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Executives

Murray McClean - President and CEO

Bill Larson - CFO

Analysts

Michael Gambardella - JPMorgan

Sal Tharani - Goldman Sachs

Leo Larkin - Standard & Poor's

Timna Tanners – UBS

Chris Brown - Banc of America Merrill Lynch

Luke Folta - Longbow Research

Tim Hayes - Davenport and Company

Chuck Bradford - Affiliated Research Group

Evan Kurtz - Morgan Stanley

Sanil Daptardar - Sentinel Investments

Wayne Atwell - Casimir Capital

Bob Thompson - Advantus Capital

Commercial Metals Company (CMC) F4Q09 (Qtr End 08/31/2009) Earnings Call October 30, 2009 11:00 AM ET

Operator

Welcome and thank you for standing by for the Commercial Metals fourth quarter and year end conference call. (Operator Instructions).

I would now like to turn the meeting over to the Chairman and CEO of Commercial Metals, Mr. Murray McClean. Sir, you may begin.

Murray McClean

Good morning and welcome to our CMC’s fourth quarter fiscal 2009 conference call. With me is Bill Larson our Chief Financial Officer. I will begin the call with a reflection on our fiscal year 2009 and then provide an overview of the fourth quarter. I will then ask Bill to provide details on the fourth quarter and finally, I will comment on the outlook for our first quarter 2010.

Fiscal 2009, what a year. We were faced with the worst global recession over 30 years. Unlike previous recessions, the falloff was dramatic both in the speed and impact. We had a good month in September, 2008, followed by the markets collapsing in October and November of last year, a special mention to our people at CMC who performed tremendously under very difficult conditions during the year.

There were a few notable achievements in fiscal 2009. First of all, we were profitable for the year and in fact have been profitable for the last 32 years. We were again rated number one in safety for U.S. Minimill, the award been given to CMC steel Alabama. We have won this award every year since 2002, with some of our mills having won the award more than once. All our operations, in fact improved their safety. Recycling, rebar fab, structural joist and deck and internationally, CMC Zawiercie in Poland achieved over 1 million man hours without a loss time injury.

We continue the successful rollout of SAP. We completed CMC Steel Arizona, a world class facility for rebar production. We completed the wire rod block in and are well on the way to completing other major projects namely the New Flexible mill in Poland and the Melt Shop and the Bag House in Croatia. These projects will be completed in the first half of fiscal 2010.

Now just talking about the fourth quarter of fiscal 2009, as forecasted on our last call, seasonal factors and restocking, rather than a pick up in end use demand influenced their results, in particular here in the U.S. Ferrous scrap prices and steel prices moved up sharply in China during June and July of this year, but corrected from mid-August. Other Asian markets were influenced by China during the quarter. Ferrous scrap prices on the U.S. also jumped during the quarter with rebar and merchant bar prices increasing, but at a slower pace.

We show no evidence of significant stimulus dollars being spent on the regions in which we operate here in the U.S. Demand for rebar was relatively good in Poland, but selling prices were low impacting middle margins. All our training operations were profitable by quarter end apart from our U.S. steel trading business.

I will now ask Bill to provide details on the fourth quarter.

Bill Larson

Let me call your attention to detailed Safe Harbor statement included in our press release, and it is in our both August 31, 2008 and soon to be filed 2009 10-Ks. 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 we think will happen always happens.

In addition, we have given guidance regarding our outlook for the first quarter of fiscal 2010 in our press release subsequent to this call. We will not be under any obligation to update our outlook. In accordance with Regulation G of the Securities and Exchange Commission, you are aware of non-GAAP financial measures, some of these have derived fairly straight forward from our financial statements or in common business use can be the subject of our discussions today and in our investor visits.

But there are other items that may be outside our ability for discussion. You may need to be patient with us if we defer comment. Our website has additional information at www.cmc.com and you may also hit Murray Mcclean's Facebook page.

As Murray mentioned, fiscal 2009 was not without its achievements, but it will be difficult to look back on with any great nostalgia. As he noted, we continue with our three decades of continuous profitability. Our record is the operator of the safest steel mills in America. Our supply chain management group aggressively attacked costs and achieved tens of millions of dollars of cost savings this year and they will proceed into if future.

We successfully completed our SAP rollout and are now poised to derive the benefits process optimization. Our America's mills and fabricators had strong if not record years. Our raw materials operations had a stellar year and our Australian and Asian operations remained profitable. In guiding the company through these difficult times, our objective is to keep CMC strong and be positioned to take advantage of opportunities in the future.

