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Executives

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

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

Analysts

Shneur Z. Gershuni - UBS Investment Bank, Research Division

Brian Yu - Citigroup Inc, Research Division

Brett Levy - Jefferies & Company, Inc., Research Division

Richard Garchitorena - Crédit Suisse AG, Research Division

Evan L. Kurtz - Morgan Stanley, Research Division

David Gagliano - Barclays Capital, Research Division

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

Charles A. Bradford - Bradford Research, Inc.

Michelle Applebaum - Steel Market Intelligence Inc

Justine Fisher - Goldman Sachs Group Inc., Research Division

Arun S. Viswanathan - Longbow Research LLC

Christopher David Olin - Cleveland Research Company

Timna Tanners - BofA Merrill Lynch, Research Division

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

AK Steel Holding (AKS) Q1 2012 Earnings Call April 24, 2012 11:00 AM ET

Operator

Good morning, ladies and gentlemen, and welcome to AK Steel's First Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. With us today are Mr. James L. Wainscott, Chairman, President and Chief Executive Officer of AK Steel; and Mr. Albert E. Ferrara, Jr., Senior Vice President of Finance and Chief Financial Officer.

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

Albert E. Ferrara

Thank you, Amy, and good morning, everyone. In a moment, I'll review our first quarter 2012 financial results. Following my remarks, Jim will offer his comments, and together, we will field your questions.

Our comments today will include forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. Included among those forward-looking statements will be any comments concerning our expectations as to future shipments, product mix, prices, costs, operating profit or liquidity. Please note that our actual results may differ materially from what is contained in the forward-looking statements provided during this call. Information concerning factors that could cause such material differences in results is contained in our earnings release issued earlier today. Except as required by law, the company disclaims any obligation to update any forward-looking statements to reflect future developments or events. To the extent that we refer to material information that includes non-GAAP financial measures, the reconciliation information required by Regulation G is available on the company's website at aksteel.com.

Let me begin by reviewing AK Steel's results for the first quarter of 2012, which were reported earlier today. For the first quarter, AK Steel reported a net loss of $11.8 million or $0.11 per share. This was at the favorable end of our guidance range and represented a significant improvement compared to our adjusted net loss for the fourth quarter of 2011.

Shipments for the first quarter totaled 1,325,900 tons, a decrease of 6% compared to the fourth quarter of 2011, but better than our guidance. Our average selling price per ton for the first quarter was $1,138 per ton, an increase of approximately 6% compared to the fourth quarter, and in line with our guidance.

Revenues for the first quarter totaled $1,509,000,000, virtually the same level of sales as for the prior quarter. Sales outside the U.S. continued to be an important source of revenue for us and they totaled approximately $225 million for the quarter. This represented about 15% of total sales for the first quarter and an increase of 6% compared to the prior quarter. We did benefit from a LIFO credit of $12.4 million in the first quarter. As expected, this credit was substantially less than the LIFO credit of $44.1 million recorded in the fourth quarter of 2011.

On an operating basis, we achieved an operating profit of $4.1 million or $3 per ton for the first quarter of 2012, a substantial improvement over our adjusted operating loss of $32.6 million or $23 per ton for the fourth quarter of 2011.

Turning to the balance sheet. In March, we successfully issued new 10-year senior notes due in 2022. Strong demand from investors allowed us to upsize the amount of the offering from $250 million to $300 million. The notes were priced at an attractive long-term interest rate of 8 3/8%. As a result of this transaction, we now expect our interest expense for 2012 to total approximately $80 million.

The completion of this transaction enhances our financial flexibility and is consistent with our stated objective of funding long-term strategic investments with long-term financing. Our senior notes issuance also improves our liquidity, which I will discuss further in just a moment.

In the first quarter of 2012, our capital investments totaled $10.5 million. As expected, working capital consumed $150.7 million of cash during the first quarter as we increased our inventories to support anticipated higher second quarter sales. We also used cash to contribute to our pension fund. In the first quarter of 2012, we contributed approximately $29 million to our pension trust fund. And as we announced this morning, we completed the remainder of our 2012 pension contributions early by contributing approximately $141 million to the pension trust fund in April. That brings our total pension contributions for 2012 to approximately $170 million. I might add that this also brings our total contributions to the pension trust since 2005 to nearly $1.5 billion.

