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AK Steel Holding Corporation (NYSE:AKS)

Q1 2010 Earnings Call Transcript

April 20, 2010 11:00 am ET

Executives

Albert Ferrara -- VP, Finance and CFO

Jim Wainscott -- Chairman, President and CEO

Analysts

Brett Levy -- Jefferies & Co.

Kuni Chen -- Bank of America

Michael Gambardella -- JP Morgan

David Lipschitz – CLSA

David Gagliano -- Credit Suisse

Sal Tharani -- Goldman Sachs

Timna Tanners -- UBS

Charles Bradford -- Affiliated Group

Dave Martin -- Deutsche Bank

Tony Rizzuto -- Dahlman Rose

Brian Hu -- Citi

Luke Folta -- Longbow Research

Mark Parr -- KeyBanc

Mark Liinamaa -- Morgan Stanley

Operator

Good morning, ladies and gentlemen and welcome to the AK Steel’s first quarter 2010 earnings conference call. At this time all participants are on a listen-only mode. Later we will conduct a question and answer session. (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 and Mr. Albert E. Ferrara Jr. Vice President of Finance and Chief Financial Officer.

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

Al Ferrara

Thank you, Patty, and good morning, everyone. Welcome to AK Steel’s first quarter 2010 conference call and webcast. In a moment I’ll review our first quarter financial results as well as provide some guidance for the second quarter of 2010. Following my remarks Jim will offer his comments in view with your questions.

Today’s call includes certain forward-looking guidance. Other than our comments on historical results, the remarks we make today constitute forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. These statements include our expectations as to our future shipments, product mix, prices, costs, operating profit and liquidity.

While we believe that our expectations are reasonable, we cannot assure you that they will prove to have been correct since they are based on assumptions and estimates that are inherently subject to risks. Such risks include economic competitive and operational risks, uncertainties and contingencies, all of which are beyond our control and based upon assumptions with respect to future business decisions that are subject to change.

Except as required by law of the company disclaims any obligation to update any forward-looking statements to reflect future developments or events. For more detailed information we encourage you to review the discussion of risks affecting forward-looking statements found in our Annual Report on Form 10-K for the year-ended December 31, 2009.

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 Web site at aksteel.com.

Earlier today, AK Steel reported net income of $1.9 million for the first quarter of 2010. The results include a $25.3 million non-cash charge resulting from the recently enacted Federal Healthcare Legislation.

The charges due to a reduction in the value of AK Steel’s deferred tax assets as a result of the change to the tax treatment, Medicare Part D reimbursement that were established by Congress in 2003. The charges modestly lower than originally announced principally as a result of the two-year delay in the start day contained in the subsequent reconciliation bill.

Excluding this special charge AK Steel would have reported net income of $27.2 million or $0.25 per share. First quarter shipments totaled $1,386,000 tons, an increase of more than 600,000 tons compared to the first quarter a year ago and the third straight quarter improvement in our shipping levels.

Our average selling price was $1,014 per-ton which was a 5% increase over the prior quarter and consistent with our guidance. The average selling price was favorably impacted by improving market conditions, richer product mix and higher surcharges reflecting rising input cost.

Revenues were $1, 406 billion which was $484 million or more than 50% higher than our revenues in the first quarter of 2009. Sales outside the U.S. remains an important source of revenue for us totaling approximately $200 million for the quarter or about 14% of our total sales. However, due to strengthening of the dollar, our first quarter results were negatively impacted by a $4.9 million foreign exchange loss equals to $0.03 per share.

Turning to costs, we turned in a solid performance on those costs that were under our control. With respect to iron ore pellet prices, as noted in our 2009 Form 10-K which we filed on February the 23rd, in the absence of any final determination yet of the 2010 benchmark price, we have assumed a 30% increase for 2010.

Our results also include a LIFO charge of $8 million. By comparison we had of LIFO credit of $151 million in the prior quarter. This LIFO swing represents an approximate $159 million change in operating profit or $115 per-ton for the quarter.

Excluding the effects of LIFO, our operating results improved substantially in the first quarter of 2010 as compared with fourth quarter of 2009. In fact, despite increased costs we generated a first quarter operating profit of $57.6 million or $42 per-ton.

Turning to the balance sheet, our continuing focus on cash and liquidity has allowed us to maintain a strong financial position. We entered the first quarter with a solid cash balance of $330 million. Combined with the $700 million of availability under our revolving credit facility AK Steel’s total liquidity stood at more than $1 billion as of March 31st.

With regard to pension and debug funding, we contributed $75 million to our pension trust during the first quarter and speaking of pension contribution, AK Steel’s Board of Directors has authorized another pension contribution. This time in the amount of $35 million which would be paid during the second quarter of 2010. With this contribution, our 2010 pension funding requirement will be satisfied.

Also during the first quarter we contributed $65 million to the Middletown VEBA. We now have only one $65 million contribution remaining on this obligation.

Now, let me provide some guidance for the second quarter of 2010. We expect shipments to be approximately 1,450,000 million tons or nearly 5% higher than in the first quarter. We expect our average selling price to increase by approximately 5% to 6% quarter-over-quarter, as we benefit from the realization of announced spot market price increases, our contract selling prices and increase surcharges.

We expect our maintenance outage costs to increase by approximately $15 million compared to the previous quarter, primarily due to a planned outage at our Middletown hot strip mill. Because iron ore pricing for 2010 has not yet been determined. We are unable at this time to reliably estimate our quarterly operating results for the second quarter of 2010. There remains substantial uncertainty with respect to global iron ore pricing for 2010.

If there is an increase in the price of iron ore beyond a 30% we have assumed with respect to our first quarter results it will have a negative impact on our second quarter financial performance as we true up our year-to-date iron ore costs. When there is further clarity with respect to our iron ore cost for 2010 we will update our guidance.

Now, for his comments, here is Jim Wainscott.