But we have had to make some tough calls. Facilities have been closed, operations curtailed, expenses cut and most painfully, we have released employees. These decisions are not made lightly, and more often than not made later than they should have been as we sought every other option.

As the recession wanes we are in the portion of strength. Our earnings power now is greater than when we went into it as we have successfully commissioned our Arizona micro mill, our wire rod block in Poland, our caster in Croatia and we're nearing completion our rolling mill in Poland.

Our balance sheet is solid. We have over $400 million of cash. We're on LIFO with a reserve of $242 million against inventory. Our bad debt allowance is set at very cautionary levels. Our good will and intangible assets are less than 4% of our balance sheet. We are prepared for the future, but there has been no past success nor prospects of future success without our dedicated employees, who carry this company every day. We owe them the greatest thanks.

When you look at the detailed numbers, any way you look at it, it’s an ugly comparison between this year's fourth quarter and last year's fourth quarter. All comparisons by segment of sales versus operating profit are down. One of the bright spots of the year, we generated substantial cash flow. Cash flow from operating activities for the year generated well over $800 million. I mentioned the LIFO reserve of $242 million at August 31 that equates after taxes to $1.40 a share.

The LIFO effect interestingly for the year was just about the reverse of what happened last year. We had -- incurred expense of $1.83 per share last year, sorry, $1.78 last year, and when it reversed it was $1.83 in income. The difference essentially being the number of shares outstanding rather than the dollar amounts. In the fourth quarter, we increased net earnings $24 million or $0.21 per share due to the effect of LIFO versus last year was $91 million of expense or $0.78 a share. Depreciation and amortization including the write-off of assets at South Carolina, and Croatia based upon impairment which would otherwise have gone into DNA totaled $163 million, $147,000 during the year.

If I might speak to our income taxes for a moment, you’ve probably followed with great interest the effective tax rates for our second, third and fourth quarters. They have ranged from the unconventional. We had tax expense when we had a loss, to the extraordinary. We had tax income more than taxable income. The real answer to focus on this is the final effective tax rate for the year; it's a fairly normal 40%.

In periods of low taxable income and when the sources of that come from high tax jurisdictions, you're going to get some strange answers on an interim basis as we attempt to estimate the rate for the year. As the year unfolded we undertook opportunities to minimize our taxes world wide and I think the yearly rate is reflective of this.

SG&A is down both for the quarter and for the year. Predominantly this deals with discretionary items such as our bonus and our profit sharing. Also though during the fourth quarter the effects of programs that we have been putting into play throughout the year to minimize salary expense, professional fees, travel and entertainment also hit in the fourth quarter.

For the year though, the largest single item in SG&A that fell was bonuses. Notable items that went up, depreciation and amortization, mainly due to intangibles, but mainly the SAP rollout. And we also increased, as I mentioned earlier, our bad debt allowance. That would have been the largest item going the other way. As we sit at August 31st, we have a current ratio of 2.4. Book value per share on a LIFO basis is $13.59. During the fourth quarter we spent $80 million in capital expenditures. For the year then, we had $370 million.

For the fiscal 2010 CapEx, first look at that. The budget is $152 million. We have split this up into three areas. The first area would be those funds that are already committed, pretty much the remainder of Arizona, and the mill in Poland. That amount is about $80 million. The second area is in safety, environmental and maintenance. That totals roughly give or take about $30 million.

And the fourth which is the remainder of the 40, I will label as discretionary, or subject to delay, we are going to look at that on a pay-as-you-go basis. The year is expected to start off slow as the recession lingers, but then pick up in the second half for a numerous factors that we mentioned in the press release. And when the time comes, we will spend the other funds. So of the $152 million, roughly $100 million are expected to be spent throughout the year and the other 50, we will see as we go.

Finally, we did not repurchase any stock, during the quarter which leaves us with a remaining authorization of 8,259,647 shares. Murray?

Murray McClean

Thanks, Bill. Just the outlook for the first quarter fiscal year, 2010. Ferrous scrap prices are declining due to a slowdown in demand internationally and also, a cutback by U.S. mills as we approach the winter months. Rebar and merchant bar prices in the U.S. are likely to trend lower for similar reasons. In China, steel prices appear to have stabilized after a correction from mid-August.

Certainly on long products, within China, infantry levels of rebar and billets are relatively normal, while flat product infantries are high. We would anticipate some production cutbacks at Chinese mills leading into the winter months. Other Asian countries are basically in a wait and see mode looking for or looking to China for market direction. We would anticipate that from early calendar, 2010 and certainly after Chinese new year, China and other Asian countries, steel markets will start to grow quite strongly again.

