Olympic Steel Inc (ZEUS) 2014 Q4 法說會逐字稿

Good morning and welcome to the Olympic Steel fourth-quarter 2014 conference call.

(Operator Instructions)

Please note this event is being recorded. Some statements made on today's call will be predictive and are intended to be made as forward-looking within the Safe Harbor protections of the Private Securities Litigation Reform Act of 1995 and may not reflect actual results.

The Company does not undertake to update such statements, changes and assumptions or changes and other factors affecting such forward-looking statements. Important assumptions, risks, uncertainties and other factors that could cause actual results to differ materially are set forth in the Company's reports on Forms 10-K and Form 10-Q and press releases filed with the Securities and Exchange Commission. Today's live broadcast will be archived and available for replay on Olympic Steel's website.

At this time I'd like to introduce your host for today's call, Olympic Steel's Chairman and Chief Executive Officer, Michael Siegal. Please go ahead, Mr. Siegal.

Thank you, operator. Good morning and thank you all for joining us to discuss our 2014 fourth-quarter and full-year results. Dave Wolfort, President and Chief Operating Officer; Rick Marabito, Chief Financial Officer; and Don McNeeley, President of our Chicago Tube and Iron business are also with me on the call this morning, so let's begin.

Customer demand was strong throughout 2014 and contributed to our record net sales in both the fourth quarter and full year. Our 14% growth in annual tonnage sold more than tripled the MSCI industry average of 4.2% during the year as we grew our market share and increased our capacity utilization. Net sales in the quarter grew 12.5% to an all-time fourth-quarter high of $327 million compared to $290 million in last year's fourth quarter.

Full-year net sales reached $1.4 billion and also set a new Company record rising $173 million, or 40%, compared with last year. Both of our reporting segments generated higher net sales during the year, revenue in the flat products segment increased 16% and our tubular and pipe products segment sales were up 3% over last year. We believe strategically in periods of declining prices that retaining customer volumes in order to offset margin pressures allows us to be positioned as the critical supplier when price volatility reverses.

Our experience shows that buying lost business back significantly is, shall we say, lot more costly than retaining volumes in these types of markets. As you are aware, a number of factors outside of our control caused metal prices to deteriorate in the second half of the year and constrained our profitability. Some of these factors include slower growth around the world particularly in China, Brazil and Europe and an appreciating US dollar which caused foreign steel producers to flood the US with near record imports and continue to do so as we begin in 2015.

Steelmaking input prices for most dollar-denominated commodities, including iron ore, coal and oil also fell substantially in the second half of 2014 thereby putting additional downward pressure on metal pricing. The deterioration in metal pricing coincided with our annual testing for intangible asset impairment and resulted in a write-down of 59% or $23.8 million of goodwill on our financial statements. This is a non-cash charge that was recorded in the fourth quarter in 2014.

I would like to remind everyone that Olympic Steel does not have any material exposure to the oil and gas industry. Fluctuation in capital expenditures in the energy and petroleum markets do not have a material impact on our sales volumes. Our tubular and pipe products are sold primarily to customers in the industrial and agricultural sectors.

We also sell highly engineered products such as rectangular mechanical and structural tubing, hydraulic and stainless tubing, boiler tubing and fabricated pressure parts, valves and fittings. While declining rig counts and drilling activity have not impacted our results, we have been challenged by less capital spending on infrastructure and the reduced demand in the mining and the military and the agricultural sectors. Our strategy has always been focused on sustainable success and profitable growth at every stage of the industrial cycle.

Many of the investments made and actions taken in recent years were to mitigate the impact of commodity price fluctuations on our business by diversifying our product portfolio and expanding our geographic reach. The strategic penetration into the stainless steel and aluminum markets is one example of this.

Olympic Steel currently serves approximately 5% of the US stainless steel service center market up almost 700% from six years ago. Rick will highlight our plans to report our specialty metals business which consists of stainless sheet and aluminum -- stainless steel and aluminum as a separate segment in 2015.

Even with a more diversified product portfolio we are not insulated from global market fluctuations. Waiting for the market to improve is never an option. Therefore, we are diligently taking steps to enhance working capital, cash flow and operating efficiencies.

During the fourth quarter in spite of negative market sentiment, we reduced inventory by more than $18 million and paid down $25 million in debt. We expect further reduction in both inventory and debt in the first half of 2015.

