AK Steel Holding Management Discusses Q1 2013 Results - Earnings Call Transcript

| About: AK Steel (AKS)

AK Steel Holding (NYSE:AKS)

Q1 2013 Earnings Call

April 23, 2013 11:00 am ET

Executives

Albert E. Ferrara - Senior Vice President of Corporate Strategy & Investor Relations and Member of Proxy Committee

James L. Wainscott - Chairman, Chief Executive Officer, President and Member of Proxy Committee

Roger K. Newport - Chief Financial Officer and Vice President of Finance

Analysts

Evan L. Kurtz - Morgan Stanley, Research Division

Luke Folta - Jefferies & Company, Inc., Research Division

Richard Garchitorena - Crédit Suisse AG, Research Division

Christopher David Olin - Cleveland Research Company

Brian Yu - Citigroup Inc, Research Division

Justine Fisher - Goldman Sachs Group Inc., Research Division

Nate Carruthers

David Adam Katz - JP Morgan Chase & Co, Research Division

Mark L. Parr - KeyBanc Capital Markets Inc., Research Division

Charles A. Bradford - Bradford Research, Inc.

David A. Lipschitz - Credit Agricole Securities (NYSE:USA) Inc., Research Division

Operator

Good morning, ladies and gentlemen, and welcome to AK Steel's First Quarter 2013 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. With us today are Mr. James L. Wainscott, Chairman, President and Chief Executive Officer of AK Steel; Mr. Albert E. Ferrara Jr., Senior Vice President of Corporate Strategy and Investor Relations; and Mr. Roger K. Newport, Vice President of Finance and Chief Financial Officer.

At this time, I will turn the conference call over to Mr. Ferrara. Please go ahead, sir.

Albert E. Ferrara

Thank you, Sam, and good morning, everyone. Welcome to AK Steel's First Quarter 2013 Earnings Conference Call. In a moment, Jim Wainscott will offer his comments on our business and following Jim's remarks, Roger Newport will review our first quarter 2013 financial results, and together, we will field your questions.

Our comments today will include forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. Included among those forward-looking statements will be any comments concerning our expectations as to future shipments, product mix, prices, costs, operating profit or liquidity. Please note that our actual results may differ materially from what is contained in the forward-looking statements provided during this call. Information concerning factors that could cause such material differences in results is contained in our earnings release issued earlier today.

Except as required by law, the company disclaims any obligation to update any forward-looking statements to reflect future developments or events. And to the extent that we refer to material information that includes non-GAAP financial measures, the reconciliation information required by Regulation G is available on the company's website at aksteel.com.

And with that, I'll turn it over to Jim for his comments. Jim?

James L. Wainscott

Thank you, Al. Good morning, everyone. Thank you for joining us on today's conference call. Progress. That's our focus at AK Steel on making significant progress, and in addition to making and finishing some of the world's finest steel products, frankly, we've made a lot of progress during the first quarter of 2013.

Some of that progress was evident in our financial performance for the quarter. In fact, from an EBITDA perspective, AK Steel's first quarter of 2013 results improved by $50 million or $40 per ton compared to the fourth quarter of 2012.

Comparing the first quarter of 2013 to the prior quarter, we enjoyed a richer shipment mix, 5% higher average selling prices, lower steelmaking input costs, and despite a $25 million lower LIFO credit, as I mentioned, our adjusted EBITDA was $50 million higher and we narrowed our net loss to $0.07 per share.

Notwithstanding continuing challenging market conditions, especially in the stock market, we remain intensely focused on improving our financial performance going forward. Speaking of the future, we expect several things to unlock substantial value for AK Steel shareholders, including continuing recoveries in the domestic and global economies; our continued increase in domestic automotive production; further gains for us in terms of our automotive market share; increasing housing starts, which are closely correlated with electrical steel demand; and the realization of lower raw material costs due in part to implementing our vertical integration strategy.

Taking all that together, we're confident that we're on the right track, positioned with the right strategy and operating with the right focus, all of which should bode well for better days ahead.

Much of our progress at AK Steel can be attributed to how we do what we do. For example, how well we serve our carbon and specialty steel customers. At AK Steel, we strive to serve our customers better than any other steelmaker with a combination of superior product quality, consistent on-time delivery and outstanding customer service.

Over the years, our efforts have been recognized and highly rated by our customers. Continuing in that tradition, we fared well in the first quarter of 2013 in the Jacobson independent survey of our customers. For example, compared to our carbon steel integrated competitors, AK Steel was ranked #1 in quality customer service and on-time delivery, as well as inside sales support for the first quarter.

These performances translated into a #1 rating in overall customer satisfaction among our carbon steel integrated competitors. Very proud of that. On the specialty steel front, we were ranked #1 in quality, in customer service and in outside sales and inside sales support. This performance also translated into the #1 rating and overall customer satisfaction in our specialty steel markets. Again, we're equally proud of that achievement. And really, these outstanding performances and service to our great customers are the collective result of a superb team effort by all of our employees, and I congratulate our entire workforce on a job very well done.

Moving from our customers to our employees, during the first quarter of 2013, we were honored for our 2012 safety performance at our Zanesville Works. I congratulate our Zanesville employees on achieving this well-deserved recognition and the tremendous attention to safety that they continue to exhibit every day.

When it comes to safety, what matters most is not what we did yesterday, but what we'll do today, every shift, and tomorrow, to keep our employees safe. Accordingly, we vow to remain vigilant in applying our safety approach and educating, equipping and enforcing our program or what we call the 3 Es of our safety program. Each has been a vital element of our safety approach in the past, and each will continue to remain a vital element of our safety program in the future.

