Stephen Forsyth – EVP and CFO
Craig Rogerson – President, CEO & Chairman
Chemtura Corporation (CEM) Q4 2008 Earnings Call Transcript February 26, 2009 9:00 AM ET
Good morning. My name is Alicia, and I will be your conference operator today. At this time, I would like to welcome everyone to the Chemtura Corporation Fourth Quarter 2008 Investor Call. All lines have been placed on mute to prevent any background noise. (Operator instructions). At this time, I would like to turn the call over to Mr. Forsyth. Sir, please go ahead.
Thank you very much, Alicia. Well, welcome, everybody, to Chemtura's fourth quarter 2008 investor conference call.
With me today is Craig Rogerson, Chemtura's Chairman, President and CEO. To complement our press release issued last night, we as usual have provided additional quarterly information that can be found in the Investor Relations section of Chemtura's website.
Now before proceeding, let me revisit our usual cautionary reminders that are all the more important with so many uncertainties at this time. Today's conference call and webcast commentary may include certain forward-looking statements, which by their nature, involve risks and uncertainties. Further information about such risks and uncertainties can be found in Chemtura's filings with the Securities and Exchange Commission. Such statements reflect Chemtura's best estimates and assumptions based on currently available information and actual results may differ significantly from any prospective results discussed today. Forward-looking information is intended to reflect the opinions as of the date of this call, and such information will not be necessarily updated by the company.
Well, having covered the formalities, I then turn the call over to Craig Rogerson.
Thank you, Stephen. Good morning, everyone, and thank you for joining us today. We have much to discuss.
Before we provide our prepared remarks, let me first discuss our decision to not provide a question and answer session at the end of his call or to respond to individual investor questions on many of the subjects we will be discussing this morning. At first, this may seem a little extreme, but as you consider our circumstances, I hope you will all agree it is a sensible approach. While we can’t imagine all the questions that investors may ask, we do anticipate that some of the questions would likely be on our asset sale process, our liquidity and industry conditions. For example, possible questions on the assets sale process could be, which businesses are you seeking to sell, when do expect to announce a transaction, what are the probable proceeds, those types of questions.
In our press release last night, we have provided as much information as is prudent given the inherent confidentiality required to make an asset sale successful. In so doing, we have provided balanced disclosure on all of these subjects and more. It is in the interest of all of our investors that we preserve confidentiality where necessary to maximize our chances of success. Secondly, these are dynamic process where changes may occur daily. Anyone who has been involved in an acquisition, divestiture or financing will have experienced the many twists and turns in the process and the fact that neither buyer nor seller can dictate a fixed timetable. As a result, the view of the status of the process is subject to change. These observations are even more applicable to the current business and economic environment we all face. We are all in uncharted territory here and none of us quite know as to how economic events will unfold. Nevertheless, be assured that the company is energetically pursuing all options within its available resources to sustain its operations and to generate liquidity it need to operate and to meet the maturity of its 2009 notes. While there can be no assurance that we will be successful, it will not be due to any failure to explore multiple options in parallel.
Based on all of these considerations, we concluded that the information provided in our press release last night is our best statement of our current circumstances and plans. IN trying to answer additional questions on these matters, we would risk unintentionally altering the balances of disclosure we have provided or frustrating you by having to say we're not able to respond to your questions. We therefore have concluded that the best approach is to provide the information we have included in the release and in our 10-K which we will file shortly. We will provide further information to investors as the matters are resolved.
I want to cover four topics with you today. First is my initial assessment of Chemtura, then a review of the underlying performance of our businesses in the fourth quarter and the actions we are taking to adapt to current economic and business conditions. Thirdly, an update on our asset sale process, and then last our priorities and challenges for the next few months. Steve will then discuss our fourth quarter financial performance, cash flow in the quarter and our financing actions.
I made the decision to accept this opportunity at Chemtura because I saw significant upside for the businesses as we execute the specific strategy each has or will develop to create value for our stakeholders. Some of these strategies clearly include growth whether in emerging markets or adjacencies, some will focus in on innovation and include the commercialization of more efficient or greener technologies, and some will center on resolving internal issues like cost of goods sold or geographical footprint than they result in the formation of alliances or even in divestitures if that is in the best interests of our stakeholders.