As mentioned in our press release, we anticipate a slow down as we approach the winter months here in the U.S. We anticipate infrastructure and public work projects in the U.S. and in Poland to be relatively strong. Once the stimulus funded projects in the U.S. are awarded starting from early calendar 2010, this sector will gain further strength. Unfortunately, however, the private sector remains very weak and we see no signs of this changing any time soon.

We will now open up the conference for questions.

Unidentified Company Representative

Operator we’ll now take questions.

Question-and-Answer Section

Operator

(Operator Instructions). Our first question comes from Michael Gambardella from JPMorgan. Your line is now open.

Michael Gambardella - JPMorgan

I had two questions. One, with the Arizona micro mill, the rebar mill, do you have any licensing agreements with the equipment manufacturer that would prohibit other people from building the identical mill in the U.S.?

Murray McClean

Mike, are you still with us?

Michael Gambardella - JPMorgan

Yes.

Bill Larson

Okay. We heard it.

Murray McClean

Mike, the answer on the licensing is no, but we do have some protection in the area of where the mills are, in terms that the radius [action] from not just a mill in Arizona, but from some of our other mills, too.

Michael Gambardella - JPMorgan

But it wouldn't preclude someone from using the same technology and say, just arbitrarily saying, putting a mill in the northwest?

Murray McClean

That's correct. Yeah.

Michael Gambardella - JPMorgan

Okay. And then, okay. And then second question, on the SAP, now that it is complete, how do you measure the benefits from that? And will you be giving us an update on that?

Murray McClean

It’s measured actually in two ways. One is in terms of processing efficiency, how many people can do, how many transactions, the other, though, is going to be harder to dislodge from our supply chain, initiatives because they are using SAP as the tool that enables them to get the information to negotiate with vendors and our various operators get the information to be able to fine tune certain processes. So, the answer in terms of update is, I will be talking about supply chain benefits. In fact, I have slides on that I will present, next week. And that is how you’ll find out about the SAP benefits.

Michael Gambardella - JPMorgan

Okay and then just one last question on the Arizona mill. What do you expect on volumes rolling out for calendar 2010.

Murray McClean

Yeah, it has a nameplate capacity of 284,000 tons of rebar, we would anticipate this year, rolling and shipping 145,000 to 150,000 tons, so about half of its capacity. And it's not so much Mike that we're running at a half capacity. By the end of the year it will probably be running flat out, but we're doing trials right now.

Michael Gambardella - JPMorgan

Right.

Murray McClean

So it will start off slow and then pick up towards the second half of the year.

Bill Larson

We were out there last week. The rebar bundles from this mill are superb; they are by far the best in the industry. So, this will set a new standard in the market place in our view.

Michael Gambardella - JPMorgan

And what's the estimate on the conversion cost so for the metallic charge?

Murray McClean

I’ll have to get back with you on that. They are trailing things. I don't have real good data, because they are running, Mike, in 10 tons here and 40 tons there. And so the information we have so far is obviously the worst conversion cost known to man kind.

Michael Gambardella - JPMorgan

Right, right. But I mean in terms of what you're expecting compared to your other rebar mills?

Murray McClean

I'll get that for you.

Michael Gambardella - JPMorgan

Okay.

Murray McClean

There has been subsequent updates for that, subsequent to commissioning. Okay.

Operator

Our next question comes from Sal Tharani with Goldman Sachs. Your line is now open.

Sal Tharani - Goldman Sachs

Just wanted to get some more color on Croatia. You have a furnace which will be installed I think early next year. Are the losses primarily because of the furnace or because it is now exacerbated with the market conditions and also with Chinese now diverting their attention to that market versus shut out of the U.S. and EU. How does this look for the future of this mill?

Murray McClean

The main reason is really the market situation, Sal. You're right, the Chinese now are blocked from coming to the U.S. market and from Europe because of anti-dumping. So they are focusing on the Middle East and North Africa and dumping pipe in those markets. So those prices dropped dramatically and that’s obviously a nearby market for the Croatian mills. So that’s influenced them over the last quarter.

On a positive side, the Chinese are blocked coming here in the U.S. There is an opportunity for pipe from Croatia to come to this market and also ironically, Croatia is starting to sell little bit into the EU even though there is a 29% anti-dumping duty on Croatia into the EU, we're able to sell pipe into that market in small quantities and pay the duty. So, clearly, Croatia will join the EU within 18 months and then anti-dumping situation will go away. So, in the longer term that looks good.

In terms of the CapEx, we modified the caster earlier in the fiscal year. The furnace in the Bag House will be completed by January and that will significantly lower the conversion costs. So, that will also place us in a better position during calendar 2010.

