Olympic Steel Inc (ZEUS) 2016 Q3 法說會逐字稿

Good morning, and welcome to the Olympic Steel 2016 Third Quarter and Nine Month Conference Call. Today's call 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 in assumptions, or changes in 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 10-Q, and press releases filed with the Securities and Exchange Commission. These live broadcasts will be archived and available for replay on Olympic Steel's website.

And 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, sir.

Thank you, operator. Good morning and thank you for joining us to discuss Olympic Steel's 2016 third quarter and nine month results.

On the call with me this morning are Olympic Steel's President David Wolfort, Chief Financial Officer Rick Marabito, President of our Chicago Tube and Iron Business, Chicago White Sox fan, Don McNeeley, and our new appointed Executive Vice President and Chief Operating Officer Andrew Greiff.

Andrew, as you know, was appointed to his role by the board in August, and, as most of you should be aware, he has been instrumental in managing the rapid growth of our specialty metals business. We look forward to Andrew's contributions and leadership in executing our business plans going forward.

Once again, our diversification strategy helped us weather the industry volatility and challenges that have specifically hit the carbon plate business the hardest. Our two newer product segments -- pipe and tubular products and specialty metals flat products -- both performed well during the third quarter and the year to date.

Traditionally, third quarter started out as expected. However, instead of business picking up after the normal July slowdown, shipping volume actually weakened and prices dropped literally by 26% during the quarter by the published public indices as we moved through the quarter.

It wasn't until late October did we see business activity in the shipping volumes begin to improve and metal prices start to stabilize at a new low level.

Early indications suggest that the price increases announced in the past few weeks by the mills are stopping the price slide and inventory levels in the supply chain remain exceedingly thin.

If the marketing conditions hold steady or improve, order patterns should continue to normalize, we would expect kind of better market conditions to return and actually start to improve our performance.

We're also very much, I'm sure, as all of you are, very much looking to the end of this presidential election cycle.

We also announced this morning that our board of directors declared a regular (inaudible) cash dividend of $0.02 per share. The dividend is payable on December 16, 2016, to holders of record on December 1, 2016.

And, with that, I'll turn the call over to Rick for the quarterly financial review.

Thank you, Michael, and good morning, everyone.

As has been the trend, total industrywide service center shipments declined during the third quarter. According to the MSTI Metals Activity Report, year-over-year shipments have declined for 20 consecutive months through September of this year.

For the nine months of 2016, industry shipments were 6.8% lower than last year.

On a positive note, Olympic Steel's consolidated year-to-date shipments have outpaced the industry average. Our year-to-date shipments were off just 2.2% compared with 2015 as we continue to invest in additional sales representation to increase our market share this year.

On a segment basis, sales volumes for carbon flat products declined 4% to 243,000 tons in the third quarter. The year-to-date volume in this segment is 3% below last year's level.

Sales volume increased in our specialty metals segment, rising 23% to 22,000 tons in the third quarter, compared with 18,000 tons last year.

Year-to-date, sales, especially metals, increased 14% over last year, reaching 63,000 tons for the nine-month period.

Tons shipped in the pipe and tube segment is a less-meaningful metric and we, therefore, do not report tonnage for this segment. However, our pipe and tube shipping activity was sound and comparable with last year's third quarter and nine months.

Lower average prices resulted in revenue declining 8% in this segment during the quarter and by 12% for the year-to-date period compared with last year.

Net sales in the carbon flat segment declined 4% in the quarter to $169 million. This matched the volume decline as prices were essentially flat year-over-year in the third quarter.

For the nine months, prices were still more than 15% lower than last year's average, resulting in net sales decreasing 18% for the year-to-date period.

In our specialty metals segment, year-over-year average selling prices were 13% lower in the third quarter and down 16% for the nine months.

Given our strong volume increases, net sales increased year over year by 7% in the third quarter despite the 13% price drop.

For the nine months, net sales of specialty metals declined 5%, as the 14% sales-volume increase wasn't quite enough to fully offset the 16% price decline from last year.

This resulted in our consolidated net sales declining 3% in the quarter to $268.3 million. That's compared with $276.9 million in the third quarter last year.

On a year-to-date basis, sales were down 15% to $800.2 million versus $938 million in 2015.

Gross margin was comparable at 21.3% in the third quarter this year versus 21.2% last year.