As I have only been at Chemtura for less than 90 days, I clearly have a lot left to learn. But what I have found is that there are people here who are committed to both resolving our short-term issues and more importantly to winning and I'm excited to be part of that. I have also confirmed what I found when I did some due diligence before coming to Chemtura. We have a solid portfolio of businesses, we have some clear market leaders, some profitable niches, some with promising growth potential and some with real challenges. We have now organized these businesses with an eye toward addressing the specific opportunities and challenges each faces and have provided a clear line of responsibility and accountability to deliver the committed results while providing the authority and resources required to succeed.
Many who followed the Hercules story see the similarities I do between the position Hercules was in back in 2001 and Chemtura situation now. While the specific issues may be different, the overall challenge is the same; deal with the short-term issues while putting in place solid plans to position the business to successfully take advantage of future opportunities. I can assure you that Chemtura is doing just that. The Hercules employees met that challenge and I'm confident that the employees at Chemtura are similarly up to the task.
Now let's talk a little bit about the fourth quarter. It would be an understatement to say that the fourth quarter was a tough quarter for the company. Yet as we have previously communicated in our releases, Chemtura has responded quickly and accomplished a great deal in a short period of time. As you have now heard from many companies, industrial demand started to fall off dramatically in November across many industries. In a few short weeks, we saw our customers’ orders decline, either being cancelled or deferred, as they experienced or anticipated reduced demand from their customers. In addition, the vast majority, including Chemtura, focused on reducing inventories, which exacerbated the decline in demand. As the recession deepened week in week, many in the chemical industry started reducing production and then idled plants. The second half of December was a very quiet period throughout our industry worldwide with a multiplicity of idle facilities and furloughed workforces.
The impact was not uniform across our businesses, which demonstrates the benefits of the diversity of our business portfolio. Let me discuss the impact by business segment. Our polymer additives segment saw the greatest impact in the deepening recession with significant declines in demand from electronics, polyolefin, building and construction and general industrial applications. The electronics fabrication shops in Asia reacted the most quickly and sharply to the decline in demand. Production of printed circuit boards, connectors and wiring and casings declined rapidly and with it our more profitable flame retardant sales. The impact spread to all the significant polymer families with reduced polyolefin and PVC output affecting our antioxidant and PVC additive product sales and to a lesser extent our organometallic or polymerization initiative products. Needless to say, demand for both flame retardants and polymer additive products used in building and construction products saw demand decline rapidly as well.
As a result, the business segments revenue decreased by 35% or $154 million compared with the fourth quarter of 2007, which included a $46 million or 10% reduction due to the divestiture of oleochemicals and organic product side businesses. Lower sales volume of $129 million contributed much of the decline with unfavorable foreign currency translation accounting for another $4 million. These reductions were partially offset by higher selling prices of $25 million year-on-year through the partial pass through of higher material costs. The company took additional steps to variablize the plant costs by operating our manufacturing facilities based on current demand. Nevertheless, operating profit on a managed basis declined $58 million compared with the fourth quarter of 2007 resulting in an operating loss of $38 million.
Operating profit on a GAPP basis decreased by $36 million as compared with the fourth quarter of 2007 primarily due to increased raw material and energy costs of $38 million, lower volume and unfavorable product mix of $28 million, increased manufacturing costs of $14 million due to lower fixed cost absorption cost by certain plants operating at less than capacity, and other cost increases of $3 million, partially offset by price increases of $25 million. Within our performance specialty segments, the urethanes business was more impacted by the recession. Many of the businesses industrial manufacturing customers reduced or cancelled orders as their customers started to feel the impact of the recession. Within the petroleum additive business, transportation demand remained more robust although customers did undertake inventory reduction initiatives. Demand from industrial lubrication applications reflected declining industrial demand.