Bill Larson

Sal, there is one other statistic, one of the reasons we're able to go into Europe, the Chinese have a 40%, anti-dumping duty, so we are the lesser of two sinners and able to jump them in Europe.

Sal Tharani - Goldman Sachs

Okay. And what will be the capacity once you are done with furnace, in terms of billets and also the finished product.

Murray McClean

Well, the furnace we will be able to make between 425,000 and 450,000 tons. They are almost bloom size, these are big billets.

Sal Tharani - Goldman Sachs

Big round billets.

Murray McClean

It’s round billets. Between the two seamless mills we have, there is a little over 100,000 in capacity between 100 to 110 thousand tons. So, clearly we're in the billet market. And, the Melt Shop when it is completed in January of course we will not be able to early on put out 450. But we do anticipate sale of fairly substantial amount, perhaps between 50,000 and 100,000 tons of billets in this fiscal year, 2010.

Sal Tharani - Goldman Sachs

Okay. And next question is on the U.S. Trading division, Dallas Trading.

Murray McClean

Yes.

Sal Tharani - Goldman Sachs

How much you still have left which you need to get rid of? Which you have been taking charges constantly. How much should we figure out for the next year?

Bill Larson

Well, Sal, that will take us in our view most of this fiscal year. Maybe by mid calendar of next year we'll get through it. It is just that there is just so much infantry of pipe, Chinese and other pipe, in the U.S. market, with the collapse of the oil and gas industry with the rig counts being half of what they were. It’s just going to take several more months to work its way through.

Murray McClean

We have taken our hits as far as lower cost or market. There is a substantial LIFO reserve against that infantry. I think little over 100,000 tons all together, plus or minus and that is not all pipe, but the pipe is the major stumbling block right now.

Operator

Our next question comes from Leo Larkin with Standard & Poor's. Your line is open.

Leo Larkin - Standard & Poor's

Could you give us guidance for interest expense and DD&A for 2010?

Bill Larson

Sure. I would look for the first quarter's interest expense to be in the neighborhood of about $19 million, plus or minus and it will probably be a little higher, maybe go to 20 or so in subsequent quarters. I would look for D&A to be in the range of about between $175 million to $180 million. I hedge a little bit because foreign exchange changes always muck me up, but that's a pretty good range.

Operator

Our next question comes from Timna Tanners with UBS.

Timna Tanners – UBS

Sorry, if I missed this. SG&A, are we supposed to assume a run rate at recent levels. I know you said there was some end of the year kind of compensation there, but the S&P -- SAP or is that going forward kind of included then in the number?

Murray McClean

It is included in the number. Overall, we would expect just on the SAP side of things that the total incurred would drop well in the 30% range. I mean, we still continue to rollout SAP to some units and we're going back to optimize its use in others. The expectation, though, is that SG&A, for fiscal ‘10 versus ‘09 will drop relatively significantly. I would assume somewhere in the range of $75 to $100 million mainly because there are a lot of charges that occurred in 2009 that are not recurring and there are initiatives that we undertook that had fourth quarter effect, but now will have full year effect in 2010.

Timna Tanners – UBS

Okay. And then did I miss 2010 tax rate guidance?

Murray McClean

No you didn’t miss it. I suspect between 38% and 40% will be the going estimate.

Timna Tanners – UBS

38% and 40%. Okay. So, [benefits] real quick. We have talked in the past about the benefits to expect from that going forward once it is fully in place, but is there anything you have further to quantify that. Maybe better working capital management, but how do we think about that in terms of quantifying it?

Murray McClean

Well, if I tell you now you don't have to come next week.

Timna Tanners – UBS

I will be there, I promise.

Murray McClean

Okay. During 2009 alone with the combination of the information that came off of SAP and its use in supply chain management, I will have a slide that will break this out in greater detail, but there was $50 million to $75 million in savings.

Timna Tanners – UBS

Broken out for your expectations for 2010?

Murray McClean

No, that was in '09.

Timna Tanners – UBS

In '09, all righty. Okay. I'll wait to hear what you have to say on Monday. But it sounds like something similar, but escalating in terms of go-forward benefit.

Murray McClean

Yes, but the areas will change obviously. I mean, they direct their attention to various areas, but yes.

Operator

Our next question comes from Chris Brown with Banc of America Merrill Lynch.

Chris Brown - Banc of America Merrill Lynch

Can you give us some additional color on fabrication back logs and the outlook from next year? How much can volumes drop, given where back logs are currently trending?