Jim Wainscott

Thank you very much, Al. Good morning, everyone, and thank you for being a part of today’s conference call. After during a severe economic downturn for the past 18 months I am delighted to report to you that AK Steel is on the road to economic recovery. Thankfully, we appeared to be looking at the great recession in the rear view mirror.

That said similar to the road conditions that we are driving on here at the Midwest after a tough winter, our road to recovery is expected to contain some potholes. Despite some bumps along the way, AK Steel achieved a series of above expectation performances in our first quarter of 2010.

In each instance, our shipments, average selling price, cost reductions and operating profitability were better than we previously anticipated. And at the bottom-line excluding the special charge that Al spoke over relating to the recent healthcare legislation, our first quarter of 2010 results showed an earnings improvement of $100 million compared to the year ago first quarter. That is a great way to start our recovery.

Let me offer a few comments on the things that are contributing to our improved results. Overall, demand for our products is higher, especially from our automotive and service at our customers. In fact, demand from customers in these markets has been stronger than we had expected. All the electrical steel market has been a bit more challenging than we had planned.

For carbon steel orders our lead times have been extended and are currently early June or hot rolled products in, mid to late June for cold rolled and coated products. Lead times for stainless steel orders range from mid June for standard rates and sizes to July for specialty sheet and strip.

North American light vehicle production has been steadily increasing and we experienced strong pour rates from auto makers in Q1. Analysts now predict U.S. light vehicle sales of about 12 million units for 2010, up from about 10 million units for 2009. Automotive inventories are at pretty good shape and so that 53 days of sales as of March 31, the comparable figure was 67 days in February, and it stood at 82 days at the end of March of 2009.

Speaking of sales and inventory levels another positive sign is that level of activity at carbon and stainless steel service centers. Just yesterday, the Metals Service Center Institute reported that carbon flat rolled steel service center inventories stood at 2.1 month of supply on hand at the end of March. This compares to an historical average of about 2.4 month of supply on hand.

Daily service center shipments for March rose by 4% over February and by 32% when compared to March a year ago. At the end of March this year, stainless steel inventories at service center stood at about 2.5 months of supply on hand and historically that figure has been about 3.8 months. Daily shipments for March showed a 7% improvement over February and they were up 21% from March of 2009 for stainless steel.

Turning to electrical steels our electrical steel customers have faced a slower than expected recovery in the housing and construction markets as well as lower than anticipated capital and maintenance spending by utility companies due to reduced electricity consumption. As a result, for the first quarter, steel purchases by electrical steel customers fell short of earlier expectations.

Coming into the year most analysts forecasted that housing starts would approximate an annual rate of about 900,000 units for 2010, but in a span of just three months those same analysts have reduced their full year estimates to less than 700,000 units currently.

Consistent with these updated forecasts AK Steel experienced lower grain oriented electrical steel shipments than we had anticipated for the first quarter. That said, compared to the fourth quarter of 2009, our first quarter of 2010 electrical steel shipments grew by nearly 8%.

One of the many economists that we follow as a particular individual has a pretty good track record for these things noted “A positive and promising trend in housing starts.” in his March report. Importantly, trend data suggests that we pass the bottom of the cycle.

With the electrical steel market having stabilized we expect our second quarter electrical steel shipments to remain at level roughly comparable to that of the first quarter with demand picking up in the second half of 2010 and beyond.

Let me now offer a few thoughts on another one of those potholes that I referenced at the start of my remarks. In the first quarter, experienced substantially higher steel making input costs, in particular, for carbon scrap and nickel. For example, scrap prices which have risen by about 17% since November increased by more than $100 per ton in the first quarter. In fact, scrap costs are now actually higher than pre-recession 2008 levels.

Regarding iron ore pellets as we said at the outlook section of our earnings release our data’s in fact remain substantial uncertainty with respect to the cost of those pellets for 2010. We continue to expect and we have accounted for a substantial increase. 30% to be exact in the price of iron ore pellets. And to be clear an increase in pellet costs beyond that level for the year 2010 would negatively impact our second quarter results.

As the global economy recovers, the cost of just about every one of our steel making inputs is on the rise, including coal and coke, taking advantage of the bottom of the market, AK Steel secured its 2010 coal needs early in 2009 that is. So our costs for this commodity are largely fixed. It is possible however, that impacts of a recent mine closing could result in the need to purchase higher price coal on the spot market.

In terms of coke, delighted to report that SunCoke Middletown has proceeded its New Source review permit as a result although appeals have been filed, construction of the SunCoke Middletown plant is finally underway. Completion of that faculty, which is expected in mid 2011, cannot happen soon enough. The price and availability of blast furnace coke continue to be of significant long-term concern to us.

Of a long-term strategy standpoint we continue to look for opportunities to improve our vertical integration, enhance our self-sufficiency and reduce our costs. And as business conditions continue to improve in 2010 and it appears that as though we will need all of the raw material inputs we can get. With increased orders our coke batteries and blast furnaces are currently operating at nearly full capacity.

In response to increased demand and higher steel making input costs, AK Steel has announced the total of four spot market price increases for carbon steel products since the beginning of 2010. Stainless steel transaction prices are also on the rise. We have announced one price increase and we have succeeded in passing through the costs increases that we have experienced for nickel and other alloys. For example, our stainless steel surcharge on Type III or IV products has increased by $411 a ton between January and April. And for May, our shipments then will continue surcharge that will grow by an additional $380 per-ton.

Increased order intake rates mean higher operating rates the steel production is still finishing. And that translates into more work for our employees. In the depths of the great recession a year ago, our layoffs peaked at more than 1200 employees. As of yesterday, only 12 employees remained on layoff status. Only 12, that’s great progress.

Despite the challenging times we remain trued to our company’s core values of safety, quality and productivity. Take care of your people and your customers and results will follow. The recent years this approach has been responsible for much of our success.

