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Executives

Linda Ferguson - VP and Corporate Secretary

Joe Carleone - President & CEO

Dana Kelley - VP, CFO & Treasurer

Analysts

Donovan Chaney - Wells Fargo

Bruce Baughman - Franklin Templeton

American Pacific Corp. (APFC) F4Q 2011 (Qtr End 09/30/2011) Earnings Call December 14, 2011 4:30 PM ET

Operator

Good day ladies and gentlemen and welcome to the fourth quarter 2011 American Pacific Corporation earnings conference call. My name is Stacey and I will be your conference moderator for today. At this time all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder this conference call is being recorded for replay purposes. I would now like to turn the presentation over to your host for today, to Miss Linda Ferguson, Vice President and Corporate Secretary. Please proceed.

Linda Ferguson

Good afternoon. Welcome to our review of the financial results for fiscal year 2011. Joe Carleone, Chief Executive Officer and Dana Kelley, Chief Financial Officer will each provide remarks. Following their remarks, we will be happy to take your questions. Today's call includes forward-looking statements. You can identify these statements by the fact that they use words such as will, expect, anticipate, believe and other words in terms of similar meaning. These forward-looking statements are not historical facts and are subject to risks and uncertainties. Our actual results may differ materially. For a description of the factors that may cause the actual results to differ materially from our forward-looking statements, please refer to the risk factors, forward-looking statement section of our earnings release furnished today on the SEC on Form 8-K, our most recent quarterly report on Form 10-Q and our other filings made with the SEC. All forward-looking statements are made as of the date hereof and we assume no obligation to update these statements except as required by law.

In addition, we will be referring to both GAAP and non-GAAP financial measures. Our recently published earnings release contains definitions of these non-GAAP measures and a reconciliation of these non-GAAP measures to the most comparable GAAP measures.

Our earnings release can be found in the news release section of our website at apfc.com. I will now turn the call over to Joe.

Joe Carleone

Thank you, Linda and good afternoon ladies and gentlemen and thank you for joining our conference call. As forecast, our fourth quarter provided a major contribution to the year’s financial performance. While much of this contribution had to do with timing of customer orders and revenue recognition, our impact team across the board had to produce, ship and invoice a record amount of finished product during a very compressed period.

We certainly proud of the success in meeting this demanding schedule of events. Our year of transition finished by demonstrating record fourth quarter sales of nearly $81 million and an adjusted EBITDA of $23 million. This brings our fiscal 2011 annual figures to sales of nearly $210 million, a 90% increase over the previous year and an adjusted EBITDA of $33 million or 38% increase from a year ago. Our operational excellence and cost reduction initiative continues to bear fruit with operating cost being reduced for the corporation by $3.4 million compared to the previous year.

We continue to build upon our core products and add new products and customers in both our Fine Chemicals and our Aerospace Equipment segments. Our Specialty Chemical segment remained stable and profitable. These product related and cost reduction activities will make us more profitable and secure our growth profile in the future.

Let us now discuss each of the business segments beginning with our Fine Chemicals segment. We are pleased to see another strong revenue quarter and growth for the year. It’s important to point out that development and product sales grew to 24% of total sales for this segment. Year-over-year, our Fine Chemicals segment increased revenue by 29%. While this is very promising, profit margins did not return to the levels we would expect. As sales go up in 2009 and 2010 from their peak in 2008, many reductions and cuts were made. The revenue hit bottom in 2010 and the rapid growth in 2011 required hiring a new process where a major antiviral product to meet throughput requirements and refurbishing and maintenance of idle equipments.

The running curve we are dealing with new people, new process improvements and new equipments exacerbated by increased maintenance requirements and competitive pricing pressures did not allow the team to achieve the profitability levels we have seen in the past. Despite these challenges, the team has done a very professional job of producing products of the highest quality and despite significant growth challenges maintain delivery schedule of high quality product for our customers.