Murray McClean

Well, back logs are still declining. It depends on which area. Some areas like the highway work in Texas, you will get 12 months backlog and that’s likely to improve in calendar 2010. Other areas, there is no doubt, this next quarter and the winter quarter again will be tough, but there is some hope at the end of the tunnel. We are seeing some major projects in markets that have been very weak like Florida, are likely to come through, early calendar 2010.

There is bidding activity on a couple of nuclear plants coming through, so some very large projects coming through. And obviously the stimulus dollars which we've hardly seen anything of that will definitely start plowing through in 2010. So, the backlog should start to improve. I would say, in the next four or five months, the main problem is pricing. The pricing of these new jobs are low and that puts obviously a margin squeeze on, so, we see that situation, being here for the next two or three quarters at least.

Chris Brown - Banc of America Merrill Lynch

Okay. And then secondly when you look at metal margins in rebar, it has been trending at about $3 to $400 per ton since 2004. Given your views on construction, do you see that metal margin declining over the next few quarters or a couple years or do you see it sort of staying flat?

Bill Larson

Well, what we think it is going to decline further.

Chris Brown - Banc of America Merrill Lynch

All right.

Murray McClean

There is no doubt. Setting aside just the regular spread between bid prices and the price of finished steel, what you have is rather fierce competition, there are a lot of desperate fabricators out there, Chris and they are biding jobs at desperately low prices. So, I would say that until that shakeout occurs you are going to see squeezed margins.

Operator

Our next question comes from Luke Folta with Longbow Research. Your line is open.

Luke Folta - Longbow Research

Firstly on your utilization guidance for the mill segment, what are using as your total capacity number for the first quarter?

Bill Larson

Well, in the United States, in fact, you will see this, just as reference, there is up on the website an overview slide, Luke that has all of the tonnages in it. But in the United States, we're not counting Arizona in that because obviously it’s just in the ramp up, but essentially plus or minus, about 2.5 million would be nameplate.

Luke Folta - Longbow Research

Okay. And, just kind of refer back to Chris' question, with this sort of utilization and metal margins under pressure, do you think you're going to be profitable next quarter in the mill business?

Murray McClean

The mill business should be profitable. We're talking about the year or the quarter?

Luke Folta - Longbow Research

I guess I was referring to the quarter, but if you like to give guidance on the year that would be great, too.

Murray McClean

Well, I think the mills will be profitable for the quarter. We normally don't give out the year, but we did indicate that we anticipate a weak first half of our fiscal year and picking up strength in the second half and we firmly believe that to be true.

Luke Folta - Longbow Research

Okay, and then just on the recycling business, you've guided up there. Just curious on what might be driving your optimism that results are going to improve significantly quarter-over-quarter?

Murray McClean

Well, September was profitable for us and we think we're going to have costs in line now, clearly recycling, like on the ferrous side the prices are dropping. We think that will drop through November, but then start to pick up in December and certainly early next year again. The reason for that is that flow starts slow over the winter months and then the mills with the seasonal factor coming into spring, their requirements start to pick up, December, January, period and also internationally, China and the Asian markets have been relatively quiet in recent weeks. The [turfs] have grown little bit, but we think the Asian markets will come back quite strongly in December-January period so, looking at, we think recycling should be okay.

Operator

Our next question comes from Tim Hayes with Davenport and Company. Your line is now open.

Tim Hayes - Davenport and Company

A question on the micro mill, will that supply all or some of your rebar needs on the West Coast or will you be not long on the rebar side there once that’s fully ramped up?

Bill Larson

It's anticipated that 60% of what Arizona will roll in 2010 will go to our sister fabricators. We could send it all, but there still is an advantage. We do have a large rebar fabricator that, not figuratively, literally shares a fence line with TAMCO. And the freight charges are essentially what it takes to throw it over the fence. So, we could utilize all of it but there is an economics in still using a few other suppliers.

Murray McClean

Also, the mill doesn't produce 90-foot length and there is a market, particularly in California, for 90-foot length rebar so that we'd need to buy in for our fabricators.

Tim Hayes - Davenport and Company

Okay. And then with the other mill in Arizona restarting, any concerns about over supply there with the new capacity?

Murray McClean

Well, our understanding there is that mill is going to be commissioned and basically idle until the market comes, back but certainly there could be overcapacity if that mill was operated at full capacity. Bear in mind, our understanding is, it is basically a rolling mill. Billets will have to be tracked or railed into that mill and then rolled into rebar. So competitively there is a cost obviously to that. But we think the markets will definitely recover in that part of the world and we're only concerned about ourselves with our capacity. We think that the market is big enough for others.

Operator

Our next question comes from Chuck Bradford with Affiliated Research Group. Your line is open.

