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Commercial Metals Company (NYSE:CMC)

F2Q09 (Qtr End 2/28/09) Earnings Call

March 24, 2009 11:00 AM ET

Executives

Murray R. McClean - Chairman, President, and Chief Executive Officer

William B. Larson - Senior Vice President and Chief Financial Officer

Analysts

Michelle Applebaum - Michelle Applebaum Research

Kuni Chen - Banc of America Securities

Timna Tanners - UBS

Bob Richard - Longbow Research

Barry Vogel - Barry Vogel & Associates

Chris Olin - Cleveland Research

John Tumazos - Very Independent Research

Jeff Cramer - UBS

Leo Larkin - Standard & Poor's

Charles Bradford - Bradford Research

Operator

Hello and welcome to today's Commercial Metals Company's Second Quarter 2009 Earnings Conference Call. All lines have been placed on mute. After managements' remarks, we will open the call to the question-and-answer session. Your host for today's call is Murray McClean, Chairman, President, and Chief Executive Officer of Commercial Metals Company. Mr. McClean please begin your call.

Murray R. McClean

Good morning, and welcome to CMC's second quarter fiscal 2009 conference call. With me is Bill Larson, our Chief Financial Officer. As usual I'll begin the call with an overview of the second quarter and then call on Bill to provide further details. Finally, I'll comment on the outlook.

Our second quarter, that's the December to February period and those of us in the northern hemisphere it is the winter quarter, those down under, it is obviously summer time that day guys have reached anyway, so it's normally a quite period there. It is always our weakest quarter. But as predicated in our last call this quarter turned out to be very weak.

We took the opportunity to book substantial expenses which are listed on the first page of the press release and these are reflective of the very difficult business conditions we faced. The quarter was characterized by very weak demand in virtually all markets resulting in low levels of shipments, continuation of extensive de-stocking, and price decreases for most products. Ferrous scrap prices rose early in the quarter but declined by quarter end. Our Chinese domestic prices for raw materials and steel increased during the December-January period but fell after Chinese New Year. China now has the highest domestic steel prices in the world for many steel products.

While more details on global stimulus packages including the U.S. were made known during the quarter, we have not seen any impact and realistically it will not be until second half of 2009 if any impact is felt. We made considerable cost reductions and improvements in our working capital position during the quarter. I'll now call on Bill to provide further details on the second quarter. Bill?

William B. Larson

Good morning. Let me call to your attention the detailed Safe Harbor statement included in our press release in our August 31, 2008 10-K that in summary says that in spite of management's good faith current opinions on various forward-looking matters, circumstances can change and not everything that we think will happen always happens. In addition we've given guidance regarding our outlook for the third quarter of fiscal 2009 in our press release. Subsequent to this call we will not be under any obligation to update our outlook.

Finally, in accordance with Regulation G of the Securities and Exchange Commission, you are aware of non-GAAP financial measures. Some of these are derived fairly straightforward from our financial statements or in common business use can be the subject of our discussions today and in our investor visits. Our website has additional information on cmc.com. But there are other items that maybe outside of our ability for discussion and you will need to be patient with us if we defer a comment.

Our financial statements look like the Board from the Star Trek television series, a despaired group of life forms all joined together in one common entity. This quarter included lower of costs of market adjustments, contract compliance reserve, bad debt increases, severance, impairment charges, LIFO income, bizarre income tax rates, it makes our quarterly charge for SAP rollout look almost normal.

Sadly though our steel market seem more like something out of science fiction, they are a reality and our results reflect this. Our rapidly declining prices required valuation adjustments on inventory. These times test the ethics of your customers and some do not pass requiring contract compliance reserves, lack of liquidity has forced companies on the life support or bankruptcy necessitating bad debt allowances. The lower demand requires us to downscale our operations unfortunately leading to reductions in work force.

We have shutdown our coal processing mill in Croatia, and ideal capacity in our joist plants causing impairment charges. Where we had exposures we took our hits to the fullest extent allowed by sound accounting. The question inevitability arises as to whether there is more to come, I would say it's likely there is more to come but nowhere near the magnitude seen in the second quarter.

Now, pricing may deteriorate some but we are close to what we believe is the bottom. Valuation adjustments do not have that part to go. As you read in our press release we believe our third quarter will incur a slight loss but not at the level of the second. And there maybe some upside in LIFO but that is always problematic at least for me in predicting.

Our financial strength is excellent. During the quarter we retired 100 million of long-term debt, we did not use our AR securitization program, so effectively we paid back 80 million during the quarter audit. We used last of our international AR sales programs. We have no significant debt maturities until 2013. We are building short-term cash investments. We have our 400 million revolver and our 200 million AR securitization program available to us. And we have headroom in our debt covenants.

In summary our cash flow has allowed us to retire 180 million in debt this quarter, fund our capital expenditure program, and build cash balances all with sufficient backstop liquidity if needed. Our corporate goal is to generate and hoard cash. We are not interested in buying back our debt. And although our stock is at a compelling value in these uncertain times, we need to play safe first. Most frequently asked question is, is the dividend safe? I don't know what safe means.

The Board approved the payment at the same rate for our next dividend, during what was our weakest quarter in 30 years. So you can conclude what you want from that. The quarter was not without its highlights. Our mill in Birmingham, Alabama was recognized as the safest steel mill in the United States for 2008, upholding their tradition and culture of safety at CMC, our mills have held that top spot for seven consecutive years.

