Builders FirstSource, Inc. Q3 2008 (Quarter End 9/30/08) Earnings Call Transcript

| About: Builders FirstSource, (BLDR)

Builders FirstSource, Inc. (NASDAQ:BLDR)

Q3 2008 Earnings Call

October 24, 2008 10:00 am ET

Executives

Katie E. Murphree - Director of Investor Relations and Financial Reporting

Floyd F. Sherman - President, Chief Executive Officer, Director

Charles L. Horn - Chief Financial Officer, Senior Vice President

Analysts

Nishu Sood - Deutsche Bank Securities

[Walter Brenton - Regiment Capital]

John Kasprzak, Jr. - BB&T Capital Markets

Analyst for Michael Rehaut - J.P. Morgan Securities, Inc.

James Wilson - JMP Securities

Jay McCanless - FTN Midwest Securities Corp.

[Rob Hanson] - Deutsche Bank Securities

[Brian Tadale - Broadpoint Capital]

Kevin Starke - CRT Capital

Tim McDowell - Group G Capital Partners

[Ray Lamansky] - BB&T Capital Markets

Operator

Welcome to the Builders FirstSource third quarter 2008 earnings conference call. Your host for today’s call is Mr. Floyd Sherman, Chief Executive Officer. At this time all participants are in a listen-only mode and later we will conduct a question and answer session. Instructions will follow at that time. Any reproduction of this call in whole or in part is not permitted without prior written authorization of Builders FirstSource. As a reminder, this conference is being recorded today, October 24, 2008.

I’d now like to turn the call over to Katie Murphree, Director of Investor Relations and Financial Reporting who will begin the call.

Katie E. Murphree

Thank you for joining us to discuss our third quarter 2008 financial results. We issued a press release after the market closed yesterday. If you don’t have a copy, you can find it on our website at www.bldr.com.

Before we begin I would like to remind you that during the course of this conference call management may make statements concerning the company’s future prospects, business strategies and industry trends. Such statements are considered forward-looking statements under the Private Securities Litigation Reform Act of 1995 and are subject to certain risks and uncertainties which could cause actual results to differ materially from expectations. Please refer to our most recent Form 10K filed with the Securities and Exchange Commission and other reports filed with the SEC for more information on those risks. The company undertakes no obligation to publicly update or revise any forward-looking statements.

We have provided reconciliations of non-GAAP financial measures to their GAAP equivalents in our earnings press release and detailed explanations of non-GAAP financial measures in our Form 8K filed yesterday, both of which are available on our website.

At this time I will turn the call over to Floyd Sherman.

Floyd F. Sherman

Welcome to our third quarter 2008 earnings call. Joining me from our management team is Charles Horn, Senior VP and Chief Financial Officer. After I give a brief overview, I’ll then turn the call over to Charles who will discuss our third quarter financial results in more detail. After my closing comments regarding our outlook, we’ll take your questions.

The challenging conditions facing our industry persist as annualized housing starts in September fell to 817,000 units, the lowest level since the US Census Bureau began tracking data in 1958. Further aggravating an already weakened housing market was the financial market turmoil that intensified in September as the broader credit markets, not just the mortgage markets, became virtually frozen. These challenging conditions only strengthen our commitment to our strategy and to the long-term success of Builders FirstSource.

Our operating strategy for these conditions centers on preserving liquidity, reducing operating costs and growing market share. Our cash balance was $131.2 million at the end of September after we borrowed $60 million on our $350 million revolving credit facility at the end of September. We initiated the borrowings in response to the instability in the credit markets to make certain we would have ample cash liquidity for our long-term needs.

We continue to reduce our operating costs in response to the decline in our sales volume. Our selling, G&A expenses declined 18.9% for the quarter when compared to the year ago quarter which is 63.9% variable to our 29.6% decline in sales volume.

Additionally, by growing market share during the downturn we have been able to partially offset the negative affects economic conditions have on our sales. We have successfully grown market share every quarter throughout the downturn. We were able to grow share in the third quarter of 2008 by 10.1% compared to the third quarter of 2007 through outstanding customer service and by expanding our customer base.