Chuck Bradford - Affiliated Research Group

Could you talk a bit more about the fabricating side of the business? Is there any signs of life in joist or what have you?

Murray McClean

In joist?

Chuck Bradford - Affiliated Research Group

With joist and other fabricated products?

Bill Larson

I would say joist, it has a pulse but that would be about it. You've seen the stats, Chuck. The entire industry in the United States might ship out 550,000 tons this year, when you have a high watermark of more like, what, 1.4 or 1.5 a few years back. So that's clearly tied to larger commercial projects which just are not going right now. In terms of signs of life, clearly infrastructure, where we're very strong in the Texas and the Southwest markets is a great market for us and we continue to dominate in the areas where we do have our mills so there is I have very good work there.

Murray McClean

We're seeing some signs, Chuck. I mentioned Florida in the East. Some markets there. We're seeing some signs that some of the fab shops are starting to fill up and certainly they will early next calendar year. Once that happens, obviously then I can command higher prices. But at the moment there is just a lot of competition for the jobs that are out there. So, the next few months, next three or four months are going to be tough. That's for sure.

Chuck Bradford - Affiliated Research Group

I understand the price of needle coke for next year has moved up quite a bit. What are you hearing from the graphite electrode manufacturers as far as pricing for 2010?

Bill Larson

Yes. Anticipating you would ask me that Chuck, the most recent response I got and this was within the last couple of days is, we are currently in negotiations to set that price. I would tell you that in calendar 2009 we will probably end up purchasing only about 20% of what our anticipated spend was going to be as we started the year. For a couple reasons, one, knowing that prices were going to go up we laid in a lot of electrodes in the end of 2008 and obviously not running the Melt Shops anywhere near capacity throughout 2009, we didn't need the electrodes. So the pricing for the few electrodes we will buy during 2009 is, it’s kind of spotty in terms of putting any trend to it. I can tell you that the negotiations are ongoing and I just don't have a price for you right now.

Chuck Bradford - Affiliated Research Group

Does it make any sense to pre-buy some of next year's electrodes before the price goes up? Same as you did a year-ago?

Bill Larson

It is an interesting question from this dynamic standpoint, the question of contractual prices for 2009 versus spot prices. It's not an obvious answer, Chuck.

Chuck Bradford - Affiliated Research Group

Okay. What also are you seeing on the refractory side? With aluminum prices picking up a bit I assume that alumina has picked up and I think most of your refractories are alumina based. Are you seeing better pricing or is that still a pretty weak business?

Bill Larson

Yes, still relatively weak, Chuck. And then obviously that depends on the steel mills and foundries. While their utilization rates have increased, but when you're running your furnaces at lower utilization rates you're not getting the same wear and tear at high utilization rates. So yeah, assuming that the capacities keep it 70% and higher after the winter months, you would expect refractory prices maybe increase at sometime in 2010.

Operator

Our next question comes from Evan Kurtz with Morgan Stanley. Your line is open.

Evan Kurtz - Morgan Stanley

Just a couple of questions here's. One, on OCTG, you mentioned you had a lot of OCTG sitting around some of your import yards. There is some chatter that we have seen recently in the trade presses about how some distributers here in the U.S. instead of paying the cost to refurbish some of this older carbon OCTG, they've been actually selling it as piling. Just trying to get a sense of how widespread this dynamic is and could it actually have any impact on lowering inventories a little bit faster than we might think?

Murray McClean

I haven't heard that one, but we can check that out.

Evan Kurtz - Morgan Stanley

Okay.

Bill Larson

We certainly have not sold any of ours as pilings so we'll have to look at it.

Evan Kurtz - Morgan Stanley

All right. Well, doesn't it sound too widespread then?

Murray McClean

Well it’s not, we had -- there is line pipe and other types of pipe as well in infantry.

Evan Kurtz - Morgan Stanley

All right and moving on, next question I had on your recycling business. So it seems like volumes and prices were up a pretty good amount this quarter. LIFO was maybe about a $10 million drag quarter-on-quarter. So I'm guessing that the decline in operating profit is mostly due to higher scrap acquisition costs and tighter metal margins. Just hoping that you can comment on that dynamic and where do you see that the spread going over the next few quarters and what are really the supply demand factors out there on the scrap acquisition part of the equation.

Murray McClean

Well, In terms of the cost structure, you're right about the LIFO expenses when the scrap prices increase, but we also, we're still reducing costs in that segment and so it was significant cost that impacted on the operating profit. In terms of looking ahead for recycling, a lot depends on the international markets. As I mentioned earlier, we think they will pick up, early next calendar year and then you’ll obviously get better margins. We think certainly, on the mini mill side and long product side with public infrastructure work picking up, if mills go back to 70% plus, sometime the first half of calendar 2010, obviously there’ll be greater demand for our products like shredded scrap.

