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Koppers Holdings Inc. (NYSE:KOP)

Q4 2008 Earnings Call

February 17, 2009 11:00 am ET

Executives

Mike Snyder – Director of Investor Relations

Walt Turner – President and Chief Executive Officer

Brian McCurrie – Vice President and Chief Financial Officer

Analysts

Laurence Alexander – Jefferies & Company

Steve Schwartz – First Analysis

Saul Ludwig – KeyBanc Capital Markets

[Bob Vecht – Lord Abbott]

Operator

Welcome to the Koppers fourth quarter earnings conference call. (Operator Instructions) I would now like to turn the conference over to Mr. Michael Snyder, Director of Investor Relations. Please go ahead, sir.

Mike Snyder

Welcome to our fourth quarter conference call. My name is Mike Snyder and I’m the Director of Investor Relations for Koppers. At this time each of you should have received a copy of our press release. If you haven’t, one is available on our website or else you can call Rose Zalinsky at 412-227-2444 and we can either fax or e-mail you a copy.

Before we get started, I would like to remind all of you that certain comments made during this conference call may be characterized as forward-looking under the Private Securities Litigation Reform Act of 1995. These forward-looking statements may be affected by certain risks and uncertainties, including risks described in the company’s filings with the Securities and Exchange Commission.

In light of the significant uncertainties inherent in the forward-looking statements included in the company’s comments, you should not regard the inclusion of such information as a representation that its objectives, plans and projected results will be achieved. The company’s actual results could differ materially from such forward-looking statements.

I’m joined on this morning’s call by Walt Turner, President and CEO of Koppers, and Brian McCurrie, Vice President and CFO. At this time, I’d like to turn over the call to Walt Turner.

Walt Turner

Welcome everyone to our 2008 fourth quarter conference call. Before I get into the 2008 results, I would like to make a few comments on the global economic environment and how it has affected our business. Obviously, we’ve seen some dramatic changes in our end markets in the fourth quarter. These changes have led to certain negative financial consequences that we will discuss during the call.

I would like to emphasize a few key points to make sure that they are not lost in the details of explaining a difficult quarter. We remain confident in the longer term opportunities offered by our key end markets and in our ability as a market leader with an experienced management team to successfully navigate what may be a difficult 2009.

Our business model has not changed. We will continue to offer critically needed high quality products to our customers at the utmost effective cost effective price we can. We will focus on maximizing profits and generating cash flows, which are both hallmarks of Koppers. I’m confident that the future will be bright. We expect, not only a return to the high performance we achieved earlier in 2008, but also expect continued improvement as we expand our presence in China and further consolidate our mature markets.

I would like to discuss our fourth quarter 2008. Fourth quarter sales for the company were $289 million compared to prior year fourth quarter sales of $309 million reflecting the decline in the global economy. Sales in the fourth quarter were significantly impacted by decline in demand and in some cases prices for certain products, particularly in our global carbon materials and chemicals business.

Fourth quarter sales of carbon pitch to the aluminum and steel industry declined 9% from the prior year’s fourth quarter as a result of declines in aluminum and steel production. The areas where we saw the most significant changes were in our downstream chemical productions.

European and Asian sales volumes of carbon black feedstock to the carbon black producers declined 16%, as many of the global rubber producers dramatically reduced fourth quarter production and purchases of raw materials. Sales volumes of naphthalene, phthalic anhydride declined 27% and 32% respectively in the fourth quarter based on what we believe was in part a destocking of inventories in these end markets.

Sales prices, particularly for phthalic anhydride and carbon black feedstock declined as significantly demand led to increased price volatility including the impact of lower benchmark oil that reduced prices in some instances in excess of 45%.

Profits for the fourth quarter were not only significantly impacted by the decline in volumes in carbon materials and chemicals, but also by the negative margin impact of processing higher cost raw materials into lower priced end markets. In addition, the rapid decline in demand left the company with significantly higher inventories at year end.

And as a result, significantly LIFO and low cost of market reductions of inventory values were recorded at year end as were other special charges that totaled $17 million of net income. I’ll leave it to Brian to discuss those in more detail.

Fourth quarter adjusted EBITDA was $26 million compared to prior year fourth quarter adjusted EBITDA of $32 million. This decline was a result of the previously discussed declining markets that impacted the fourth quarter. Adjusted EPS for the fourth quarter was $0.27 compared to $0.37 in the fourth quarter of 2007.

I’ll speak more about our outlook later, but I do believe that we did not see the full financial impact of the economic downturn in the fourth quarter and foresee a more significant impact in the first quarter of 2009. You will recall that the first quarter is normally our weakest quarter due to the seasonality of our businesses.

On a more positive note, fourth quarter cash flows from operations and net cash realized from the Monessen sale allowed the company to end the year with a very strong and flexible balance sheet that includes $63 million of cash on hand and unutilized balances net of letters of credit of $283 million on the new $300 million revolving credit facility.