Last month we initiated a comprehensive profit improvement program to lower operating costs and enhance margin. We closed an underachieving facility and reorganized management resources to oversee specific divisions where performance is expected to improve.

We also consolidated certain corporate and divisional roles and have implemented transportation and purchasing initiatives to boost profits. As an example, we identified additional shipping lanes currently outsourced to third-party freight haulers where we can achieve significant cost savings by using our own fleet. We intend to increase our proprietary trucking fleet by about 15% in 2015 bringing it to over 90 trucks so that we can capture these savings and David will expand on other aspects of the overall plan in a minute.

I want to state emphatically there is a sense of urgency to execute on this program and a majority of the initiatives are already well underway. At this time we are not apt to predict the totality of the cost reductions or the margin initiatives. We do anticipate these actions will be apparent in our future results.

We are pleased with our growth achievements in 2014. Higher volumes in strategic markets and in the new facilities resulted in record net sales and increased market share.

Moving forward, we will diligently manage the factors within our control. We are committed to keeping capital expenditures below depreciation, continuing to reduce inventory and debt and at the same time enhance operating efficiencies and profitability.

And now I'll turn the call over to Rick for an overview of the financials for the quarter and the year.

Thank you, Michael, and good morning, everyone. As Michael stated, our specialty metals business has historically been part of the flat products reporting segment. Beginning with the first quarter of 2015 we will report specialty metals as a separate segment.

Therefore going forward we will have three reporting segments. Number one, a flat carbon products segment; number two, a specialty metals segment, which contains stainless steel and aluminum flat products; and number three, our tubular and pipe products segment.

Turning to our income statement. Year-over-year shipments increased in every quarter during 2014. As a reminder, we only report tons sold for our flat products segment which currently again includes the specialty metals business.

During the fourth quarter, we shipped 286,000 tons of flat products compared with 251,000 tons in the same quarter last year. This was an increase of 14% in the quarter and pushed full-year volume of flat products to 1.2 million tons which was also an increase of 14% over the 1.1 million tons we sold in 2013.

Total profits in tonnage was up 31% during the year. Consolidated net sales in the fourth quarter rose 12.5% to a fourth-quarter record of $327 million compared with $290 million in last year's fourth quarter.

For the full year, net sales increased 13.7% to a record $1.4 billion, up from $1.3 billion in 2013. The entire increase in net sales for both the fourth quarter and full year was due to the higher shipping volumes in 2014. On a consolidated basis, average selling prices in 2014 were unchanged from last year as a 2% increase in the flat products average selling prices were offset by a 3% decline in the average selling prices for tubular and pipe products.

Net sales in the flat products segment increased 16% in both the 2014 fourth-quarter and full-year periods compared with 2013. Tubular and pipe products segment sales increased 3% in the 2014 fourth quarter compared with last year but increased 3% for the full-year period which reflected market share gains as measured by the MSCI.

Gross margin for the fourth quarter was 17.9%, down from 20.7% last year. For the year, 2014 consolidated gross margin was 19.2% down 170 basis points from 20.9% in 2013.

A mix change to a greater proportion of flat products sales relative to tubular and pipe products and higher specialty metal sales combined with competitive pressures in the carbon flat roll market led to the gross margin contraction. In addition, lower average selling prices for pipe and tube products negatively impacted margins during the year.

We recorded $235,000 of LIFO income in the fourth quarter which lowered our full-year LIFO expense to $365,000 in 2014. Last year's fourth-quarter and full-year results included $1.1 million and $3.6 million of LIFO income, respectively. This negative LIFO swing between years accounted for approximately 30 basis points of the 170 basis points decline in our full-year gross margin.

On a pre-LIFO basis, 2014 margins were 19.2% down from 20.6% in 2013. Our 2014 fourth-quarter and full-year results were negatively impacted by the $23.8 million non-cash charge to write down a little more than half of the goodwill associated with our tubular and pipe products segment.

Pipe and tube results have contributed positively to our consolidated results in each year since inception. And in 2014, the pipe and tube segment achieved record sales volume, market share growth was profitable before the impairment charge and generated meaningful cash flows from operations for the organization.

Including the charge, we reported a net loss of $26.9 million or $2.42 per share in the fourth quarter compared to a net loss of $1.4 million or $0.12 per share in the fourth quarter of 2013. The goodwill write-off negatively impacted fourth-quarter EPS by $2.14 in 2014.