Speaking of our employees, during the first quarter of 2013, we reached an early labor agreement with the United Auto Workers at our Coshocton Works plant. This 3-year contract, which will expire on March 31, 2016, continues to provide a competitive and flexible labor arrangement for AK Steel and for our Coshocton Works employees. Next up, in 2013, our labor contracts at Ashland Works and Rockport Works, which expire on September 1 and September 30, respectively.

Continuing on the subject of employees for a moment, let me take just a moment to highlight the excellent progress being made by our AK Coal employees. AK Coal, together with Magnetation, is an important strategic project for AK Steel that will improve our raw materials self-sufficiency and lower our costs in the years ahead. You may recall that once fully operational, AK Coal is expected to provide us with approximately 50% of our annual coal requirements. The initial mining site, which is located near Somerset, Pennsylvania, is currently being prepared for the mining of low-vol coal. Long lead time items were ordered some time ago, and they should be arriving in Somerset within the next few weeks. Importantly, we anticipate receiving our mining permit in the month of May and we expect to be mining coal in the month of June.

Staying on the subject of vertical integration, solid progress is also being made by our Magnetation joint venture. In fact, Magnetation is about a year ahead of its original schedule when we announced our strategic investment plan back in October of 2011. I'm delighted to report to you that Magnetation recently received its air permit from the State of Indiana, which is needed to build and operate the pellet plant in Reynolds, Indiana.

Now that Magnetation has the permit in hand, construction is expected to begin very soon and last approximately 18 months. Accordingly, we could begin to see our first pellets for Magnetation by the fourth quarter of 2014. We anticipate that the facility will ramp up production to full capacity during 2015.

This project represents a very important strategic step for AK Steel as it will provide us with substantial cost savings and add significant value for our company. Upon completion, the pellet plant Magnetation is expected to provide AK Steel with approximately 50% of our annual iron ore pellet requirements. I have to tell you, next fall simply can't come soon enough for me.

Now let me take a few moments to provide you with an update on what we're seeing in terms of demand and pricing for our products.

The automotive market, which represented about 45% of our revenues for the full year 2012, continues to be a bright spot for our business, both in terms of our carbon and specialty steel products. As a matter of fact, in the first quarter of 2013, AK Steel experienced its highest level of shipments to auto customers since the first quarter of 2008. Again, that's progress. Incidentally, the first quarter of 2013 seasonally adjusted sales of 15.2 million units represents the best quarterly results since the same level of sales was achieved in Q1 of 2008. And forecasters now predict that we could actually exceed sales of 16 million units for the year 2013. Again, solid progress on that front.

So although automotive production and sales are not yet all the way back to pre-recession levels, they are a lot better than the 8 million to 9 million unit level that we saw at the trough of the Great Recession.

Increased household wealth from improving home prices and a rising stock market is providing added support for automotive sales. And speaking of the housing market, we appear to be on pace for roughly 1 million housing starts for 2013. That would represent more than a 28% increase compared to the 781,000 housing starts for 2012, and it would mark the first year since 2007 that housing starts topped the 1 million unit mark.

Progress indeed with more progress on the way. Current consensus estimates for 2014, housing starts are for an increase of about 25% compared to 2013 to nearly 1.25 million units. This is simply beautiful music to our ears. And as a result, despite continued weakness abroad, we expect to increase shipments of grain-oriented electrical steel or GOES to our NAFTA customers. NAFTA GOES sales were lower than expected in the first quarter of 2013 as customers rebalanced inventories following Hurricane Sandy. Customers tell us that they expect a slight pick-up in the second quarter, with further gains in the second half of 2013.

Let me offer a couple of other points on electrical steel. Earlier this month, the U.S. Department of Energy issued new rules for electrical distribution transformer efficiency standards. These new rules are good for America and they're good for AK Steel. The DOE's ruling ensures that the transformers in America will remain among the most energy-efficient in the world. And that high-tech electrical steels, such as those we manufacture at AK steel, will continue to be a very competitive material in the marketplace.

As a leading global producer of some of the highest efficiency electrical steel products available, we are very pleased with the DOE's new standards. Our grain-oriented electrical steel products are positioned well to serve the needs of our electrical power distribution customers for years and years to come. In fact, the new DOE standards offer the potential for increasing the market for GOES products in the United States with respect to certain types of distribution transformers.

On the international electrical steel front, however, we continue to experience global weakness led by ongoing economic uncertainty in Europe and slower economic growth in Asia. We expect those conditions to moderate only slightly for the balance of 2013.

Stainless steel sales activity has remained steady with a slight uptick recently, and to reflect increasing demand and recover our costs, we recently announced a stainless steel price increase on new orders. While the commodity stainless market continues to reflect a somewhat sluggish level of activity, the market for specialty grade stainless products has been better. For example, thus far in 2013, our Coshocton Works products and automotive exhaust grades have exhibited stronger demand, and that trend is expected to continue for the foreseeable future.

The just-released MSCI service center inventory report indicated that stainless steel service center inventories remained at about 2.9 months of supply on hand, which is better than the historical average level of about 3.5 months. According to MSCI, flat-rolled carbon steel shipments rose slightly in March compared to February. Flat-rolled carbon inventories were about 3.5% lower than they were at this time last year, and typically, that's a good thing. However, with the mill lead times running a little lower than normal, service centers are attempting to get by with lower inventory levels, and when the predicted second half of 2013 increases in demand occur, the combined impact of meeting growing orders and replenishing depleted inventory stock should inure to our benefit. We shall see.