As we enter fiscal 2012, we believe a large part of the regrowing pain is behind us and we will see margins improved in the latter part of the year. We are restructuring operations in this segment to streamline production and increase throughput through use of operational excellence tools. In fiscal 2012 we forecast the addition of at least two new core products. This represents a significant increase in the core products of our business.

One of our newer customers recently received approval for a new class of drug for treatment of cancers. We also shortly expect our Schedule II manufacturing license for controlled substances and expect to start validation of a chemical product used in pain medication by mid fiscal 2012.

Also as reported previously, we will be validating a new compound for Chimerix Incorporated during fiscal 2012. This is active pharmaceutical ingredient in Chimerix’s broad spectrum antiviral drug candidate with nomenclature CMX001 which is being developed for the prevention and treatment of small pox. This is our first entrée into support of life sciences to address the threat of bioterrorism.

Our new product development activity is the basis of long-term continued growth of this segment. We are pleased to report that fiscal 2012 we will again experience development product revenue on the order of 20% of total revenue for this segment similar to 2011.

Products continue to mature and we are diversifying the areas and expanding the technological base. In fact, development products in 2012 represents funded projects from 18 different customers. Of [lethal] importance, these customers represent large pharmaceutical companies, emerging pharmaceutical companies and biotech companies. Approximately two-thirds of the projected revenue for development products is always in the background. Our other new product initiatives remain on-track and we continue to win new business.

Moving on to the Specialty Chemicals segment. As we mentioned during our third quarter call, the Specialty Chemicals segment was poised to have a remarkable fourth quarter. We are happy to report that our forecast was accurate. Ammonium perchlorate for solid rockets was at relatively low production volumes for the year, with DoD programs for tactical and strategic missiles being the primary and stable user of rocket grade ammonium perchlorate. Nonetheless, deliveries in our fourth quarter were at record highs.

With the unique product mix and increased production of other perchlorates however, this segment was able to not only maintain, but actually improve margins. This was enabled by a much larger percentage of fixed price orders versus re-determinately price orders; as you may recall, we sell ammonium perchlorate both on a firm fixed price basis out of our catalog and also under a long term agreement with one of our major customers.

The long-term agreement allows the price to be adjusted or re-determined at the end of the fiscal year based on the total volume of rocket grade materials sold. So with the higher percentage of fixed price orders, the volume related risk was higher this year for us, but the volatility of the demand went in our favor. In addition, our margin contribution was helped by larger orders of other perchlorate products.

Furthermore, our team has now adapted to the much smaller demand for ammonium perchlorate and is performing excellently. This business is sustainable with the demand from the Department of Defense alone.

In addition, we do see the return of the large shuttle type boosters for the NASA new space launch system. In September, NASA announced the baseline design for the new heavy-lift launch vehicle for the space launch system or now commonly known as SLS. The ATK five segment solid rocket motor will provide propulsion for the initial test flights of the heavy-lift vehicle. This will allow for a reasonable amount of ammonium perchlorate demand during the development phase of the SLS program. This also gives our customer ATK a significant leg-up on the competition for a larger follow-on production contract.

Our Halotron product line remained stable for our Utah operations.

Let’s now briefly discuss the Aerospace Equipment segment. Fiscal 2011 has proven to be another record year for our Aerospace Equipment segment, also known as AMPAC In-Space Propulsion. Sales grew by 30% to nearly $49 million. EBITDA profit was 10% of sales; profits improving significantly compared to the prior year are evidence that investments in ongoing systems project may no longer be required as we move forward. We do not expect the fiscal 2011 growth rate in sales to continue into fiscal 2012, but we see fiscal 2012 to be another year as this business accommodates the growth spurt in the past two years.

Orders and sales of our satellite liquid propulsion engines also known as thrusters remained strong. Opportunities to grow the systems business are also being pursued for long-term growth.

I would like now to introduce our CFO, Dana Kelley, who will discuss the financial aspects of the quarter and our guidance for fiscal 2012.