Sequentially, our third quarter gross margin was $10.7 million lower than the second quarter of 2016.

The third quarter includes the cost of the $1.7 million arbitrated decision recorded in cost-of-goods sold. The arbitration resulted in us sharing the cost of a 2015 dispute with a foreign steel supplier.

The amount negatively impacted gross margin by 65 basis points in the third quarter and reduced our earnings per share in the 2016 quarterly and year-to-date periods by about $0.10 per share.

We recorded $700,000 of LIFO income in the third quarter this year, and that's compared to $1.1 million of LIFO income in last year's third quarter.

Consolidated gross margin in the nine-month period expanded to 23% of sales. That's up from 19.6% of sales last year.

Year-to-date LIFO income totaled $700,000 this year compared to $1.7 million last year.

Operating expenses were $57.2 million in the quarter compared with $58.3 million last year. This was an improvement of $1.1 million or 2% lower than the third quarter last year.

Our year-to-date operating expenses declined 3% or $5 million to $175.3 million from $180.2 million in the 2015 nine-month period, and that's after adjusting for the non-cash impairment charge that we recorded in last year's second quarter.

Operating income was just above breakeven in the third quarter, and that compared with $453,000 in the same quarter last year. For the nine months, operating income improved to $8.4 million compared with an operating loss of $20.6 million last year.

As a reminder, the impairment charge in last year's second quarter was $24.5 million. So after adjusting out for that prior year impairment charge, our 2016 year-to-date operating income more than doubled from last year.

Interest expense declined to $1.3 million in the quarter versus $1.4 million last year. In the first nine months of this year, interest expense declined 12% to $3.9 million down from $4.4 million last year.

The lower interest expense in 2016 was due to lower average debt balances versus last year. Our 2016 effective filing rate, exclusive of deferred financing commitment fees, has been approximately 2.4% this year.

We had a pre-taxed loss of $1.3 million in the third quarter of 2016. That's versus a pre-taxed loss of $1 million last year.

During the current quarter, we recorded tax expense on a pre-taxed loss. Our 2016 effective tax rate is unusual due to the tax valuation reserve adjustment we made earlier in the year and the third quarter effect of non-deductible expenses on lower pre-taxed earnings.

So as a result, we recorded a net loss of $1.8 million or $0.16 per share in the third quarter as compared with a net loss of $600,000 or $0.05 per share in the third quarter of 2015.

Year-to-date net income increased to $1 million or $0.09 per diluted share in 2016. That's compared to a loss of $21.8 million or $1.95 per share recorded in the 2015 nine-month period.

The 2015 impairment charge, again, negatively impacted last year's results by $1.96 per share.

So, now, shifting to our financial condition, our balance sheet remains in excellent shape. Accounts receivable at quarter end decreased sequentially from June, but we're up $18.1 million from yearend 2015.

The high quality of our receivables is notable. Day sales outstanding were 37.9 days through the first three quarters of this year, and that's a modest improvement over last year.

Inventory was $24 million higher September 30th than at the beginning of the year. At September 30th, we had $231 million of inventory. That's compared with $207 million at the end of last year.

Inventory turns, which we measure in ton, were strong at 4.8 turns for the nine months. Our operating teams have been focusing on inventory turnover, resulting in the significant improvement from the 4.2 turns we averaged during 2015.

Since the beginning of the year, our total debt has increased $17 million to $165 million. At September 30th, we had $86 million of availability under our low-cost, asset-based lending agreement.

Our debt to total capitalization is strong at approximately .39 to 1. Our year-to-date capital expenditures total $5.3 million and they were primarily related to maintenance, equipment and facility improvement.

Capex has been running much lower than our annual depreciation rate of approximately $18 million.

At quarter end, shareholders equity stood at $255.6 million. That's $23.31 per share. Our tangible book value per share was $21.11.

So, in closing, we plan to file our 10Q later today, and that will provide additional details on our operating results for the quarter.

I'll now turn the call over to David for his operating review.

Thank you, Rick.

This year's third quarter ushered in the traditional summer slowdown. However, the carbon flat market endured an untraditional sequential weakening of demand and softening in pricing as the third quarter progressed.