Shifting gears from our markets to our operations compared to the fourth quarter of 2012, we ran our operations at higher rates in the first quarter of 2013. We built some inventory in advance of our second quarter maintenance outages and to support higher anticipated shipments, including automotive shipments in the second quarter and second half of 2013.

In the second quarter, we expect to operate at a similar rate as the first quarter despite the fact that we've taken a planned maintenance outage at our Middletown Works blast furnace and have an outage in progress at the steel shop. In a moment, Roger will provide more details as to the cost of those outages. I'd simply offer that upon completion, we will be well positioned to meet the needs of our customers in anticipation of slowly improving market conditions.

From preventative maintenance to backwards integrating the profitable growth initiatives, we remain highly focused at AK Steel on making progress in all aspects of our business and on adding value for our shareholders.

In closing, as AK Steel's CEO for nearly the past 10 years, I've had the and continue to have the great privilege and duty of taking care of our customers, employees, retirees and shareholders. But no one does that alone. Here, it is truly a team effort. Over the years, I believe that our team has done a good job taking care of our customers, as well as our employees and retirees. But we also know that we need to do a better job when it comes to taking care of our shareholders, and that starts with returning to profitability, generating positive cash flow, proving the worth of our strategic investments.

I will tell you that all of those initiatives are well underway. In short, we know what we have to do, we have put positive numbers on the board, show the way for the future. We get it and we're on it. We'll continue to do everything we can to control those things under our control. We'll continue to lower our operating and input costs wherever possible. But eventually, we need a real, sustained economic recovery both at home and abroad. In the meantime, we're all in every day at AK Steel, believing in better and making better happen, continuous improvement in all that we do. Progress. Every day and in every way. Staying on the right track with the right strategy and the right focus with great people, all leading to better days ahead for our great company.

Thank you, all, very much for your attention. With that, here's Roger Newport. Roger?

Roger K. Newport

Thank you, Jim. Earlier today, AK Steel reported a net loss of $9.9 million or $0.07 per share for the first quarter of 2013. These results are a substantial improvement compared to our results for the fourth quarter of 2012. Shipments for the first quarter of 2013 totaled 1,289,800 tons, a decrease of about 116,000 tons compared to the fourth quarter of 2012 and in line with our first quarter guidance. Lower shipments to the carbon steel spot market in the first quarter were partially offset by increased shipments to the automotive market.

Our average selling price for the first quarter was $1,062 per ton or 5% higher than the fourth quarter and also in line with our guidance for the quarter.

The higher average selling price was due primarily to a higher value added product mix, as well as slightly higher average spot market pricing, partially offset by lower selling prices globally for electrical steel products.

Revenues for the first quarter totaled $1,370,000,000, roughly 4% less than the prior quarter. Sales outside the United States for the first quarter totaled approximately $187 million. This represented about 14% of our total sales for the quarter. Our results for the first quarter included about $1 million in planned major maintenance outage costs, which was about the same as the fourth quarter of 2012.

In the first quarter, we benefited from a LIFO credit of $6 million, primarily due to the continued decline in raw material costs. However, this credit was $25 million less than the LIFO credit of roughly $31 million in the fourth quarter of 2012.

I would also like to provide you with a comparison of our earnings before interest, taxes, depreciation and amortization, or EBITDA, adjusted to exclude the noncontrolling interests, which are included in our operating results. Our noncontrolling interests consist primarily of SunCoke, Middletown. Excluding the noncontrolling interest, our adjusted EBITDA for the first quarter of 2013 was $66.8 million or $52 per ton. Our first quarter EBITDA performance reflects a $50 million improvement over our adjusted EBITDA of $16.8 million or $12 per ton for the fourth quarter of 2012.

This substantial improvement in our adjusted EBITDA was primarily the net result of an improved sales mix with higher automotive market shipment and lower spot market shipments; lower raw material costs, primarily related to iron ore, coal, and coke energy credits; and these 2 items were partially offset by higher operating costs associated with our Middletown Works blast furnace, as well as a substantially lower LIFO credit.

Now turning to the balance sheet and the cash flow statement. For the first quarter of 2013, our capital investments totaled approximately $16 million. As expected, working capital was a slight consumer of $10 million of cash during the first quarter as we increased our inventories to support anticipated customer requirements. It is important to note that our continued focus on working capital management resulted in a significant improvement compared to what we typically experience in the first quarter. For example, last year's first quarter working capital was a use of $150 million.

We ended the first quarter of 2013 with very strong liquidity of $1.05 billion, and we had no borrowings under our $1.1 billion credit facility during the first quarter. With this level of liquidity, we continue to be well positioned to serve the needs of our customers, our operations and execute our strategic plans.

In regards to pension funding, our 2013 pension funding requirements remain at about $180 million. In the first quarter, we completed a $30 million pension contribution. Earlier this month, we contributed an additional $41 million to the pension fund and we will be making the roughly $110 million of remaining contributions in the second half of 2013.

As we look beyond 2013, we are pleased that our updated estimates of our future pension funding requirements have decreased, primarily due to the recently published IRS interest rate and our solid pension investment returns. Our 2014 expected pension contributions dropped by approximately $30 million from $240 million to approximately $210 million.

Our estimated 2015 pension contributions have also decreased from approximately $150 million to $125 million, another reduction of approximately $25 million.

In summary, our pension contributions for 2014 and 2015 are projected to be more than $50 million lower than our prior projections.

Now turning to our outlook. As is our practice, we plan to provide detailed guidance for the second quarter of June -- in June of this year. I would note, however, that we had a planned maintenance outage at our Middletown Works blast furnace in April, and the outage was successfully completed this past weekend. As a result, we expect to incur major maintenance outage costs of approximately $21 million in the second quarter compared to $1 million in the first quarter of 2013, reflecting an increase to our cost of approximately $20 million in the second quarter compared to the first quarter.