On the safety front, AK Steel’s Ashland works Coke Plant received a Max Eward Safety Award for its outstanding safety performance in 2009. I congratulate each and every employee at our Ashland Coke Plant for working the entire year without a single OSHA recordable injury. This marks the fifth year in a row at the Ashland Coke plant has earned us prestigious award and it’s the 12th time in the past 13 years that an AK Steel coke making facility has been honored in this fashion.

Staying on subject of safety for a moment both of our AK Tube plants were recently honored for their safety performances by the Fabricators & Manufacturers Association for 2009 our Walbridge, Ohio and our Columbus, Indiana plant. Each received the FMA Safety Award of Merit for 2009 and we congratulate those employees on a job well done.

Turning to quality during the first quarter, our internal measures, quality, for example, internal rejections and retreated products some of the benefit underwent. Externally, we experienced the lowest level of customer claims in our company’s history.

And according to the Jacobson & Associates independent survey of our carbon stainless and electrical steel customers for the initial quarter of this year AK Steel was ranked No. 1 in Quality, Customer Service and On-Time Delivery as well as Inside and Outside Sales Support. These performances translated into a number one rating in overall customer satisfaction. Attaining this lofty ranking took a tremendous team effort throughout the entire company. Thanks to all of our employees for that achievement. I salute you.

In my opinion, one of the shortcomings of income statements and balance sheets is that they fail to recognize the value of customer relationships. When customers are pleased with your performance one thing is certain. They will buy more. Even though customer satisfaction is one of the most important pieces of data regarding a company it’s simply does not show up in any financial statement. Nonetheless, our recent performance and service to our customers gives me great confidence in the future of AK Steel.

Couple of weeks ago AK Steel celebrated its 15th anniversary of trading at the New York Stock Exchange. As the company has grown into a globally competitive steel maker this represented yet another milestone for us.

When one considers the tough time faced by this steel industry and the challenges faced by our company over the past decade and a half it’s a great tribute to the dedication and the resiliency of the employee of AK Steel who have repeatedly overcome adversity. And because of that AK Steel is well positioned to compete and win in the global steel marketplace, especially if there is a level playing field.

And with that in mind, let me offer just a few thoughts about the importance of pro-manufacturing government policy-making in America. Having just survived one of the most severe recessions in the history of the United States, if not the great recession itself.

It’s my sincere hope that our policy makers encourage the maintenance of existing and the creation of new jobs. Because without job creation sustaining an economic recovery will be incredibly difficult. It is truly about jobs. Real economic recovery depends upon consumers. Cash, credit and confidence. And without jobs, without employment, you don’t get any of those things.

In large measure, AK Steel’s business relies on consumers purchasing durable goods. Automobiles and appliances, for example. When a person does not have a job it’s tough enough to provide for one family, a little known, bike, car and appliance. Last month, as you know, the U.S. government enacted sweeping health care legislation. We took a charge for that. We deem the impact that will be material for AK Steel and because of that we were transparent, timely and communicated this information to all of you at the financial community.

Frankly, AK Steel is proud to be among a select few steel companies that preserve the pension and healthcare benefits of its retiring. We will continue to do everything we can to meet our legacy obligations in the future, but at a time when our global competitiveness is at stake we see our healthcare costs going up or down.

We are even more concerned about the potential impact of comprehensive energy and climate change legislation and maybe introduce as soon as next week in the senate. As a nation it’s very important that we get this legislation right. The fact of the matter is that acting as a single nation we can do a little to reduce global greenhouse gas emissions.

Setting aside the scientific debate for the time being if one believes that there is a global warming problem then by definition has to be a global solution to this problem. Acting alone in the U.S. will not solve anything. It will only serve to further outsource U.S. manufacturing jobs and dramatically increase global greenhouse gas emissions. No one wins when there are a fewer American jobs and more global emissions.

AK Steel and the steel industry are well positioned and ready to be part of the solution. Since 1990 AK Steel and other domestic steel makers have reduced energy consumption by about 33% and the steel industry has voluntarily exceeded the Kyoto protocol targets for greenhouse gas emissions.

As many of you know AK Steel were providing innovative products and solutions to enhance energy (inaudible). For example, we make specialty steels that enhance the efficiency of power generation, distribution in our country and around the world. And we are making lighter, high strength steels for vehicles that improve their fuel economy and credit worthiness. Decision virtually all forms of alternative, renewable and advanced energy sources will rely on one or more AK Steel’s product line.

Finally, we are considering future projects that would make use of waste, heat and gas generate more than 150 megawatts of electricity at just one of our mills. Well, I could go on but I think you get the idea. At AK Steel we support public policies that recognize the significant energy and environmental advancements already achieved by U.S. steel makers and policies that treat steel companies around the world in an affordable manner.

Ladies and gentlemen, in order to have a stronger economy for more and better jobs and for a better environment we need to make things in America. Let’s get behind American manufacturing and support a pro-manufacturing legislative agenda and let’s do so while we still can.

Before taking your questions let me simply say that at AK Steel we are ready for the economic recovery in 2010. And we are doing everything we can to position ourselves for continued success in the future. Thank you all very much. With that we would be happy to take your questions.

Question-and-Answer Session

Operator

Thank you Mr. Wainscott. (Operator instructions). Our next question comes from Brett Levy of Jefferies & Co.

Brett Levy -- Jefferies & Co.

Hey, good quarter, gentlemen.

Jim Wainscott

Good morning.

Brett Levy -- Jefferies & Co.

Can you guys talk a little bit about what the 30% quarter-over-quarter and negative impact relative to what, this is we have a negative impact on 2Q10 financial performance. Would that be a relative to 1Q if the iron ore prices are upgraded in 30% quarter-over-quarter? And then talk a little bit about your pricing dynamic because I know that the BHP guys have gone to like a quarterly pricing dynamic, and I’m not sure if you have driven off of that metric or something else. What global I don’t know “should we be looking at this quarter for iron ore prices that would sort of hit that 30% threshold?”