The plate market has been under substantial pressure all year. Many of the heavy industrial OEMs have articulated the difficulties that they've faced and we've all read. Soft demand and a strong U.S. dollar are encumbering their businesses, and it's impacting ours.

I'd like to expand on Michael's comments from earlier regarding our recent diversification strategy. Recent as it might be, it has been a deliberate post-recession strategy that we've continued to discuss over the last seven years.

That strategy and our operating income generated by our two newer segments more than offset the weakness of the carbon flat-rolled segment.

Our Chicago Tube and Iron subsidiary, under Don McNeeley's leadership, has performed admirably in this changing environment.

Our specialty metals team is making excellent inroads in the stainless steel and aluminum markets. In fact, our specialty metals flat-products segment has been our best performing segment so far this year.

At this time, I'll ask Andrew Greiff to elaborate on the specialty metals market and our business success.

Thank you, David, and good morning, everyone.

We are excited to report that our stainless and aluminum business has grown strategically and profitably into a significant market position. We continue our eight-year trend of growing our shipping volumes and consistently gaining market share in these products, as evidenced by our 23% year-over-year increase in the third quarter tons shipped.

In 2016, we have seen aluminum growth in our sales to the auto industry, and we see this continuing as a growing end-market for us.

Demand for our stainless products has remained strong, especially in the food-service industry. Business activity for stainless and aluminum remains stable going into the fourth quarter, and previously announced stainless price increases appear firmly established for the start of 2017.

We look forward to building upon our successes in continuing to grow this segment of our business in 2017.

Thank you. And I'll turn the call back over to David.

Thank you. Thank you, Andrew.

Now, I'd like to call on Don McNeeley to provide commentary on our pipe and tube business. Don.

Well, thank you, David, and good morning, everybody.

Well, not unlike every other product group, long products of pipe and tube are also navigating the significant headwinds of the steel market. However, we at Chicago Tube and Iron are fortunate to navigate this landscape better than most.

We have increased our pipe and tube market share in 2016 and earned consistent profitability. We have been successful in de-commoditizing our product with engineering services and sophisticated value-added fabrication. As a result, and as punctuated by industry trade association survey data, we remain an upper-quartile performer in our sector in earning EBITDA to sales margins in excess of 7% in 2016.

We do expect fourth quarter headwinds to continue to challenge us. However, the expectation of pricing finally bottoming is encouraging. Although early, we do expect sales and earnings growth for 2017.

Thank you. And I'll turn it back to you, David.

Thank you, Don. Let me continue to comment on Olympic Steel's consolidated market share, which has increased since the beginning of the year. And we intend to build on these gains moving forward.

With the recent additions of experienced industry sales professionals, we are continuing to enhance our sales and marketing talent with the intention of growing our sales regardless of market conditions.

The near-term demand outlook heading into the year end and the holiday season remains fragile, especially in the carbon-plate and heavy-equipment and agricultural industries.

Despite these challenges we do have reason to be optimistic. Prices appear to have bottomed in October, and according to the World Steel Association, steel demand in the U.S. is forecasted to grow to 97.8 million tons in 2017. That would be an increase of 3% from the projected demand of 95 million tons this year and a welcome alternative of additional growth after nearly two straight years of declining shipments. Lead times are beginning to stretch longer. Raw material costs are rising and supply discipline exhibited by the domestic mills is encouraging.

In addition, inventory levels in the middle supply chain appear to be low and in balance with the lower levels of demand recently experienced. These dynamics point to an improving marketplace as we enter 2017.

Now, operator, with that, let's open the call for questions.

Thank you.

(Operator Instructions)

We'll go first to Aldo Mazzaferro with Macquarie.

Good morning, gentlemen.

David, on your last comment about the outlook, talking about the discipline and some of the signs you're seeing on the recovery, a lot of those are on the supply side. I'm wondering, can you give us a sense of what you're seeing in terms of sequential demand changes in the industrial side?

I know that probably weakened a little since the summer. I'm wondering whether you're seeing that bottom or --

Aldo, I think you're spot on. Of course, from my perspective, a little bit of that is complicated by the events of the presidential election. I think that puts a little bit of a cloud over what's happening. But, quite frankly, we still -- as we talked about -- are weaker back half third quarter. Better shipments in October than we saw in September. That was a good thing.

But we do see a softer marketplace the second quarter, but it's picked up a little bit here in the near term of the fourth quarter.

