cutting and shot blasting in Dover, and plasma cutting, heavy press break work, and welding in Sumter, South Carolina.

We'd like to acknowledge and thank the states of Ohio and South Carolina as well as Tuscarawas and Sumter Counties for their efforts and support in welcoming us to each of those new areas. We are excited about these opportunities to grow our business.

In terms of new equipment, we also began producing and shipping sheet product from our new Red Bud stretcher leveler cut-to-length line in Minneapolis late in the second quarter. The equipment serves customers with high quality flat sheet products as well as feeds our downstream laser equipment in that region.

The equipment is also freeing up heavy gauge capacity on our Iowa temper mill, which will allow us to reach some new geographies from Bettendorf, Iowa. And if you'll remember, we constructed an additional 54,000 square in Bettendorf, Iowa and brought that on at the end of last year.

We have also invested in a number of new pieces of equipment such as laser, plasma, shot blasting, press breaks, welding, and automation capabilities in 2008. As mentioned on previous calls, we are also exploring locations to add new temper mill equipment to expand upon the more than 400,000 tons of tempering we currently perform from our existing temper mills in Cleveland and Bettendorf, Iowa.

We continue to make investments in technology, automation, and our companywide IT system implementation which is progressing very well. We successfully implemented the accounting portion of the new IT system in July.

In summary, we are very pleased with 2008 financial performance, the performance of a Olympic Steel's employees, and our position in the marketplace. As Michael indicated, our strong balance sheet and liquidity position is allowing us to invest in our future growth while rewarding our shareholders.

Most importantly to our customers, we have access to steel they need and we are making the investment in facilities and equipment to ensure and provide our customers with superior quality and service, close proximity to their locations. You always have to advertise if you're a commercial guy.

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

Thank you, sir. (OPERATOR INSTRUCTIONS.) And we'll take our first question today from Bob Richard of Longbow Research.

Good morning and thanks for taking our call.

Sure, Bob.

Your gross margin per ton most impressive, especially with your inventory turnover as robust as it was. Mike, you had said earlier that your plan was to achieve a consistent $200 per ton, I believe, gross profit per ton. Do you think that's sustainable? I think it's a lot more than just plate price appreciation this quarter.

Well, Bob, it's hard to gather where all the pieces fit in. But, there is no question that we continue to accelerate our value added capabilities, and that is what's needed to drive that consistency in terms of the gross margin per ton. Also recognizing that with some diminishing toll processing, which is sort of a fixed amount, that will help some of that gross margin per ton. But, yes, we're very pleased with our progress.

Your outlook on the tolling business, Mike, is that going to get any better any time soon?

As soon as automotive gets better. It's predominantly automotive, Bob.

Okay.

And I'll close with what's your outlook for steel pricing for the balance of the year, Mike? There are some disparate opinions out there, and I'd like to get your take on it.

Look, there are many people who do those forward forecasts on pricing. So, we don't see any conditional change to change the current environment, Bob.

Okay, fair enough. Thanks. Great quarter and thanks for your color.

(OPERATOR INSTRUCTIONS.) We'll go next to Aldo Mazzaferro of Goldman Sachs.

Hi, Michael.

Hey, Aldo.

Hey, in terms of your view on the third quarter where you mentioned you were cautious but favorable outlook. I can see how you're well positioned in terms of the internal dynamics in your company. I'm just wondering how would you say you would characterize the third quarter in terms of its weakness seasonally compared to other past quarters, past third quarters that you've seen in terms of weakness versus second quarter.

That's a good question. Aldo, I would tell you I don't think it's any different than any seasonal third quarter from our perspective. I think the issues that are macro, that we have no influence over, are probably a little bit more fraught with risk. The banking environment certainly is more risky today. There are all kinds of things that we can't control that may impact us.

But, the credit markets are certainly riskier. There's no question that domestic automotive is riskier. But, other than a normal seasonal third quarter, I don't see anything much different for us at this moment.

Right.

In terms of your inventories, I know you don't like to talk about the tonnage change, but your inventory value versus December is only up around 20% in dollar terms. And I know the industry has increased in general, the inventories have increased in tons. Are you in that -- would you say your tonnage is up a little bit from December, or would you say you're not up? Any guidance you can give us on that?