Jim Wainscott

Let me start Brett and then I turn it over to Al for his insights on our accounting and what we’re thinking there. It’s not unusual for volatility to have been in our raw materials we have experienced fluctuating raw materials in a big way over the last decade or so, so we’re used to that. Obviously, there is a lot of push back out there and so, no one has yet agreed that we know of any particular benchmark.

We use a variety of get outsource our iron ore from a variety of producers around the globe and get at this point we heard rumors that price increases we’ve also heard some discussion about quarterly pricing, but candidly, since there have been no benchmark set, we have no piece of paper in front of us that says with from many of our iron ore producers what our increases will be, know what the pricing reset mechanism will be whether it’s annually or quarterly, again, it’s difficult to give guidance.

I just offer a couple of thoughts there. It’s obviously a concern expressed and we’re just raising the flag, but and also remind all of our listeners today that in 2008, we experienced an 87% or 88% increase in cost of our iron ore pellets. That was the best year in a history of AK Steel. In 2009, we experienced the decline of about 40% to 45% and that was one of our toughest years. So we plan to manage through this. There is just this degree of uncertainty and part of the issue is with most of our steel having been sold already for the second quarter, again, you can get into a bit of a mismatch situation, Beyond that there is the LIFO true-up, and I will turn that over to Al.

Al Ferrara

Brett, it’s two-fold, the impact is a difference quarter-over-quarter. In other words, that we would expect a negative impact in the second quarter due to two factors. The first of which is cost of goods sold. Then we had the increased price pellets would come in. It would adversely affect our cost of goods sold not only for those pellets, received in a second quarter, but also that those we would have to true-up from the first quarter that we’ve received, we received about 15% of our annual pellets in the first quarter. The other effect would be a LIFO effect. We’ve assumed a 30% increase that would go into our LIFO calculation at the end of the year if that was higher we would have to essentially true-up our LIFO in the second quarter for the full year and you most certainly would see an increase LIFO charge in the second quarter. So it will be two-fold effect.

Brett Levy -- Jefferies & Co.

And there’s candidly find, there’s a whole bunch of things quoted there globally. Is there a spot price that you can look at globally and say okay, you know what, that’s above acts in such a level, AK is probably going to have it down quarter from Q1 to Q2?

Jim Wainscott

Short answer is no. And well, await to giving further guidance until we get better insights ourselves. But we do intend as we have stated to provide that sort of mid-term guidance whenever the benchmarks are set, whenever we are informed but I wouldn’t look at any particular one item. We take hourly really from a dozen or so if an analyst with major firms and really that’s how we came up with the 30%. In addition, really just following the proper accounting treatment and we’ve run all this by our auditors. Its passes by the accounting losses probable amounts recently (inaudible) you book at the low end of the range and that’s what we’ve done till there’s more certainty on the matter.

Operator

Our next question comes from the line of Kuni Chen of Bank of America.

Kuni Chen -- Bank of America

Hi, good morning, everybody.

Al Ferrara

Good morning, Chen

Kuni Chen -- Bank of America

I guess just more questions on iron ore, mean, do you have a sense on the timing for when the new pricing mechanism will be settled for you guys was likely to be in the second quarter or could this push on longer in the year. And I guess is the way to think about it is if it does get settled in the second quarter is that basically a retroactive to January 1st so that will be kind of a big bump up in the quarter?

Jim Wainscott

Kuni, you guess is good as ours is in terms of when it will get settled. We read the same things that you read. In fact, one of the things we read recently was that some of the Chinese producers were concerned and we’re perhaps getting and I trust that people involve. We don’t know how that will go or whether that will further delay things. So again, we would be hesitant to give an idea of when that would happen. Whenever it does occur, whenever we know what our increase will be, again, we will communicate that, we will provide updated guidance and our contracts are such that they are retroactive to the first of the year of 2010.

Al Ferrara

We now go, Kuni, that we did have a solid first quarter with the 30% increase. And so consequently, in the amount of bump if you will, obviously, would be reflected based upon, again, a number of factors go into our LIFO charge. So again I think it is important to kind of keep it confidential.

Kuni Chen -- Bank of America

Right. I guess two follow-ups and then I will turn it over. I guess number one, would you be interested in paying a premium to lock in your iron ore as kind of a flat annual price? And number two, can you just talk about assuming you do go to a quarterly price mechanism, can you talk about the next step to what you would need to sort of restructure things downstream with your customers and those contracts to achieve and even passes it out?

Jim Wainscott

Let me start with the second question. Today, we offer no fixed price contracts. All of our deals that we have and it vary by customer as to the nature of the items that vary are contain some pass through mechanism or some CRU reset or some combination thereof. Again, those reset at various times some more frequently than others I don’t know that it’s a game changer per se, but there would be a period in which we would have to adapt in others, might have to adapt to this new pricing mechanism.

What we would not want to happen of course is to have some sort of mismatch. That could go either way. In a declining raw materials environment we might be benefiting but we would be more concerned about a rising raw material environment. But we think we’ve done a number of things in negotiating agreements this year and in recent years to help cover a number of those costs. To the issue of trying to fix our price for iron ore in order to ensure availability we’re not really concerned, we don’t anticipate a problem in terms of pinning the iron ore we need to operate, obviously, if we had the opportunity and we continually keep our eyes open for this, we prefer to be somewhat more vertically integrated with respect to ore and some of our other raw materials than we are today that’s something that we remain very focused on.

Kuni Chen -- Bank of America

Okay, thanks, I will get back in queue.

Operator

Our next question comes from Michael Gambardella of JP Morgan.

Michael Gambardella -- JP Morgan

Yes, good morning, Jim and Al.

Jim Wainscott

Hi, Mike.

Al Ferrara

Hi, Michael.