Now looking at the details of the financial statements, the only highlight from a revenue standpoint was our Americas Fab segment which did gain versus the second quarter of last year. But that was more due to our acquisitions late in fiscal 2008 than the same-store growth. Clearly, LIFO was a huge positive offset this quarter.

Our mills that have greater rebar capacity faired decently well in the quarter. The rebar fabricators have at least one more good quarter of backlog before the slowdown might take affect. The LIFO reserve at 228 was 324 million. During the quarter it increased net earnings 80.7 million or $0.72 per share. Last year it was during the period of rising prices, it was an expense of 38.3 million or $0.32 a share. So year-to-date we've increased net earnings 154.6 million or $1.36 a share versus the expense of 35.5 million or $0.30 per share last year. And although these numbers, they seem pretty large, recall that last year we incurred $322 million of pretax LIFO expense. And we have rolled back that 238 million in income this year. So and I am not predicting that will reverse all of last year this year. But if that were in fact to happen, there is still at least another 80 million left to go.

Depreciation and amortization was 37.267 million for the quarter that looks a little odd. Foreign exchange movements in zloty and kona are kind of mucking things up. You'll recall stronger dollar makes foreign any type of foreign number shrink. And that's really what happened. It's not that we weren't depreciating anything. I would now expect given these ForEx changes that depreciation expense for 2008 will be about 160 million. That's a little bit lower than what we talked about last time.

SG&A during the quarter rose about 24 million, before our discontinued operations were taken into affect. On the plus side, items which you've already seen in the press release, bad debt expense increased, severance cost were up, environmental costs were up, impairment charges were up, contract loss reserves were up and the big offset to that was bonus expense was significantly down. Interest expense will fall this coming quarter to about 20 million. We do not have the 100 million in long-term debt. And we are not borrowing short-term at present in the United States.

Again looking at the balance sheet, we have total intangible assets of 147 million, which represents only 4% of our assets. I think that is one of the lowest among any of our peer group. Current ratio is strong at 2.3. The book value per share at 228 was $12.83. The average shares that we used for the diluted calculation in the second quarter were 111 million, 998, 128 year-to-date than the diluted average shares were a 113,917,263, the actual number of shares outstanding are 112,505,772.

Our capital expenditure budget is expected to be slightly under 400 million for fiscal '09. You'll recall that the three largest projects are the micro mill in Arizona, a new flexible rolling mill in Poland, and melt shop improvements in Croatia. Finally, we did not repurchase any stock during the quarter.

Murray R. McClean

Thanks Bill. In terms of the outlook in the U.S., and in the many global steel markets, we anticipate de-stocking to continue until at least mid 2009. Everyone remains focused on cash generation and driving down inventories. We anticipate steel prices in the U.S. to weaken further. However fair scrap prices might be close to bottom as seasonal demand picks up particularly in global markets.

China appears to be the only country at this stage, which has freed up their credit markets with lending at all levels active during and since January. In our view China remains the key market to underpin iron ore scrap and steel prices in 2009. In particular if China can achieve 6 to 7% GDP in 2009 the target is actually 8%, which appears high, but its 6 to 7%. They can achieve that target and steel prices are likely to stabilize in the second half of 2009. Steel owned products in particular rebar are likely to firm over time as global infrastructure projects take hold.

In summary as Bill outlined as well we face very difficult market conditions which are likely to remain until at least mid-2009. We will now open up the conference for questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Michelle Applebaum with Michelle Applebaum Research.

Michelle Applebaum - Michelle Applebaum Research

Yes, good enough for me. Hi.

Murray McClean

Hi. Good morning Michelle.

Michelle Applebaum - Michelle Applebaum Research

Good morning. I want to make a joke, but I can't think of one. I want to go through the accounting first. You have unusual items of about $103 million and that's all pre-tax, right?

William Larson

Yes.

Michelle Applebaum - Michelle Applebaum Research

And your average tax rate was 25%. Do I use that to add this back, or do I use your marginal tax rate?

William Larson

I would use the marginal rate, Michelle at 35. The tax rate that is shown here is kind of the fallacy of small numbers, when you get plus or minus near zero your permanent differences and things like state.

Michelle Applebaum - Michelle Applebaum Research

Oh, yeah, yeah, yeah, those are not. Okay, those are fixed, they are not variable. So it's going to affect your average rate massively. Okay, so that should be added back at 35% and then your LIFO credit of $80 million -- 80.7 million, how much of that was layers?

William Larson

Very little 12 million pretax.

Michelle Applebaum - Michelle Applebaum Research

12 million pretax?

William Larson

Yes, about eight after.

Michelle Applebaum - Michelle Applebaum Research

Okay. So if you reported a loss, so if I take the 103 and add it back at the 35% tax rate and then take out the 8 million, I would guess about $0.20 a share process clean, is that a good number do you think?

William Larson

You know the SEC has real problem with me telling you that earnings should be anything other than what they were. So I'm going to have to defer the comment, but you can conclude anyway you want.

Michelle Applebaum - Michelle Applebaum Research

Let me ask you a question, you're disclosing these unusual items, but you're not mentioning the tax rate associated with them and then you're disclosing the 80 million in LIFO credit, but you're not mentioning the layer of liquidation, which even at $0.08 is meaningful when you're earning $0.10 or $0.20. Why can't you put that in your release, is that not allowed?