Full year cash flow from operations, excluding the tax on the gain of the Monessen sale was $104 million compared to prior year of $65 million. Net debt was reduced from $423 million during the year to $308 million at December 31, 2008.

As a result of the decline in the demand of our end markets, we have initiated steps to reduce costs and optimize plants and inventory levels throughout the company. Specific expense reduction targets have been identified that include staff reductions. Bank capacity utilization is being managed based on our end market demand, and supplies and raw materials

And as a result, we have temporarily reduced production at our Australian carbon black facility by 70% for the first quarter of 2009 internally taking temporary shutdowns at plants in Denmark and in the United States.

I expect that these cutbacks will impact the first quarter. Should demand continue to be soft and the supply of coal tar continue to be uncertain, these reductions would continue in the second quarter and possibly beyond. At this point, we have not seen lower demand for most of the Class 1 railroads in North America. However, we are anticipating a potential softening in the commercial tie business in 2009.

In our global carbon materials and chemical segment, fourth quarter 2008 sales decreased 13% to $199 million as volumes decreased 14% due to lower sales across all major product lines. Average prices in the quarter increased 12% primarily due to higher sales prices for carbon materials due to higher raw material prices and higher contract pricing.

Sales of railroad utility products in the fourth quarter were $115 million compared to $110 million in the fourth quarter 2007 as higher volumes in prices for treated crossties offset lower volumes of creosote and utility poles. As indicated during our last quarter, we got off to a slow start in 2008 due primarily to poor weather conditions coupled with a weak lumber market, but we did see volumes increase in the second half of the year.

Our expectation is that the increased demand for untreated crossties from our Class 1 customers should continue at least through the early part of 2009, however, if rail traffic and revenue trends are down, we could see some moderation of buying patterns as we move into the second half of the year.

After Brian completes the financial review, I’ll give you a status update on our core end markets as well as provide some insight into what we are expecting for 2009. Brian?

Brian McCurrie

Before I get into the financials, I would like to walk you through the $17 million of special items impacting EBIT in the fourth quarter. As Walt mentioned, we recorded a total or $12 million of inventory adjustments in the quarter. These included $8 million of incremental LIFO adjustments in the U.S. beyond those recorded in the prior year. These were largely caused by rapid declines in demand that left us with significantly higher than anticipated inventories at higher costs at year end.

In addition, we incurred $4 million for lower cost to market write-downs outside the U.S. without the pleasure of dealing with LIFO. Due to the nature of the LIFO calculations, which is done on a single pool basis unlike the more straightforward LCM calculations, we will expect negative margin impacts in the first quarter of 2009 as higher cost inventories for orthy-xylene and phthalic anhydride are liquidated at lower sales prices.

These higher cost inventories should be completely processed by the end of the first quarter. In January of 2009 we received notice that our customer for our glycerin refining operation in the UK was canceling their contract. As of this date, we have not identified an alternative customer for this capacity so we recorded an impairment charge of $3.7 million at the end of the year.

On an annual basis this operation returned less than $200,000 of profit and is not expected to have a significant impact on the future levels of profitability. Should we be able to negotiate a contract with the new customer, we may be able to improve the overall profitability of this operation. The plant is located at our Port Clarence coal charge installation facility and its impairment will not result in additional impacts to that operation.

This adjustment impacts EBIT and is not an adjustment to EBITDA since it is added back as part of the depreciation expense for the period. Other special charges of $1 million and $800,000 were recorded for an extended maintenance outage at our Susquehanna Pennsylvania cogen facility and for severance related to year end redundancies.

Unfortunately, the issues associated with restarting the cogen facility have continued into the first quarter and could have an additional $300,000 to $500,000 impact as we work to resume operations.

Severance relates to part of our cost cutting initiatives for 2009, $120 million gain on sale of Monessen and the result of its discontinued operations have been excluded from adjusted EBIT, EBITDA, and EPS for the quarter in both 2007 and 2008.

In the fourth quarter, we changed our assumptions related to reinvestment of foreign earnings, primarily European earnings, caused us to accrue $6.4 million of incremental tax expense in the quarter. Up to the fourth quarter we'd assumed that these earnings were permanently reinvested and reflected this assumption in our effective tax rate accordingly.

Given the volatility of future earnings and to provide flexibility for potential repatriation, we changed this assumption. This changes the annual effective tax rate from 39% to 46% and concentrates a catch-up impact on EPS of $0.31 in the fourth quarter. We have not repatriated the earnings to the U.S. so cash taxes will not change rather tax accrual can be established.

I expect that we'll maintain the effect of tax rate in the range of 43% into 2009 until our end markets stabilize. This is will serve to eliminate significant volatility in the 2009 EPS should foreign earnings be repatriated. Should the opportunity to permanently reinvest these funds in Europe present itself, the tax rate would be reduced accordingly.