However, we expect these increased maintenance costs in the second quarter to be mostly offset as a result of lower cost in other areas, primarily raw materials. Let me conclude by saying thank you for your interest in AK Steel. At this time, Jim, Al, and I would be happy to take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Evan Kurtz of Morgan Stanley.

Evan L. Kurtz - Morgan Stanley, Research Division

I got a quick question on the projects. It seems like the market is kind of struggling, particularly on the flat-rolled side. So far this year, I've seen demand, I think, surprisingly downside by most people accounts. And I was wondering, if conditions like this continue and persist for say 1 year or 2, what sort of decisions would you make as far as slowing down CapEx? And is there anything at this point that would cause you to change your time line on the projects that you have laid out?

James L. Wainscott

Evan, thanks so much for asking the question. We are actually thrilled with our projects. We were confident in them before and we're even more so today. If you really step back from it all, I think to be 100% self-sufficient or 0 is really sort of putting all your eggs in one basket, and that's a pretty huge gamble in this very volatile environment that we have here for raw materials. So if you want to kind of get in the middle of that, which is exactly where our strategy takes us, we want to be 50%. It really serves as a hedge, and so we saw iron ore prices at up to nearly $200 and we've seen them come back to $100, and we're sitting somewhere between $135 and $140 today. Just to remind you, with an IODEX at $120, which is a long way from where we're at, the annual savings that we have indicated is around $90 million. So they'd be even higher today. We are enjoying the pullback in the market recently, and one never knows exactly where that's going to go. You've still got really oligopolistic type behavior from the major producers. I suspect that they'll continue to exert their influence in the marketplace. But we have a very low capital cost, we have a very low operating cost, that's going to position us really, really well when it comes to either iron ore in Magnetation and/or coal at AK Coal. So no, we're not backing off in the least in terms of capital spending. We're moving full speed ahead.

Operator

Our next question comes from Luke Folta of Jefferies.

Luke Folta - Jefferies & Company, Inc., Research Division

The first question I had was, I was just -- I'm curious on your thoughts on one of your competitors had come out and made some statements regarding its unwillingness to participate in contracts that are CRU minus some discount, which has kind of, I guess, become the industry practice as of late. I wanted to understand, I guess, what you thought about this, whether or not you'd support a similar move, and also if you can give us some sense of how much your business is tied to these types of agreements to give us some insight on what the impact could be if the situation was improved.

James L. Wainscott

Yes. Again, Luke, thank you for the question. That's an excellent one. I guess as we look at these things, the first comment I'd say is that all of our pricing decisions are made independently, taking into account a variety of things, market conditions, of course, our cost, situation, the value of the product that we bring to the customer, our need to generate a reasonable return to sustain ourselves and grow. Frankly, we've looked hard at the CRU index for a while. The index itself, I think, we don't typically have a problem with, but we certainly do have a problem with something that would be CRU minus. Arguably, some of us, ourselves, might look for CRU plus given the value that we think we bring to the marketplace. But I guess I'd emphasize the following point that CRU and CRU minus sort of imply a commodity type product. We are a value-added producer. We aim for the toughest applications, the most demanding customer type situations whether it's in the carbon or the specialty steel market. So in that world that sort of averages everybody and has this sort of one common denominator, price, that's not really the only thing that we bring to the party. I think as I've said before, probably on this call and elsewhere, price is what you pay, value is what you get. I didn't make that up, Warren Buffet did. But that's certainly our approach. We have read the press reports that others are planning to move away from using CRU. And again, as I say, we've long felt that CRU minus deals do not accurately reflect market conditions, particularly when it comes to contract business, which is the vast majority of our business today. It's probably about 2/3 of our business, and we're growing that business as we grow automotive and so forth. So to the extent that some try to use that as a floor or ceiling or whatever, look, again, I'd go back to there's a lot of things that go into these things, including the overall relationship. To the other part of your question about how many deals do we have that might be dependent on CRU or CRU something, I would say it's probably in the 15% to 20% kind of range would be my estimate of that, Luke.

Luke Folta - Jefferies & Company, Inc., Research Division

Okay, that's helpful. And I guess, secondly, on the -- I just noticed on the -- on your income statement that there's been some accounting changes related to SunCoke. Historically, it's -- I guess you've had a pre-tax number in the operating line and you've booked some tax and then you -- the noncontrolling interest is that net of tax. Should we now assume that given the change, that there's no tax impact on the P&L and the number that's in the noncontrolling interest line is the same as in the operating results?

Roger K. Newport

Yes. The noncontrolling interest line now is the net of tax number. So our -- that's pre-tax, I'm sorry. And it is a -- so it's a cleaner version now when you're looking at our tax expense. You're not getting the confusion that we had previously, I would say, that included tax expense of both SunCoke and of AK.

Albert E. Ferrara

Yes, because SunCoke now has a master limited partnership structure. A master limited partnership does not have any tax, essentially. All the tax associated with the master limited partnership is new as to the partners. And so consequently, SunCoke won't have any tax expense. And since SunCoke won't have any tax expense, we won't have any tax expense in our tax line. So going forward, all of our tax expenses, our own tax expense, back to what it used to be before we had the noncontrolling interest. And so now, it will all be contained in the noncontrolling interest. And I want to emphasize, none of this will have any effect on AK's financial results. In other words, AK's net income is the same regardless of this. They're just moving it between the 2 categories.

Roger K. Newport

So our tax expense now is just related to that change in our LIFO valuation.