Dana Kelley

Thank you, Joe. As Joe indicated, we ended fiscal ‘11 strong and have exceeded our guidance of both revenues and EBITDA. Fiscal ‘11 revenues of $210 million and fourth quarter revenues of $81 million each represents record high levels for AMPAC. Segment operating income, which excludes corporate and remediation costs increased to $31.7 million from $22.5 million the year before. Stronger performance from both our Specialty Chemicals and Aerospace Equipment segment supported this increase, as well as focused efforts to contain or reduce G&A company-wide.

Our consolidated fiscal ‘11 results includes several unique items, namely we recorded tax gains of approximately $3 million largely related to successful efforts to appeal historical property taxes. In our fiscal ‘11 third quarter, we increased our environmental reserves by $6 million and in our fiscal ’11 fourth quarter we provided evaluation allowance for deferred tax assets which resulted in a non-cash increase in income tax expense of $7.6 million.

To facilitate comparison to our prior year results, we’ve provided the table which compares our results inclusive of these items, each of which is expressed in greater detail in the release.

Our fiscal ‘11 adjusted operating income of $14.1 million is an increase of 115% from fiscal ‘10 or more than double. Also, adjusted net income of $2.2 million represents earnings of $0.30 per diluted share compared to a diluted loss per share of $0.24 last year.

Overall, the fiscal ’11 revenue and profit growth reflected both consolidated operating improvement and focused efforts and achievement which reduced and controlled general and administrative costs. Fiscal ‘11 corporate expenses of $14.4 million have been reduced by more than $1.4 million from the prior year. And as Joe mentioned earlier, total operating expenses were reduced by $3.4 million compared to fiscal ‘10.

Turning to our segments, our Fine Chemicals segment has reported fiscal ’11 four quarter revenues at $29 million which resulted in a 29% increase for fiscal ‘11 with total revenues of $89 million. This increase reflects substantial revenues from our core oncology and central nervous system product lines with fiscal ’11 benefitting from the timing of customer orders. Increased development products activities also contributed to the Fine Chemicals segment revenue growth.

Revenues from our (inaudible) and viral products were consistent year-over-year. We experienced a gap in production that affected the later part of fiscal ’10 and the early part of fiscal ’11. Revenues under a renewed three-year supply agreement for this product commenced in our fiscal ’11 third quarter.

Since fiscal ’12 will include a full-year production, we anticipate that revenues from this product will contribute significantly to Fine Chemicals growth next year.

As Joe indicated, while our Fine Chemicals segment performed very well from the customers satisfaction and quality perspective, the resulting operating loss was a disappointment. The primary setback were difficulty with the implementation of process improvement that was design to offset reduced pricing on a core product and also increases in major equipment maintenance. These factors contributed to the low target through-put rate, material reprocessing and the overall reduction in growth margins of 5 points.

On the operating expense side, our Fine Chemicals segment was very successful in fiscal ’11. The aforementioned property tax appeal were led by this division and resulted in cash gains of 2.7 million from a historical period and a permanent decrease in property tax basis that will benefit this segment going forward. Overall, Fine Chemicals operating expenses reduced by $900,000 during fiscal ’11.

Our Specialty Chemicals segment reported fourth quarter revenues of $36 million and fiscal ‘11 revenues of $67 million.

We’ve often talked about the fact that inherence in our product lines in our customers’ annual purchasing pattern is significant quarter to quarter variances within a year. However, with 58% Specialty Chemical revenue occurring in the fourth quarter, this magnitude is a typical for this business segment and we anticipate our future quarterly revenues to return to a more historical pattern.

Profits for this segment which exclude associated remediation cost remain strong and we’re further benefited in fiscal ‘11 by favorable volume variances as compared to (inaudible).

Our Aerospace Equipment segment is continuing to perform nicely. Annual revenues of $49 million are at a record high. Fourth quarter revenues of 13 million are also very high and second in rank only to the second quarter of this year.