Although we are facing difficult times in our industry, we’re proud of our accomplishments: Strong liquidity after more than two years of challenging conditions, reductions in operating expenses which are in line with our sales decline, and market share growth. Our strategy has served us well to date and we believe it’ll help us to successfully navigate this protracted downturn.

With the continued decline in housing starts and general economic conditions that affect our industry, we made the decision to close two of our facilities in the third quarter. In addition, subsequent to the quarter end we decided to exit the New Jersey market, close the small facility and idle another facility through an end market consolidation bringing our total closures to nine facilities. We made these very difficult decisions based on not only the short term but also the long term prospects of these operations in order to protect our liquidity.

I’ll now turn the call over to Charles who will review the financial results in more detail.

Charles L. Horn

We reported sales of $288.3 million in the third quarter of 2008. That’s a decrease of 30.3% compared to $413.9 million for the same period in 2007.

Breaking down our sales drivers for the quarter compared to the prior year. First, we estimate that housing starts within our markets declined approximately 39% compared to the same period in 2007. This decline is consistent with the decline in overall national single-family starts of 39.1%. Second, lower market prices on lumber and lumber sheet goods had slightly over a 1% negative impact on our sales compared to the third quarter of 2007. Conversely, market share gains added approximately 10% points to our sales and new operations nominally added to our sales.

Breaking down our product categories. Prefabricated components declined 29.7% from the third quarter of 2007 due to a combination of lower volumes and lower prices. Windows and doors were down 28.9%. Lumber and lumber sheet goods declined 34.8% to $71.6 million. We estimate that $35.5 million of the decrease is due to lower volumes and $2.8 million due to lower prices. Millwork declined 31.7%. Finally, other building products and services decreased 26%.

Our sales mix was consistent between years with the exception of other building products and services which increased to 21.4% of total sales. This category grew due to our expansion of installation services into the multifamily and light commercial segments.

Turing to grow margins. The $39.1 million decline in gross margins was across all product categories. Our gross margin percentage was 21% in the third quarter of 2008 compared to 24.1% in the third quarter of 2007. We experienced margin compression in all of our major product categories, the most significant in our manufactured products.

The impact of fixed costs within our cost of goods sold against lower sales volumes lowered our gross margins by approximately 1 % point. Pricing pressure on all products continued in the highly competitive environment although we are seeing pricing stabilize and in some cases improving. As the downturn persists, we may see further margin compression.

Our selling, general and administrative expenses were $75.6 million, down $17.6 million from the third quarter of 2007. We reduced our salaries and benefits expense by almost 22% from Q3 2007 on a sales volume decline of 29.6% or about 73% variable. We reduced our full-time equivalent headcount by 22% from the third quarter of 2007.

In an effort to reduce fixed operating costs we closed two locations during the third quarter of 2008. Subsequent to quarter end we announced the closure of four additional locations. These closures should improve our cash flow by an estimated $5 million to $7 million in 2009.

Also in October we reduced our corporate staff by approximately 31 people. The corporate reductions should bring us an additional $3 million in annualized savings.

From the third quarter 2007 we were also able to reduce our office G&A expense by almost $3 million or 29% and delivery costs by $1.6 million or 9.4%. However a the percentage of sales delivery costs were up 120 basis points primarily due to increased fuel costs. Fuel costs increased due to higher diesel prices coupled with extended delivery distances.

Our occupancy expenses were only slightly lower than the third quarter of 2007 as these costs are relatively fixed in nature.

Bad debt expense and other customer write-offs were essentially consistent between quarters at $1.5 million. Credit is becoming increasingly difficult for our builder customers to access. Accordingly we continue to diligently pursue collection of our accounts receivable. Our bad debt expense and other customer write-offs may reflect these difficult conditions in future quarters.