Michael Gambardella -- JP Morgan

Hey, just looking at the first quarter results your average costs per-ton were up about $72 per-ton and just assuming about a 30% increase in iron ore, I calculated that’s about $32 per-ton increase and that’s assuming fairly thing including impact of the stainless and electrical which is probably about 18% of your mix. So scrap clearly had a much bigger impact as I think you were alluding to but can you give us an idea of what the quarterly usages of both iron ore pellets and the scrap for AK?

Al Ferrara

In terms of the consumption?

Michael Gambardella -- JP Morgan

Yes.

Al Ferrara

Well, we generally, Michael, this year, we’ll probably consume about 6 million tons of pellets on an annual basis. We probably consumed about a quarter of those in the first quarter, maybe a slightly less than that. Scrap, we consume about a 1.8 million per year. Again, probably just a little less in a quarter. That given the fact that seasonally our shipments were probably a little lower than they would be for the rest of the year. But that’s probably a pretty good metric.

Jim Wainscott

Mike, I just point out the other thing that one really needs to reconcile if you’re comparing fourth quarter to first quarter, in fact, we had a significant LIFO credit in the fourth quarter and we had a LIFO charge in the first quarter that I think the delta is more than $150 per ton. So that’s pretty (inaudible) as you start to do a reconciliation between the two. But ask anybody carve that out we’re just pointing out the fact of the facts.

Al Ferrara

Just to be clear. 159 million. It was a $115 per ton.

Michael Gambardella -- JP Morgan

But in a first quarter, the increases in scrap costs clearly outweighed the increases in your iron ore pellet cost would you -?

Al Ferrara

There’s no question about that. No question about that.

Michael Gambardella -- JP Morgan

And then lastly, given that your contracts of seam would be referencing this new quarterly benchmark price in the world from I think virtually all your suppliers, are you considering an iron ore surcharge in your pricing mechanism as a pass through on the price?

Jim Wainscott

Short answer is yes. And we get that wherever we possibly can. It’s an important enough components to our cost structure that we have to be. Very upfront with our customers about that. And we’ve had reached a success but we will be continuing to discuss that with our customers, Mike, going forward.

Michael Gambardella -- JP Morgan

So, Jim, you are ready getting an iron ore surcharge on some of your business?

Jim Wainscott

In some cases, yes.

Michael Gambardella -- JP Morgan

Okay, thank you.

Al Ferrara

Thank you.

Operator

Our next question comes from David Lipschitz of CLSA.

David Lipschitz -- CLSA

Yes, thank you, hi, guys.

Jim Wainscott

Good morning, David.

David Lipschitz -- CLSA

When you made the 30% estimate not to be the deliveries in iron ore, back in January, that sort of were consensus was, consensus is obviously a lot higher why don’t you make somewhat of a consensus to iron ore where iron ore is right now for second quarter?

Jim Wainscott

At this offer first off, David, I am not sure that we know what the consensus is. We look here in a moment that what we’re referencing, we know awful a lot and we’re not sure who’s putting all that out. Is that the marketing firms or for the suppliers, in any event, what we’ve looked at, what we’ve taken our lead from is a series of a very distinguished and honored analysts who have given earlier range, Al, do you want to reference sort of some of the names, some of the percentages here?

Al Ferrara

Well, one of them of course is Calyon Securities, David, and a people like Citi, we’ve also Deutsche Bank, RBS, Macquarie, CRU, Dominion, Bank of America, just a few of those that we use as well as private sources so to speak. And further I should point out again I think to reiterate what Jim has said what we’ve done is we’ve complied with GAAP, we have laid out our assumptions with our external auditor and make sure no objection or anything like that. So I think that we feel very comfortable with the decision we’ve made and we booked on that basis.

David Lipschitz -- CLSA

Okay. And in terms of your steel production, you said I think lead times have started to extend, but we’re reading some press that pricing and demand might be under some pressure, are you seeing that same things or are you still seeing everything continue to extend forward?

Jim Wainscott

We’ve realized all of the price increases except for the most recent carbon steel price increase which is really just now finding its way into the marketplace, our order intake rate remains robust, particularly for carbon steel products and for most of our stainless steel products, and the only market where we had not the kind of growth that we’d hoped for but we expected to rebound nicely in the second half, it's been electrical steel. So short answer is the prices, we’re realizing higher prices and that’s a function really of two things to us. Our order book, increased orders and on the cost push with the raw materials.

David Lipschitz -- CLSA

Okay, thank you

Al Ferrara

Thank you.

Operator

Our next question comes from David Gagliano of Credit Suisse.

David Gagliano -- Credit Suisse

Hi, I’m going to try different approach to the same iron ore question. Just in terms of (inaudible) profit sensitivity what would the Q1 profit per ton have been if you had assumed a 100% year-over-year increase in iron ore prices?

Jim Wainscott

That’s incredibly difficult to say because there’re so many other drivers associated with that. What I try and project forward if it’s up 40% or 60% or 80% because again, you offset for various surcharges that we have and variable pricing mechanisms, you got related other costs whether it’s a scrap or HBI or other things that we have, so it’s just an impossible thing to say with just a point of accuracy.

David Gagliano -- Credit Suisse

We can’t do a holding all others factors constant type of assumption?

Al Ferrara

I don’t know David that would be terribly productive, generally speaking, we don’t run hypothetical calculations based on various nuances to and raw materials

David Gagliano -- Credit Suisse

Okay, let me ask this question. What was the total dollar cost of the iron ore within the reported cost you can tell?

Al Ferrara

Jeez, I don’t have that figure in my finger tips right now, David. We generally don’t break that up; we don’t break up specific components. What we do say is we try and give some indication, for example, of the change in iron ore or excuse me, change in raw material cost which is about quarter-over-quarter about a $15 per-ton change total raw material, that includes of course scrap and iron ore with some benefits from natural gas.

If you look at that in conjunction with the LIFO change, which is as we mentioned about a $115 that comes to about a $130 of negatives, but offsetting that large measure, we had stronger selling prices about $50 per ton, we had better operating performance about $50, another $50 and another $8 in maintenance beneficial. Again, taking that forward to Jim’s point earlier we had about better than a $90 per ton improvement quarter-over-quarter excluding LIFO, which again, we’re very, very proud of.