William Larson

No, no, it's very allowed and if we thought it was material it would have to be in the 10-Q, but we don't think it's large enough.

Michelle Applebaum - Michelle Applebaum Research

The layers you mean.

William Larson

Correct.

Michelle Applebaum - Michelle Applebaum Research

Okay, but what about the tax rate. A lot of people are going to add back those numbers?

William Larson

Yeah. The 10-Q will have a reconciliation of the tax rate in it. And the very late into the press release and your point is well taken I probably should have moved it up a little bit is an explanation of the tax rate.

Michelle Applebaum - Michelle Applebaum Research

Okay. Yes, of course not all of us have accounting degrees. And I just want to publicly thank my mother that I do. Then my next question for you is this, you made a interesting comment about what's happening in the global market and you said something about import markets being shut down, which I thought was an interesting observation. There has been just in the last three days from a flurry of pick up in activity and pricing in the global trade arena, have you seen that, and do you have any thoughts about that?

Murray McClean

Yeah.

Michelle Applebaum - Michelle Applebaum Research

Three days.

Murray McClean

The comment about the import markets being shut down that was really reflective of the situation with Poland because they have markets for billets for the Middle East and obviously, the problems in the Middle East was too much inventory of the billets is ongoing. But you are correct, there has been -- in Asia there's been a pick-up in particularly with billet demand in China or in Taiwan and countries like Vietnam. In fact, we just booked a shipment from Poland to Taiwan which is a first for us. So, there is a pick-up in Asia, just a small pickup. So it's too early to say if it's a trend at this stage.

Michelle Applebaum - Michelle Applebaum Research

Okay. And where do you think it's coming from?

Murray McClean

Well, it's coming from a couple of things. A number of the Chinese mills which started up as small mills late last year have shut down again. And there's a bit of a shortage of billets in China, the revolvers and also in countries like Taiwan. So we anticipate that those markets maybe a little bit of a pick-up -- well certainly a pick-up from prices. We've seen a pick-up from prices also out of Turkey for billets and also the CIA seems to be reducing their number of exports of billets. That clearly all of those billets were distress cargos and high inventory levels late last year which seems to be being reduced.

Michelle Applebaum - Michelle Applebaum Research

Okay. When we ever do get a pick-up? What do you think it will look like, do a science fiction thing for me here since you and are into that?

Murray McClean

Well, as you know Michelle we're mainly a long products producers, so we look at those markets more closely. What we really believe because of all the global infrastructure projects and the stimulus packages some will be more effective than others. It will certainly favor long products, products like rebar, structural steel products etcetera, wire rod.

And as I mentioned we are optimistic that China will see a pick-up probably after midyear July, August, September period we would think there will be some pick-up. So we're closely watching China. China's exports as you know dropped off dramatically, so most of the steel that's being produced there is being consumed there. And so we are more optimistic that China would see a stimulus measures than a few other countries.

Michelle Applebaum - Michelle Applebaum Research

Great. Okay, thank you very much. And thanks for the accounting help.

William Larson

Very well. Thank you.

Operator

Your next question comes from Kuni Chen with BOA Securities.

Kuni Chen - Banc of America Securities

Hi. Good morning, everybody.

William Larson

Good morning, Kuni.

Murray McClean

Good morning, Kuni.

Kuni Chen - Banc of America Securities

I guess just a start up on the bad debt expense, can you give us a little bit more color on that kind of which areas of the business have you seen that and I would suspect more in the Americas F&D. But perhaps you can give us a read into some of the end market types of customers where that's been becoming more of an issue?

Murray McClean

It is more concentrated in the Americas not that international is without theirs. But they tend to have a little bit tighter regime when it comes to letters of credit and credit limits that are covered.

So we don't generally see quite the same, and maybe their customers are more honorable than what we have in the United States I don't know. But anyway you're right it is more of a United States. Well one of the largest ones, this won't come as any great shock that we have allowed for Laris (ph). So you are seeing that anyone who dealt with aluminum or some of the nonferrous metals, we've had a problem with that. We have also seen those who took imported material, so our CMC Dallas Trading also has a lot of exposures in it as well. So as there is a rule its generally those two. Mill customers pretty much Kuni have been pretty good. It's the fabricators and recycling where we've had trouble.

Murray McClean

And the distributors.

William Larson

Yeah, the distributors right.

Kuni Chen - Banc of America Securities

Okay. And I guess just going back to, Michelle's earlier question on China, obviously we've seen some seasonal inventory rebuilding, but prices for rebar and flats are starting to decline. Do you see a scenario playing out where potentially you could have a balanced year in billet as you talked about earlier, would have other finished prices declining for the next couple of months?

Murray McClean

Well I think Kuni as I mentioned I think its... in broad term you can split the products up into two categories. Long products I think they will tend to firm particularly rebound in the second half of this calendar year. Flat products were not so optimistic.

Clearly a lot of those go into manufactured goods which were being exported. So there is considerable weakness there in China and maybe that will remain for sometime. But certainly long products our view is most likely they will firm after mid-year.

Kuni Chen - Banc of America Securities

Okay. I mean it just seems that those inventory levels appear very high. So I don't know if the others...