On a FIFO basis before the impairment charge, our 2014 annual earnings totaled $0.45 a share, almost identical to 2013 earnings of $0.50 a share. The reported net loss for 2014 including the impairment charge was $19.1 million or $1.71 per share compared with net income of $7.6 million or $0.69 per diluted share last year. Again, the goodwill write-off negatively impacted the annual 2014 EPS by the same $2.14 a share.

Excluding the impairment charge, operating expenses increased 7% on a 40% increase during the year. Higher distribution costs associated with inflation and the transportation industry and increased warehouse expenses were the drivers.

As a percentage of sales, operating expenses before the charge improved to 18.2% versus 19.4% in 2013. As Michael highlighted, we are focused on reducing our expenses in 2015 through a plan that includes lowering transportation, personnel and labor costs. We do not, however, expect any restructuring charges in 2015 associated with our plan.

Interest expense was unchanged in the quarter and up 1% for the full year. The small increase in interest expense in 2014 was due to higher borrowing levels being partially offset by lower interest rates.

Our 2014 effective income tax rate was 38.2%, excluding the impairment charge, which is non-tax-deductible. This is down from 40.8% in 2013. We would expect our 2015 tax rate to be in the similar 38% to 39% range.

Turning to the balance sheet, our receivables remain in great shape, increasing only 7% compared with last year on a 14% sales increase. Consolidated days sales outstanding improved to 38.3 days in 2014, down from 39.1 days at the end of 2013. As anticipated, we successfully reduced our flat roll inventory by $20 million during the fourth quarter.

Our 2014 average inventory turnover rate declined to 4.1 times compared to 4.3 times last year. In 2015 we intend to drive inventory even lower while increasing shipments. We have a goal to achieve five inventory turns per year.

Proceeds from the fourth-quarter inventory reduction were used to lower outstanding debt. At year end, total debt stood at $248 million, $25 million lower versus the end of the September third quarter but $48 million higher compared to the beginning of the year. We expect further decreases in debt during the first half of 2015.

Depreciation expense in 2014 was $19.9 million compared with capital expenditures of only $7.8 million. Annual capital expenditures declined sharply from $16.1 million in 2013 and $23.4 million in 2012.

We are committed to holding 2015 capital expenditures below depreciation and intend to use free cash flow to further reduce our debt. Our planned capital spending for 2015 approximates $12 million. Finally, we will file our 2014 Form 10-K later today.

I will now pass the call over to David for his operating review.

Thank you, Rick. On our previous conference calls, we discussed how surging import volumes had started to degrade US spot prices from the highs experienced in the summer of 2014.

Not long after that the value of the US dollar spiked higher and oil prices, along with other globally traded and dollar-denominated commodities, essentially plunged. As a result, flat-rolled coil prices dropped through the second half of the year and continued to fall in the first quarter of 2015.

Prices published by the CRU have fallen from a 2014 high of 687 a short ton to 508 currently down 26%. We demand what you would probably ask, what are we doing about this? The answer is we are taking action.

We are continuing to lower inventory and expect to redeploy this capital to fortify our balance sheet, as Rick outlined earlier. At the same time, we have initiated actions to remove costs and enhance margins. For example, our sales department is now leaner with fewer sales managers, outside sales representatives and marketing staff numbers.

This was clearly reflected in declining year-over-year selling expenses for both the 2014 fourth-quarter and full-year periods. While executing these cutbacks we substantially grew our shipping tonnage and recorded record net sales in 2014.

This is the type of heightened productivity we endeavor to drive throughout all areas of the organization. We recently closed our Jacksonville, Florida, sales office and moved those sales responsibilities to other existing facilities. And as Michael touched on, we also closed our Kansas City operation due to unacceptable performance.

Another critical element of our profit enhancement program is implementing tactical remedies to address unique situations at specific facilities. We made several management changes in late 2014 at underperforming divisions that have business plans that will improve performance. These units are being closely monitored and measured against various milestones to ensure real progress.

Expanding on Michael's comments about managing Olympic Steel for the long term, occasionally this means you risk showing up early to the proverbial party. Many of you are aware we have been onboarding parts for a prime OEM manufacturer who recently opened a major facility in the Southeast. We are enduring the startup costs associated with installing a new stretch leveling cut-to-length line and other machinery, people and inventory at our Winder, Georgia, facility.

Our customer's original production ramp-up schedule has been pushed back. And while this type of delay is not unusual, it exemplifies the growth risk that we assume as an integral part of investing in our customers' manufacturing startups.