As a summary for the quarter, we have excluded $17.2 million from adjusted EBIT, $13.5 million from adjusted EBITDA, and $0.83 from adjusted EPS for the purposes of this financial summary. Sales for the fourth quarter decreased 6.6% to $288.9 million as compared to $309.2 million for the prior year quarter.

So the most significant impact of the economic decline in our global carbon materials and chemicals business where we saw volume decline in every geographic region resulted in lower sales of 12.7% or $25.3 million more than offsetting higher sales in our railroad and utility segments, which increased $5 million based on increased pricing per crossties due to higher lumber cost.

Fourth quarter sales declined in carbon materials and chemicals was comprised of 1% or $2.4 million increase in sales of carbon materials. A 2% or $5.6 million reduction in sales of distillates, a 7% or $11.1 million decline in sales of coal tar chemicals, and a 6% or $11 million decrease in sales of other products.

Fourth quarter carbon material sales were negatively impacted by $6 million due to lower volumes of carbon pitch sales primarily from North American and European operations as smelter closures and curtailments impacted customer volumes for carbon pitch, and $6.9 million of foreign exchange impact offset by $15 million of higher prices due primarily to higher raw material costs.

Sales of distillates, which include creosote and carbon black feedstock, were negatively impacted by lower volumes amounting to $3.8 million. While prices for distillates were up slightly from the prior year quarter, they were down significantly from the third quarter due to the decline in oil prices.

North American sales of phthalic anhydride, representing less than 6% of total sales for Koppers, experienced a 32% reduction in fourth quarter volumes due to significantly lower end market demand from customers as we believe customers destocked inventories as their businesses softened and commodity prices declined. We expect that there may be volatility in first quarter 2009 volumes for phthalic anhydride due to the depressed state of the automobile and housing industries in North America.

Carbon materials and chemicals adjusted EBIT for the quarter of $14.6 million declined 15% from $17.1 million in the fourth quarter of 2007. EBIT margin dollars were negatively impacted by lower sales volumes, production throughput and prices for most product lines in the carbon materials and chemical segment as adjusted operating margins were flat at 8.5% on lower sales.

Overall carbon materials and chemical sales in the fourth quarter were negatively impacted by 11% or $21.8 million due to foreign exchange, a trend that is likely to continue and that we see as a headwind going into 2009.

Impact on 2008 sales and profits using today's exchange rates would have reduced sales in EBIT by approximately $80 million and $10 million respectively. Average oil prices at the start of 2009 are about $35 to $40 per barrel compared to 2008 average oil prices of about $95 per barrel or $93 per barrel at the beginning of 2008 will lead to lower benchmark pricing per carbon black feedstock in the first quarter and has lead to raw material cost reductions in certain geographic markets.

Sales of railroad and utility products increased slightly in the fourth quarter to $115.3 million. Higher sales of treated crossties offset lower volumes for creosote and utility poles compared to the prior year quarter. Operating margins for R&UP decreased to 2.9% from 6.5% due primarily to higher raw material costs for sales to the Class 1 railroads that were passed through dollar for dollar, and for commercial crosstie sales where the higher costs were not recovered in selling prices due to contractual obligations, as well as intense competition for that business.

During the year, we have seen the cost of white ties increase $5 to $7, which has caused some dilution impact to margins even when the higher cost has been recovered dollar for dollar. Due to the competitive nature of the commercial crosstie market, along with the current economic situation that has resulted in significantly less spending by the short lines, we anticipate continued pressure on margins in this part of our business in 2009.

As a point of reference the commercial crosstie business represents 15% to 20% of the total railroad business for Koppers. On a consolidated basis, fourth quarter adjusted EBITDA adjusted 18% to $25.7 million compared to fourth quarter 2007 adjusted EBITDA of $31.5 million. Adjusted net income for the fourth quarter of 2008 was $5.5 million compared to adjusted net income in the fourth quarter of 2007 of $7.8 million.

Fourth quarter adjusted EPS was $0.27 compared to prior year’s adjusted EPS of $0.37. Adjusted net income and adjusted diluted EPS for the year’s end of December 31, 2008 and 2007 were $65.4 million or $3.15 per share and $51.9 million or $2.49 per share respectively, after eliminating discontinued operations for both years and adding back $17.7 million of charges for 2008 and $4.1 million of after tax charges for 2007.

Our debt net of cash on hand at December 31, 2008 was $308 million compared to $423 million at December 31, 2007 with reduction reflecting the payoff of our revolver and term loans from the Monessen proceeds as cash flows from operations also funded the purchase of $21 million of shares and $32 million face value of senior secured notes.

Year-to-date operating cash flows, excluding taxes on the Monessen sale, were $104 million compared to $62 million in the prior year period. Capital expenditures for the year, excluding expansions, were $37 million compared to $24 million in 2007. We expect CapEx reductions in 2009 as spending is reduced to the $23 million range.