Murray McClean

At this point of time. Yeah. But as I mentioned, the Chinese government with their stimulus package 50% of that is steel related. So it will have a real impact, unlike here in the U.S. we may be 10 to 15% of the stimulus package were steel related. So China will be much more effective in that way and also the provincial governments are lending a lot more at all levels for projects. We know we understand mills in China are now being prepaid which we'd love to have that situation in the U.S for projects.

So all that's starting to happen, so there is a time lag affect, so it gives another quarter but I think we will see some positive signs as I mentioned after mid-year.

Kuni Chen - Banc of America Securities

Right. Okay and just one last question and I'll turn it over. On capital spending, obviously there are still number of projects that are winding down this year and over all CapEx is at fairly high levels. I guess at what point can you kind of slam on the brakes for capital spending for next year and how low can CapEx for fiscal '10 go down to?

William Larson

It's not so much slamming on the brakes as it is although, I think the point that you are trying to make is, when does this thing end? I think the three big projects will predominantly, as far as spending is concerned will end in our fiscal year so, 08-31-09. We have not put together the capital expenditure budget for next year but one would suspect, we will start with the conversation being just maintenance CapEx at a level at least 50 to 75% lower than what we are spending this year.

Kuni Chen - Banc of America Securities

Okay. I will turn it over. Thanks.

Operator: Your next question comes from Timna Tanners with UBS.

Timna Tanners - UBS

Yeah, hi good morning.

William Larson

Good morning.

Murray McClean

Good morning Timna.

Timna Tanners - UBS

I was wondering if you could give us a little bit more of a breakdown on your outlooks. I am trying to understand how much of the challenges that you are experience of course in the February quarter that were one off might be left behind specifically, if you look at the trading arm, which you call international fabrication and distribution, there is some high profile kind of shipping incidents and cancellations that kind of thing. Can you give us your best sense of how much that kind of thing is behind you and when you go through with your outlook if you can tell us where you might see the challenges to see another loss from sequential home, sequentially from the second quarter?

Murray McClean

Well Timna, as Bill mentioned we think the worst is behind us. But we certainly are exposed as you mentioned in some areas. In Europe and in Asia in general we believe the worst is behind us. Australia came into this recession pretty late. So, they have got some issues for the next quarter. It is mentioned their steel import business still has issues here to be resolved so that will take one to two quarters. So, we believe the worst is behind us, that we are realistic. We believe this next quarter is going to be also very tough but we hope it is going to be better than the second quarter. So, there is obviously what is de-stocking situation and once credit market starts to free-up we are seeing some obviously positive signs in the last few days, customers will start to restock and shipments will start to flow and all of these issues will disappear. But it takes time and I would think at least one more quarter.

Timna Tanners - UBS

So, if we go sequentially then it sounds like specifically you're talking about -- with Australia and the shipping arm it sounds like the international farm and distribution should see another loss end to get us to a quarterly loss but, are you expecting to continue to have losses in your international mills, recycling you're talking about being at bottom if you could give us a little bit more detail on this segment kind of sequential move?

William Larson

I would love to do that but I am not allowed. I would say that in terms of who will be stronger versus who will be weaker I think recycling has probably now hit the bottom. There is a little bit of downward movement in ferrous prices this month, but copper prices are rebounding. So, doubt that they are going to take it quite as bad as they have the first six months of this year. The mills, as you saw from the outlook will continue to produce at about the same level as they did during the second quarter. The fabricators still have a little bit of backlog left. It's not quite the same in the international mills backlog, isn't quite as large in Poland as it is here in the United States.

So, I can't -- I really can't give you a whole lot more than that other than -- I'll have to waive our projection by segment and kind of the in -- I don't think they're going to allow me to do that.

Timna Tanners - UBS

Got you. And in last conference call, you had said that market was holding up better than other markets and that was a -- you're expecting better utilization. Has that changed then materially?

William Larson

Well, not materially. I mean they are utilizing their rolling capacity at a higher percentage fractionally, but at a higher percentage than what we are in the United States overall. The mills in the United States are rolling not quite as high as Poland is expected to. But that is clearly -- and I don't want to leave you with a wrong impression here. That's clearly the difference between the two different worlds, if the mill has rebar capacity, they are rolling at a much higher than if say for instance our mill in Alabama that only makes merchant shapes, who are rolling at a much lower.

Timna Tanners - UBS

Okay. Final question from me. If you could comment a little bit more, you talked about how your backlogs look okay and some of the federal spending or state spending. Can you talk a little bit more than any thing you're seeing on state budget heath and any change there? We've seen some highway awards that started to look a little worse for February. So wondering, if you're seeing a change there?

Murray McClean

Well, we sit in a lovely state here at Texas. And it's nice part to be at this point in time. I mean the stimulus package is really impacting Texas to the tune of about $3 billion for highway spending in the next several months. So we see some very positive prospects here in Texas and the highway backlog is good, so we expect that to even get better.

Timna Tanners - UBS

Okay. Thanks so much.

Operator

Your next question comes from Bob Richard with Longbow Research.

Bob Richard - Longbow Research

Good morning and thanks for taking our call.

William Larson

Good morning Bob.

Bob Richard - Longbow Research

How are you?

Murray McClean

Hi Bob.

William Larson

Okay.

