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Calgon Carbon Corporation (NYSE:CCC)

Q3 2013 Earnings Call

November 5, 2013 10:30 AM ET

Executives

Gail Gerono – VP, IR and Corporate Communications

Randy Dearth – President and CEO

Steve Schott – SVP and CFO

Rob O’Brien – EVP and COO

Analysts

Dan Mannes – Avondale

Jinming Liu – Ardour Capital

Steve Schwartz – First Analysis

Christopher Butler – Sidoti & Company

Operator

Good morning, my name is Brandy and I’ll be your conference operator today. At this time I would like to welcome everyone to the Calgon Carbon Corporation’s Third Quarter, 2013 Results Conference Call. All lines have been place on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session. (Operator Instructions)

Thank you Miss Gail Gerono, you may begin your conference.

Gail Gerono

Thanks very much. Good morning and thank you for joining us. Our speakers today are Randy Dearth, Calgon Carbon’s CEO; Bob O’Brien, our Chief Operating Officer; and Steve Schott, our CFO.

The presentations will follow our standard format, opening remarks from Randy review the third quarter financials by Steve. And operations report from Bob, then Q&A. Today’s presentations will be brief, there will be an in-depth discussion during our webcast on Thursday November 7th in conjunction with our 2013 Analyst Day. The webcast will begin at 10:00 am Eastern Standard Time. You can access the link to the webcast on the For Investors section of our website www.calgoncarbon.com.

Before we begin the formal presentations I would like to remind you that the Private Securities Litigation Reform Act of 1995 provides a Safe Harbor for forward-looking statements. Today’s presentations or perhaps some of the comments that Calgon Carbon’s executives make during the Q&A may contain statements that are forward-looking.

Forward-looking statements typically contain words such as expect, believe, estimate, anticipate, or similar words indicating that future outcomes are uncertain. Statements looking forward in time including statements regarding future growth and profitability, price increases, cost savings, product lines, enhanced competitive posture and acquisitions are included in the company’s most recent Annual Report pursuant to the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995.

They involve known and unknown risks and uncertainties that may cause the company’s actual results in future periods to be materially different from any future performance suggested during this webcast. Further, the company operates in an industry sector where securities values may be volatile and may be influenced by economic and other factors beyond the company’s control.

Some of the factors that could affect future performance of the company or changes in or delays in the implementation of regulations that cause the market for our products, acquisitions, higher energy and raw materials costs, costs of imports and related tariffs, labor relations, capital and environmental requirements, changes in foreign currency exchange rates, borrowing restrictions, validity of patents and other intellectual property, and pension costs.

In the context of the forward-looking information provided in this call and webcast, please refer to the discussions of risks and other information detailed in, as well as the other information contained in the company’s most recent Annual Report. Randy?

Randy Dearth

Thanks, Gail and welcome everybody. As Gail said, today we will be focusing on our third quarter earnings. So we will limit our remarks to that subject. We look forward to seeing many of you later this week here in Phoenix where we’ll have the opportunity to discuss a range of topics in connection with value creation to Calgon Carbon. With that said let’s talk about Q3, Calgon Carbon had another very solid quarter. And I’m pleased our performance as with the first two quarters of 2013, our cost improvement and price increase programs contributed to our success.

Since initiating our restructured initiatives that began about a year ago, we have significantly improved the financial profile of the company. Later on the call we’ll provide some insight regarding those initiatives. The first, Steve will discuss the financials, followed by Bob with comments on operations. Steve?

Steve Schott

Thanks, Randy and good morning everyone. Total sales for the third quarter of 2013 were $139.4 million versus $135.5 million in the third quarter of 2012, an increase of $3.9 million or 2.9%. Currency translation had a negative impact of $3.8 million on the Activated Carbon and Service sales for the third quarter of 2013 due to the weaker yen.

Regarding our segments, sales in the Activated Carbon and Service segment increased $8.1 million or 7% for the third quarter of 2013 compared to 2012’s third quarter. The increase was primarily due to higher demand for activated carbon products and services in the environmental water treatment, food, and specialty carbon markets. Sales in our environmental air, flue gas sub segment were equal year-over-year.