In addition, our liquidity remains solid as we ended the first quarter of 2012, with liquidity of about $883 million.

Finally, looking forward, we expect to provide specific guidance for the second quarter of 2012 in mid-June. As previously announced in March, we expect business conditions to improve compared to the first quarter of 2012, led by increased strength in the automotive market.

Overall, we expect second quarter 2012 shipments to be higher than the first quarter of 2012. We also expect to have improved operating rates in 2012 second quarter, along with lower cost for raw materials as compared to the first quarter. As a result, we expect to generate net income for the second quarter of 2012.

Now for his comments, I'll turn it over to Jim.

James L. Wainscott

Thank you, Al. Good morning, everyone, and thank you for joining us on today's conference call. Although we reported an $0.11 per share loss for the first quarter of this year, the good news is that the factors that contributed to that loss are mostly behind us. And as a result, we expect to report net income for Q2. As to how much, we'll have more to say on that subject when we provide more detailed guidance in the mid-June time frame.

Having said that, in the near term, we see positive momentum on a number of fronts starting with increased shipments, higher operating rates and lower raw material costs. In just a moment, I'll provide some color commentary in terms of what we're seeing in our markets and on the steelmaking input cost front. But first, let me take a moment to provide an update on our key business basics, namely: safety, quality and productivity.

When you take care of your people, you take good care of your customers, well, all things are possible for your company, and that's our philosophy at AK Steel and it's a philosophy that's served us well for a number of years.

It all starts with keeping our employees safe. Our first quarter safety performance was stellar. In fact, we tied our best ever first quarter safety results with only 3 OSHA recordable accidents throughout the entire company. Thanks to all of our employees for making safety their highest priority every day.

During the first quarter, we were honored for our 2011 safety performances at our Zanesville Works and at AK Tube. I'll take this opportunity to congratulate our employees at those locations on achieving this well-deserved recognition.

As good as we feel about receiving safety awards and as proud as we are of our track record, when you run 7 steel plants 24/7 and 2 tube plants, there's never a finish line when it comes to safety. Accordingly, we will remain vigilant in applying our approach to safety in terms of educating, equipping and enforcing; the 3 Es, if you will. We owe it to our employees and to their families to do so.

Speaking of our Zanesville employees, during the first quarter, we reached an early labor agreement there with the United Auto Workers. This 3-year contract continues to provide a competitive and flexible labor arrangement for AK Steel and our Zanesville employees. Our one remaining labor agreement for 2012 is with the United Auto Workers, representing our Butler Works plant. This agreement is set to expire on September 30, but we're hopeful that we can reach an early labor deal at Butler that enhances our ability to compete.

Now let me shift from safety to quality. One of the hallmarks of AK Steel is our consistently excellent product quality, and thanks to all of our employees, once again, the first quarter of 2012 continued this tradition. During the quarter, our internal quality measures were especially good. As a company, we established all-time record performances for internal rejections and retreated products, and every department at our Middletown Works, every department, set a new quality record in the first quarter. Terrific job.

At AK Steel, we strive to serve our customers better than any other steelmaker, with a combination of superior product quality, on-time delivery and outstanding customer service. Over the years, we fared quite well in the eyes of our customers.

Continuing that tradition, we also fared well in the first quarter of 2012 in the Jacobson independent survey of our customers. Compared to our carbon steel integrated competitors, AK Steel was ranked #1 in quality, customer service and on-time delivery, as well as inside sales support for Q1. These performances translated into a #1 rating in overall customer satisfaction in our carbon market.

On the specialty steel front, we were ranked #1 in quality, customer service, outside sales and inside sales support. This performance also translated into the #1 rating in overall customer satisfaction in our specialty steel markets. These outstanding performances and service to our great customers are the result of superb teamwork by all of our employees. I congratulate our workforce on a job well done.