This plant's production is now accelerating and we are shipping approximately 2,500 parts a day from our Winder facility to this particular customer. Provided our customers achieve their production schedule in 2015, our Winder facility will provide a much greater contribution to consolidated results.

The point is we have distinctive initiatives at individual facilities that will collectively have a significant positive impact on our financial results in 2015. As we enter 2015 we are committed to continual improvement, better execution and lowering our costs.

Operator, let's open the call for questions.

Yes, thank you. (Operator Instructions) Luke Folta, Jefferies.

Hi, good morning, guys. Quick question on just the steel price impact as we look into the first quarter and the first half of the year. Yes, so there has been, obviously, a meaningful step down and it clearly sounds like you are doing everything you can to reduce inventories and kind of work through this as fast as you can but increasing turns and all that.

But when we think about how it flows through, is there any -- can you give us any sense of what sort of magnitude we could be thinking in terms of just the inventory headwinds and I guess also around the timing of it. Is this something that you think is like just one big hit in the first quarter or is this something that could kind of stretch on into the second quarter as well?

Well, Luke, I'll take a shot at that as a pertains to us and only us, needless to say. As we took a look at our inventory position, as we entered into third quarter, we recognize that the marketplace was drifting south with no anticipation that it was drifting as hard as it fell, but we described that earlier.

So we took a tactical approach and begin walking our inventory down in third quarter and in fourth quarter and will continue that through the first half as Mike has described earlier. Obviously, the sum of that is going to be monetizing what we think the inventory level should be and then reducing debt from that perspective.

And then, Luke, this is Rick. What I'd add is -- and not to pick on the words you used, but we are not seeing a one-time big hit in the first quarter. Obviously, with the prices dropping the way they are, we and everybody else is under margin pressure in the first quarter.

The second part of your question talked about timing first quarter into second quarter. Obviously as we sit here in February, prices are still dropping, right? And so I think until the market really finds the bottom, we're going to be in a marketplace where the steel you bought is going to be more expensive than -- and you sell than what the price is today.

So I would tell you I think as an industry we are going to see the margin pressure continuing into the second quarter. We sit here at the end of February and steel prices are still going down.

Right, right. And then -- but I guess just thinking about the timing of it, the timing -- which it's going to take for inventory replacement costs -- inventory cost to catch up with replacement costs, assuming prices just stay flat from here, that's a 2Q event, you think?

No, well, first of all, Luke, tell me when it bottoms out and I could probably give you a better answer. So if we believe --

(laughter)

No, really. Seriously. You are asking a hypothetical question about the future and I have no idea what the bottom number is and I have no idea when the bottom number occurs.

So as we look at those factors, what we are seeing is you started out the question the right way. As David indicated, we started accelerating our sales relative to our purchases. We are seeing significant inventory reductions.

It happens every day. We've got a blend of products on stainless and aluminum which kind of offsets the carbon scenario, to some degree, although they've got their own price pressures. But I would say as you are looking at this material factor we are not seeing it.

It's an everyday occurrence relative to our ability to lower the full level of inventory and replace the existing as fast as we can. I think that's why we talk about -- having the volume gross that we have -- growth that we have, certainly accelerates and mitigates what -- your expectation of that loss.

Okay, that helps. And on tubular in the fourth quarter, we don't have the gross margin versus SG&A breakout but can you just talk about what happened with margins sequentially? Was this the function of pricing situation or did we get a destock at the year-end or was it more of a shipment dynamic, or both?

Well, what I would tell you on the pipe and tube segment, certainly we saw -- as I talked about the average selling prices -- we saw more average selling price impact on that segment versus the flat segment. So we saw our prices actually go down sell wise year-over-year.

Margins after you adjust out for LIFO, they were pretty consistent year-to-year. We do -- if you look at our earnings release, Luke, you can calculate the gross margin; you just have to take the -- I know it's not a line item struck there.

That's kind of the SEC rule. But we do give our sales and we do give our cost of sales and if you bear with me, we're obviously filing our 10-K later today but let me look one second.

Don, do you have that number offhand?

I have it.

Okay.

So, as you look at the pipe and tube in 2014, we were at 28.9% gross profit and last year we were at 30.6% of gross profit.

That's on a FIFO base?

Yes, that's on a FIFO, so then you -- no, that's on a LIFO basis, so then you've got to adjust out. So we had $365,000 of LIFO expense in 2014 and we had $3.572 million of LIFO income. So once you adjust that out, that's where I said you get pretty comparable.