The revenues of the performance specialty segment decreased by 8% or $19 million and operating profit decreased 32% or $11 million compared with the fourth-quarter of last year. The decrease in revenue is primarily due to lower sales volume of $39 million and unfavorable foreign currency of $4 million, partially offset by higher selling prices of $24 million. The decrease in operating profit was due to increased raw material and energy costs of $22 million, lower volume and unfavorable product mix of $10 million and increased manufacturing cost of $6 million. These reductions were partially offset by higher selling prices of $24 million, primarily in petroleum additives and other cost decreases of $3 million.
The consumer product segment saw lower pre-season purchases by the northern hemisphere customers than they had seen in recent years. We interpret this as caution by dealers in light of the economic conditions as well as restrictions on the availability of credit. As a result, consumer product’s revenue declined 15% or $17 million compared with the fourth quarter of 2007. The decline in revenues was due to $19 million decline in sales volume caused by the softer pre-season sales and unfavorable foreign currency translation of $3 million. These impacts were offset partially by higher selling prices of $5 million, with the lower volume operating profit declined by $5 million.
Our crop protection segment revenues decreased 3% or $3 million compared with fourth-quarter of 2007 driven by an unfavorable currency translation of $6 million as the US dollar strengthened as well as the sale of the Terraclor product line to contribute $1 million in sales in the fourth quarter of 2007. This was partially offset by improved volumes of $4 million. While credit availability slowed orders in some emerging economies as the quarter progressed, demand from other regions offset this impact. Operating profit declined 17% or $3 million in the fourth quarter as compared with the same quarter in 2007, which is primarily due to the sales of the Terraclor product line last year. On a pro forma basis, profitability was flat compared to prior year.
With the lower sales and the tight inventory control on many of our business segments resulting in lower raw material purchases, the company did not see much benefit from the fall in the raw material prices and lower freight fuel surcharges in the quarter. It is ironic that having fought raw material inflation for the last two years, when we finally get a break and they fall, our volume dried up. Compared to the fourth quarter of 2007, raw material and energy costs as consumed were up $67 million. The company continued to make progress in recapturing these increases in input costs with selling prices up $55 million compared to the same quarter in 2007. Taking the combined effects of these changes, revenue for the quarter was $690 million, which is $201 million or 23% lower than the fourth quarter of 2007 revenue of $891 million. The decrease in revenue was attributable to $191 million decrees in volume, $47 million from the impact of divestitures, and $18 million from unfavorable foreign currency translations. This decrease was offset partially by $55 million from higher selling prices.
Managed basis gross profit margins were hard hit by the lower volume, the net effect of higher raw material cost less selling price increases and especially the higher manufacturing variances due to the curtailment of production at many of our plants. Gross profit margin declined to 16% of sales as compared to 23% in the fourth quarter of 2007 on a managed basis. We continue to benefit from the restructuring actions taking in 2007. On a managed basis, SGA&R expenses were down 8% or $8 million from the fourth quarter of 2007. For the full year, SGA&R is now $49 million lower than 2007. These reductions have helped the company overcome the impact of raw material costs inflation and lower volume. However, due to that lower volume, SGA&R combined climbed to 13% of sales for the quarter compared to 11% a year ago.
We reacted quickly to reduce our cash fixed cost in light of the reduction in demand. On December 11, 2008, we announced a new restructuring initiative to reduce annual cash fixed costs by approximately $50 million. The initiative involves a reduction in professional and administrative staff by approximately 500 people, which represents about 20% of professional and administrative population. During the fourth quarter of 2008, the company recorded a charge of $26 million associated with this program. We took a number of actions to conserve cash in the quarter. We suspended our dividend in October, we curtailed our capital expenditure programs, we set aggressive working capital targets, and we beat them. Inventory decline by $109 million between September 30 and December 31. Accounts receivables declined $106 million in the same period. We also tightly controlled all discretionary expenditures. The result was that despite the operating loss and before the decline in our sales of account receivables under our accounts receivables programs, net cash from operations in the quarter was $105 million compared to $42 million in the fourth quarter of 2007.