Now staying with the theme of customers and markets, let me take a few moments to provide you with an update on what we're seeing in the way of demand and pricing for our products. In general, we continue to see a slow but steady economic recovery. I know that sounds like a bit of a broken record, but it's the most accurate description of what we continue to observe and experience.

That said, one continuing bright spot is the automotive market. In the first quarter of 2012, the automotive market, which represents about 1/3 of AK Steel's sales, showed continued strength as our automotive shipments reached their highest quarterly level since the second quarter of 2008. Auto build rates were robust and they exceeded our own expectations. As a result, our first quarter 2012 shipments to automotive customers were quite a bit higher than those that we experienced for the fourth quarter of 2011.

In March, U.S. light vehicle sales were at an annual rate of about 14.5 million units, and again, that's the highest level since the first quarter of 2008. And compared to the 13 million annual sales rate for the year-ago first quarter, it was a double-digit percentage gain in terms of automotive sales. We expect the automotive producers to keep pulling strongly in the second quarter, as light vehicle inventories stand at only 58 days of supply on hand, a number well below the historical average.

Taking all of this into account and consistent with our objective of increasing automotive contract sales, we expect to increase shipments of carbon steel products to automakers in the year 2012 by about 20% over the year 2011.

In terms of autochrome stainless steel shipments, we experienced approximately an 18% increase in shipments for the first quarter of 2012 compared to those of the fourth quarter of last year.

Moving to the construction market, while construction remains in a low gear, general manufacturing activity has been improving ever so slightly. For example, our infrastructure and manufacturing shipments increased in the first quarter of 2012 compared to Q4, most of which was driven by demand from appliance and HVAC customers. The housing market is somewhat better, but certainly not great. Housing starts are still expected to increase by about 15% this year from 609,000 units in 2011 to about 700,000 units in 2012. And while that would represent progress, it would also mark the fifth consecutive year of less than 1 million housing starts. By the way, there have only been 4 years in the past 50 years where annual housing starts have been less than 1 million units, and we've just lived through those past 4 years, by the way.

We're continuing to focus our attention, and we've succeeded, in winning new business with OEMs who value our high-end products and appreciate the reliability of our quality, delivery and customer service. But I want to emphasize that there's also a meaningful place at our table for our important spot market customers. Our largest market group continues to be the distributor and converters, or the DNC, for short market. Throughout the first quarter, DNC market customers remained cautious in their buying patterns as they continue to closely monitor their inventory levels. Customers in this important market segment provide valuable processing activities and just-in-time deliveries to a variety of other market sectors. As such, they currently only want to hold just enough inventory to supply their contractual commitments in order to avoid suffering from volatile pricing swings.

Speaking of pricing, to reflect increasing demand, to recover our costs and ultimately, to generate margins to sustain the enterprise, AK Steel announced separate price increases for carbon and stainless steel products during the first quarter of 2012. In light of ongoing low inventory levels of about 2.3 months of supply on hand at steel service centers, coupled with anticipated rising scrap prices in the coming months, they expect carbon steels spot market prices to continue to firm during the second quarter.

Now let me offer a few comments on the electrical steel market. Our first quarter electrical steel shipments declined slightly as compared to the fourth quarter of last year. We expect that our second quarter electrical steel shipments will be roughly flat when compared to Q1. Overall demand from our NAFTA electrical steel customers has been steady, although not inspiring. We've experienced an uptick in the power transformer market, while demand from the distribution transformer market has been relatively flat.

On the international front, we have continued to experience global weakness led by ongoing uncertainty in Europe and slower growth rates in Asia. Suffice it to say that international electrical steel pricing remains under pressure due to the global economic malaise that we face in that market. One bright spot in electrical steel continues to be that global demand for high-efficiency electrical steel remains quite strong, and that's the strength of AK Steel.

Turning from our markets to our operations. Our operating rates improved in the first quarter and to support increased shipments, we expect more of the same in the second quarter of 2012. In addition, in Q2, we'll be consuming lower-priced iron ore. Each of these items is expected to significantly lower our operating costs.