James L. Wainscott

Right.

Operator

Our next question comes from Richard Garchitorena of Crédit Suisse.

Richard Garchitorena - Crédit Suisse AG, Research Division

My first question, you mentioned that AK Coal, you expect production to start up in June. Can you remind us again how much production you expect in 2013? And how do you think about start-up costs for this year?

Albert E. Ferrara

Richard, we're -- right now, the expectation is that AK Coal will produce roughly 100,000 tons in 2013, again, with that ramping up hopefully through 2014. So that by 2015, we would be at 1 million tons on a run-rate basis.

Richard Garchitorena - Crédit Suisse AG, Research Division

Okay. And then cost, is there any -- do you have any expectation on how that will pull through this year?

Albert E. Ferrara

Well, again, what we've indicated is that, again, that at an assumed $120 per ton rate of value of coal, we would be assuming about a $30 million benefit on a run-rate basis. So we've indicated that going forward. Essentially, looking at cost somewhat below $9 or below is what we'd be looking for.

Richard Garchitorena - Crédit Suisse AG, Research Division

Okay, great. And then just turning to the quarter, you pointed out energy credits from SunCoke. How much was that specifically? And is that something we should be expecting in future quarters?

James L. Wainscott

No, I think it's really a onetime kind of deal. We had equally offsetting sort of onetime other costs. I don't know both of which would've been, I think, under $10 million or something like that. But the fact of the matter is, I think on a go-forward basis, it would come out similarly though, the other items that we had. We had some fuel rate issues at a blast furnace that nicked us a bit that -- with the outage that we're taking, we should not be seeing that either. So both onetime items, both hitting us in the first quarter and not recurring.

Richard Garchitorena - Crédit Suisse AG, Research Division

Okay. And my last question, any other outages in addition to Middletown for the second half for this year?

James L. Wainscott

None principally planned. We will have our normal cadre of planned outages, but nothing that would rise to the level of same sort of materiality we're seeing in the second quarter. Nothing of a planned nature, that is. Knock on wood.

Operator

Our next question comes from Chris Olin of Cleveland Research.

Christopher David Olin - Cleveland Research Company

I just wanted to get some more information on the electrical side of the business. First of all, were the shipment levels down versus the first quarter of 2012 last year? And then can you give us an update on what the mix looks like between NAFTA and international today?

James L. Wainscott

Chris, I would say I don't have the numbers right in front of me, but we're down probably slightly from a year ago, first quarter. We're down slightly from the fourth quarter levels. Clearly, as I mentioned in my prepared remarks, there has been a pretty significant shift going on here, whereby we used to be roughly 50-50 domestic or NAFTA, if you will, and international. That's probably moved more towards the 60-40, if not the 2/3, 1/3 sort of realm in terms of our overall business. And I think just given what we're seeing internationally, that's likely going to remain the case. We could even grow a bit further in the NAFTA environment.

Christopher David Olin - Cleveland Research Company

Yes, that was my question. If we did remain on track, you had 1 million starts and then plus 1 year after, is there a feeling for how high NAFTA could be in terms of like a peak or like a 2-year outlook?

James L. Wainscott

I guess as we look out, we continue to see this slow recovery, although it's going to take some financial discipline and a lot of action still to come in Europe. And that will eventually happen, and I suspect you could see us between now and then get to 70% or 75%. Would we get to as high as 80%? That's probably a peak and might be a little further than we think it's going to go, but look, the -- as you know, 1 million housing starts is really not all that much. We'd love to see, with proper controls and so forth, get back to 1.5 million, 2 million, in which case, America would be booming again. And that the need for transformers be on the pole or on the ground in these subdivisions would be much improved from where it is today. But again, just as with automotive, as in the case of housing, we're way back off the bottom. We've roughly doubled the trough and we're delighted about that. It's a long, long way to go from here.

Christopher David Olin - Cleveland Research Company

The last question I have and maybe I missed it, did you comment on what the 2013 contracts look like?

James L. Wainscott

I don't think we've commented on them. Fortunately, they're in place because, again, with capacity being what it is and some of the advances of foreigners, pricing pressure has been brought to bear. The vast majority of our NAFTA business is under contract. And I would say that it's fair to say that it was a challenge to get all the contracts on to levels we wanted them. So it still remains very, very good business for us, but I would say contract pricing's down ever so slightly this year.

Operator

Our next question comes from Brian Yu of Citigroup.

Brian Yu - Citigroup Inc, Research Division

First question is, Jim, when you look at your 3 major product categories, electrical, stainless and carbon, which one do you -- rank them if you could in terms of ability to drive your volume and earnings improvement as we look out to the rest of 2013.

James L. Wainscott

Each really plays an important role. I think we've shown slides before in investor presentations in terms of sort of margin potential and margin contribution. You've got a base there that would be carbon, sort of stainless in the middle and electrical on top. But the capacity that we have certainly would rank just the opposite of that. And again, when we're shipping something less than 1,300,000 tons, the added capacity we have on top of that is really phenomenal. There were quarters, as you know, when we regularly shipped 1,600,000 tons to the leverage. I suppose that the highest degree of leverage comes there from the carbon side of the business. We've got a lot of capacity as well on stainless. We're surely not running the Butler #5 EAF nearly as hard or as often as we wanted to, so there's upside there. And electrical is about 60% of where we'd like to see it, so -- if that. So I think really, you've got potential on all fronts with probably the most leverage, the upside in carbon.