Jim Wainscott

David, let me take your question in a little different direction if we use the sort of holding all other things equal concept as we project forward to second quarter. In other words if we were to say that 30% back into path, our operating profitability per ton would probably be up in the neighborhood of about 50%.

David Gagliano -- Credit Suisse

That’s on the price increase, obviously, exactly, okay. That’s understandable. All right, thanks.

Operator

Our next question comes from Sal Tharani of Goldman Sachs

Sal Tharani -- Goldman Sachs

Good afternoon, guys. Hi, how are you?

Al Ferrara

Good morning, Sal.

Sal Tharani -- Goldman Sachs

On electrical steel, you mentioned 8% increase sequentially in volume I believe is that what you said, Jim?

Jim Wainscott

That’s accurate.

Sal Tharani -- Goldman Sachs

Okay, and what was it year-over-year, how much was the decline?

Jim Wainscott

We were down probably from 2008 to 2009, roughly 30%.

Al Ferrara

About 30%, Sal, in terms of overall shipment levels, that’s correct.

Sal Tharani -- Goldman Sachs

Okay, but on the first quarter basis, was it significantly down?

Jim Wainscott

Q1 to Q1, no, not significantly, and again my comment, the 8% up was relative to 4Q.

Sal Tharani -- Goldman Sachs

Okay. If the scrap were to come down and I know you use a lot of scrap in your carbon steel but on the specialty steel side do you get any advantage or is it always a pass through so it just doesn’t matter because the surcharge declines as much as scrap declines?

Jim Wainscott

It's sort of a longstanding tradition with respect to the specialty steel business where there is a pass through, again, there can be bit of lag, but essentially when those costs go up, it's reflected in the surcharge.

Sal Tharani -- Goldman Sachs

Okay, and lastly on price increase of 5% to 6% and you had about 5% increase last quarter that obviously is much lower than what the spot market prices been increasing, is that due to the contract prices which are holding it back and I trust that you are getting full impact from the spot market price of full realization?

Jim Wainscott

See when we give guidance, Sal, on price increases, it's an overall average, so it takes into account changes in mix as well as changes in rates. We don’t break that out a lot, but directionally, prices are heading higher, in some cases, substantially higher, they have to, when you got things like scrap, it’s up 70% and anticipated hire costs for iron ore and other materials. So the fact of the matter is that we are getting our price increases as I said before. We have a series of contracts that expire various points throughout the year, we have negotiated higher prices on those and wherever possible surcharge mechanisms, variable pricing mechanisms that help cover ourselves some of these raw material cost increase.

Operator

Our next question comes from Timna Tanners of UBS.

Timna Tanners -- UBS

Hi, good morning.

Al Ferrara

Good morning, Timna

Timna Tanners -- UBS

Wanted to follow up on the electrical steel because I found it interesting you are talking about the domestic housing market as a guide for electrical steel. I know you do a lot of global as well so can you break out a little bit your forecast or you’re thinking about global market positioning versus domestic?

Jim Wainscott

I just offer that in our business, again, we are a major player in the United States as well as non-NAFTA, and historically, that business has been about 50/50 for us given some of the weakness in the States and some of the faster recovery rates of some of the global markets, a number probably is more currently about 60/40 international, notwithstanding some of the challenges of not dealing in China recently. The NAFTA markets really depend on a couple of things as we’ve talked about. Housing is one of those because you need transformers, obviously, produce subdivisions and that came pretty much to a grinding halt here in the last couple of years, similarly, and commercial construction has been on its back and really remains there. The replacement transformer business is still okay.

And then the other aspect of course is capital spending and maintenance spending by the utility companies, which has obviously been down as less electricity is spent consumed in America. So America has had its challenges, we have outstanding relationships with all of our customers here, we would expect to take our lead from them as we always do and it's their opinion that we reach sort of the bottom things have leveled out, we’re coming off of that and we should particularly see a bit of a benefit here in the second half. With respect to outside of the country that’s mostly spot business. We have continued to do everything we can to be opportunistic there, not only to serve our customers well, but also advantage ourselves relative to what has been weak U.S. dollar.

One of the things, the other comment I would just offer as a footnote to the NAFTA market is for the first time, in many years, we have seen the reappearance of the Japanese, and the Germans in terms of product so, we’re competing once again with the foreigners on our turf, and I would just say that we’re watching that very, very carefully to ensure that dumping is not occurring.

Timna Tanners -- UBS

Okay, got you. And overseas markets are fairly competitive well right, for the same reason?

Jim Wainscott

As then we have seen some pricing erosion there we think that prices and volumes for us have really leveled off and hopefully, we will start to turn soon.

Timna Tanners -- UBS

Fair enough. And a last question from me is on the, just wondering did there been a little bit on the mix for the domestic flat rolled business. I was kind of surprised because we hear there is a fantastic demand for cold roll and for the higher grades and yet this last quarter you saw hot rolls go up and cold roll go down in terms of volumes sequentially. I think you had suggested that would happen can you talk a little bit more about that and what we might see going forward?

Jim Wainscott

Again, we try and be opportunistic; we saw an opportunity towards the end of the quarter. Obviously, it takes longer to cold roll “our product” and so we had some time on our Ashland mill our blast furnaces were running extremely well. In fact, our Middletown blast furnaces just established a new all-time casting record. So kudos to that group. And so when you are trying to optimize opportunities move comes out the door, the chances were there for us and hot rolled that we took them.

Operator

Our next question comes from Charles Bradford of Affiliated Group.

Charles Bradford -- Affiliated Group

Hi, good morning

Jim Wainscott

Good morning.

Al Ferrara

Good morning, Chuck

Charles Bradford -- Affiliated Group

What’s the current status of the butler electric furnace project?