Beyond that, we're excited about the continued gains at the new #5 EAF at Butler Works and SunCoke Middletown's coke plant, as well as the progress we've made at both Magnetation and AK Coal. I want to take just a moment on each to provide you with a few details.

The #5 EAF at Butler Works is beginning to hit its stride. Tap-to-tap times have continued to decline on all products and our productivity is greatly improving. Now we just need one more thing: more business, more orders that is, so we can run longer campaigns, and we're absolutely ready when that happens.

SunCoke Middletown is operating as expected and supplying AK Steel's Middletown blast furnace with a steady supply of coke. In addition, our energy self-sufficiency is being enhanced with the generation of about 45 megawatts of power from the heat recovery process. This represents about 1/4 of the entire electricity needs of our Middletown plant.

Our long-term strategic investments that helped vertically integrate AK Steel are also making great progress. Magnetation, a joint venture in which AK Steel holds nearly a 50% interest, had solid operating performance in Q1 and its second plant is on schedule for a startup of operations during the second quarter of 2012. As a reminder, Plant 1 has an annual production capacity of about 350,000 net tons of iron ore concentrate, and Plant 2 will have a targeted capacity of about 1.1 million net tons.

Next on the agenda for Magnetation is the site selection and related permitting activities, I should say, for its pellet plant. Once a site is chosen and construction of the plant is complete, total concentrate production is expected to increase to 3.7 million net tons to feed a 3.3 million net ton pellet plant. Said another way, upon completion, Magnetation's pellet plant is expected to consume the vast majority of the JV's production of iron concentrate. Once the pellet plant is operational, which is expected to be in 2016 or hopefully sooner, AK Steel will benefit in 2 important ways: first, by purchasing pellets from the JV at favorable prices; and second, by receiving its share of net income from the JV itself. It's clear to us that the Magnetation JV is going to be a real winner for AK Steel, and with the eminent startup of Plant 2 and the pellet plant down the road, this strategic investment will be a real game-changer for AK Steel.

Activities at AK Coal have been primarily focused on permitting and mine planning. We're on or ahead of schedule on these and other matters. In addition, AK Coal has begun to purchase coal from other producers in the Somerset County area and supplied a small amount of coal to the SunCoke Middletown facility this past quarter.

So in summary, our vertical integration activities are well underway. We’ll look to complete them and enjoy the financial benefits associated with them just as quickly as we possibly can.

From backwards integrating to profitable growth strategies, we remain very focused at AK Steel in terms of adding value for our shareholders. That's certainly the case when it comes to innovation and new product development as well.

On the research and development front, our team continues to make excellent progress in expanding our product capabilities in all of our products: carbon, stainless and electrical steels to meet the future needs of our customers. For example, we continue to develop and commercialize our high-strength steel products to better serve the automotive market and we're working hard to expand our carbon and stainless steel offerings to serve the growing hydraulic fracturing and offshore energy markets.

In closing, having bounced off the bottom, I'm confident that our best days are ahead of us at AK Steel. It's really a story of recovery and progress. We expect a better second quarter compared to the first, a better second half compared to the first half and a better year in 2012 compared to 2011. You get the message. And beyond that, all of the things that we put into motion, our vertical integration investments and related activities, our product and process innovations, coupled with an ongoing economic recovery in our served markets, we think position us very well for future success. Each and every day, we'll continue to execute on behalf of our customers, our shareholders and all of our constituents.

Thank you all very much for your attention. Now we'd be happy to field your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Shneur Gershuni of UBS.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

My first question is kind of related to your comments. You're kind of expecting a net income of the second quarter. You're kind of a little bit more constructive and so forth. I was wondering if you can sort of -- you separate it out for us with respect to how much is related specifically to continued strength in auto demand versus some of the other areas versus is it going to be driven more by the lower input cost? And maybe as part of the comments, if you can talk to us about how pricing is shaping up for the quarter as to how you're thinking about it at this stage right now.