Should incremental investments for expansions or consolidation arise, we will review these prudently but would like to be able to take advantage of business improvement opportunities as they present themselves.

Regarding our pension plans and the expected impact on 2009 earning and cash flows, even though the U.S. pension plan for salaried employees was frozen beginning in 2007, we still have a significant pension obligation that will be negatively impacted by the stock market decline in 2008.

While pension expense for the U.S., which comprises the largest part of our global pension expense, is expected to increase by $7 million in 2009, there will be no additional funding requirement to the U.S. plans until 2010 when, absent of change in the current funding rules, our contribution is estimated to be $20 million.

Closing of the sale of Monessen on October 1st resulted in approximately $100 million of net cash proceeds from the sale after taxes. We used the proceeds to payoff our existing term loans and revolving credit facility, which were at $49.1 million at September 30, 2008.

On October 31, 2008, we also entered into a new four-year credit agreement that provides for a revolving credit facility of $300 million at an initial interest rate of LIBOR plus 250 basis points. The agreement replaced the existing $125 million revolver in term loan facilities that were due to expire in late 2009.

The new revolver is subject to certain covenants, the most significant of which relates to leveraged fixed charges and domestic interest coverage all measured at the Koppers, Inc. level. We expect to use this additional liquidity and financial flexibility to look at opportunities to increase shareholder value, including growth investment and bond reduction. As an example, during the fourth quarter we were able to repurchase $32.5 million of our senior secured bonds in the open market at a price below face value.

In the near-term, in light of general market uncertainty, we are placing a premium on balance sheet flexibility and liquidity. As the situation stabilizes, we believe that we will be in an excellent position to take full advantage of our strong balance sheet to create shareholder value.

As such, we have not yet used the new revolving credit facility to reduce the senior secured notes, which became [inaudible] in late 2008. We will be reviewing this on an ongoing basis through the year. Senior secured notes and senior discount notes mature in late 2013 and 2014 respectively. We have no current maturities of debt balances.

Before I turn it back over to Walt, I would like to emphasize that our business is seasonally impacted by demand for our products. The financial performance in the first and fourth quarters is historically lower than the second and third quarters. You see this trend continuing and anticipate a challenging first quarter of 2009 as the seasonality is coupled with the state of the global economy.

At this time I'd like to turn it back over to Walt.

Walt Turner

In 2008, our two business segments, carbon materials and chemicals, and railroad and utility products, were 65% and 35% respectively of our total revenues. The railroad and utility product segment is expected to grow in 2009 as the demand for untreated wood crossties, primarily to the North American Class 1 railroads, increases by 2% to 3%.

As we currently see it, we don't believe that the rate of the tie insertions in 2009 will be significantly impacted by economic conditions. Due to the importance of crossties to the rail infrastructure, we believe that the railroads will reduce spending on ties only as a last resort. You see this business, although having some risk of volatility in a very uncertain economic environment, as having a more consistent performance in a market downturn.

On the profit side, we have been experiencing increases in costs for the untreated crossties due to lower demand for hardwood in the furniture and housing markets that have driven prices up in the hardwood market as sawmills struggle to maintain their sustainability.

The cost of creosote is also increasing as the cost of coal tar raw materials increases. These increases, although absorbed largely by our customers, is having a dilutive impact on our margins. I expect this trend of cost increases to reverse sometime in 2009.

Our utility products business in Australia is a market leader and I totally expect another strong performance there in 2009. In addition, we are reviewing the government stimulus plan closely and are hopeful that infrastructure studying will have a positive impact on the railroads.

The carbon materials and chemicals segment is largely tied to the steel and aluminum markets. If you recall, we use a byproduct [inaudible] coke making process, coal tar, as our raw material to produce carbon pitch for the aluminum industry, carbon black feedstocks for the rubber market and naphthalene as a feedstock concrete additive or for further processing in phthalic anhydride for the plastics and resins market.

Beginning in late 2008, we saw significant reductions in steel and coke production that ultimately led to reductions in coal tar availability. Although we are constrained in some regions of the world due to lower volumes of tar, we have been able to meet customer demand by blending tar with certain petroleum feedstocks or by importing and exporting products through our global network of plants. This allows us to meet demand but ultimately at a higher cost.

In certain parts of the world we saw coal tar prices decline. However, in certain geographic regions like North America we have seen prices continue to increase as constraints on availability have delayed price declines. We believe that this will ultimately normalize in the second half of 2009. Price formulas and our long-term contracts will continue to keep us whole, but we will have margin dilution in the early part of the year.

As I mentioned earlier, our primary product is consumed in the smelting of aluminum. Our prices are not tied to aluminum prices or coal prices, but rather based on terms that are likely to reflect the cost of our raw material.

Much like the steel industry, we have seen significant decreases in aluminum production around the world primarily targeting higher cost in smelters. As such, we have seen curtailments in production more heavily in the Europe, North America and China. Reduction in production in Europe and North America have and will continue to impact us. And as noted earlier, we have temporarily curtailed production at some of our distillation facilities in Denmark and in the U.S.