Jim Wainscott

Well, Chuck, we have our permit, I am happy to tell you and we have begun construction. This is a very important project for those of you that may not recall as it really upgrades the technology in electric arc furnace manufacturing by about 50 years, it will give us about a 1.4 million, 1,400,000 tons of annual capacity and that will really enable us to be a lot more efficient and it will give us a lot of opportunity as well to make our own carbon slabs, which were again back in the market, expect to buy something like a 1.25 million tons this year of a carbon slabs. This number 5 EAF project in Butler will help move this away from that. It should be up and running here hopefully in the spring, the summer timeframe of next year.

Charles Bradford -- Affiliated Group

Is there a caster involved in the project?

Jim Wainscott

No, there is not, Chuck. Not at this point. We continue to look at Butler. We spend awful lot of money there over the years, primarily to upgrade our capacity for making electrical steels, but it is an excellent plant for us and we will continue to look at things for years, we have also looked at the strip mill, but for now, it's really isolated to a large electric arc furnace.

Operator

Our next question comes from Dave Martin of Deutsche Bank.

Dave Martin – Deutsche Bank

Yes, thank you, hopefully you can hear me. Sort to come back to costs, I wanted to come back to the quarter-over-quarter movement in costs and understand the other moving parts. I think as was said earlier cost per ton were up about $70 in the phase of a LIFO change of $115. What were the other major moving parts, which would have brought 115 down to 70?

Al Ferrara

Well the thing is --

Dave Martin – Deutsche Bank

Is that just the higher production rates?

Al Ferrara

Well, one of the things is we had shortly higher and, of course, you get greater efficiencies through that way and that coupled with the fact that we had, like I said, improved benefits from our natural gas. Natural gas is down as a commodity. But like I said in large measure it was more operating efficiencies throughout our organization in terms of better utilization of labor, and frankly, greater efficiency in getting increasing production.

Dave Martin – Deutsche Bank

Okay, that’s it for me, thanks.

Al Ferrara

Thank you.

Operator

Our next question comes from Tony Rizzuto of Dahlman Rose.

Tony Rizzuto -- Dahlman Rose

Thank you very much, hi, gentlemen

Al Ferrara

Good morning, Tony, welcome

Tony Rizzuto -- Dahlman Rose

Good morning, thank you, Al and Jim, I appreciate that. Just a couple of questions here and I want to make sure I heard this correct. I think, Al, you were talking earlier in a response to a question about iron ore you receive 15%, I thought you said 15%?

Al Ferrara

Yes that’s correct.

Tony Rizzuto -- Dahlman Rose

Of your annual pellet consumption in the Q1 and then later on you would think that it might be closer to 25. So were you guys working down some inventory than in Q1?

Al Ferrara

No, there is always a natural reduction of inventories in Q1 because frankly because of shipping schedules in the Q1 you are going to naturally draw down some of the iron ore inventories those if you will build up in the Q2 so the short answer is yes, the inventories generally drop at the end of the Q1, it’s a natural consequence, we try to manage our inventories aggressively through the years and this year is no exception.

Tony Rizzuto -- Dahlman Rose

All right, so, theoretically, in the balance of the year you’ve got the bulk of your iron ore purchases to make?

Jim Wainscott

That is correct.

Tony Rizzuto -- Dahlman Rose

All right.

Jim Wainscott

That is the clear implication, yes.

Tony Rizzuto -- Dahlman Rose

And then the other question I just wanted to follow up with regard to where you are operating your facilities right now and was a big portion of helping offset the some of the other cost related fact the efficiencies that you gain from operating your facilities that cause you the full capability what kinds of benefits are there still available for you as you look at the Q2 and beyond through the remainder of this year, is it still meaningful?

Jim Wainscott

Sorry, sorry the biggest drivers of our costs are always more throughput and more high quality throughput. And I thought we did a very nice job of that I do say so myself in the Q1 I mentioned in my prepared remarks that was our best quarter internally and externally we ever had from a quality standpoint. So that goes a long way towards improving our cost as does productivity. Our productivity but for some of the maintenance outages that we talked about, in particular, the hot strip mill outage at Middletown, should be outstanding, should be ramping up continually in the Q2, and then we will assess the second half, but those are the two key drivers really are virtually anybody’s business offset to some extent again by what is likely would be a rising input cost environment.

Operator

Our next question comes from Brian Hu of Citi.

Brian Hu -- Citi

Thanks, Jim and Al.

Jim Wainscott

Good morning, Brian

Brian Hu -- Citi

Good morning, on the guidance front, you commented on electrical steels, I was wondering is the quarter-on-quarter improvement in stainless in carbon both along the lines of 5% or would you allocate different rates?

Jim Wainscott

Well stainless has been particularly strong and we’re benefiting again from the higher surcharges that I mentioned so that’s reflected in there. Carbon is also very strong. Again, we have a very few number of tons still to book in the quarter, again at increasing prices. So I don’t know if there is any one market that’s stronger than the other. We’re seeing good demand and solid pricing in each of those.

As I reflect back just over the last year, our automotive business is double. Our service center business is double. And we are delighted about that obviously and the carbon steel business, which was down dramatically. I think at one point last year we were probably producing at 40% of our capacity and now we’re 90 plus. Those are all positive things. So it's not any one individual market, it's really all the markets and again, bringing up the real and we expect it will contribute handsomely in the future as our old friend electrical steel.

Brian Hu -- Citi

Okay, so we shouldn’t expect any kind of a sequential mix shift change as you’re saying?

Jim Wainscott

Substantially, no, again, I think we continue to favor longer-term providing more value-added products. That’s our niche at this company. And so we’ll try and optimize wherever possible our coated and cold rolled carbon steel shipments as well as our value-added stainless shipments and just on that in the stainless sector, the 400 series stainless we make out of Manfield, we’re running essentially full out there, everybody is back to work to meet the increased automotive demand. The specialty steel strip business is strong for a host of reasons. And the commodity stainless business is about a strong as it's been. So things are much better and we are delighted and thankful for that.