During the quarter we closed a facility in South Carolina and a facility in Ohio as a result of the continued decline in market conditions for these two facilities. We recognized $4.1 million or $0.07 per share in facility closure costs which are primarily related to future minimum lease obligations on these vacated facilities. We will recognize additional facility closure costs in the fourth quarter related to locations closed after quarter end.

Interest expense was $6.1 million for the third quarter, down $400,000 from the year ago period. The decrease was primarily attributable to a decrease in the debt balance from September 2007 as well as lower interest rates during the quarter. We borrowed $60 million under our $350 million revolving credit facility at the end of September. This was done late in the quarter; therefore the borrowing had a minimal effect on interest expense during the quarter.

Income taxes. During the third quarter we recorded an after-tax valuation allowance of $3.2 million or $0.09 per share on net deferred taxes recorded during the third quarter of 2008. Excluding the impact of the valuation allowance during the third quarter our effective tax rate was 38.3% compared to 36.7% in the year ago quarter.

Net loss for the third quarter was $18.9 million or -$0.53 per diluted share compared to a net loss of $12 million or -$0.34 per diluted share in the same period last year. Excluding the facility closure costs and the tax valuation allowance, our diluted loss per share was $0.37 compared to $0.01 per diluted share last year exclusive of the asset impairments.

Adjusted EBITDA for the third quarter was -$7.6 million compared to $14.6 million in the year ago quarter. Adjusted EBITDA as a percentage of sales decreased to a -2.6% compared to a +3.5% last year.

Looking at our balance sheet, we had $131.2 million in cash at the end of September. Our liquidity defined as cash plus net borrowing availability was $154.5 million at quarter end. This amount is net of the $35 million minimum liquidity covenant contained in our credit agreement. We will continue our efforts to preserve liquidity in these very challenging conditions.

Looking at cash flow and working capital. We used cash in operating activities during the quarter of $4.4 million due to the net operating loss which we were not able to completely offset with reductions in working capital. We did receive $8 million in income tax refunds during the quarter and we anticipate receiving approximately $1 million additional tax refunds in the fourth quarter of 2008. Our working capital percentage excluding income tax receivables actually improved 10.4% this year from 10.8% in the third quarter of 2007.

Our day sales outstanding improved one day from last year while our accounts payable essentially remains flat. Inventory turns were slightly worse, down one turn as we took strategic inventory positions on certain products in advance of announced price increases.

At September 2008 our accounts receivable balance greater than 60 days was 7% of total accounts receivable, up slightly from 6.2% in June 2008.

I’ll now turn the call back over to Floyd for his closing comments.

Floyd F. Sherman

The turmoil in the credit markets and the resulting contraction in lending could further damage an already weakened housing market. Because of the many factors that affect our industry it’s difficult to predict when conditions will improve, but we estimate that these challenging conditions will persist through mid-2010. We will continue to provide updated housing permit and commodity price data on our website each month to help guide you through the market uncertainties. This data is summarized and based on publicly available information.

This quarter was yet another difficult quarter but we’re committed to the long-term success of Builders FirstSource. We continue to focus on our strategy which has served us well to this point with strong liquidity, a more efficient organization through implemented operating efficiencies, and continued market share growth. We believe this strategy will help us weather the current downturn and make us a better company able to take advantage of the upside when the market does turn around.

We would like to point to our proven ability to cut costs and increase our operating efficiency, to preserve working capital and liquidity, and to grow our market share. In order to continue with these successes in these areas we will focus our efforts on identifying initiatives to offset declining sales, reduce headcount, drive operational improvements, rationalize physical capacity and restructure underperforming locations. We will strive to maintain our market leadership and financial strength during this downturn.

To achieve these identified initiatives we’ll rely on the considerable strengths of our employees to continue the successful implementation of our strategy throughout the remainder of the downturn.

I’ll now turn the call over to the operator for Q&A.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Nishu Sood - Deutsche Bank Securities.

Nishu Sood - Deutsche Bank Securities

First I want to get some details on the drawing down on the line of credit. I just wanted to hear a little bit more about the rationale, specifically were there any concerns that you had about the banks that were involved in providing the line or have there been any concerns on the part of your suppliers about your own liquidity position that led you to draw down?