Currency translation had a negative impact of $3.8 million on sales for the third quarter of 2013, again, due to the weaker yen. Equipment sales declined $4.8 million or 26.3% for the third quarter of 2013 compared to 2012’s third quarter. This was due to lower revenues for ballast water treatment systems which declined by $4.2 million.

Sales for the Consumer segment increased approximately $600,000 or 28.3% for the third quarter of 2013 compared to 2012’s third quarter. The higher sales were due to increased demand for activated carbon cloth.

Consolidated gross profit before depreciation and amortization as a percent of net sales was 33.3% in the third quarter of 2013 compared to 27.3% in the third quarter of 2012, an increase of 6 percentage points. The increase was in the Activated Carbon and Service segment due to improved plant performance and ongoing cost improvement initiatives. The 2012 quarter and year-to-date periods included $2.5 million of cost related to the Pearl River facility as well as a $1.7 million write up of obsolete inventory.

Depreciation and amortization expense was $7.3 million in the third quarter of 2013 compared to $6.8 million in the third quarter of 2012. The increase was due to increased depreciation related to the company’s new Gila Bend, Arizona facility that was placed in to service in the second quarter of 2013 as well as for capital improvements at the company’s Pearl River facility that were completed in 2012.

Selling, administrative and research expenses were $21.0 million during the third quarter of 2013 versus $25.8 million in 2012, a decrease of $4.8 million or 18.6%. The decrease was due to lower employee-related expenses due in part to the company’s cost reduction initiatives. Selling, administrative and research expenses for the third quarter of 2012 included $3.4 million of employee-related charges, excluding the impact of these 2012 charges, selling, administrative and research expenses as a percentage of sales improved to 15.1% in 2013 compared to 16.5% for the third quarter of 2012.

The third quarter of 2012 also included $8.0 million of restructuring charges which were all within the Activated Carbon and Service segment. The third quarter of 2013 included $266,000 of expense related primarily to the settlement of an on-going environmental dispute at our Big Sandy plant. Randy will address this later in the call.

The income tax rate for the third quarter of 2013 was 31.5% and reflects benefits from favorable return to accrual adjustments as well as a release of certain uncertain tax position liabilities. The company’s full year 2013 tax rate is estimated to be between 34% and 35%. In summary, our net income for the third quarter was $11.9 million or $0.22 per diluted share versus a net loss of $4.5 million or $0.08 per diluted share in 2012.

Turning again to the company’s business segments, the Activated Carbon and Service segment recognized $25 million in operating income before depreciation and amortization and restructuring in the third quarter of 2013 compared to $9.9 million in the third quarter of 2012. The increase was due to our 2013 price increase and benefits from our cost improvement programs.

As I mentioned earlier, the 2012 period had several charges in the Carbon and Service segment that did not recur in 2013. The Equipment segment recognized $600,000 in operating loss before depreciation and amortization in the third quarter of 2013 compared to $700,000 of operating income in the third quarter of 2012. The decline was primarily due to lower volume for ballast water treatment systems. Backlog for the Equipment segment was $22.0 million as of September 30th, 2013.

The Consumer segment recognized $800,000 in operating income before depreciation and amortization in the third quarter of 2013 compared to $500,000 in the third quarter of 2012.

Regarding our balance sheet, cash increased during the first nine months of 2013 and at September 30th, we have approximately $30 million of cash. Receivables were $105 million for the third quarter of 2013, which was $3.3 million higher than year end 2012 reflecting strong September sales.

Inventories were $107.8 million for the third quarter of 2013, which are only $600,000 higher than year end 2012 despite our decision to increase our higher quality coal raw material inventory that has increased by $6.2 million since year end.

As of September 30th 2013 the company had total debt outstanding of $48.6 million which represents a decrease of approximately $15 million from year end and that relates primarily to repayments for borrowings at Calgon Carbon Japan and those under our US revolving credit facility.

Cash flow from operations was $21.3 million for the third quarter of 2013 compared to operating cash flow of $18.6 million in 2012, an increase of $2.7 million. Capital expenditures totaled approximately $6 million for the third quarter of 2013 and our estimated spending on capital for the full year 2013 is currently $30 million to $35 million.

Gail Gerono

Thanks Steve. Bob’s up next. Bob?