It will be no surprise to you when I say that the first quarter will be a difficult quarter as well. Demand is not going to recover quickly and we will likely incur another operating loss in the first quarter. Our focus remains on making the best of available demand through a continued focus on delivering value to our customers, tightly controlling our costs, matching the utilization of our manufacturing capacity with that demand, and continuing our cash conservation efforts. The second quarter should offer seasonal growth for crop protection and consumer products businesses. These businesses are less exposed to the macroeconomy and should demonstrate sequential revenue and earnings growth and generate cash as the year progresses.
We announced in October that we would seek to sell assets to generate the liquidity we need to meet the maturity of $370 million of our 2009 notes on July 15, 2009. We had concluded at that time that the changes in the credit markets in late summer and early autumn would likely make a concessional refinancing difficult. We were aided in commencing this initiative by prior exploration of strategic alternatives that included the investigation of value enhancing transactions, including the sale of one or more of our businesses. As previously discussed, we have been working on multiple sales options. I can confirm that the asset sale process is progressing with certain buyers now working to complete their due diligence. Upon completion of due diligence, it is expected that buyers will submit final offers and we will be able to determine if a transaction can be completed and if so what the net proceeds may be.
We are lucky to have businesses that attract buyer interest even in these difficult times. However, until a definitive agreement has been negotiated, executed and a sale closed, there can be no guarantees that we will complete an asset sale or sales. This could negatively affect our ability to fund the redemption of our 2009 notes upon maturity. Furthermore, any such asset sale and the use of resulting net proceeds will require the consent of the lenders under our senior credit facility and the purchasers under our new US accounts receivables facility.
We have three areas of focus for the first half of 2009, all are interrelated. First, we will continue to tightly control the cost and cash flow of our operating businesses. Demand remains weak for those product lines exposed to the structures [ph] of the economy impacted by the recession and customers continue to have limited visibility of their future requirements. Meanwhile crop protection, consumer products are both preparing for their coming seasons. Our newly announced organization is focused on obtaining the most we can from our operations now, while developing strategies to create value for our shareholders and other stakeholders going forward.
Second, we must continue to manage our liquidity in this difficult period. The continuing support and confidence of our customers, suppliers and employees is critical to avoid a change in circumstances that will drain our limited liquidity. With the exception of our seasonal crop protection and consumer product businesses, we are managing our manufacturing plants on a make to order basis. We continue to target further inventory reductions although at a slower rate than we had experienced in the fourth quarter. Account receivables are also being tightly managed.
Reflecting the current business environment, we currently plan to restrict capital expenditures in 2009 to approximately $60 million compared to the $121 million we spent in 2008. Third, we will remain focused on successfully completing our asset sales process to generate the liquidity to meet the maturity of our 2009 notes when they come due in July. The economic environment, which we are operating, has created significant headwinds we have to overcome. However, by executing upon our areas of focus, and by maintaining the support from all our stakeholders, we can reach our destination and become a stronger enterprise in the process.
Now I will turn the call over to our CFO, Stephen, who will discuss certain aspects of the fourth-quarter financial results, the changes in our financing and on our liquidity. Stephen?
Thank you, Craig. Well let me start by discussing the large goodwill impairment charge in the quarter. As many of you will be aware, we continually monitor and evaluate business and competitive conditions that affect the carrying value of our goodwill by segment. In the fourth quarter, the sharp decline in the profitability of the polymer additives segment as the recession took hold and the projections that in light of the economic conditions hits performance in 2009 will be significantly lower their previously forecast. We came to the conclusion that the company could not sustain the goodwill associated with that business.
In the second quarter of 2008, the company had to recognize an impairment charge for a portion of goodwill associated with its consumer products segment. While there had been no significant changes in the projections of the future performance of his business, the changes in the capital markets and the price of Hexcel’s [ph] common stock have resulted in application of high discount rates to predictions, that indicated a further impairment of its goodwill was required. Based on these evaluations, during the fourth quarter, the company recorded a non-cash charge of 665 million to reduce the carrying value of goodwill associated with both the polymer additives and consumer products business segments. These are substantial numbers, but they are non-cash charges. They more closely align the value of our businesses with the value the market currently quotes for our company in its stock price.