Charles L. Horn

It certainly wasn’t the latter issue. It was a case where our lead bank is Wachovia. Obviously everyone knows the events towards the end of September regarding Wachovia. Again with them being an agent we wanted to make sure that we borrowed, had the liquidity there in case there was a hiccup with Wachovia. Had they just been a participant we wouldn’t have been overly concerned but as agents with our money flowing through them, we thought it was beneficial to go ahead and draw the money and have it on hand.

It certainly wasn’t a case where we needed it. It certainly wasn’t a case to beef up our balance sheet in terms of our suppliers. It was purely precautionary. I think once we see the merger go through with Wells Fargo you’ll see us pay it back and get rid of the negative interest arbitrage.

Nishu Sood - Deutsche Bank Securities

What might the interest impact be in the next couple quarters?

Charles L. Horn

I think the effective rate is about 5.5% on this drawing so it’d be $60 million if we kept it for the full quarter at 5.5%.

Nishu Sood - Deutsche Bank Securities

Last quarter you’d mentioned that you might get $7 million to $10 million back in tax refunds. I was just wondering if you could give us an update on the status of that and what you might get this half and what you might be looking at next year.

Charles L. Horn

For this year we received $7 million in the third quarter. We have an additional $1 million to be received in the fourth quarter of this year. So for 2008 we’re only looking at an additional $1 million of refunds. For 2009 our best estimate right now is around $35 million of refunds which we’ll endeavor to get back in May or June of 2009.

Operator

Our next question comes from [Walter Brenton - Regiment Capital].

[Walter Brenton - Regiment Capital]

Just a follow up on the previous fellow’s questions on cash flow. On the second quarter call I think your full-year guidance for negative cash flow implied that you would use $15 million to $25 million in the second half. You only used $4 million in the third quarter but of course you have those tax refunds. Is that range still good for the full second half?

Floyd F. Sherman

I think that’s correct. We are anticipating that Q4 could be difficult with the financial crisis that’s going on. So I think we’d stay with that same guidance.

[Walter Brenton - Regiment Capital]

For next year, anything you can tell us beyond the tax refunds in terms of your cash flow expectations?

Charles L. Horn

No. We really don’t give forecasts. We’ve always made that a point so that’s pretty much all we can disclose is the tax refunds.

[Walter Brenton - Regiment Capital]

Any comment you can make on working capital and whether you have any expectations of taking money out of working capital?

Charles L. Horn

We are. I think if you look at the fourth quarter this year, we can do a little bit better on inventory. We’ve done a very good job on DSO. We’ve done a very good job on accounts payable. I think we can do more definitely on inventory; increase our turns a little bit. Going into next year though I think it’s going to be a challenge to maintain working capital percentage. I think there could be further pressure on DSO. Inventory’s controllable. AP’s more controllable. But DSO could be a little bit more difficult going into 2009.

[Walter Brenton - Regiment Capital]

Just so I understand the numbers, that $4 million charge you took for closing those locations, that’s basically still on the balance sheet, right? You haven’t really spent that yet right?

Charles L. Horn

That’s correct. It’s primarily lease obligations that we will pay out in the normal course of business over time.

[Walter Brenton - Regiment Capital]

Did that go into accrued liabilities and would have been factored into the change in that number?

Charles L. Horn

Most of it is recorded in long term versus the current liabilities.

[Walter Brenton - Regiment Capital]

In terms of the use of your cash at this point, it sounds like - tell me if I’m not right - but it sounds like at this point you’re pretty much just holding cash to get you through this downturn. Is that kind of your approach right now?

Charles L. Horn

I think that’s correct. You won’t see us being overly inquisitive. There’s really nothing on the horizon on that. Cap ex we’re pulling in. We definitely will try to conserve cash. That’s our first priority.

Operator

Our next question comes from John Kasprzak, Jr. - BB&T Capital Markets.