Brian Yu - Citigroup Inc, Research Division

Okay. And then the second question I've got is on the stainless side, I think ThyssenKrupp, they're supposed to be up and running now, but we haven't heard much about it. I was wondering if you've seen them in the marketplace, just one additional competitor as you're talking to customers and marketing your own product.

James L. Wainscott

I think that they're still not at full ramped up capacity. I think the primary focus of Noxon and Outokumpu has been to sort of roll up what's going on in Europe. I suspect that they have their hands full over there. But we understand the melt shop has been -- they continue to construct that, and it will likely be a bigger challenge to come. Again, a lot of the product, and they can describe better than I can, I think they're going to be displacing imports, they're going to be displacing other products, Mexinox, et cetera. And really, a lot of what they're targeting, as is the case with carbon, which I don't know that is well followed, is really the pure commodity type business. That is not a large part of our stainless business. It's a very, very small part of our business. Again, we really look to the higher value added segments, the Coshocton specialties, the 409 serving high temperature automotive exhaust applications. That will continue to be where we focus, notwithstanding the pressures in the down and dirty commodity segments of these markets.

Operator

Our next question comes from Justine Fisher of Goldman Sachs.

Justine Fisher - Goldman Sachs Group Inc., Research Division

My first question is on impact of the maintenance outage. I know that you had mentioned in the press release and in your remarks that it would be offset by raw material costs, but is that offset versus what expectations were before or do you expect more raw material benefit now than, say, you had expected at the beginning of this year when you reported fourth quarter results that will offset the additional $21 million cost from the maintenance outage?

Roger K. Newport

Our expectations on raw material costs really haven't changed. As we mentioned, the key driver was coal, that has not changed for the year. Iron ore continues to be volatile, so up and down. But no, that's based on what we talked about on the first quarter, back in the beginning of the first quarter.

Justine Fisher - Goldman Sachs Group Inc., Research Division

Okay. So it's basically $20 million of higher cost versus what people had been expecting before?

Roger K. Newport

Yes.

Justine Fisher - Goldman Sachs Group Inc., Research Division

Okay. And then the other question about the maintenance outage is, are you -- I know that it seems that U.S. steel is -- steel production is down year-over-year, but it seems as though most mills are loathe to take down too much more capacity because there is a concern about sacrificing market share, especially with lead times being short. Regarding the Middletown maintenance outage, is there not a concern on AK's part about sacrificing market share? And is the notion on your part that the market's kind of weak enough such so that you won't be sacrificing too much in the second quarter by taking down Middletown because shipments won't be that great anyway? Or is it just that you have to do this, you have to have this maintenance outage now for technological reasons?

James L. Wainscott

I think there's a number of points. I can take that, Justine, let me just offer. We take outages when it's really prudent to do so. We felt it was prudent to do so. This was an outage that we were likely going to take in the third quarter, we simply advanced it to the second. It so happens that marketing conditions really aren't that wonderful right now, so it sort of makes good sense. We suspect that they're going to be better. We anticipate they're going to be better, we certainly hope they're going to be better later in the year, so this positions us well for that. And we produced sufficient material ahead of the outage to be able to accommodate that. We make conscious decisions, really sitting around this table on a weekly basis as to how many tons to take to the market or not take to the market based on a variety of factors. Obviously, we love to make more. We're a high fixed-cost business, it helps lower our cost. But we probably took 100,000 tons or thereabouts of product out of the marketplace in the first quarter, a conscious decision on our part just because we didn't like prices. We continue to evaluate those things. Again, week-to-week, month-to-month, quarter-to-quarter and in recent years, have made many decisions along those lines just because we did not particularly care for the pricing. So again, it's an independent decision, it's one that we make based on a variety of factors, selling prices, condition of our furnaces and so forth. One of the nice things that we have in the company, I'd just close with this thought on this question, is we have enormous flexibility. And we have the ability to make product in Middletown, we have the ability to make product in Ashland, and what is frequently overlooked is that we're not just a blast furnace company. Yes, we are an integrated steel producer, but we also have -- we actually have more EAFs than we have blast furnaces in the company. And our new #5 EAF at Butler Works is sitting ready, willing and able to help us out, and we're challenging it more this quarter as well. So we're not consciously giving up market share or anything else. We're serving our customers and going after all the profitable orders that are out there.

Operator

Our question comes from Nate Carruthers of Steel Market Intelligence.

Nate Carruthers

So I noticed that other income declined to $1.8 million from $4.3 million in the fourth quarter. I was just wondering if that was due to reduced earnings from Magnetation or something else there.

Roger K. Newport

Yes, there's 2 factors that drove that, one of them is Magnetation. As the IODEX dropped, we saw a drop in Magnetation's earnings and our share of it, that was about $1.2 million. The balance of it is primarily related to foreign exchange where the euro dropped from 1.32 down to 1.28.

Albert E. Ferrara

Yes, we had a foreign exchange gain in the fourth quarter and [indiscernible] loss in the first quarter.

Nate Carruthers

Okay. And then I guess I was just wondering if you expect any meaningful changes to your product mix in the second quarter versus the first quarter?

James L. Wainscott

I don't know if there's anything particularly meaningful, Nate, that we would point out for guidance purposes at this point. Again, we'll give more complete guidance in June. We do continue to anticipate growth in automotive and would look for higher automotive shipments, that's our sense of things. And I think we'll continue to move towards richer mixes is really what I would say. We saw that in the first quarter, we'll continue to look for more of that going forward.

Operator

Our next question comes from Dave Katz of JPMorgan.

David Adam Katz - JP Morgan Chase & Co, Research Division

I was hoping that you could provide a little more color on the timing of iron ore cycle through. I know historically, there's been about a 4-month lag. I think that at the end of last year, you purchased some iron ore at the lower prices. I was curious what of that you still have in inventory, if you could give some indication of what the prices were and when we'll see the higher prices in first quarter cycle through.