But going into '17, we think the disciplines and the low inventory counts that are in the marketplace are going to bode well for us in terms of increasing sales.

Fourth quarter will be -- it'll be slower.

All right. Compared to your third quarter, if you look at the fourth quarter, typically, the seasonal pattern would be volume price and margin go down a little bit. Based on what you just said about demand, you think there's a chance volume reverses and improves a little in the fourth quarter?

Not really, but volume has been good in October versus September. Very hard to predict once we get through this presidential election, which is in the next week.

What we've seen a lot of our OEMs do, Aldo, is really starve their inventory, as we've seen our contemporaries starve their inventory, too.

As Rick well talked about, we've carefully managed our inventory. Our target is five turns, and we're turning it 4.8. We'll continue to manage the marketplace in whatever it has to offer.

What we have done is we have smaller tons, but we have a greater market share today. That bodes well with us. We've had an emphasis on greater solicitation and on hiring, as I've indicated earlier in my commentary, particularly in sales representation -- outside sales representation, and that has given us that additional market share.

So we see a -- we actually see a smaller pie and we just have a bigger slice of it.

Aldo, as you know, the fourth quarter is always dependent upon the volume of December, and so nobody can ever predict, you know. One out of 10 years, you kind of get a very strong December, but, typically, the last two weeks, and, you know, first week of January is typically slow. We don't see any reason to believe that that will change, other than the data shows that inventories are particularly low. And, again, you know, a lot of the customers may not be forecasting a robust year for next year.

But I do think the election has been a governor on people's demand. I think people have -- You know, when you look at the dialogue that's occurred over the last six months, you know, what you choose to believe, nobody has said America is great, you know, which it is.

And so I would just think that when we see this election conclude, people have to start paying attention to their business, and I think it's possible that we can see, given the discipline at the supply base, what we've seen is decreased import activity. We believe that the pricing is probably at the low points now or we think (inaudible) should have the ability to have a dead cat bounce as people get back to just business as usual, as opposed to everybody dreading what's coming in the future.

So we're positive, I would say. You know, when you look at some of the data that Rick put out in terms of our margin percentage, we're okay. We just need the volume to come back, and we think it'll come back.

Right. All right. I'll step off and I'll get back in the queue on a couple more I got later. Thanks.

Thank you. (Operator Instructions)

Tyler Kenyon with Keybanc Capital markets.

Hey. Good morning.

Michael and David, I know you mentioned seeing some improvement at the tail end of October here. Just wanted to, you know, maybe try to parse out kind of where you are seeing some of that improvement from, you know, from a product, you know, category perspective, various grades of sheet and perhaps plate or if you saw anything, you know, related to any specific end markets.

Our spot market business has picked up. As I indicated earlier, Tyler, you know, the OEMs in general, have slowed down. We can't manage that. You know, Caterpillar closes a facility, you know, if we're serving that facility -- which, fortunately, we were not, you know -- we would have further depressed. We've been fortunate in the OEMs that we do service. But, as a whole, they are down.

Spot market's up. I think that's just a reflection of the lean inventories out there and the concern that Michael just talked about during this presidential election.

(Inaudible) galvanized very strong for us. (inaudible) is consistent for us. Our design, our plan, Tyler, post recession, diversify. We brought Andrew Greiff on. He's done a fabulous job. I say that as he sits to my right, because I still want to be his friend, all the time, but he's done a great job of really growing our business four fold in the specialty marketplace. He can comment on the share of market he has here in a moment.

And, then, of course, you know acquisition of Chicago Tube and Iron, July of 2011. And you combine the two of these and you ultimately have 40% of what we do today, and we still have a bigger portion of the service in the marketplace today.

We've very positive on the auto market. We're seeing very strong markets in the food-service markets. We are seeing, as David said, the spot market. I will tell you that spot market, as we define it, is service-center activity. And so -- for the most part. And so what we're seeing is, in the service centers, where the data doesn't necessarily reflect reality, the reality is is we're seeing a lot more inquiries of people who are short in inventory in the service-center markets.

And so if you kind of read the data off of the (inaudible) it doesn't look like it's particularly low, but we're seeing it where there's lots of holes in the inventories of lots of other service centers.

Okay. Great. Thanks for all of that.