Revenue growth continues to be generated from the success in penetrating compulsion systems market as well as strong sales of our legacy and next generation propulsion engine. Our Aerospace Equipment segment executed a successful turnaround and profitability this year. Operating income of 3.70 million compared to a loss reported a year ago. Process improvement and enhancement-to-program management might be change and we believe further improvement is possible.

General and administrative expenses for this segment would be slightly in fiscal ’11, which is an accomplishment given the high growth rate of this business. We demonstrated strong cash management in fiscal ’11, ending the year with an increase in cash to 30 million to five requirements for working capital growth and capital equipment. At no time during the year did we borrow against revolving credit facility.

We anticipate fiscal ‘12 to be another year of overall financial improvement. Our guidance for fiscal ‘12 revenue is at least 220 million. Fine Chemicals segment revenue should increase by at least 15%, supported by the long-term contract for our most significant anti-viral products as well as initial revenues from new core products.

Specialty Chemicals revenues are expected to decline by up to 10%, which is within our range of expectation for this stable non-growth segment. Fiscal ‘12 is anticipated to reflect a more typical products mix. Aerospace Equipment revenues will grow modestly. Many of this segment; key contracts are multi-year bookings. As such, growth is not necessarily linear. Combining the significant growth rate in fiscal ‘11 with a more modest expectation for the fiscal ‘12 provides a more normalize expectations for this segment.

Our guidance for fiscal ‘12 adjusted EBITDA is at least 35 million. Our Fine Chemicals segment is the key to this improvement as they begin to seeing the benefits and the profits improvement and operational changes. The greater Fine Chemicals profit contribution will be offset somewhat by declines in the Specialty Chemicals segment profit as this segment moves from the typical high levels achieved in fiscal ‘11.

That concludes our remarks, we will be, we wish you all happy holidays and we’d be happy to take your questions at this time.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Donovan Chaney from Wells Fargo. Please proceed.

Donovan Chaney - Wells Fargo

So, your regarding to 2012 EBITDA of at least 35 million, up from 33 million this year, which was a little lumpy, could you just talk about the distribution of revenue EBITDA in 2012 versus 2011, you know, if you think there are some factors that might cause it to be lumpy towards certain quarters or just how think about the quarters?

Dana Kelley

Fiscal ‘12 will go back to, you know, a very more, a less lumpy pattern, I guess will be a way of describing it, something more consistent with our prior year, and we are certainly not going to become this night linear company, but I wouldn’t expect anything to the magnitude that you saw fiscal ’11 with our fourth quarter being a complete blockbuster quarter.

Donovan Chaney - Wells Fargo

Okay that’s helpful and my other question is, I guess it has a couple of parts, if you could just refresh us on how much cash you need to run the business kind of day-to-day, and what your uses of free cash flow would be in 2012, and if you have any ability to repurchase bonds under your current credit agreement?

Dana Kelley

As we look to cash in fiscal ’12, I am going to expect that our fiscal – our free cash flow we targeted at probably a neutral number. There are a couple of things that plied pressure on total cash flow in fiscal 2012 one which has been to put the new equipment into our environmental remediation facilities and total anticipated cash outflow for that is at about $12 million for fiscal 2012. In addition we did have some enhanced funding requirements under our pension plans. So given that I would not anticipate additional cash flow that wouldn’t have alternate usage in the business that would be available for ordinary purchases.

Operator

Your next question comes from the line of [Crystal Lynn] with Manulife Asset Management.

Unidentified Analyst

I just want to know if that do you have any plan for refinancing redemption for the senior notes maturing in 20015?

Dana Kelley

None at this time. We have no plans at this time.

Unidentified Analyst

So there's no plan at all for any repurchase or redemption, early redemption of call before 2015.

Dana Kelley

Not at this time.

Operator

(Operator Instructions) Your next question comes from the line of Bruce Baughman with Franklin Templeton.