Roger K. Newport

Pretty much on our inventories, the raw material should pretty much be cycled through from year end to what we ended with our iron ore inventories. As you know, we consume roughly 5.5 million to 6 million tons a year. So we would have already cycle through all of that iron ore here in the first quarter. And same with coal, we do not carry a lot of coal inventory, but that would have already cycled through.

David Adam Katz - JP Morgan Chase & Co, Research Division

And you haven't hedged any iron ore?

Roger K. Newport

We do have some iron ore hedged, roughly 1 million tons.

David Adam Katz - JP Morgan Chase & Co, Research Division

And what's the price at which that was hedged?

Albert E. Ferrara

The price was lower. Most of the hedging was done actually in the fall of last year. So the prices actually, on an IODEX basis, were lower, which is one of the reasons, David, we had so much confidence in talking about our benefits going into this year, such that we won't be impacted by some of the movements in the marketplace. But in large measure, the hedging was done in 3Q and 4Q of last year when the IODEX was at lower levels.

David Adam Katz - JP Morgan Chase & Co, Research Division

Okay. And Al, just some clarity on when that 1 million tons will be exhausted or how long the hedge runs.

Albert E. Ferrara

It ratchets throughout the year, David. Those hedges were put in place about 1, 2, 3 and 4 quarters, probably the preponderance in the first 3 quarters, a little bit less in the fourth quarter. But not to be too specific, we -- I mean it's going to benefit us throughout the year.

David Adam Katz - JP Morgan Chase & Co, Research Division

Okay. And then one of your competitors announced a price increase. It doesn't seem like that was glommed onto by the rest of the industry. Do you guys have any view on when you might try to put through a price increase?

James L. Wainscott

Well, we haven't been trying, David, in terms of price increases this year or previously. We haven't announced one recently, but those that we have announced, I would say, did have the benefit of establishing a floor for our selling prices. I think it's fair to say that pricing remains depressed and that was really behind -- a part of the rationale behind our reducing the first quarter shipments that we took out. I would say this though, that it is the season typically for pickup in pricing. Construction season frequently kicks in about now, we haven't seen it yet in any meaningful way. And I'd also offer that given where prices are, they're certainly not out of line with foreign offerings, that we would not expect to see a lot of import activity and that really, conditions remain pretty good for prices to pick up from here. Certainly, our expectation, again, without giving specific guidance, is a positive one in terms of a shipment trend. Bright spot, again, remains automotive, and it's benefiting us in a big way. So I think we're optimistic, but we have no particular announcement today.

Operator

Our next question comes from Mark Parr of KeyBanc.

Mark L. Parr - KeyBanc Capital Markets Inc., Research Division

Just -- I had a couple of things. The first is from a bookkeeping perspective. The LIFO credit that you took in the first quarter, is that a reasonable assumption here for the second quarter?

Roger K. Newport

As you know, Mark, LIFO is a kind of a moving target at all times. It fluctuates with the raw materials, but it is a fair assumption to be, at least looking forward, that what we would take is 1/4 of our forecast for the year in the first quarter. And whatever you think will be happening with raw materials, you can use for your projection.

Mark L. Parr - KeyBanc Capital Markets Inc., Research Division

Okay. I've just made the comment or asked the question based on your comment that looks like the second quarter, raw material down draft was pretty much in line with what you thought it was 90 days ago, so that's where they came from. Okay. Secondly, and Jim, I appreciate your comments on the cost position for Magnetation. I was wondering if you could update your thoughts on AK Coal. I know back in July, I think it was July, you had indicated you thought that the cost to produce a washed ton would be 20% to 30% below the spot market at that point, which I think was somewhere around $190. And that would have implied something in the $150 range for a cost to produce a washed ton of coal. Is there any update -- first of all, is that correct? And secondly, is there any update you can give us on the progress at AK Coal?

James L. Wainscott

The progress overall is outstanding. We've put together a superb team. We were just down there and they're coming along exceedingly well and just chomping at the bit to get cooking. I think we will be among the low-cost producers anywhere, period. And I don't know that I'd update our guidance at this point. We really are excited to get started and have a better feel for exactly what those costs are going to be. I think the guidance that we gave before, Al, you may be able to help me out here.

Albert E. Ferrara

Right.

James L. Wainscott

Was...

Albert E. Ferrara

Well, the guidance that we gave, Jim, is again, assuming $120 value that -- and again, giving roughly 1 million tons of production that we would get a benefit of $30 million, which would imply a cost in the $90 area for us when we're up and running on an all-in basis. And again, buttressing what you just said, that certainly makes us very, very competitive and we're very comfortable with that, given the dynamics of the mining plant that we have in place there in Somerset.

Mark L. Parr - KeyBanc Capital Markets Inc., Research Division

Okay, that's really encouraging. And just last, if I could. Any comments or thoughts that you have on the potential for some abatement of grain-oriented electrical import momentum? Anything on the horizon you can see there?

James L. Wainscott

We watch very carefully who's doing what. We don't have an announcement on that today, but we're highly sensitive to some of the actions of the foreign competitors and what they're doing. As you know, the world has added a fair amount of capacity given the challenges in Asia and Europe. They're looking for a home for it. And we're mindful that some of that has shown up on our shores.

Operator

Our next question comes from Charles Bradford of Bradford Research.

Charles A. Bradford - Bradford Research, Inc.