Bob Richard - Longbow Research

Hey, your lower cost of market inventory adjustments, have mentioned that's oversees. Can you break that down a little bit Bill, where maybe what products?

William Larson

Well, I'd like to say that there were some that actually went up in value during the quarter, but it was -- I'm afraid, it was pretty much across the board in projects, or in products. I mean if I look at the -- just kind of where we took our hits, you had it here in the United States predominantly, and we tried to highlight this in the press release, predominantly in the area of unexpected or orphaned inventory up specifically that which are steel import business into the United States would otherwise have delivered say for non-compliance on the part of counter parties, and we are now stuck with that inventory. So here in the United States, the overwhelming majority of it was in that trading unit. The other ones recall are on LIFO.

Bob Richard - Longbow Research

Right.

William Larson

And so we get quite a protection from that. When you look overseas, the two main markets; Australia as Murray mentioned went into the tank during this quarter. So, they had the largest and then followed by our mill in Poland and in Croatia.

Bob Richard - Longbow Research

Okay. That helps quite a bit, thanks. On your CapEx projects, the micro mill here in Arizona, Poland the long product mill expansion, Croatia tube mill. Is it wrong to take a look at maybe, to maybe ask which one of those takes priority? Or are they all pretty much, I know Croatia is going to need to turn that around to get that money spend, put the furnace and new caster in. Would you say that, that takes priority over the other two or do you look at it that way?

William Larson

Well, they're all going to be taken to completion. But, to try and give you a little bit of color, I think Croatia does take priority. Without it, there is not much hope of turnaround with it. I think we have rather strong expectations of turning that thing around.

So, I think Croatia although it's nowhere near the size in terms of CapEx dollars of either Arizona or Poland, is the most critical for that operation. Next, I think would come Arizona. Here is an opportunity to kind of lay a stake in the ground from a technology standpoint, and perhaps develop a model that we can replicate in other parts of the world. So I think that would be number two.

And I think Poland would rank number three, if for no other reason than the market right now just doesn't need all of that additional capacity now. It's not possible to be have pregnant with the steel mill. We are either going to build it or not going to build it and we are far enough along the line that we will complete it, but it is not as critical clearly as either Croatia or Arizona.

Bob Richard - Longbow Research

Okay, thanks. That helps. And my last question, I think you gave a reason but I probably missed it. The domestic mills with more rebar capacity served a lot or faired a lot better last quarter. Why was that built, is it because of the lack of imports rebar or --?

William Larson

Well that certainly helped rebar imports in United States versus any historical numbers, continue to be well down. There is a little bit of opportunistic Turkish rebar coming in here. But I will tell you, the number is still not significant. But the main driver how you digress, the main driver would be highway and infrastructure work particularly in the five-state Texas region.

Murray McClean

And with -- Bob, the merchant bar products have been weak because a lot of their customers are in manufacturing service centers et cetera. So, that is a very weak sector at this point in time.

Bob Richard - Longbow Research

Okay. Thanks very much and good luck.

William Larson

Thank you.

Operator

Your next question comes from Barry Vogel with Barry Vogel & Associates.

Barry Vogel - Barry Vogel & Associates

Good morning, gentlemen.

William Larson

Good morning, Barry.

Murray McClean

Good morning, Barry.

Barry Vogel - Barry Vogel & Associates

Bill, I have a couple of questions for you. I know you would -- you were trying to answer that question about the $61.3 million of lower cost or market inventory adjustments?

William Larson

Right.

Barry Vogel - Barry Vogel & Associates

Could you be kind enough to say, actually breakdown that $61.3 million for us?

William Larson

No. But I love you, Barry. But I can't do that.

Barry Vogel - Barry Vogel & Associates

What is up? You can't do that?

William Larson

No.

Barry Vogel - Barry Vogel & Associates

Okay.

William Larson

Well, I'll put this way, I can do it, but I won't. I know that sounds harsh, but there are certain competitive reasons why I don't want to be too specific on this.

Barry Vogel - Barry Vogel & Associates

Okay. Let's go on -- keep on the same topic of the 103 million which included the 61.3 million. You made a comment -- a vague comment about you think the worse is over. Knowing what you know about all these items, the impairment charges, the severance cost, the bad debt expense, contractual non-compliance as well as the lower cost adjustments. Could you give us just a general estimate of what you think is the current quarter would have on these items, approximately, to give us some idea of the real bottoming on these charges for the third quarter?

William Larson

I'll tell what Barry, and I'll do the best I can in terms of giving you some direction on this. I won't be able to give you the numbers. I don't think -- and this is all subject of course to being wrong as prices either sky rocket or plummet, but I would not think that from an impairment standpoint that we have any particular concerns. I mentioned earlier that we just do not have that much in intangible assets on the book.

So, severance costs, always difficult to say. But I would like to think that directionally that would be lower. Bad debt expense, again, I think we took our hits predominantly in this quarter. We will monitor that as much as we can. But I would not think that, that is going to be particularly own risk look going forward.

The lower cost to market on inventory, don't really need to give you a whole lot on that. I mean if you'd see prices, they plummeted pretty significantly during this quarter. So I mean if directionally you see that, they are not going down, I mean it's a straight -- it's almost a straight line calculation.