Lower production in China and even Russia will not impact us since we do not sell significant volumes into these markets. Interestingly, the one area where production is increasing is the Middle East where more efficient new smelters have come online in 2008, 2009 and even further in 2010. We are well positioned in our production facilities in China to serve a large part of this market.

As a note, we did complete the expansion of our majority owned joint venture in China in December, increasing capacity from 150,000 tons to 200,000 tons. The physical construction of the new 300,000 ton plant was also completed in December and the plant is currently in its commissioning phase with startup scheduled for the second quarter of 2009.

It's difficult to tell you exactly where 2009 global production levels will end up. What I can assure you is that we will manage our plant capacities, our raw material and production costs in a way to optimize our results.

We sell our distillate feedstock product in Europe and Asia to the carbon black producers. This product represented approximately 5% of our sales in 2008. These producers remain operating at low levels in Asia, and in Europe we have seen closure of facilities as more expensive capacity is taken offline.

Our only carbon black plant in Australia is currently running at 30% capacity and will continue at least through the end of the first quarter of 2009. We do expect Asian carbon black production to lead a recovery and have seen some signs of improvement, but certainly not enough to pronounce a recovery.

On the pricing side, our carbon black feedstock prices off of an oil benchmark, so we have seen prices decline with the price of oil. You will remember that our distillate feedstock product in North America is creosote we use to treat crossties. And, therefore, the volatility of the North American carbon black industry has less of an impact on us.

Our naphthalene product is an interesting story for us. We sell this product in the Middle East, India, China and Southeast Asia. Barrels of naphthalene represented 4% of our sales in 2008. Recently the demand and pricing have picked up a bit. The products are seasonal but it's nice to see a positive sign in markets.

Since naphthalene is used in the production of our creosote additives, regional government stimulus plans could have a positive impact on the naphthalene demand. In North America we use the naphthalene screen in combination with ortho-xylene as a feedstock to boost phthalic. Phthalic pricing is based off a spread above ortho-xylene and represented 7% of our 2008 revenues.

We saw ortho-xylene prices decline to $0.28 in December of 2008 and have seen some recovery to $0.35 in February. These prices are well below 2008 levels. Demand for phthalic anhydride is seasonal, so first quarter demand is normally soft. Since the end markets for this product is related to plastic and resins, expect some negative impact due to the continuing struggles in the North American housing and auto markets.

I’m not going to tell you that 2009 will be a better year then 2008. Unfortunately, we need to go through some creative correction. We have an experienced management team that has successfully negotiated its way through economic downturns before. We know how to optimize our plant operations, control costs and manage cash flows.

Our balance sheet and new credit facility have closed in a very strong acquisition, not only to get through this period, but also to use this turmoil as a possible catalyst to further consolidate in our core markets. We’re still feeling the affects of the volatile economic environment that in addition to normalcy of point patterns continues to evolve and impact our business.

Therefore, we are not prepared to give specific guidance for 2009 at this time. We hope that we will be in a better position at the end of the first quarter to provide some clarity about what we anticipate for 2009. In the meantime, we will continue to focus on optimizing profits and prudently managing our cash flows.

To conclude, although today there’s volatility in most of our end markets, we remain very positive about the long-term strength of our primary end markets, aluminum and railroads. We see positive impacts in 2009 from our railroad business and the new distillation capacity in China that will come online in 2009, as well as the flexibility afforded to us by the strength of our balance sheet going forward.

Although softness in demand, lower foreign exchange rates and lower oil prices will have a negative short-term impact, lower oil prices should eventually work their way back to lower raw material cost. And with our capacity expansion in China, we should be well positioned to capitalize on increased global demand for aluminum when markets return to normal levels.

Additionally, anticipated stimulus spending in the U.S., China and other regions of the world where we operate and sell products should also provide some upside to our businesses, especially to the extent funds are spent on infrastructure projects.

As we noted in our last call, those companies that have taken steps to become clear markets leaders in their industries and invested for growth have been rewarded in the longer term. We hope that current market instability in places like Europe and China will create opportunities for additional consolidation as we are well positioned to take advantage of such opportunities. We look forward to seeing these opportunities of the balance of this year and into the future.

At this time, we would like to open up the lines operator for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Laurence Alexander – Jefferies & Company.

Laurence Alexander – Jefferies & Company

I guess first question, you mentioned that you thought there would also be a LIFO impacting in Q1. Will it be similar to [inaudible] in Q4?

Brian McCurrie

There won’t be LIFO as such in the first quarter. It will be a margin dilution impact. The LIFO will get measured over a full year period. So we’re not seeing that level of LIFO impact following on in the first quarter.

Laurence Alexander – Jefferies & Company

Then with respect to the concern in public commercial railroads demand, is that front ten loaded in the year?