Aldo, it's Rick. I mean, we do give our inventory turnover statistics on these calls, so we talked about our turnover in the second quarter being slightly better than the first quarter. And the way we measure turnover is obviously in tonnage, so you don't have the impact of the dollar skewing your turnover rate.

So, that's kind of where we are. We're turning our inventory a little bit faster in the second quarter than we did in the first quarter.

With higher tonnage output on the sales side.

Right.

Okay.

Then finally, Mike, on the divided, the special dividend I think is a very good move. I'm just wondering going forward if you'd see the steel markets getting a little more level and you see working capital requirements getting a little less onerous. Do you think we're going to see a trend of continued higher dividends going forward?

Well, certainly from a regular dividend standpoint, Aldo, we're pleased that we've been able to increase the regular divided on a regular basis. My guess is it's our intention and the Board's intention that it continue to do regular increases on the regular dividend.

I think that nonrecurring dividend is exactly what it says it is. It's a nonrecurring dividend given in extraordinary circumstances and we're thrilled to reward the shareholders.

Right. Well, thanks, Mike. I'll turn it over to someone else.

Okay. Thank you, Aldo.

And we'll take our next question from Chris (Haberlin) of Davenport and Company.

Good morning. Hi. Just had a couple quick questions here on your expansions. And correct me if I'm wrong, but you all -- the Iowa expansion was finished in February, is that right?

I'll tell you, Chris, I can't exactly remember when the occupancy permit was given, but we finished it on budget, on time. And I believe -- well, we know all the structure was up and we were partially -- we were moving toward occupancy, and I can't remember the exact time, whether it was 40 days past the end of the year or not. I really don't remember.

Okay, can you give us an idea of how much that added to shipments in the quarter?

In the quarter? It would be difficult, Chris. It is a much bigger plan than just the additional 54,000 square feet. So, let me just give you a little background here on what our central region plan was.

Our central region plan was to add 54,000 square feet to Iowa to allow us to move larger bundles off our temper mill into the addition and get more productivity off of that temper mill. Additionally and simultaneously, we were also bringing on a stretcher leveler line, Red Bud stretcher leveler line, 3A 72-inch wide capacity in our Minneapolis coil facility that was receiving product from Iowa for our downstream laser operations. That was delayed by the machinery manufacturer, and I believe that came on in May.

In addition to that, we also brought on a number of additional outside sales representatives and two additional sales management professionals in that region to -- again, to be able to foster the growth in both of those facilities.

So, it's a much broader approach than just the 54,000 square feet. And we are seeing additional participation as we've seen it across the board in all of our stores.

And I just wanted to make sure I heard you right. You said that the new stretcher leveler in Minnesota has come online?

It has come online. It is operating. It is -- I won't tell you it's 100%, but it's very close to it. We brought it on in May and we've debugged it and it's producing the quality product that we were hoping for. And it is giving us, again, greater opportunity in Iowa to replace those tons, and we are in fact doing that.

Thanks a lot.

Okay.

Thank you.

And we'll take our next question from Mark Parr with Keybanc Capital.

Hi, this is Phil for Mark. How is everyone?

Great. How are you?

How are you, Phil?

Good. Just first, the admin and general, $19 million in the quarter, solid absolute pick up from the first quarter. And I know you had touched upon some variable compensation and increases in freight and the increases in IT spending. I was wondering if you could kind of just break some of that out and how should we think about that number, because it's obviously very large and -- in relation to the first quarter.

So, it's Rick. We've talked about that in the past. The bigger component of that increase, or the biggest component of that increase, is the variable compensation. So, we are very much tied into performance throughout our whole company from management all the way down. So, we have incentive plans that are aligned with our financial performance, and that's the biggest chunk of it.

You can obviously go to the face of the income statement and you could see the increase in delivery expense, which that's where the fuel costs and the increase in the volume resides.

But, the big piece of it is the variable comp, and that number obviously goes down if the results aren't there. We're just happy that the results are there and happy to reward our people who perform very well.

Okay. And is the IT, increased IT spending in there, because it's --.

The IT is up a little bit year-over-year, but not substantially. I mean, the big piece of it is the variable comp.

Okay.