So if you are seeing that prices are stabilizing, that will tell you that we don't need quite as strong a charge. The one thing I would warn you about, and which is the last and which is contractual compliance; that may well still have some to go. That is a individual negotiation, customer-by-customer. It is a slog and I don't want to leave you with the impression that, we -- we took everything that we knew, but there it's a battle.

Barry Vogel - Barry Vogel & Associates

Okay. Can we shift to inventories? At the end of August, you had $1.4 billion of inventory. At the end of February, 904 million, which is a nice drop of $500 million. Can you give us your estimate of the outlook for that number, the $904 million, taken into a account with payables and receivables to see what cash generation might occur in the second half of the year from that category of working capital?

William Larson

Yeah. Not to be specific to either inventory or receivables or payables, but there is more to come out of working capital. I suspect it's a number that is well north of 150 to 200 million. But I would use that as a minimum.

Barry Vogel - Barry Vogel & Associates

Are you talking about 200 million plus in the second half of the year?

William Larson

Yeah. Total working capital reversal. So not -- let's not just focus on inventory receivables or payables.

Barry Vogel - Barry Vogel & Associates

So you might generate 200 million plus in extra cash, excluding your income or losses.

William Larson

Right, and the CapEx program. Right.

Barry Vogel - Barry Vogel & Associates

Right, right. Now you had a goodwill write-down of $13 million. What was that from and is there any chance of any additional goodwill write-downs in the second half?

William Larson

Okay. We didn't -- the impairment charges were on the South Carolina Joist plant and our cold rolling mill in Croatia, both and they weren't in goodwill, it was impairment charges.

Barry Vogel - Barry Vogel & Associates

Right. What about the goodwill charge of $13 million?

William Larson

That -- I'll I have to go back and find all the detail on it.

Operator

Your next question comes from Chris Olin with Cleveland Research.

Chris Olin - Cleveland Research

Hey, guys.

Murray McClean

Good morning, Chris.

Chris Olin - Cleveland Research

Have you tried to model what you say the ultimate volume impact that the steamless in North America will have on the steel demand or rebar demand, any kind of insight there?

William Larson

No, we pretty much leave that to some of the trade organizations. I know that both of the two major steel trade organizations have estimated 3.5, 4 million. The Association of General Contractors also puts outs out and of course theirs going to be across a wider range of products and they've taken a stab at it, but no, we internally we haven't.

Chris Olin - Cleveland Research

Is that 3.5 4 million just rebar or --?

William Larson

No, I suspect it's all products.

Chris Olin - Cleveland Research

Interesting. Any thoughts on the new highway build that is to be reset at the end of the year. I mean are you thinking better or worse, funding, any comments?

William Larson

Well, it's difficult to say because I think they are probably going to at least maintain it. Of course, you have the new stimulus bill throwing money into infrastructure projects. And so, the Federal highway tax per se is still very important and one would guess that judges back of the envelope that they will at least maintain it where it is. But then you got the other spending bills on top of that. So it looks pretty good Chris.

Murray McClean

Yeah. Our role should be up Chris.

Chris Olin - Cleveland Research

Okay. Just finally I know you kind of touched on it a little bit, but are you seeing any kind of rational tactics by the Russian mills or scrap dealers today, are they doing anything to kind of take advantage of the currency?

Murray McClean

Well, obviously they got a very favorable currency to export. But Russia we did not get a lot of price or very little price about Russia. It is really in a very bad way. I mean they are very distressed in terms of their financial situation, company is overleveraged. So, they have been aggressive exporters of a range of steel products, particularly semi products, slabs and billets, scrap to some degree and flat roll, hot roll coil et cetera. So, we expect that situation to continue for some time. And it appears to be slowing some and I guess that they're reducing some of their inventory positions. But Russia yeah, they have some real problems which will maybe take several months to sort out.

Chris Olin - Cleveland Research

I guess the question would be, is it a big enough situation or a big enough deal where they can prevent any kind of recovery in the markets, I mean how big of an issue would this be?

Murray McClean

I don't think so. I think, I mean China has imported a lot of products from Russia in the CIS in the last three months, hot roll coil, billets, slab, etcetera. But also we see the CIS products billets in the South East Asia. And we don't think it's going to be like the 1990's where the CIS Russia dominated exports into Asia. We think there will be a limit to it. There is certainly a significant factor.

The instant thing is the prices are starting to move up. There was an earlier question on billets and that prices are starting to move $20 to $30 a ton in the last couple of weeks. So, that's a positive sign.

Chris Olin - Cleveland Research

Got you. Thanks.

Operator

Your next question comes from Sunil Datator (ph) with Sentinel Investments.

Unidentified Analyst

Thanks. In terms of the credit situation around the world, have you seen any kind of improvement or you think it is still the same credit has not yet improved into the marketplace for your steel dealers, distributors, or the likes?

Murray McClean

Sunil, on the private side we see steel is pretty bad. There is very little improvement anyway. Some markets as we've mentioned have come into the slightest, so we're obviously in the early stages. The only bright light we see is China and China is differently at all levels, directed by the Central Government that write down the local levels has freed up their credit markets compared with several months ago.

So, credit is freely available in China and they have all sorts of many stimulus packages in China to get people to spend more. I mean the Chinese like to save so they've got all sorts of measures to help people buy products in China including coupon systems. But we even see local bond issues in China, we haven't really seen that before. So, the Chinese obviously there are different governments that are set up differently to hear in the U.S and in the West. And they can act a lot faster and in more coordinated way than we can. But they definitely have freed up and then we -- that's why we're more optimistic about what's happening in China than many other parts of the world at this point in time.