James L. Wainscott

That's a very good question, a very broad one. Let me maybe bite off a couple of pieces of that. I would offer the following: we're going to see improvement at the top line and at the bottom line. Firstly, we're going to ship more product, we're going to make more product. And when we make it, the cost of making it are going to be less. I think in terms of iron ore, for example, as Al and I were chatting before the call, we're going to benefit to the tune of $15 to $20 a ton in terms of iron ore itself. And other input costs should benefit us as well. We expect pricing, as I mentioned in my prepared remarks, to firm. We're always mindful and looking at opportunities to increase price. We haven't been shy about that at AK Steel for a variety of reasons. Our costs are high. We think that market demand, while stable, will likely pick up just a bit as we move out into the year and the economy recovers. And also, as we look to May and June, our expectation is that scrap prices will pick up by just a bit. So for all of those reasons, and again, we'll have more details when we announce our actual guidance, we're still very comfortable indicating that we expect to make money in Q2.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

And you're current lead times kind of support kind of your view as to how everything is going to firm up and so forth?

James L. Wainscott

Indeed. We're sold out on all products for April. Our lead times for carbon products are out well into May, and in some cases, into June. And so I think that's a positive as our lead times begin to extend a bit.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

Okay, great. One last question, if I may. You gave some great color on the Magnetation. One of your peers sort of talked about operating costs on their call. I was wondering if you had some color about it. Should we be thinking that your cost structure is going to kind of look similar to theirs and so forth? I was wondering if you have any detail on that.

James L. Wainscott

I'm not sure who the peer is or what they said and I probably wouldn't want to go there. I'd just say that we think given the process and the product we produce, it is a very good product. Our costs are quite competitive. It is a private entity, a JV, we probably wouldn't share a lot of that without talking to our partner. But we didn't get into this because we wanted to be high cost. We got into this because we wanted to improve our cost structure and we're very comfortable with how Plant 1 is running. I think when you add Plant 2, given its size and scale, our cost will be even better. But ultimately, we need a competitively priced or cost pellet, and that's down the road a couple of years or so. We're going to be able to compete very, very well when that happens. It has certainly been an Achilles heel of our company, and we're taking care of that. It can't happen fast enough.

Operator

Our next question comes from Brian Yu of Citigroup.

Brian Yu - Citigroup Inc, Research Division

The question is on Magnetation 2. Can you provide us maybe a rough estimate of what kind of profit you might expect from that operation? And the reason why I'm asking is that I think Magnetation shows up under other income and that was a modest $1 million profit, but there's probably some other things in there too. So I just want to get a better clarification of the economics of that project.

Albert E. Ferrara

Brian, you're correct. Magnetation does fall out under other income, in there are foreign exchange gains and losses. If you remember, we had some foreign exchange gains in the fourth quarter, which we did not replicate in the first quarter. But you have to remember that Magnetation is certainly in a startup mode in that it has only the one unit operating right now. And so its financial results certainly in the first quarter are not representative of what we're expecting longer term.

Brian Yu - Citigroup Inc, Research Division

Do you have just the Magnetation number that you could provide?

James L. Wainscott

I'd just offer the following, Brian, that we would expect that the JV, our interest in the JV will be accretive to our earnings for 2012. We haven't given any more specific guidance than that just yet. We probably wouldn't do so today.

Brian Yu - Citigroup Inc, Research Division

Okay. And then the second question on the minority interest I believe that relates to SunCoke. There was a $5 million deduct. Is that a fair run rate going forward for the remainder of the year?

Albert E. Ferrara

What that is, of course, Brian, is under our variable interest entity accounting, if you will. We are required to consolidate SunCoke's operations into ours, if you will. And that, in fact, represents the first quarter's after tax, in large measure, their after-tax contribution to the net income. We wouldn't want to forecast what SunCoke's operations will do going forward. That represents the impact in the first quarter.

James L. Wainscott

Brian, just one last PS or postscript to the question with respect to Magnetation. One of the reasons that we've been a little hesitant to give much guidance there is it does depend a great deal on what will happen to iron ore prices. And as that market -- it's been a bit volatile, as you know, particularly in terms of the IODEX with what's going on in China of late and their demand levels fluctuating, our income related to the Magnetation venture is a function then of what happens to iron ore prices. So as that moves, it will affect our income. I think the most important takeaway, hopefully for all of you, is that when all of this is said and done, when the facilities are built, both the iron ore and coal, we'll be roughly a 50% owner, if you will, of raw materials and a 50% taker. That is a great hedge. That's where we want to be. We don't want to be 100%, we don't want to be 0%. And so it'll fluctuate over time, we'll win either way.