Brian McCurrie

Normally it would not be because of the seasonal aspects of our business. Normally the buying pattern certainly of the commercial would be slower in the first quarter just because of weather. When we would expect to see any impact in that would probably be starting in maybe the April/May timeframe. Their work is more heavily concentrated in the summer months.

Walt Turner

Also our commercial business is in the north, which as Brian stated, is why it says weather related, so yes.

Laurence Alexander – Jefferies & Company

Then lastly on the raw materials, how much is your coal charge cost likely to be to increase in 2009 versus 2008? Is there a timing issue between your raw material supply contract and your customer contracts, which implies more of a hit in the first half versus the second half?

Walt Turner

In North America we continue to see the raw material increasing, as we mentioned earlier in our presentation, which it continues to be based off of supply and demand primarily. In other parts of the world it’s been a slight increase. We’re basically trying to keep our costs at the 2008 levels.

Laurence Alexander – Jefferies & Company

So on an overall basis, your raw materials will be up double digits or less then that?

Brian McCurrie

It would probably be low double digits, but it is very different in each geographic region, so I don’t know that just sort of broadcasting it is really the right way to look at it.

Operator

Our next question comes from the line of Steve Schwartz – First Analysis.

Steve Schwartz – First Analysis

There’s a tax credit hanging out there with a 45G and it expires I guess at the end of 2009. Say at this point you guys are expecting that the railroads will not be taking advantage of that this year?

Walt Turner

These are the commercial lines?

Steve Schwartz – First Analysis

I think it applies to all infrastructures, rail infrastructures.

Brian McCurrie

I think generally speaking, I think because of the volatility in earnings tax credits may have less value. Possibly more so to the commercial side, so I don’t know that the volatility in the environment isn’t going to drive certainly the commercial part of the business in the near-term.

Walt Turner

I’m not aware of any in the Class 1 credits that’s out there.

Brian McCurrie

I think the commercial business is about 15% of our total railroad revenue. Not that it’s insignificant, but it’s not really the driver. I think the consistency that we saw out of the Class 1 is really I think a good takeaway from the call.

Steve Schwartz – First Analysis

And you say you’re still seeing solid demand from the Class 1 for white ties right now?

Walt Turner

Both white ties and obviously the treated ties, yes.

Steve Schwartz – First Analysis

Okay so that’s good. So the treatment services TSO should hold up then in the second half of the year from the Class 1?

Walt Turner

If it was based on our white tie fulfillments, yes.

Steve Schwartz – First Analysis

Okay. And then regarding the contracts for coal tar is there a volume component or does that only lock in price?

Walt Turner

It’s a requirements contract what’s being produced it’s a pricing as well. But it’s something we’ve seen the coke batteries declining on coke production. Therefore, they’re generating less coal tar so we’re basically taking on a requirement basis.

Steve Schwartz – First Analysis

And it sounds like the downturn in demand from the aluminum industry is commensurate with what this steel or coke production downturn has been in supplying you coal tar. Is that right it’s one for one?

Walt Turner

Well not really. Again it’s sort of regions of the world going back to October/November is when we started to see steel production declining cutbacks and so forth. Aluminum came a little bit later. Again, it’s the regions of the world but it’s not been one for one and we see more aluminum cutbacks in North America because we think we have higher smelting costs for us here versus other parts of the world, but it’s been primarily Europe and North America where there have been cutbacks and that’s why there’ve been steel production cutbacks as well.

But we are very careful of how we we’re looking at our raw materials and being able to meet that demand based on the cutbacks.

Operator

Our next question comes from the line of Saul Ludwig – KeyBanc Capital Markets.

Saul Ludwig – KeyBanc Capital Markets

Back to the first question that Lawrence asked with regard to the high cost inventories running through cost of goods at a higher level than what they might otherwise be, what would be the dollar impact of these higher raw material costs in the first quarter versus what they would normally be, and will they be worked through by the end of the first quarter?

Brian McCurrie

I think you’re probably looking at a couple million dollar impact, Saul. We do expect that those will be worked through by the end of the first quarter.

Saul Ludwig – KeyBanc Capital Markets

Secondly, with the lower operating rates, how does this unabsorbed overhead hit you when you are running whether it be your distillation plants or your carbon black plants or your railroad process, are we going to see an impact of the unabsorbed overhead as a component?

Walt Turner

That’s one of our cost reduction issues is optimizing operations, which unfortunately means reduction of headcounts that sort of thing. Everywhere we can, we are looking at optimizing that production. When we mentioned Denmark, we mentioned the U.S. right now is primarily on the carbon distillation plants not necessarily the wood treating plants. Again, it’s doing what we can to keep those costs under control.

Brian McCurrie

Saul, it’s probably more in the couple million dollar range, you’re not talking a huge component of fixed costs in these plants?

Saul Ludwig – KeyBanc Capital Markets

But maybe $2.5 million or so.