Unidentified Analyst

That is quite a good perspective. How much would you benefit from the China stimulus program, because I believe that your exports to China are not that significant, right?

Murray McClean

No, we're not a big exporter to China. I mean, it depends on the ForEx and on the conditions, we are more of buyer from China. To us the key is China will underpin scrap prices, iron ore prices, and global steel prices. So in other words there will be a bottom, and I think that's a good thing. And obviously China's exports will be substantially down this year. They exported 59 million tons in 2008 and it will be well under 30 million tons, it could be under 20 million tons, who knows, but will be a huge reduction of steel exports out of China for this year 2009.

So, I'm not focusing on domestic consumption.

Unidentified Analyst

Okay. And in your press release you mentioned about there might be a seasonal uptick in the volumes probably in third quarter or the fourth quarter. Here you have taken some bad debt expense here in the second quarter of 14.6 million. Now if the credit has not yet eased probably there might be more bad debt expenses if the volumes pick up in the sense, because the distributors may not be able to pay you, or you might be losing your credit terms. Is that the case, is that the scenario that we should be looking at?

Murray McClean

Well yes it's -- it's a scenario where we're obviously concerned about. But at some stage you have to assume the credit markets will start playing to some degree. So -- and that will obviously help the private sector. But we don't expect certainly here in the U.S. any major pick up. It will be a modest recovery and certainly it will led by the stimulus package in the products that we're in later this calendar year.

Unidentified Analyst

So, if I had to extrapolate there might be another bad debt expense number in the third quarter and the fourth quarter probably?

William Larson

Well there might be, but I don't think its going to be any were near, Sunil the size of what it was in the second.

Unidentified Analyst

Okay. Okay, great, thank you. Thanks.

Operator

Your next question comes from John Tumazos with Very Independent Research.

John Tumazos - Very Independent Research

Good morning.

William Larson

How are you John?

John Tumazos - Very Independent Research

How are you? It would see like some of your customers are lousy customers, are not good at their word and some of businesses are far flung and maybe the company would have better returns if there were fewer moving parts and I'm just looking at the $103 million of charges and 116 million for SAP computer system that isn't done yet. Do you think -- how much bigger do you think your rate of return would be if you had one-third fewer assets employed and you just took your businesses with the customers that relish the most and sell them to whomever?

William Larson

Well I wish we could predict who those customers were.

John Tumazos - Very Independent Research

That could the U.S. government in your fabrication system next. They're checks are bouncing.

William Larson

If we could down scale to our mill just in Texas we'd be the most profitable steel company in the world. But in fact, we believe that the assets do have value across the spectrum of both products and geographies. Is that to say that there aren't businesses that we are constantly reevaluating whether we need to downscale them or not. No, we're constantly looking at that.

John Tumazos - Very Independent Research

How much smaller do you think the company should become?

William Larson

I think we're comfortable with the size we are right now. Hopefully we will be in a growth mode once the clouds clear.

Murray McClean

I mean we complained about our customers. We obviously got some very good customers and to be fair some of their customers its really not their fault. I mean this thing fell off a cliff as you know in October, November last year, and the banks have pulled the plug on many of these guys and putting tremendous pressure on them to reduce their inventories and they're just being squeezed of cash. So we do complain to have major issues and some correctly do have money and are making market claims and all sorts of issues say they'll deal with that. But basically we like the balance to our business and certainly the visible integration on this climate works extremely well for us. And SAP, once its fully implemented certainly here in the Americas, we'll get tremendous efficiencies and transparencies out of that. So its been a big project, a big expense, but we will very soon realize reoccurring benefits, so that we look forward to.

John Tumazos - Very Independent Research

Do you think that if the company grew and got bigger, and had more moving parts, you'd be able to manage a bigger and more complex company?

Murray McClean

We believe so in the areas that we know. I mean, we've got good experience obviously in recycling the mills, fabrication, and downstream in the trading side. We were pretty comfortable overall there. I mean, you can always improve the company of course and that we're looking at all the time, but we're pretty comfortable in the geographies we are in and we think long-term you need to be global as a steel player and not just be here in the U.S. So, we're adapting to current conditions, but we certainly have an eye on the future as well.

John Tumazos - Very Independent Research

Okay.

Operator

(Operator Instructions). Your next question comes from Jeff Cramer with UBS.

Jeff Cramer - UBS

Hey, good morning. Thanks for taking my call.

Murray McClean

Good morning Jeff.

Jeff Cramer - UBS

First if you could comment on what you're seeing in terms of global scrap trade folks?

Murray McClean

Ferrous or non ferrous or both.

Jeff Cramer - UBS

Both.

Murray McClean

Both, starting with non ferrous China is the driver at this stage. I mean you see copper prices now 180 a pound in this environment. I mean the main reason is China. Also the weakening of the U.S. dollar in the last few weeks obviously that favors commodity prices. So I mean for us quite frankly the problem for non-ferrous is on the collection side. We are selling everything that we can collect and when you think about the industries where we get the non ferrous from is mainly manufacturing, housing, automotive, etcetera all these are in severe recession downturn here in the U.S. So the volumes, the flow was just not available on the non ferrous side and as I say China is the big buyer.