On a GAAP basis, the goodwill impairment was the largest component of our operating loss for the fourth quarter of 2008 of 726 million. This compares with an operating profit of 24 million in the fourth quarter of 2007. If you look at the components of the change, the decrease in operating profit of 662 million comes from the impairment of long-lived assets or goodwill impairment, that being 665 million in 2008 versus 3 million in 2007, a 94 million decrease in gross profit due to the lower volumes and net effective higher raw material costs, and 24 million from severance and facility closure charges.
These unfavorable impacts were partly offset by lower depreciation and amortization charges, a reduction in SGA&R and a 4 million reduction in other costs. The operating loss then translated into a loss from continuing operations in the fourth quarter of 737 million on an after-tax basis or $3.04 per share compared to a loss of 3 million or $0.02 per share in the fourth quarter of 2007. The decline in our sales and associated earnings in the quarter resulted in a reduction in the availability under our senior credit facility revolver, significant reductions in our accounts receivable lines, which in turn placed significant stress on our liquidity. Let me walk you through the events in more detail.
As demand and profitability declined in November and December, it became necessary to seek relief from the two financial covenants under our senior credit facility, those covenants being total leverage and interest coverage. Our lenders I'm pleased to say responded quickly to our needs and we entered into a 90 day waiver agreement in December 30 as you saw as announced. That waiver expires on March 30, 2009. We will provide you the details of the covenant computations when we file our annual report on Form 10-K soon.
The decline in financial performance reduced the value that we receive from the sale of account receivables under our account receivable facilities in both the US and in Europe during the quarter. The balance of those account receivables sold under those facilities as of December 31 had declined to 103 million compared to 313 million as of September 30th. Now that reduction of 210 million in the fourth quarter of 2008 compares to with normal seasonality a reduction of 64 million in the fourth quarter of 2007.
We funded that 210 million reduction in proceeds by a number of actions, plus drawings under our senior credit facility revolver, borrowings from under that facility increased from September 30 from 70 million to 180 million as of December 31, 2008. Secondly, we reduced some of our cash balances, they declined by 39 million in the quarter. But last but not least, were the large reductions in working capital. As you have seen in earnings release, we generated over $100 million of cash from operations in the quarter despite incurring the operating loss before considering the impact to the reduction in the availability under the accounts receivables facilities.
In January, we started taking steps to try to restore some of that capacity and we entered on 23rd of January into a new US accounts receivable facilities that restored much of the available utilization we had formerly enjoyed under the previous US facility. We have been in discussions with the providers of our European accounts receivables facility. They have continued to support the company, but restricted the sales of receivables in light of the changes in our performance. We are now in the process of discussing revisions to this facility to permit its continued operation. It is anticipated that the value of accounts receivable that we can sell under that facility will likely be reduced from what was a limit of 244 million being €175 million to approximately $98 million or €70 million. There will also be changes to the number of subsidiaries that can sell receivables under this facility. These agreements are obviously subject to final documentation and approval and this facility will still continue to be reviewed periodically based up on our financial performance.
If you take all of these components and look at our balance sheet, the company's total debt as of December 31 increased to 1.2 billion from the 1.1 billion level as of September 30, due to the need to finance part of the reduction in the accounts receivable facility withdrawings under our revolver. Now in light of the fact that we are likely to be in compliance with our financial maintenance covenants after the expiration of the 90 day waiver, and for that matter probably for the balance of 2009, the revolver borrowings and other debt obligations in our balance sheet contain (inaudible) provisions were recorded as current liabilities as of December 31, 2008.
Looking forward, as Craig discussed, we will likely incur and operating loss in the first quarter of 2009. As a result, we have to expect that our liquidity will remain constrained such that it may not be sufficient to meet our cash operating needs in this period of economic uncertainty. If we were to require additional liquidity to fund cash used by operations and our capital expenditures in excess of what is available under our senior credit facility and accounts receivable facilities, there are no guarantees that we can obtain additional liquidity on conversely reasonable terms if at all. This causes us to view our focus on conserving cash through working capital management, the utilization of accounts receivable facilities and controlling discretionary spending all the more critically.
Well, that concludes our prepared comments today. Thank you for listening.
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