Rob O’Brien

Okay, Gail. Once again our carbon manufacturing facilities trended well during this quarter. We continue to realize benefits from the upgrades that we made at our Pearl River, Mississippi plant last year. Both of our activated carbon production facilities ran at full capacity in the third quarter.

With respect to our price increase and activated carbon and reactive products as I reported on the last quarter’s call, we expect to realize our $10 million target for 2013. Next I’ll touch on emerging markets. I will cover this topic in more depth on Thursday’s webcast.

Let’s begin with disinfection byproducts. In prior calls we were in negotiations for a ten-year contract with the city of City of Glendale, Arizona to provide reactivation services for carbon used to treat the city’s drinking water. This contract has now been signed and the terms are identical to the contracts with Phoenix and Scottsdale. The reactivation of the carbon is being performed at our Gila Bend facility. The value of the contract will depend on the amount of spent activated carbon that is reactivated annually which is expected to be 1.3 million pounds.

Calgon Carbon supplied the initial virgin carbon to Glendale and we have been reactivating their carbon under a former agreement since 2008. In fact they were our first portable water custom reactivation customer in the United States.

In the third quarter of 2013 we are also awarded two contracts for equipment valued at $1.5 million and three customers who are using granular activated carbon to be in compliance with the disinfection byproduct rules converted to custom reactivation.

Next, mercury removal from electric generating units. We saw an uptick in activity in this market in the third quarter. Bid activity is slowly increasing and we expect the peak bidding to occur in the first and second quarters of 2014. Our strategy is to promote the performance and cost benefits of our advanced FLUEPAC products which are clearly demonstrated when trials are run at current and prospective customers’ electric generating units.

Year-to-date 12 trials have been conducted using our FLUEPAC products and at least five more are planned before the end of the year. A number of trials are also pending for 2014. In total we have participated in 22 full scale trials.

In addition to conducting trials on our products which are currently available in the marketplace, we have an on-going program to improve those products. As part of that program our R&D team conducted a wide range of additional tests during the third quarter at an electric generating power research facility.

The third emerging market is ballast water treatment. We received orders for 19 ballast water treatment systems in Q3. Most of the orders were for service vessels and other small ships. Inquiries for retrofits continue to increase relative to new builds during the quarter. Number of RFQ’s that includes specific dry dock dates has also increased reflecting increasing acknowledgement of the US Coast Guard’s compliance schedule which begins in 2014.

19 companies have been awarded AMS Certification by the US Coast Guard seven of these including Hyde Marine provide US UV based systems. To our participation in the US Coast Guard’s environmental technical verification panel progress has been made in the development of a certification test protocol that were actively, accurately reflect performance of UV, UV based ballast water treatment systems. UV combined with filtration continues to be the technology of choice in the marketplace.

Also during the quarter we formed a partnership Cammell Laird the largest shipyard in the UK for installation of our Hyde GUARDIAN systems in a wide variety of vessel types. As I mentioned much more detail about these markets would be provided on our Investor Day this Thursday.

Gail Gerono

Thank you very much. Steve?

Steve Schott

Regarding our fourth quarter first sales. We expect our fourth quarter sales to be better than our first quarter of 2013 but slightly lower sequentially. Contributing to the small sequential decline our Calgon Carbon Japan sales as some of their expected fourth quarter sales were accelerated into earlier periods this year.

Margins, we expect our gross profit before depreciation and amortization as a percent of sales to also decline slightly sequentially. Our expected lower sequential sales and costs related to our improvement initiatives should negatively impact this metric.

Operating expenses, we expect our operating expenses to be higher sequentially and estimate they may approach 16% of sales. There will be higher spending on corporate initiatives and our cost improvement programs during the fourth quarter.

Gail Gerono

Thanks, Steve. Randy’s up next.

Randy Dearth

Thanks. Well first I would like to bring you up-to-date on a few developments. On September 30th we completed our $50 million accelerated share repurchase program. The final number of shares we purchased under the program was 2,935,668 and our outstanding share count has been reduced accordingly. As you may recall our board authorized share repurchases up to a $100 million and we will continue to evaluate share repurchase programs as a way to return value to shareholders.

In another development Calgon Carbon with Department of Justice reached a settlement related to the 2005 inspection of our Big Sandy plant. As a result of that inspection the EPA sited violations of Black Rock and a clean water act related to waste management. A way of background the government was initially seeking a $13 million civil penalty and the closing of our storage lagoons at the plant. This would have cost us an additional $10 million.