Brian McCurrie

Right. I think the largest part of that’s probably going to be the carbon black plant in Australia.

Saul Ludwig – KeyBanc Capital Markets

Walt, how many distillation plants does Koppers have?

Walt Turner

Just to make sure, when we are talking about curtailment other than the Australia that’s running at 30%, most of the other plants were talking about running maybe three weeks out of four weeks in a month.

Saul Ludwig – KeyBanc Capital Markets

They’re running 75%. How many distillation plants does Koppers have around the world and is there are any opportunities to actually close or consolidate these, and if so, should we be looking at another round of some special structures some time during 2009?

Walt Turner

Hopefully not. On our current distillation plants we have three in the U.S. we have three in Europe, one in Australia, two in China projects for a total of nine. Obviously, we just finished the new distillation facility in China, which is being commissioned now and will be starting up second quarter.

No, I don’t see anything like that, I guess what I’m saying in that regard is that we’ll be seeing aluminum production coming back, we’ll see current distillation continuing when we get back to normalized levels of product demand.

Brian McCurrie

Saul, one of the things that there was there was an M&A opportunity in Europe that’s probably the [inaudible] so we’ve talked about this that that would be a place where optimization occurred.

Saul Ludwig – KeyBanc Capital Markets

I understand about the margins when your matching prices to raw materials costs, so margins can be distorted. But what was the major reason that the railroad tie earnings fell from $7 million to $3 million even on higher revenues from the fourth quarter?

Brian McCurrie

I think a lot of that came from mix, but a lot of it also came from commercial ties. We saw the commercial tie business you’re not getting a pass-through of the raw material costs. The raw material cost increases that we saw in the year probably hurt us more than the commercial tie business than we would have normally seen. That was fairly heavily weighted in the fourth quarter.

Saul Ludwig – KeyBanc Capital Markets

The final question, what we’re seeing here in the first quarter with, not only your company, but with so many different companies, in low business and then you’re going to have the unabsorbed overhead, you’re going to have the higher raw material going through, should we be looking for basically a red number in the first quarter without quantifying the degree thereof. Does it look like the company will probably have a loss in the first quarter?

Walt Turner

Saul, you figured out how to get us in a position to give guidance on a quarterly basis.

Saul Ludwig – KeyBanc Capital Markets

On the plus side of neutral or minus not being more pinpointing.

Brian McCurrie

Saul, I would say that the first quarter results, just based on all the turmoil, are probably going to be closer to the breakeven than special, whether it’s slightly positive or slightly negative isn’t, I think, that critical.

Operator

Next question comes from the line of [Bob Vecht – Lord Abbott]

[Bob Vecht – Lord Abbott]

I know you had repurchase authorization. Did you make any? Did you repurchase any shares in the quarter?

Brian McCurrie

We did not.

[Bob Vecht – Lord Abbott]

No current plans to I imagine, based on some of the comments earlier?

Brian McCurrie

We have not repurchased any to the current date.

[Bob Vecht – Lord Abbott]

Is it 55 out of 75 left or 75 left?

Brian McCurrie

About 55 left.

[Bob Vecht – Lord Abbott]

I think it was about a year ago you folks last increased the dividend, will you guys be recommending one at the next board meeting?

Brian McCurrie

We just had a board meeting a week ago and had announced the dividend of $0.22 per share. I think it was a week ago.

[Bob Vecht – Lord Abbott]

That’s at the same current rate it’s been though, right?

Walt Turner

Right, same rate.

[Bob Vecht – Lord Abbott]

In regards to, you mentioned the new plant in China is up, what level do you expect it to possibly be producing at in the second quarter?

Walt Turner

It will be commissioned and ready to start up, it’s really going to depend upon the product demand of about half the products will be consumed in China, which could be the carbon black industry and then the naphthalene going into construction and I think eventually will be focused on export as well as some domestic. It’s too soon to tell you whether it will be 50% or cranking all the up to 100%.

Brian McCurrie

Just to be clear, we did have the plant expansion that’s up and running and that’s the one that we consolidate. So I would expect we would see a more near-term benefit from that. I think that minority interest in the new plant is probably going to, as Walt said, phase in back in the third quarter.

[Bob Vecht – Lord Abbott]

Just for contrasting purposes, in ‘03 when we lost a lot of North American aluminum production principally due to hydro power costs, what was that decline in demand either in percent and/or in tonnage and what do you calculate the current short-term decline to have been at the moment?

Walt Turner

I’m trying to remember back to 2003/2004 time frame, but at the moment it looks like the global industries cutback about 20% overall around the world [inaudible] don’t really know that. But back in 2003, that’s when the aluminum industry was going down, I just don’t recall what the percentage was and some of that production really has come back.

[Bob Vecht – Lord Abbott]

In terms of magnitude though, tonnage has the decline been less or similar to then?