Operator

Our next question comes from Brett Levy of Jefferies & Company.

Brett Levy - Jefferies & Company, Inc., Research Division

Jim, first question revolves around imports -- I'm sorry, the export sales. You said it was 15%, growing by about 6%. Can you talk about some of the drivers and end markets there and whether or not you can expect the growth to continue?

James L. Wainscott

The growth and the activity has really been related largely to our specialty steel products. As I mentioned in my comments, we've obviously seen some weakness, particularly in the European environment. We've been somewhat zoned out off Asia, in particular, China in light of a trade case that we continue to work our way through. I think there are some activities that are going to have to sort of clear out over there to get this malaise out of the way in order for us to benefit a lot further. But it has been 15% to 20% of our sales now for some period of time. We'd love to get it back to that 20% level. I think the opportunity will avail itself, but again, it's a challenging market environment offshore right now.

Brett Levy - Jefferies & Company, Inc., Research Division

And the second one is sort of actuarial kind of question, but it is kind of the 800-pound elephant in the room. Pension payments are supposed to be $300 million, next year was the last guidance. Any revisions in that guidance? And then I don't know if you guys have ever calculated this, but what is the average age of your retiree? Last I checked, I think you have 6 retirees for every 1 active. If you fast-forward 10 years and use an actuarial table or something like that, does it become 3 retirees to every 1 active? Can you give a little bit of color around sort of pension payments and then just sort of the average age or anything else actuarial about kind of the pension situation?

James L. Wainscott

I'll leave the numbers to Al. This is Jim. Let me just offer a couple of thoughts. First off, so many folks, particularly in the analyst community or financial analysts tend to get concerned over legacy of our company. I would tell you that it is a legacy, a great pride that we take in honoring the obligations that those who preceded us have created here. But for the people that came before, myself and Al and others, there's no AK Steel today. So we owe it to them to continue to do everything we can to honor that legacy and we're proud to do so. Our pension payments have been meaningful. I think that contributions that is. We noted in a release earlier today as we're accelerating the balance of this year's contribution that we're now -- we've done our $170 million this year that's needed, and we're up to about $1.5 billion since 2005. So that's a large number. I think we've guided that we're roughly $300 million next year. Look, we've been in discussion with the powers that be, the legislators in our country to make sure they know that we are fighting the good fight, doing all the right things. But that pension relief in light of what's happened to interest rates and investment returns would make enormously good sense for those of us who have defined benefit pension plans. We have heard a number of numbers. It could be very meaningful to us, perhaps as much as $100 million impact. Those numbers aren't final and don't hold me to them, but it could have a meaningful impact to us next year. We're committed to make the necessary contributions we need to make, to let the money work with any kind of normal returns, with any kind of more typical interest rates, which is part of the pusher behind some pension relief legislation, the average interest rates in calculating contributions that will be in a good shape. We do have a large number of retirees. That number has been declining. We have, importantly, frozen all of our DB plans, all of them, and those obligations are declining over time. But it's a function of 2 things, of course: it's the assets and the liabilities. Al can speak to the sensitivity of the liability, but for every quarter percent move in the discount rate, I believe, it's a $75 million reduction in the liability. So this is an issue that we can focus on, others can focus on. I’ve probably spoken more about it than I need to, but it's important to educate you that we're managing it, we're managing it well and we're managing it proudly.

Albert E. Ferrara

Brett, I would just say, just adding to Jim's comments, that our pension contributions since 2005 have represented between $110 million to $250 million a year. Clearly, 2013 would represent a high watermark, but we've consistently indicated, certainly in the past 9 years, that this was not an obligation that grew up overnight, it won't be necessarily solved overnight. Jim's point, with respect to the discount rate, is appropriate. 100-basis-point move is $300 million in liabilities. But again, I think it's one of those things we've addressed prudently, both on the side of locking and freezing benefits, but also contributing in a very aggressive way that's positioned us very, very well for the future.