And then, in the carbon plate market, I mean, that's obviously been publicized as being very strong. You can see it in the shipment numbers from MSCI and a lot of people reporting strength here. I'm just -- kind of wonder what you're seeing, Mike?

Yes, you're right. The plate market's very strong, Phil. I don't know what you're driving at, but clearly we're picking up market share. I think as David indicated in his comments, the key is having access to material. You have to have it to sell it. So, on both sides of our business, both the flat roll, which is probably a little more challenged overall in the marketplace, and plate, Olympic is seeing pretty good pick ups in our market share on both of those products.

Okay. That's just kind of what I was looking for.

And stainless sheet, we know that that's kind of fundamentally been challenged more than the carbon side. Just wanted your thoughts on the view going into the second half of the year and into '09, if you expect a rebound and stabilization in prices there.

I'll give that to Dave.

Yes, Phil, David here. It's all based on nickel and nickel's been on a roller coaster, mostly a downhill ride. And because of the severe swings on nickel, there is less -- a smaller tendency for people to want to hold any product because of the degradation, and of course the surcharge associated with it.

We've seen a little bit less demand on the heavy side of stainless as it is involved with ethanol plants, and some of that spark has dwindled a little bit. But, overall, our commercial stainless business remains even, and we remain vigilant in watching the inventory levels because of the associated nickel surcharge.

Right.

And just a last question here. I know you touched upon the CapEx and your budget being $40 million and some of that creeping into next year. Can you just kind of repeat the figure that you'd given for the first half of this year? I know you did about $8 million in the first quarter. I think I missed it.

Yes, so we've done $14 million in the first half.

Okay. And the second?

The second half, I mean, obviously we have the plan for the $40 million and we're going full steam ahead on that plan. It's very hard for me to say how much of that that we start in the third -- the fourth quarter ultimately gets paid for in the first and second quarter of next year.

I'd tell you the run rate we're on for the first half is a -- it's a pretty good run rate to use for the second half. So, we'll probably be close to $28 to $30 million, I would -- if you asked me to guess right now.

But, that's not because we don't have plans to spend it, Phil -- nor are we [cutting back]. It's just the equipment manufacturers are actually very busy for a global demand to market that not only is consuming steel, but buying equipment to process steel.

Yes, lead times are a lot longer than they were a year or two ago on all of our capital expenditures.

And we'll take our next question from Nat Kellogg with Next Generation.

Hi, guys. Nice quarter. I just -- one thing if you could give me a little more color on it, obviously very nice impressive growth on the volume side, which I think particularly speaks to you guys taking some share. And just if you guys maybe could give us a little more color on where you see some areas of strength and weakness. I mean, I guess we obviously see stainless has areas of weakness, but that's not a big business for you guys. But, maybe it's on sort of end market and where you guys see it being pretty good and where you see weakness, and maybe what you expect for the remainder of the year.

I -- well, no -- I think, Nat, we don't have any insight greater than what everybody already knows. Domestic automotive and appliance are probably not going to be good the rest of this year. And certainly as David indicated, some of the alternative energy markets like ethanol are not as strong as they were last year.

Wind tower remains spotty. It goes up and down depending on who's building a wind farm today. There was a lot of hesitation because of the run up of steel pricing that maybe some of the wind farms projects were being delayed, but they'll ultimately get built.

In terms of what we see strong, clearly ag market remains to be probably the most robust in outlook for that, and infrastructure projects still remain very strong.

So, yes, Nat, you know, the market is what the market is. I think we have no greater insight than anybody else. It's been reported on by a lot of people. We're just taking market share from the good companies and good markets.

Okay, great. That's very helpful, and thanks very much. And congrats on a nice quarter, guys.

Thank you.

(OPERATOR INSTRUCTIONS.) We do have a follow up from Bob Richard of Longbow Research.

Thanks again, guys, but my questions have been answered. Thank you.

Thanks, Bob.

Thank you, sir. And we have a follow up from Aldo Mazzaferro of Goldman Sachs.

Yes, thanks for the follow up. Hey, Mike, you zeroed in on the credit risk in the market here, and I'm just wondering. Your balance sheet is much stronger than the rest of the sector, and I'm wondering if you see that as a reason that you're able to gain some market share possibly, or how are you exactly using that advantage you have in your balance sheet? And then also, relative to that, I was wondering if you've seen the market change at all, the steel market changing at all because of this credit situation? Thanks.