Walt Turner

There has been additional production out there and, obviously, since the last five or six years. Obviously, it’s more this time than before.

[Bob Vecht – Lord Abbott]

On a global basis?

Walt Turner

Right

[Bob Vecht – Lord Abbott]

Can you update us on a level, if any, of business in South Africa with relative to the mining order that you’ve had it in?

Walt Turner

Well, unfortunately, we did have the export business last year, but unfortunately, with the steel cutbacks and the aluminum cutbacks, for boxide and [inaudible] projects have really slowed down dramatically. We still have a couple of inquiries but nothing major at this point.

[Bob Vecht – Lord Abbott]

So at the moment we wouldn’t expect anything in 2009?

Brian McCurrie

Certainly not from the mining side.

[Bob Vecht – Lord Abbott]

You referenced the opportunities that may be presenting themselves, if one were likely to guesstimate on where that activity likely would be the greatest, are we referencing Europe?

Walt Turner

I think we’re referencing both Europe and China as well. We continue to target those two regions quite extensively.

Brian McCurrie

I wouldn’t exclude North America either.

Walt Turner

I guess there is a chance there too.

[Bob Vecht – Lord Abbott]

So you have a table full?

Walt Turner

A good list, yes.

[Bob Vecht – Lord Abbott]

Your depreciation looked like it was $30 million last year?

Brian McCurrie

That included the impairment as well, so probably about $3.7 million of that $30 million is the impairment charge that will go away.

[Bob Vecht – Lord Abbott]

That will go away, okay. And then what will be in ‘09 now that you have these China projects online?

Brian McCurrie

It should be about $27 million.

[Bob Vecht – Lord Abbott]

Okay. That's still greater than your CapEx that you talked about earlier at $23.

Brian McCurrie

Yes.

[Bob Vecht – Lord Abbott]

And do you expect your working capital to likely come down this year?

Walt Turner

I would say we are focused on it, although it's interesting. A lot of it depends on what happens in the way of recovery in the latter part of the year. So normally I would say, yes, and certainly we've seen receivables come down and we're focused on bringing our inventories down. If we do see sort of a bump up in demand late in the year, that could have an impact on us. But I would expect we would still look to be managing our working capital downward.

[Bob Vecht – Lord Abbott]

Okay. So you don't have any financing demands in terms of maturities, though, this year right?

Brian McCurrie

We don't have any debt maturities until end of 2013.

[Bob Vecht – Lord Abbott]

So depreciation where it is and possibly some lower working capital requirements, you should be adding to your cash by this time next year?

Brian McCurrie

Yes. I think part of what Koppers tries to do is generate cash all the time. I do think one of things important is the seasonality in our business, which normally caused us to borrow money early in the year and then generate more cash later in the year. To the extent we'll probably have lower levels of profitability, and certainly in carbon materials and chemicals I would expect that trend to be holding true. I would think probably later in the year, yes. But I wouldn't look for it at the end of the first quarter.

[Bob Vecht – Lord Abbott]

Okay and what would you define as the tightest covenant that you have on the latest financing?

Brian McCurrie

I think it's probably the domestic charge covenant. That's an interest covenant and that’s our domestic EBITDA over our Koppers, Inc. interest.

[Bob Vecht – Lord Abbott]

Okay. And what is the current level?

Brian McCurrie

The current level in it is we're at six and the requirement is three.

[Bob Vecht – Lord Abbott]

Okay. So you definitely have some room there.

Brian McCurrie

Most of the covenants have pretty good headroom. But I do think, sort of profitability and interest expense are probably the two inputs there. And we do have ability to utilize our revolver to take down some of the bonds but to manage, certainly, the interest expense side of that calculation.

[Bob Vecht – Lord Abbott]

Okay. Well, it sounds like all we all have to do is wait for the globe to start growing again.

Operator

I'd like to turn the call back over to Mr. Turner. Please go ahead with any closing remarks.

Walt Turner

Thank you for participating in our today's call and I appreciate your continued interest in our company. I believe that we continue to be well positioned to weather this storm in 2009 and prosper when things return to more normalized levels. Diversity is a key for us in our major products, our end markets and in our geographic locations around the world. We see continued strong demand in our in markets.

In the long-term particularly based on the committed aluminum capacity additions coming online in the Middle East in 2009, 2010. We're all very well positioned, given conditions in China. Our balance sheet can support, not only these additions, but also other potential opportunities to stimulate growth or create shareholder value, particularly in light of the cash from the sale of Monessen combined with the new bank agreement, which provides significant stability and flexibility going forward.

And finally, we remain firmly committed to enhancing our shareholder value by executing our strategy of providing our customers with the highest quality products and services while continuing to focus on our safety, health and environmental issues. Thank you very much.

Operator

Ladies and gentlemen, this concludes the Koppers fourth quarter earnings conference call. Thank you for your participation.

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Source: Koppers Holdings Inc. Q4 2008 Earnings Call Transcript
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