So margins could improve there as well. So, we are quietly optimistic that recycling 2010, our fiscal 2010 certainly, will be better than the last six months. You have to discount the first six months of fiscal 2009 where we were devastated by the rapid collapse of markets we had high infantries and high costs, quite frankly and we worked our way through that so. As I mentioned early, we were quietly confident that recycling will be a good profitable business this fiscal year.

Evan Kurtz - Morgan Stanley

Okay. Specifically on the generation side, do you foresee or have you seen many issues recently with the availability of scrap purchase?

Murray McClean

Mainly obsolete has being okay. I mean, obviously the higher the price for ferrous scrap the more flow there is. The main area is in industrial, our manufactured generated scrap obviously with the downturn across the U.S. with the recession, the flows were impacted there.

Operator

Our next question comes from Sanil Daptardar with Sentinel Investments. Your line is open.

Sanil Daptardar - Sentinel Investments

Thanks. Have you seen any improvement in the credit flow-through to your stockiest distributers?

Bill Larson

No.

Sanil Daptardar - Sentinel Investments

So, they are just buying on catch so just in time buying business.

Bill Larson

Yes, and we also see that in terms of the limits that the credit insurers are allowing our customer base. They are not freeing up.

Sanil Daptardar - Sentinel Investments

Okay. Is it possible that you (inaudible) for LIFO income expense in 2010 given that your walk through.

Bill Larson

Sanil, you know how good I am at this.

Sanil Daptardar - Sentinel Investments

Absolutely.

Bill Larson

Yes. No, I have embarrassed myself enough.

Sanil Daptardar - Sentinel Investments

Okay. The other question on Chinese start, I think Murray talked about, the winter months basically might be little bit difficult, but you expect recovery in the steel markets after Chinese New Year. But, do you think that the recovery in the Chinese steel markets would be delayed by the stimulus program that China has in place or is it like you see that kind of restraint may not continue after New Year, the kind of strength we have seen in 2009?

Murray McClean

Yeah, clearly China has had outstanding success with their stimulus package, a complete contrast with the failure here in the U.S. in our view. But yeah, we think the Chinese government will start to pull back during 2010. But their main objective will be to reach a GDP growth rate next year of, we think it could be 9% to 10% and clearly the private sector and other sectors and their economy will take over from the government.

The government stimulus package will still be very significant into next year, and will linger in, we would think into 2011 even. They will clearly watch inflation and other factors and as they feel the economy is over heating at some stage it seems incredible that we’re talking about an economy that's overheating, but then they may pull back and then they will look at other things, obviously interest rates and may even eventually obviously look at their currency, that we think China is going to be very strong in 2010 and particularly on long products and demand for scrap and iron ore is still going to be strong.

Sanil Daptardar - Sentinel Investments

Okay. Just one last question on the commentary that you have in the press release about the Croatia and the Poland side. You were impacted by the cheaper imports in those countries in the neighboring areas. Do you think that might still continue into 2010 and the margins maybe, continued to be impacted for some time to come?

Murray McClean

We think so, we think we're optimistic that we can sell some more pipe here in the U.S. because, even though there is a lot of infantry on the ground, a lot of customers here, one long term relationships with overseas mills and the Chinese are completely out. We're optimistic we wouldn't have to sell much in the U.S. market maybe three or 4,000-tons a month which a would make a difference. As I said, we're making some headway into the EU now. But we would expect the Chinese competition to hang around.

Operator

Our next question comes from Wayne Atwell with Casimir Capital. Your line is now open.

Wayne Atwell - Casimir Capital

Could you share your thoughts on M&A, a lot of your projects seem to be close to getting over the goal line, Arizona, Croatia, SAP. You have $400 million in cash, you do have a lot of debt, but what can we expect you have a lot of projects that you have been working on and now you are going to have a lot of time on your hands. So, what should we look at?

Murray McClean

Well, we’ll play it safe, Wayne, in the short-term. I mean we want to protect our company number one and as we mentioned in the press release we are facing a couple of tough quarters so I don't think you will see much in the way of M&A activity at least for next one or two quarters, we're doing our homework, at the same time, preparing for the futures so when the time is right, and when we think the asset valuations are right, we will be back on the market.

Operator

(Operator Instructions). Our next question comes from Bob Thompson with Advantus Capital. Your line is open

Bob Thompson - Advantus Capital

I had a lot of questions, most of mine have been answered. Have you spoken with the rating agencies at all in terms of keeping your ratings at mid BBB?