John Kasprzak, Jr. - BB&T Capital Markets

I wanted to ask about the issue of competition. You guys have obviously been mentioning that out in the market place. I notice Wolseley recently said with regard to their stock operation in the US they’re shutting down 86 branches, exiting 16 markets. What can you tell us about as far as the housing downturn what you’re seeing on capacity in your market? Is it finally starting to exit the market at an accelerating pace? It seemed like there was a big of a lag and that’s obviously contributed to a tough environment, but are we starting to see capacity closures, capacity exiting the market pick up?

Floyd F. Sherman

Yes. We are seeing this taking place now on an accelerated basis. I don’t believe the required capacity has been eliminated to as great a degree as we think that it should be but it certainly is accelerating on a much faster pace than what we’ve seen up until now. We are seeing it obviously from the announcements that are made by Wolseley. There’ve been some announcements by 84. But we’re also seeing it with a lot of smaller operations. A number of trust operations have closed.

Whether this will be a permanent reduction in capacity or whether it’s just mothballing, we’ll just have to wait and see. I think what we’ll find is that it will be probably split evenly between permanent reduction and mothballing.

John Kasprzak, Jr. - BB&T Capital Markets

We had 2.2 million housing starts at the peak. Is there any way to determine what the industry, it’s a moving target of course, capacity is today versus where we were at the peak?

Floyd F. Sherman

I really don’t have any way of estimating that.

Operator

Our next question comes from Analyst for Michael Rehaut - J.P. Morgan Securities, Inc.

Analyst for Michael Rehaut - J.P. Morgan Securities, Inc.

My question is with the share gains. I was wondering if you could explain what was the driver of that? Was it more on the price side? I know you mentioned moving into commercial markets. Was that the main driver?

Floyd F. Sherman

The commercial market initiatives and the multifamily initiatives have certainly been a significant part of it. I would also say that we have been price aggressive. You can always argue whether it’s meeting market conditions or whether you are taking advantage of someone else’s position and trying to take business away. I think that we certainly have been aggressive in our pricing.

Our multifamily and commercial endeavors continue to gain momentum. They are becoming a much more important part of our business. It’s a business that we had to learn. There are certain costs that you have to put in upfront but they now appear to be really working in our favor. We will be continuing to push this side of the business.

I can just tell you that there are two projects that we’re currently providing materials for and also doing some labor on that exceed $5 million each in size, and a lot of smaller projects that range anywhere from several hundred thousand to the $5 million in size. We’re getting these projects throughout our market areas which we’re very pleased to see because that does give us a broader coverage and we’re not depending upon just one area for the business.

Analyst for Michael Rehaut - J.P. Morgan Securities, Inc.

As a percent of the total, how big would you say this is as a percent of the total versus a couple quarters ago?

Floyd F. Sherman

Charles you correct me if I’m wrong, but I would say it’s now probably approaching 8% of our total business.

Operator

Our next question comes from James Wilson - JMP Securities.

James Wilson - JMP Securities

My main questions were on the competitive front that you already answered. The other thing is, with the major builders downsizing and I think in the process of probably already but certainly in the future gaining lots of market share, can you kind of describe how the relationship is working with the major builders since presumably you’re going to be one of the few suppliers still out there and the big builders are going to be gaining a lot of market share as small builders go under? How is that partnership working today? How can you benefit from it and are you already benefiting from it?

Floyd F. Sherman

We definitely are increasing our involvement with the national builders. That’s always been an extremely important part and a major piece of this company. As the competitors pull out of the markets or withdraw their presence or reduce their presence in the market, it definitely favors us and we are quick to take advantage of it and have been doing so. The market share gains that we had were a combination.

Also we increased our business with the large national builders as well as we’re increasing our share of the custom home builder and the smaller builder. Certainly as the larger national builder takes on a greater percentage of each market place, where that occurs that fits in very well with our strategy and we respond to it very quickly.

Charles L. Horn

The only thing I’d add is we are well positioned with that group. About 50% of our revenues are to the Builder 100 group so we do think that will be beneficial for us.

Operator

Our next question comes from Jay McCanless - FTN Midwest Securities Corp.