On the ferrous side the flow is obviously substantially down at the no level here in the U.S. with mills operating at 15% or less capacity at many instances but flows are still reasonable in Asia. They are obviously fairly slow and the Middle-East Turkey is always a big buyer of scrap that be buying mainly local scrap that we're seeing a slight uptake certainly in China. But most people I think are sitting on the fence at this stage, waiting to see the outcome of the iron ore negotiations which could drag on until maybe June. So scrap and iron ore are closely related in terms of the pricing structure.

Jeff Cramer - UBS

Okay. Thanks. And do you think iron ore could drag till June even though we have made some progress on the coke and coal side?

Murray McClean

Yeah. Well I mean iron ore is basically is the spot market. These people are not working off the contract prices of 2008. So, I guess our view is that we are a spot player, we are not a contract player, but the benchmark prices may drop as much as 30% from Brazil and 40% from Australia but who knows. But no one seems to be keen to either side. You know the Chinese obviously the main buyers and the Japanese and Europeans, all the sellers are big three no one seems to be keen to conclude at this stage.

Jeff Cramer - UBS

Okay. Couple of house keeping items, the AR facility that you guys have, I believe that matures in April, I guess, what are the plans for that?

Murray McClean

Be renewed.

Jeff Cramer - UBS

For how long?

Murray McClean

From its inception it's been one year.

Jeff Cramer - UBS

I mean evergreen, one year type facility.

William Larson

Yes.

Jeff Cramer - UBS

And as far as your covenants go, for some of the one-time charges, which of those will be considered add backs for the agreement?

William Larson

Generally, I don't think any of them get added back. And I would caution you that I didn't use the word, one-time. I mean that is certainly an interpretation that's been given, and nor did I use the word non-cash. I am always a little bit offended at that sort of -- I mean eventually it had to have been cash at one point in time. But I think the covenant generally is pretty straight forward.

Jeff Cramer - UBS

Okay, thanks guys.

Operator

Your next question is a follow-up question from Kuni Chen with BoA Securities.

Kuni Chen - Banc of America Securities

Hey, just a quick follow-up. Bill, can you give us your view on LIFO income or charge for the quarter ahead please?

William Larson

Yeah, okay. Well, put this one down in stone, Kuni. You know this is going to be right. Look, as we stand today, prices have fallen. So we would expect if things ended today, a relatively modest LIFO income charge. So if things stabilize at these prices, perhaps a little bit of income. That's about -- and the fact that we are all also trying -- we were talking with Barry Vogel earlier in the call to try and lower the working capital, that will lower the tons and the units in the calculation. So I think the expectations be for a modest compared to these large charges we've been having, large income but a -- some income but at a more modest level this quarter.

Kuni Chen - Banc of America Securities

Okay. So some income and then on the inventory write-downs, that's if we have stabilization here then that should be sort of a neutral in the quarter?

William Larson

I would agree with that.

Kuni Chen - Banc of America Securities

Okay, great. Thank you.

Operator

Your next question comes from Leo Larkin with Standard & Poor's.

Leo Larkin - Standard & Poor's

Good morning. Could you just remind us what CapEx will be for this year?

William Larson

I think it will be in the 380 to 390 range, Leo.

Leo Larkin - Standard & Poor's

Okay. And I think I heard earlier that you could still get more out of working capital in the second half. You got quite a bit out -- you got quite a bit in the first half?

William Larson

Yes. But there is quite a bit to get.

Leo Larkin - Standard & Poor's

Okay. Just want to make sure, 150 to 200 million?

William Larson

That's my best guess for the last six months of the year.

Leo Larkin - Standard & Poor's

Okay. Thanks a lot.

Operator

Our next question comes from Charles Bradford with Bradford Research.

Charles Bradford - Bradford Research

Good morning.

William Larson

Good morning, Charles.

Murray McClean

Good morning, Charles.

Charles Bradford - Bradford Research

Hi. I don't know if I missed it or not, but did you discuss at all the reason for the tax charge despite the pre-tax loss.

William Larson

Yeah, not in any detail. It comes down to this that the jurisdictions where we have very low tax rates, which are international, we lost money and where we did make money, we managed to pick those states that have state income taxes. And so you end up with the case of United States taxes of course next to what is in Japan, we have the highest corporate rate in the world, back on state income taxes and you end up with strange answers like where we ended up with.

Charles Bradford - Bradford Research

What should we look for in the next couple of quarters when it comes to tax rates?

William Larson

I would think we would hopefully stabilize back in the 37, 38. But I'm going to have to hedge my best because if when you are down here as I mentioned earlier in the call, when you down here plus or minus zero, permitted differences can have a very strange effect on the overall rate.

Charles Bradford - Bradford Research

Understood. Thank you.

Operator

At this time, there are no further questions. Gentlemen, are there any closing remarks?

Murray McClean

Yes, I'd just like to thank everyone for the attendance this morning. I just want to have a couple of more comments. Russ Rinn, the President of CMC Americas and Executive Vice President of Commercial Metals Company will be with Bill and I during the next three days of Investor Relations visits. So, we look forward to answering further questions at that time.

Operator

This concludes today's conference. You may now disconnect.

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Source: Commercial Metals Company F2Q09 (Qtr End 2/28/09) Earnings Call Transcript
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