A big question on pricing. You've made the case over the last few years about how you were building into your contracts some kind of variability to reflect cost changes. Now I hear your competitors all saying that, oh, we're going to offer up to 6 months fixed price. The question is, are these guys suicidal?

James L. Wainscott

Well, I guess, you could draw your own conclusion with respect to that. The idea behind variable pricing was simply this: When raw materials were going up, up and away, we could not sit idly by and watch our earnings and cash flow dwindle and not get above this. So we did, really, with all of our contract customers, different forms with each depending on the nature of the relationship and so forth, but made good sense then. We also, as part of those negotiations, said, look, work with us on the upside, we'll work with you if things come back, all of which is intended to sort of protect the margin, if you will. And we've done that. I think the days of fixed contracts, to each his own. If one is seeking a certain volume commitment, and as you know, there are an awful lot of players out there with a lot more volume than we have who have to be very concerned about where that volume is going to go in this environment, perhaps they would do things that you would consider or I might consider suicidal. We will continue to again, make hopefully what are very, very good choices on behalf of our company and our shareholders when it comes to pricing deals, and they'll continue to include variable pricing mechanisms of one sort or another.

Charles A. Bradford - Bradford Research, Inc.

And next question involves the ThyssenKrupp plant in Alabama. As you, I'm sure, know better than I do, when you start up a plant like that, initially, you make commodity product. But as you get your products approved by customers, you gravitate up the scale. Are you seeing their product getting more into the automotive side of the business, which is where they should be by now?

James L. Wainscott

Yes. I think to a small extent, at this point, I would say, Chuck, I think given some of the things that are well published as far as the assets being for sale and so forth, it's really delayed any meaningful activity there, in my view. But I suppose we're within months of finding out who's going to own the facilities. We've been in sort of a watch-and-wait scenario and perhaps, we'll all find out soon. I would just be clear about one thing as it relates to TK, or maybe a couple of points. First, some 15 years ago, we started up a facility, which I think you and others had the opportunity to tour when it was brand-new, called Rockport Works. Rockport is running fantastically well. We've got an awesome team down there, a great plant manager. They're making it happen every day. And TK could only wish that 1 day, they run as well, or whoever the new owners are, as Rockport is. Rest assured that the industry leader, which is us, in product quality, delivery and customer service, looks forward to competing successfully with whoever winds up owning the TK Calvert equipment. We've developed relationships over years, over decades, in many cases, and we are not ranked #1 in overall customer satisfaction by chance. We've earned that reputation. We don't intend to give it up because the name changed on the door in Calvert. So we say bring it on, we'll compete with anybody any day. I'd be far more concerned if you were #2 or 3 or 4. But having said all that, we'll see. This is a very interesting time in our business, and we'll see how things play out.

Operator

Our final question comes from David Lipschitz of CLSA.

David A. Lipschitz - Credit Agricole Securities (USA) Inc., Research Division

Two quick questions. Do we have a CapEx guidance for the year?

Albert E. Ferrara

Yes, David. It's $150 million.

Roger K. Newport

$60 million in our capital investments and then $90 million with our 2 strategics [ph].

Albert E. Ferrara

Right. And that's broken down 70-20. $70 million to Magnetation and $20 million to coal.

David A. Lipschitz - Credit Agricole Securities (USA) Inc., Research Division

And my second question, more big picture. Obviously, auto is pretty much back to where it was. Non-res seems to be slowly picking up. How much more in the non-res or other parts do we have to get the prices back up to where, I don't know, where it used to be or where they need to be for you guys to actually make money, so to speak?

James L. Wainscott

We're knocking on the door, making money as you saw this quarter, and that's with shipments at less than 1,300,000 tons. And running our facilities in the high 70s and knocking on the door of 80%. Again, we won't seek any awards for that other than to say that, that's about where we would expect to be. I think there certainly is more volume upside, we're taking market share in automotive. There is certainly more upside in related stainless high-end products. There's a dramatic amount more upside in electrical for us. Again, I think other than sort of automotive and housing just now really coming back, the non-res has not, to any great extent, kicked in. And I don't know that I have a figure where I'd say when that's going to sort of move the needle. But look, we need, at some point, a sustained, real economic recovery. Right? And we're just simply not there yet. We're better than we were, but we're not all the way back. And I think that's still going to take a while. But in the meantime, we're not sort of resting on our laurels. We continue to do all the things you'd expect us to do, staying lean and mean, getting after it from a cost side. We've got game changers that are just around the corner in both AK Coal and Magnetation, and we have a host of other things that our management team and our board is looking at very seriously that could, again, further improve the trajectory for AK Steel. So we're excited about our momentum, happy to be where we're at, but know that we have more progress to make in the days ahead.

David A. Lipschitz - Credit Agricole Securities (USA) Inc., Research Division

Does that mean if non-res really doesn't see anything, that prices are going to stay depressed for a long time, that auto really doesn't matter that much because construction's so low?

James L. Wainscott

No, auto matters a great deal. And I think when you see the announcement that continue to happen in this country, including, I think, last Friday's announcement by Toyota, for example, that they're going to make Lexus in Kentucky, that is, again, more music to our ears. I'll be meeting with them in a couple of days to talk further about our participation in that effort. We're growing there. We're growing with everybody who's bringing product here, and America is once again, given raw materials, given energy costs, a great, great place and a wonderful workforce to make things. And when we make things in America, we win.

Well, once again, everybody, thank you very much for joining us on today's call, for your ongoing interest in AK Steel. Have a great day, a better tomorrow, and hopefully, a better quarter. Bye for now.

Operator

Ladies and gentlemen, this concludes our conference call for today. Thank you for participating. You may now disconnect at this time.

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