Jay McCanless - FTN Midwest Securities Corp.

I wanted to follow on a little bit more with the stock in 84 closures you talked about. Are there any opportunities even in this down market to maybe step in where they’ve stepped away?

Floyd F. Sherman

It’s a little bit too early yet. I’ve seen the announcements. I haven’t necessarily seen the actions taking place in the market. We have not gotten nor have they put out a list of closures so I think there’s a lot of speculation in the market but that’s all there is right now.

As soon as we see that and as soon as we see them either pulling out or reducing their presence in the market, we obviously are going to go after it. I think a strong selling point of our company is our financial stability and our ability to remain in those markets and provide a very competitive service oriented package to the customers. Once we get definitive lists or we see definitive closings, then we will address that in the markets where we overlap.

Jay McCanless - FTN Midwest Securities Corp.

I also wanted to talk a little bit about customers. If you look at the customer roles at your different facilities, have you all measured what percentage of those customers have dropped off from say the peak until now or is that some type of assessment you might do in the future?

Charles L. Horn

We have not done that at this point. We tend to monitor more year-over-year so I can’t really tell you exactly what it is. If I look at our Top 10 customers at the peak, our Top 10 customers were about 26% of our overall revenues and they’re now down to about 20% of our revenues. I think that’s more of an indication of the fact that they pulled back quicker. They responded to the excess inventory in the market far more quickly than what your custom and semi-custom builders did. Other than that we’ve really not drawn any conclusions.

Jay McCanless - FTN Midwest Securities Corp.

Are you hearing any reports from the field that private bankruptcies have picked up? And conversely, have you heard with all the executives who’ve been displaced from the larger builders of any new companies potentially trying to start up and get funding in this market?

Charles L. Horn

To your latter question, no. I’m not aware of anything to that effect. In terms of bankruptcies, closures, many of your small builders are suffering extremely at this point. Credit has been pulled back. Your smaller regional banks have quit funding them. So you are seeing quite a bit of them going under and filing bankruptcy.

Operator

Our next question comes from [Rob Hanson] - Deutsche Bank Securities.

[Rob Hanson] - Deutsche Bank Securities

You mentioned that 7% of your accounts receivable was greater than 60 days past due. I just wanted to see what’s a comparative figure for this during more normalized times?

Charles L. Horn

In normalized time it’s running 3.5% or 4%. So during good times it would be about 4% and at this point it’s about 7%. Again we really try to work it. I think at 7% we’re still one of the lowest in the industry if not the lowest in the industry.

We try to keep our net 30-day terms where we can. And we do have very aggressive charge-off policies. We don’t let anything go beyond a year. Anything that hits the 90-day bucket is reserved at a 50% rate. Any company that files Chapter 7 or 11 we fully charge off at that point in time.

So we’re trying to monitor it. We really just have two or three smaller accounts that really caused the blip in the percentage. We do think we can work through it. Were’ working to try and get collateral to support those receivables. But the smaller custom and semi-custom builder is an exposure we focus on and we try to minimize, but it will get worse before it gets better.

Floyd F. Sherman

I think another very important difference too with us is we apply our cash not to the oldest invoice. We apply cash to the invoice where it’s directed. If it’s not specifically directed, we hold it until the customer tells us where to apply it. Many people in this industry, their usual practice is to apply cash to the oldest invoice so what you see in days outstanding can very well be a misnomer.

[Rob Hanson] - Deutsche Bank Securities

I also wanted to see if you could walk us through your decision to exit the New Jersey market and based on that criteria what other markets might you exit in the near term?

Charles L. Horn

Obviously the exit in New Jersey was a very painful decision for us to make. It’s one we agonized quite a bit over. It was a situation where we’re looking to maintain cash flows as we’ve talked about before. We looked at the major operations that were losing money and then we sat back and said, “Three to five years down the road, what is the potential for this market?”

New Jersey unfortunately was on the top of the list in meeting the criteria that we ranked them by. So we made the tough decision. We estimated it would save us over $5 million of cash flow next year in 2009. Again thinking five years down the road that the upside was not great, it was the right decision to make.