The signed consent decree calls for the following. First, we have agreed to pay a settlement of $1.6 million. We make no admission of any violations of any law or any regulation. Our onsite storage lagoons will not be deemed hazardous in the material lagoons maybe handle of the solid waste. No capital expenditures related to the lagoons will be required. We have agreed to conduct limited testing on certain sediments in groundwater.

The consent decree was filed with the court on October 28th, the Department of Justice will publish the consent decree on its website. There will be a 30 day public comment period and after 30 days EPA will respond to public comments. And last, the court would enter the consent decree as a binding court order.

We have made significant improvements to both our environmental staff and process since the 2005 inspection. EPA in Kentucky conducted a comprehensive inspection in 2010 and found no continued violations. This is a very good result for us and we’re happy with the outcome. Having concluded our remarks on the third quarter, let me give you an overview of what to expect at Thursday’s Investor Day.

First you will have the opportunity to learn more about our markets both our traditional businesses as well as much more detail around our three emerging markets. We will also provide more detail on our cost improvement program and other initiatives. If you can’t join us either in person or via the webcast look for the presentation on the Investor page of our website. It should be a great day and I look forward sharing our story. So that concludes our presentation and we will now take your questions.

Again given Thursday’s full agenda I would ask you to focus your questions on the third quarter call. Gail?

Question-and-Answer Session

Operator

As a reminder connecting audio questions. (Operator Instructions) Your first question comes from the line of Dan Mannes of Avondale.

Dan Mannes – Avondale

Thanks, good morning everyone.

Randy Dearth

Good morning Dan.

Steve Schott

Good morning Dan.

Dan Mannes – Avondale

A couple of quick follow-ups first and just to clarify Steve your comments were you indicating that the gross margin for the fourth quarter were actually going to be, were actually going to be a little bit lower than the third I was just trying to understand the way you stated that – little bit of more degradation.

Steve Schott

Yeah. There would be a slight but we expect a slight decline in our gross margins for two reasons one of course we forecast this slightly lower sales and then second as we work on our cost improvement initiatives there are costs we’re incurring related to them. And we expect that will also burden the fourth quarter a little bit.

Dan Mannes – Avondale

Sure. And then second and this may be answered more fully on Thursday but the piece on ballast water, it’s kind of like a lot of small orders during the third quarter, any feedback on that as it relates to maybe some, some changes on the international front in terms of maybe a longer schedule for iron ore [ph] compliance potentially?

Rob O’Brien

Dan this is Bob. Certainly the market is being impacted by the IMO pending ratification and as you know its continued to drag. And our current estimate now we don’t expect approval of that or ratification until mid-2014 and then after that’s ratified there’s still a year until ships, owners require to actually comply with the regulation so that is being a drag on the market. We continue to see new ship building being slow and we’re just starting to see the impact of the Coast Guard regulations in the US as such we don’t really see the ballast water opportunity for us now really beginning to pick up speed until late in 2014 and then into 2015.

Randy Dearth

Dan this is Randy we have John Platz on the agenda for Thursday so you’ll get to see a presentation from John, John’s our Head of the UV Division and he’ll provide a lot more insight into this market.

Dan Mannes – Avondale

I figure that was the case Cammell’s going to hold off on the mercury question for Thursday too. My only other question was since you mentioned completion of the ASR and again this may be premature as well, you’ve obviously had a large investor come out saying you probably should do $150 million, $200 million of buybacks. Can you maybe address what some of your thoughts are as you look at little forward in terms of being able to do some more on the buyback front. And then maybe any constraints you feel in terms of our target capital structure or again am I kind of going towards what you’re looking at for Thursday.

Randy Dearth

We are going to address Thursday our case for value creation so that it really would the appropriate time to do so but that being said and I have said this on previous calls, I value when I get the input from shareholders and ideas, we take the ideas back we beat them amongst the management team, we take some of these to the board and discuss them. So I think that’s an important part of the process and we value that and like you said Thursday we’ll present our case and we’ll address some of those concerns.

Dan Mannes – Avondale

Thanks, much I appreciate it.