Operator

Our next question comes from Luke Folta of Longbow Research.

Luke Folta – Longbow Research

Hi, good afternoon guys

Al Ferrara

Good morning

Luke Folta – Longbow Research

I had a question just in regards to relationship between carbon slabs spot pricing versus iron ore expectations, I am just trying to get a sense of I understand you guys have accrued for 30% increase in iron ore prices, but it seems to me when you guys have been price leaders as far as spot price announcements and it would seem to me that some of the increases would suggest that maybe you are preparing for a bit of a higher end settlement so I guess what I am trying to get out is if the settlement comes say 80% or 100% or whatever should we foresee further spot price increase announcements by AK Steel?

Jim Wainscott

I just offer in terms of our price increases we make independent decisions in looking at our order book and our costs, which are unique I am sure compared to anyone else. We’ve evaluated that, we’ve actually made six price increases that took effect, if you will, recently, two were announced late last year and four this quarter as I mentioned, in the carbon arena, one in stainless. We will continue to look hard at that, we will make an independent judgment if and when we know what the final iron ore scrap and other steel making input costs are. Don’t know really that the market fully comprehends any level of iron ore cost increase wouldn’t try and guesstimate what that is at this point, but if iron ore is up substantially more than what we have guided I think it's fair to say that we will have to recover those costs.

Look, at the end of the day I have always said to our sales force and I will just mention here. It does us no good as a company, rated as highly as we are for quality service and delivery and the relationships that we have, to not establish a price that allows us to recover our costs, reinvest in our business and be there to serve our customers long-term. That’s why we’re here, for that’s we’re trying to do. And we have to look at that really every day, and we do and when it's appropriate to announce of price increase or seek a higher contract price so we do that and we do so understandably.

Luke Folta – Longbow Research

Okay, thanks for the color there and just a second follow-up, regarding your variable price contract I understand almost all of, if not all of your contracts have some variable price component to that, can you give us a feel for how much of those contracts have some sort of ferrous input or steel pricing driver in?

Jim Wainscott

I don’t know that I will be specific on any customer name more than I would on a given market or try and group all those together. It has been an objective of ours. We have had a modicum of success and will seek more of that going forward.

Luke Folta – Longbow Research

Okay, thanks a lot.

Operator

Our next question comes from Mark Parr of KeyBanc.

Mark Parr -- KeyBanc

Hey, thank you very much

Jim Wainscott

Good afternoon Mark

Mark Parr -- KeyBanc

Yeah, hi, good afternoon, hi Jim

Al Ferrara

Hi, Mark

Mark Parr -- KeyBanc

Just a couple of housekeeping questions, on the outage cost, can you give us a sense of what the outage number was for the Q1?

Al Ferrara

For the Q1 it's about $3 million

Mark Parr -- KeyBanc

Okay, and the 15 million in outages, I mean what parts of the operation will that be hitting?

Jim Wainscott

There is really three, what I will call, significant jobs. Each of which is about $5 million or thereabouts in costs that we’ll try and do during the Q2. The first is something I referenced earlier a hot strip mill outage at Middletown works. The second is a EAF vessel realign at Ashland and also at the Ashland Coke plant will do some, do all repairs. And really this is nothing unusual. We do these things from time to time. We just announce them so that you all have a sense of direction. And I think it's important really ultimately when you’re running a steel company to make sure where we don’t have a lot of redundant facilities as maybe others do that we maintain our equipment very, very well so that we’re well-positioned as the economy continues to pick up so we can meet our customers needs.

Mark Parr -- KeyBanc

Okay, that’s hopeful, I appreciate that. And then I had one another question if I could, just on the electrical steel discussion, if I recall correctly, your second half of ’09 was a lot weaker than the first half from a shipment perspective, is that correct recollection?

Jim Wainscott

Oh, year wasn’t particularly great, but I think that we saw some of that as we looked really last year we did about 53,000 tons or so per quarter in the first half and we did about 50,000 tons a little bit less than that maybe in the second half so it was not dramatically weaker, but it was down a bit.

Operator

Our final question comes from Mark Liinamaa of Morgan Stanley

Mark Liinamaa -- Morgan Stanley

Hi, yes, just quickly on the met coal you suggested that you still felt that you are well covered early in the process, are you aware of any exposure, any impact of a big branch situation at all at this point?

Al Ferrara

Great question, thanks for asking it. First of all, all of us at AK Steel would like to just take a moment to extend our thoughts and prayers to families who lost loved ones in that tragic mine explosion that killed 29. Lot of us have West Virginia ties, so it's close to home. Just offer we do have sufficient current inventory levels to operate our coke batteries. One of the things that again I would just emphasize is that we have a diversified supply base of coal suppliers, we source our coal needs from eight to ten different supplies in any given year and 2010 was no exception. We are in dialog with our friends at Massey to see what else they might be able to do, what sort of inventory levels they have, and again, will together with them and others determine appropriate next steps as we go forward.

Mark Liinamaa -- Morgan Stanley

So at this point there’s nothing that’s particularly concerning to you?

Al Ferrara

That’s correct.

Mark Liinamaa -- Morgan Stanley

Thank you. Good luck

Al Ferrara

Thank you, Mark.

Jim Wainscott

In closing ladies and gentlemen, say once again, well, there may be some bumps and those potholes in 2010, we expect a much better year this year than we experienced in 2009. For a number of years we have met and overcome challenges only to emerge as an industry leader. We plan on doing so again this year in service to our customers, employees, retirees and of course, our shareholders. We have come out of a great recession as a stronger steel company in my opinion with a clear vision for our future, a future that is very, very bright indeed. Thank you very much for being with us. Have a great day and a better tomorrow.

Operator

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

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Source: AK Steel Holding Corporation Q1 2010 Earnings Call Transcript
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