In terms of the other small locations, there have been more end market consolidations or small locations that really didn’t make any money.

In terms of any other major moves like New Jersey, that’s more of a distant decision. We’ll have to look and see how 2009 develops before we make any m ore tough calls. Again it’s not a case where you can go through and just start whacking off markets. That’s never a good thing to do. It has to be a very limited approach. It has to be very selective because you do want to keep your core business, you want to keep your core geographies and you want to make sure that you have a good viable company with a good strong footprint when a recovery comes.

Operator

Our next question comes from [Brian Tadale - Broadpoint Capital].

[Brian Tadale - Broadpoint Capital]

I wanted to go back to the liquidity front. Given your comments that you expect this to continue to mid-2010 and your $150 million you have of net liquidity at this point, what’s your comfort level that’s enough to get you through to that point?

Charles L. Horn

The way I look at it is if we have $155 million of liquidity, we have a tax refund coming next year anticipated to be around $35 million, so that puts us up around $190 million. We should get in a declining environment some working capital that will come out that will help offset any operating losses. We are taking plans like what we talked about in the press release where we closed locations. We have reduced our headcount which will benefit us by about $10 million going forward to next year.

Then what we’ll do is as the market conditions develop if we see it getting worse, there are more actions we can try to take to minimize it. Candidly, we think conditions can get really tough before we have any issues in 2010. We do feel we have a good liquidity structure, actions we can take and we’re being very proactive in taking them to ensure that we keep the liquidity we need.

[Brian Tadale - Broadpoint Capital]

With regard to the borrowing base in the facility if you look at actually the reduction in liquidity versus the second quarter, it was more of a reduction in the base than it was actually a burning of cash. Do you have a sense of what a floor, I know it’s a tough market, but what a floor would be in terms of the size of the actual base that you could borrow against?

Charles L. Horn

Let me address your first point which is you’re right. The borrowing base did go down, and then too our advance rates go down from September through March. We have a seasonal advance rate that goes up during your peak months and down during your other months. So if you’re comparing sequential quarters, you’re also seeing that decline in advance rates.

In terms of a floor it depends on where your sales volume goes in terms of your AR and your inventory, so I really wouldn’t know how to answer that.

[Brian Tadale - Broadpoint Capital]

Was there any magic to that $60 million number that you drew and was that an expectation of what you would need from peak working capital next year or just your logic on the $60 number?

Charles L. Horn

No. At the time we had about $85 million we could have borrowed under our borrowing base. We just chose to leave some cushion so we borrowed $60 million.

Operator

Our next question comes from Kevin Starke - CRT Capital.

Kevin Starke - CRT Capital

On the borrowing base questions, there’s a little provision in there that talks about equipment availability. I wanted to know if that was available to you?

Charles L. Horn

We actually took advantage of that during the third quarter. It adds about $7 million to the borrowing base but it amortizes down on a monthly basis so it does add some. I think it added about $7 million to the borrowing base so it wasn’t a huge add.

Kevin Starke - CRT Capital

And it amortizes so that actually will reduce over time?

Charles L. Horn

That is correct.

Kevin Starke - CRT Capital

The letters of credit outstanding at the end of the quarter?

Charles L. Horn

Yes. That was about $16.6 million.

Kevin Starke - CRT Capital

The $4.4 million operating cash burn and the $1.1 million cap ex gets you to $5.5 million in basic burn. Do you think that’s a pretty good template for Builders FirstSource going forward on a quarterly basis?

Charles L. Horn

It’s going to depend on the level of housing starts. If the starts are somewhat equivalent to what they were in Q3, I think that’s a pretty good measure. But I think all of us as we said in our press release believe starts are going to go further down before they bottom and we see a recovery.

Kevin Starke - CRT Capital

Your borrowing base is roughly 55% or 60% of your total AR and inventories in any given time just eyeballing the numbers. Inventories and receivables are down to the tune of 30% year-on-year for the past several quarters. It makes me wonder why you would actually want to repay that $60 million and why wouldn’t you want to just hold on to that?