Bill Larson

We meet with them next week.

Bob Thompson - Advantus Capital

Okay. Have they given you any forward thoughts on leverage levels and different things or….

Murray McClean

No

Bob Thompson - Advantus Capital

Okay.

Bill Larson

I can’t tell you tell that ahead of them bidding. They're listening to this call. Bob, please.

Bob Thompson - Advantus Capital

On your plant utilization rates, I missed, what is the average rate now?

Bill Larson

We were in the upper 60's for the fourth quarter and we anticipate, mainly due to seasonal downturn, not because the demand has particularly shrunk, because it always shrinks. Always we head into late fall, to be in the low 60s, the low-to-mid 60's.

Bob Thompson - Advantus Capital

60's great.

Operator

Our next question is from Nick (inaudible) with Citadel. Your line is open.

Unidentified Analyst

So, most of my questions have been answered but just a few quick ones. Maybe you can give a little bit more color on the fabrication backlog replacement rates?

Murray McClean

As I mentioned, it depends what area and we tend to look at the back log in terms of months. So in the weaker areas the back logs on rebar fabrication has been reducing and we think this will continue, to probably around January of next year and then start to pick back up again. The highway back log has remained very steady and that will actually we believe will also get stronger early next calendar year (Inaudible).

Bill Larson

No, I think area by area, the backlogs are a little bit lower to about stable but the pricing is a lot lower.

Unidentified Analyst

Right. Is there a sense of backlog replacement on a dollar basis?

Bill Larson

That is clearly down, [isn't it]?

Murray McClean

Yeah that is down. Some jobs are at cost or even under cost. So, you are going to make the margin at the mill and that’s the beauty of that being vertically integrated. But if you look at our fabrications operations in Poland they got about eight months of backlog there which is pretty good. If you look at, joist is four months, but they are at very low operating levels, decks about five months, structurals about five months, rebar fab rolls about six to seven months backlog that’s on average overall. So, it's enough to get through the winter, but you also want to be booking business during this period. So, so it is important in the next one or two quarters that some of these projects are awarded.

Unidentified Analyst

Right and then on the recycling side, so, you said scrap prices are softening and as far as for scrap flows and the cost of unprocessed scrap, maybe a little bit of comment on that and what effect you see that having on scrap spreads?

Bill Larson

I think the spreads will definitely come in the short run and then we expected as demand picks up, as Murray mentioned, once the year turns over that things will pick up, but it is pretty competitive out there right now.

Unidentified Analyst

Right. Okay and then just last question on the International Mills. Just wondering what you're seeing now on our rebar pricing and wire rod pricing and on the cost side, if scrap pricing is coming in the European mills.

Murray McClean

Well, we have to say the fourth quarter in Poland, the volumes were quite good for rebar, but their prices were lousy. They started to move up a bit in August-September period but they now are starting to decline again in this quarter. So you're heading towards the winter. So they haven't been good, that's for rebar. Wire rod not so bad and we're optimistic particularly with the Morgan wire rod block mill, with higher quality wire rod products, we get better margins of the wire rod products in general improving, but we probably won't see evidence of that for the next one to two quarters.

The wire rod, certainly we'd be more optimistic about, but rebar into 2010, calendar year in Poland should be quite good. Certainly the volumes would be good. The infrastructure work there is very significant. They've got a positive GDP. Residential is very weak in Poland and maybe that will come back next year, but the infrastructure and the public sector work and the building for the stadiums et cetera, for 2012, that’s starting to happen and will accelerate next year. So, hopefully volumes for rebar in Poland will remain good, but the prices hopefully will move up and then the margins.

Bill Larson

Right now if you take shredded scrap as your benchmark across the world, pricing is fairly consistent. It's probably in the $235 range a gross ton.

Unidentified Analyst

So are you seeing at least scrap prices weakening in Poland, near your mills?

Murray McClean

They have and they’ll probably weaken even into November. Then by December they will start to actually increase because the flow, and Poland gets a lot of snow obviously and really impacts collections. So scrap prices will start to move up, we would think in December, in Poland.

Operator

And I am showing no further questions. I'd like to now turn the meeting back over to Mr. Murray McClean for closing remarks.

Murray McClean

Okay. Well, next week, Bill and I will be on investor visits and we look forward to answering further questions at that time. So, I just like to thank you for your attendance and your interest in CMC.

Operator

This concludes conference call. You may disconnect at this time.

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Source: Commercial Metals Company F4Q09 (Qtr End 08/31/2009) Earnings Call Transcript
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