Bruce Baughman - Franklin Templeton

Dana, what is the total CapEx spend plan for 2012 including the remediation?

Dana Kelley

The CapEx guidance is $13 million which of course doesn't include remediation. The total expected spend on remediation is $12 million and that is the combination of what will be capital equipment in remediation, but it’s the combination of the capital equipment and our annual operating maintenance cost. My recollection is that the O&M component of that is about 1.5 million. So that would lead 10.5 million in remediation related capital.

Bruce Baughman - Franklin Templeton

So that was the 23.5 million.

Dana Kelley

If you add those two components together. Yeah that’s, it’s a practical way to look at it, although another gap way to look at it.

Bruce Baughman - Franklin Templeton

Okay. And then when you say free cash flow is neutral is that the same as saying zero?

Dana Kelley

Yes.

Bruce Baughman - Franklin Templeton

Okay. Meaning that cash from operations ought to be about 23.5 million?

Dana Kelley

Well, doing mathematics the way you are, but in the way that the financial statements reported the remediation related cash flow is in the cash from operation is not in the CapEx number.

Bruce Baughman - Franklin Templeton

Okay. But I am talking about the 23.5 million.

Dana Kelley

Understood, they have between 3.5 million, 13 of that would be called CapEx when you look at the cash flow statement and the remediation piece of that will be reported in the cash flow from operation.

Bruce Baughman - Franklin Templeton

That’s whole 12 million remediation fees?

Dana Kelley

Yeah.

Bruce Baughman - Franklin Templeton

Okay. I understand. Thank you. And then how underfunded is the pension?

Dana Kelley

The pension plan is funded at 80% which has been funded at 80% consistent between the plan and that’s our target in regulatory funding rate where the additional funding requirements come from is basically underperforming assets in the plans and so when we have poor performance in a fiscal year, then we have some enhanced funding requirements in the next fiscal year to maintain that funding level.

Bruce Baughman - Franklin Templeton

Okay. Has the company looked at converting that to a defined contribution plan?

Dana Kelley

We did, you recall, maybe a year and half ago put on factories that we are on…

Bruce Baughman - Franklin Templeton

Okay.

Dana Kelley

We have three defined benefit plans that we placed in the factories until all new employees participate in the defined contribution of 401(k) plans.

Bruce Baughman - Franklin Templeton

Alright, yeah thank you for reminding me. And then Joe, I want to ask Joe that the operating problems in Fine Chemicals in the fourth quarter; are those problems behind us now or is that – are those problems going to dog us in the coming quarters as well?

Joe Carleone

Largely behind us. The key is getting that new process improvement through and the yields and the throughput are very, very close to our goals and we expect very shortly to be at that level.

Bruce Baughman - Franklin Templeton

Okay. But you’re distinguishing the new process improvement from those other factories or is that the same?

Joe Carleone

Well, they are somewhat coupled together, you know maintenance factors and so forth because as we have idled equipment we have to bring that equipment as we grew back, we grew, we have to bring equipment back on when you idle chemical equipment very often you have a larger amount of maintenance when you bring it back online. And now we have you know the plant running at that clearly normal utilization rate as compared to 2010 and the early part of 2011.

Bruce Baughman - Franklin Templeton

And then the new process improvement, has that been -- have the goals of that program been realized yet or is that still a work in process?

Joe Carleone

Well, it will take a while for that to flow through financially because of the manufacturing cycle times; so by the time that rolls through into revenues it is still going to take a quarter or so.

Operator

(Operator Instructions) And at this time, I would like to turn the presentation back over to management for closing remarks.

Joe Carleone

Well thank you very much for joining our call and taking your time to be with us. We want to wish all of you to have a safe and enjoyable Holiday Season. And we hope you will join our first quarter fiscal ‘12 call sometime in February. Thank you very much.

Operator

We thank you for your participation in today’s conference. This does conclude your presentation. You may now disconnect and have a great day.

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