Charles L. Horn

We could. That could be an option we do. It’s just a matter of, do we want to carry the interest expense if we don’t need the borrowing? But it’s always a consideration we have and an alternative we do have.

Operator

Our next question comes from [Walter Brenton - Regiment Capital].

[Walter Brenton - Regiment Capital]

I just wanted to ask another question regarding the tax refunds. After getting that $35 million in 2009, do you still have an ability to carry back more in 2010 if you have losses in 2009 or do you bump up against the three-year limitation for carry-backs?

Charles L. Horn

Everything from that point forward will be carried forward. So we have no additional amounts to carry back.

[Walter Brenton - Regiment Capital]

You had said on the last call you could potentially do [60 to 70]. So that just means you don’t have the losses to support the [60 to 70]?

Charles L. Horn

Two things. The first point is correct. We won’t have the losses to support it. And second, I didn’t have the exact number in front of me so I’ve kind of refined that going into this call.

Operator

Our next question comes from Tim McDowell - Group G Capital Partners.

Tim McDowell - Group G Capital Partners

Just one question on SG&A. I know on past calls you guys have discussed the fact that you are cutting into bone, muscle and that significant cuts would be possible. But you guys did a nice job in this quarter cutting down SG&A. If revenues were to go down and if that is in fact the case, how should we think about you guys being able to further make cuts to SG&A? Is it more of a step function related to the closing of various facilities or are there further measures that can be taken irrespective of the facility closures?

Charles L. Horn

I think obviously when you look at the salaries and benefits, we’ve done a very good job flexing there. I think that there’s more we can do if we have to to take that metric down. Obviously to reduce our fixed costs such as occupancy, that will require us to close additional locations. That is always an option we have even though we don’t have anything currently on the table aside from what we’ve already announced.

Delivery costs, we’re trying to reduce the fleet, trying to pull back on lease expense within delivery costs. Obviously we’re hoping for a break in fuel costs which would give us some benefit as well. From a bad debt expense standpoint I think we’ll see it being fairly consistent at around $1.5 million per quarter. Not a great deal we can do there.

So a longwinded way of saying there are obviously some costs we can take. Again the biggest cost expense we have is payroll and we can continue to address it. If we need to take further costs out, we’d have to look at our fixed costs which would be primarily closing locations.

Tim McDowell - Group G Capital Partners

Where would you say you guys stand I know historically the split has been kind of salaries have been 55% or 60% of overall SG&A fixed versus variable? Where does that stand today?

Charles L. Horn

In Q3 our payroll, salaries and benefits was still about 60% of our total SG&A. So it’s still a very meaningful number to us.

Operator

Our next question comes from [Ray Lamansky] - BB&T Capital Markets.

[Ray Lamansky] - BB&T Capital Markets

I have a question for you versus a comment you made before about saying it could be harder to maintain DSO going forward and also how that relates with charge-offs. It looks like you charged off about the same amount this quarter as you did last. Would you say that when you say it’s going to be harder to keep a lid on DSO, is it because let’s say the customers in your non-big builder component are having troubles paying and slower or that the larger players in the homebuilders are taking advantage of their position right now to try to improve their own cash flow a little bit more by paying more slowly?

Charles L. Horn

It’s more the smaller builders who are having their credit lines pulled away from them. We’re seeing some fairly large regional builders who are losing their credit lines. Once that happened they have to wait until they sell homes. Then they try to pay off their suppliers. I think the credit crisis we’re seeing that’s going on is really affecting your smaller builders. I can’t tell you that we’re seeing any issues with our top customers.

Operator

At this time there are no other questions holding. I’ll turn things back over to our speakers to provide some closing comments.

Floyd F. Sherman

Thank you for joining us today. If you have any further questions, please feel free to contact Charles Horn.

Operator

Ladies and Gentlemen, again thank you very much for joining us. That will conclude today’s conference call. Have a good day.

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