Okay. All right, and then on the cost cuts -- or on the profit enhancement initiative, I know you don't want to give targets or magnitude of what you expect will happen there ultimately, but are you able to give us some sense of what the cost impact of the facility closures that you've already done would be?

So obviously we didn't highlight anything in terms of the actual cost to shut them down. We did have some of that running through the income statement. The actual closure cost was not significant and material.

It was leased. Those -- the two facilities we talked about on a year-to-year basis should have -- I think it was about $800,000 to $1 million combined favorable impact.

Okay, all right. And last one on demand.

Clearly there is still destocking that's going on and you sell to other distributors as well, I'm sure you're seeing some of that, but can you give us some sense of on the OEM side of the business, what the trends are there? Let's talk about some of the end market changes.

Well, Luke, I can. As we detailed, we're not involved in the oil and gas business other than on the periphery with some tanks and things along those lines, but nothing that's enormously impactive.

And the answer is, our customers are stronger. Our customers are stronger; it's a competitive environment. Our tons grew because we amassed more business and a number of our OEMs obviously contributed to that as they've seen their business continue to grow.

So we saw last year was really growth for the sake of growth and a real recovery and an expanding economy. So for the first time since really the recession and a protracted recovery, we really saw a full year of an expanding economy and the preponderance of our customers contributing to that.

Now somewhere down, needless to say, agriculture, and so forth but offset by recovering markets in construction and so forth. So overall, our customers are reasonably busy today.

Okay. Year-to-date in 1Q, are we seeing up demand year-on-year? I know there is inventory FX; it's probably hard to tell, but --

Yes, it's really more margin pressure than it is about volumes.

That's right.

Thanks a lot.

(Operator Instructions) Phil Gibbs, KeyBanc Capital.

Morning. Can you talk a little bit about your transportation initiatives, maybe elaborate a little bit more on that and help us to understand the dynamics of call it higher trucking rates balanced with lower fuel and some of these things that you are doing internally to mitigate the impacts?

Well, again, there's been a lot of talk about driver shortage. Obviously, the big trucking companies have a difficult time retaining and recruiting new truck drivers.

Obviously when you have your own truck driver you can compensate them easily and retain them. But there is a shortage, so the outside trucking companies are trying to basically charge more for their -- for the ability to provide you that truck versus other locations that they can go to. That's number one.

Number two, obviously when you own your own truck, having lower fuel cost is better for you and so the outside guy has a rate; that's the rate, the rate is the rate. In your own fleet you can manage the structural costs a little bit better, too. You identify specific lanes that are repetitive.

So you create the lane back and forth to wherever that customer is or wherever that supplier is. As you start to identify specific lanes, you can start driving the costs down.

And so Don has just done a sort of full analytical analysis of where we have repetitive trucking from our specific locations and said we think rather than using the outside carriers to that location here's what their rate charge is. We know what that is and based upon the fleet that we have today, 65 or 70 trucks plus, we can tell you that running that truck is pretty substantial savings internally.

Okay, I appreciate that, and then maybe provide us an update on your ERP. I know you have been doing that for a couple years now. Maybe an update on the timing of when some of those costs may run off and you may start seeing some of the benefits because I know it's been a long haul for you.

Yes, Phil, it's Rick. We are nearing completion. We have new systems I would tell you in at about 80% of our locations.

Some of the costs -- because we've been -- instead of doing the all-at-once scenario we've been implementing at a location-by-location scenario. We are already starting to see some of those costs from prior years rolling off through decreased depreciation, so I would tell you the costs in IT are declining.

We would anticipate our costs year-over-year in IT to go down. And we've been -- I should not leave it unsaid -- the implementations at the locations that do have new systems have obviously all been done successfully.

Okay. And then why such a big drop in payables in 4Q?

There would be nothing specific. I think just timing. I think probably coinciding with the timing and the actions we took in terms of reducing inventory.

Yes, buying more steel.

Okay. I may have a couple more, but I think that's good for now. I appreciate it.

As there no more questions at the present time I would like to turn the call back over to Mr. Siegal for any closing comments.

Yes. Thank you, operator, and thanks, everybody, for being on the call. Thanks for joining us and your continued interest in Olympic Steel and we look forward to sharing our continued progress when we report our first-quarter results this spring.

So, everybody, stay warm out there. Bye-bye.

Thank you. The conference has now concluded. Thank you for attending today's presentation.

You may now disconnect. Have a nice day.