Operator

(Operator Instructions) Your next question comes from the line of Jinming Liu of Ardour Capital.

Jinming Liu – Ardour Capital

Good morning. Thanks for taking my question.

Steve Schott

Good morning.

Rob O’Brien

Good morning.

Gail Gerono

Good morning.

Jinming Liu – Ardour Capital

Recently there is acquisition of one of the coconut active carbon producer. I understand you export a lot of imports a lot of coconut carbon into the country. Is there any impact on your business or in terms of that acquisition?

Rob O’Brien

This is Bob we don’t really see any, certainly immediate impact to our business we’re a large distributor of coconut carbon on a global basis not only the US. And certainly it’s a market where we face competition and we do relatively well there. So we don’t really see any immediate impact of that purchase.

Jinming Liu – Ardour Capital

Okay just related to the – your resale business how much was the resale percentage of the resale in your total sales in third quarter?

Steve Schott

I don’t think we normally report that.

Rob O’Brien

No we don’t that’s, that’s not a number that we give out.

Jinming Liu – Ardour Capital

Okay, got that. Thanks a lot.

Rob O’Brien

You’re welcome.

Operator

Your next question comes from the line of Steve Schwartz with First Analysis.

Steve Schwartz – First Analysis

Hi good morning everyone.

Steve Schott

Morning Steve.

Rob O’Brien

Good morning.

Steve Schwartz – First Analysis

I think you mentioned in your prepared remarks there was an improvement in food carbon and we’ve heard for so long that, that market was declining for you. Can you talk a little bit about what’s behind that?

Rob O’Brien

This is Bob. Food, it’s, our improvement quarter-to-quarter included in the sweetener market which we marked as both cane sugar and corn sweeteners. And that could be affected by whether a new fill is taking place. So there are some ups and downs in that market and I think what we are basically seeing there is there were some initial fills with new plants going online that helped increase our sales.

Steve Schwartz – First Analysis

New plant, okay it sounds good, Bob. Alright that’s it for me, see you on Thursday.

Steve Schott

See you then thanks.

Rob O’Brien

See you Steve.

Operator

(Operator Instructions) Your next question comes from the line of Christopher Butler with Sidoti & Company.

Christopher Butler – Sidoti & Company

Hey, good morning, everyone.

Steve Schott

Good morning Chris.

Gail Gerono

Good morning.

Rob O’Brien

Good morning.

Christopher Butler – Sidoti & Company

I’m sorry if I missed it. Did you indicate what the volume growth was in the quarter and for activated carbon and what the impact of that shift from Japan was?

Steve Schott

As it relates to Japan, are you referring, Chris, to my fourth quarter comment where I said some sales have been moved forward?

Christopher Butler – Sidoti & Company

Right, exactly.

Steve Schott

We did not give the impact I can tell you in US dollars, it’s probably on balance about $4 million that had been moved into earlier quarters. And thus the expectation our fourth quarter will be slightly less than the third quarter. Volume was strong and I think moved in sync with the markets that we discussed as having increased, environmental water, food, and potable water so but volume was definitely up, I don’t have the percentage in front of me but no question in the Carbon and Service segment it was a very good quarter for us.

Christopher Butler – Sidoti & Company

And just to quickly follow-up, it sounds as if that shift wasn’t just the third quarter but the first half of the year as well that saw some of the benefits.

Steve Schott

Yeah volume’s been good this year. Obviously we’ve had headwinds with FX particularly in Japan and that will persist through the fourth quarter but now the carbon and service business has grown for us during the year and we’re pleased with what we’re seeing this year.

Christopher Butler – Sidoti & Company

I appreciate your time.

Steve Schott

Sure.

Operator

(Operator Instructions). There appear to be no other questions. I would like to hand the floor back over to Randy for any closing or additional comments.

Randy Dearth

Thanks Brandy. As I mentioned in my opening remarks we’re pleased with the results for the quarter. And we’re also pleased with progress we’ve made on improving our cost structure and our gross margin during the first nine months of this year. So improvements in those two areas are going to remain focused throughout the rest of the year and into 2014. That concludes my remarks and the remarks of my colleagues. We look forward again to having the discussion with all of you on Thursday. Thank you.

Operator

Thank you. That concludes today’s conference. You may now disconnect.

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