Wow, there's a lot of questions there. Aldo, if you remember, we were talking about a credit crunch in December. We were -- in the fourth quarter, we probably -- I can remember stating that the biggest risk for 2008 was going to be the credit markets, and that was before the mortgage crisis. So, obviously, the working capital pull on a 100% increase in steel pricing has challenged many who have had leveraged balance sheets.

I think Olympic, with its de-levered balance sheet, is a preferred customer by suppliers who look to sell to good customers who can pay their bills. So, I think the access to the material and the ability to pay the bills clearly is a strategic today. I'm not saying there aren't others who also don't have that advantage, but clearly we probably have the least amount of incoming credit calls than anybody else in the industry because nobody calls us about the ability to pay our bills.

Yes, I think we do use leverage, Aldo. I think when you look at the fundamental change, I think the sea change out there that may occur is what Alcoa did. I don't know how they implemented it, but certainly the announcement has the earthquake capability for all credit markets. And when Alcoa announced that they were going to go to net five-day terms, I don't know how successful they are at that. I don't know how they're implementing that, but clearly to see a major manufacturer of a commodity basically say, "I'm no longer willing to extend credit." You're seeing that in the automotive companies who are cutting back their leasing. And so, I think that the sea change is we all have to recognize that in the universe that has extended open credit historically, you may find all those credit markets, the free 30 day terms that you get from your suppliers, is at risk.

Right.

So, Mike, I wonder if I could ask you about the -- one of the big issues in the market is the September price increase that a lot of the mills are lining up behind. I'm wondering if you could handicap a little bit what you think the chances of success of the September increase is.

Our position, I think, Aldo, is the same as it's been for the first six months of the year, which is if you want the steel, you got to pay the price. If you don't really care about getting the steel, then we can debate whether you have to pay the $40 or not.

I think there is great resolution by the gentlemen who run these steel producers to obtain the appropriate return for their invested capital, and the way they do that is by charging more for their product.

Right. Well, thanks, Mike.

Thanks, Aldo.

And we'll take our next question from Sal Tharani with Goldman Sachs.

Hi, Mike. How are you?

Good. How are you, Sal?

Mike, is there any product that you are on allocation by the mills, either on plate or sheet side?

Is there allocation?

Yes. Is there any difficulty in obtaining any of the products in the products you deal with?

Maybe at the price we want to pay. But, David, I'll let you comment.

Oh, Sal, David here. I think that people refrain from using the word allocation, but there are stringent and agreed upon business plans that involve tonnage at all the suppliers. So, the door is not endlessly open to acquire steel. We have the ability to acquire a broad range of products, but we can't always buy the steel we want from the people that we want to buy it from. So, there's a broad range of suppliers, even though it's consolidated. Some of those suppliers we are constrained to the agreed upon numbers in tonnage that suits them and suits us.

But, we do -- we have increased our market participation, as you've seen in our announcement. We continue to be able to avail ourselves of plenty of product out there. And as Mike said, as long as you're willing to pay for the steel, there is accessibility for the steel.

All right. Thank you.

Sure.

And we'll take our next question from Noah Steinberg with Intrepid Capital.

Hi, guys. Nice quarter.

Thanks, Noah.

Just two questions on -- I didn't see this in the press release, but what was the cash and equivalents number at the end of June?

We haven't released that number yet. That'll be in our 10-Q, Noah.

Okay. And I'm assuming that's the same for the cash flow from operations?

Yes, we just -- yes, we have -- the cash flow statement will be obviously in the 10-Q. We haven't released that number yet.

All right. Thanks.

Thank you.

And gentlemen, we have no further questions at this time. Mr. Siegel, I'll turn the call back to you for any additional or closing remarks.

Thank you. As a reminder, it is our policy not to provide forward-looking earnings estimates for the upcoming quarter or year, and not to endorse any analyst's sales or earnings estimates.

We anticipate releasing our third quarter 2008 earnings on or about October 31st.

This concludes our call, and again, we thank you all for your interest in Olympic Steel.

And that does conclude today's conference call. Thank you for your participation. You may disconnect at this time.