You know, as you talk to your customers heading into the fourth quarter here, you know, any sense as to whether, you know, some of the seasonal shutdowns around the holiday times may be any more, you know, extended, you know, this year versus in years past? You know, anything that you've at least heard from your customers there would be helpful.

No, I think you get the traditional automotive vacation period, whether it's protracted, how deep it goes into January I really couldn't comment on that. We'll wait and see. We'll manage. We'll manage our labor based on that, and we've done a great job in that regard, Tyler.

What we do see, and I say with a smile on my face, because these cycles seem to be shorter. They not only seem to be shorter, they are shorter. And what we see is everybody wants yesterday's price, and they'd like to have it for a very long period of time. That, to me, is a reflection of a marketplace that is going to increase. And I think, you know, depending on what the weather conditions are out there, we believe scrap goes up this month. That's been publicized, and we think iron inputs are going up and coking coal, and we think the price of steel goes up. So we think it'll be active.

Thank you.

And then just any way as to how we maybe should be thinking about inventories here moving into the fourth quarter, you know, both from a volume or dollar value perspective?

Hey, Tyler. It's Rick. Yes, as we talked about, we'd like to target five inventory turns and we're at 4.8. I'd tell you we're looking to slightly lower the inventory volumes in the fourth quarter. Some of that will depend on, as Michael said, what happens the last couple of weeks of December in terms of shipping volume versus expectation.

But our inventory's in really good shape right now. We're turning it well. (Inaudible.) So I would tell you you're not going to see dramatic changes in the inventory third quarter to fourth quarter. I think the volumes will be down a little bit. Prices and inventory, because of the lag, continued to move up during the third quarter.

I would say by the end of the fourth quarter we may see that start to tip the other way, so, you know, the pricing impact will probably be about neutral on inventory. So that's what I'd tell you. Maybe a slight decline.

Okay. Great. Appreciate all the color. I'll jump back in queue.

Thank you.

We have a follow up from Aldo.

Hey, back again. Say, Mike, would you be willing to give us the product mix that you have today within the flat rolled? Like how much just generally plate versus sheet?

You know what, Aldo, we can get that to you after the call. I don't have it handy.

Okay. And, then, a couple of quick ones for Rick. Are we through the tax adjustments now, Rick? Are we looking at a normal rate for '17?

Yes. We should be, Aldo. I mean, going into '17, I'm planning and we're budgeting to have our normal rate, which is between 38% and 40%. So just the combination of the tax reserve plus in the third quarter having the -- while we're having, you know, lower pre-tax income effects for the year, and then the effect of permanent tax items and non-deductible items skewed it. So the short answer is yes, 38% to 40% is what you should use to model next year.

Unless it's Hilary, and then it could be 60. (Laughter.)

You got any more -- You got any more --

In terms of your capex budget for next year, you have any kind of feeling for that, Rick? Is it --

We're still working on that, Aldo. You know, I think we -- You know, we'll be pretty disciplined on the capex, you know, going in. I think we'll probably be pretty close to our depreciation levels on capex.

It will be higher -- You know --

Higher than this year.

Higher than this year. You know, obviously, be looking at a number like $5 million over three quarters. That's just barely maintenance, and that's not really because we're cutting back on maintenance. It just is law.

I will tell you I would expect our capex to be higher next year.

Yes.

There are no circumstances, you know, that I can think of would it go above depreciation (inaudible).

Yes. Okay.

And just finally, I don't know if you want to expand at all a little bit on that arbitration, but could you tell us a little bit about what happened there? And it's kind of a big number to get hit on one trade, if it was one trade. I'm just wondering what was kind of behind that.

Well, it's arbitration, so I would just tell you it was foreign steel. There's always this aspect of, you know, what we think A6 standards are. It was a quality dispute, and the arbitration came in where we kind of -- they were kind of split in terms of their outlook, in terms of the liability of it. So we paid our portion of it. They paid some portion of it. But it was really quality on imported product.

Right. All right. Thanks. Thanks very much.

Thank you. And with no additional questions, I'd like to turn the call back over to Mr. Siegal for any additional or closing remarks.

Yes, thank you, operator. Once again, for all of you on the call, we thank you for your participation and your interest in Olympic Steel. Have a great day.

Thank you. Ladies and gentlemen, once again, that does conclude today's conference. Thank you all again for your participation.