Operator

Our next question comes from Richard Garchitorena of Crédit Suisse.

Richard Garchitorena - Crédit Suisse AG, Research Division

So my first question, you mentioned in your comments that the working capital drawdown in Q1 was a function of increasing inventories ahead of Q2. Is that referring to raw material inventories, i.e., iron ore? And if so, does that mean that the improvement in cost in Q2 could be sustainable into Q3 even though we've seen IODEX prices tick up in the last couple weeks?

James L. Wainscott

Well, Richard, the increase in raw materials which was about $200 million was really across-the-board. Raw materials were part of that, but also we had an increase in whip and finished, if you will, positioning ourselves for increased shipments in the second quarter. In addition, we had an increase of accounts receivable because our shipments were better priced in the first quarter, offset somewhat by payables. We would expect, actually, in the second quarter to probably see an increase in -- a further increase in working capital, not anywhere near as large as last year's increase, which was about $99 million, and then to see that number drop in the second half of the year. But again, I think we're very well positioned from a working capital perspective to take advantage of opportunities in the second quarter.

Richard Garchitorena - Crédit Suisse AG, Research Division

Great, okay. And then my second question, you do mention that you do see an improving second half of 2012. What do you see in terms of risks to this view, because some of the other producers out there may be more cautious heading into the second quarter and second half? So is it import situation or do you -- is raw materials a potential risk? What keeps you guys up at night today?

James L. Wainscott

Oh, lots of things keep us up, Richard. But I would just say a couple of things. First off, again, rather than sort of talk generalities, I'm not sure what other producers and I'm not sure what other products and markets they serve and how focused they are domestically and so forth. One of the things to keep in mind, we continue to grow, at AK Steel, our percentage of contract business, which moves us farther and farther away from the spot market. Again, we want to participate in the spot market, there's a place at the table for important business with some of those folks, particularly some of the programs that we're into with them. But it doesn't do us -- we've built our business. We've invested in our lines and in our company to really support value-added, high-end products, very difficult applications to make. That's not typically the characteristics that you'd define the spot market with. So our spot market was probably down to 35% or something like that, shipments in the first quarter kind of mid 60s, contract business, that's up probably 10 percentage points from where we were a year ago at this time. So that's a good thing. As far as risk to the second half, again, we're continuing to expect that the economy will slowly but gradually continue improve here and abroad. There obviously has been, and we've been watching it carefully and we're concerned about increasing imports, particularly of flat-rolled products that's come in. The increased capacity, we'll see what happens there. By and large, that's not playing with us in some of the high-end markets just yet as a lot of that still has to get qualified. But -- and over time, I think that the market will find a home for all of that. But I think one of the reasons that the steel industry's recovery -- our recovery, among others, has lagged a bit is because of the increased capacity. We don't need it now. It's simply not necessary. When you're running your operations at 80% of capacity and you have high fixed costs as we do and others do, you really need to get beyond that. So eventually, we'll need a real sustained economic recovery and we'll need increased volume. In the meantime, we'll keep chugging along here, we'll keep improving. We'll be doing everything we can to control those things we can control. But it's a number of those things that are outside of our control, to your question of what keeps me up at night. It's the economy, it's input costs, it's the actions of our competitors, new and old, and other things, shocks to the system, things that I just can't control that do bother me.

Operator

Our next question comes from Evan Kurtz of Morgan Stanley.

Evan L. Kurtz - Morgan Stanley, Research Division

Just a couple of more questions on Magnetation, specifically on the Plant 2 startup in the next quarter here. What is generally the commissioning time for a Magnetation plant and do you expect any kind of unusual startup charges?

James L. Wainscott

Candidly, that's probably not my area of expertise, I'll just submit that right offhand. But I would say that something of this sort would typically be up in a few months. We have a very skilled management team up there, led by Larry Lehtinen and his group. They've had enormous success, not only with Magnetation, but in the past. So I fully expect that late third quarter, certainly by the end of the year, we'll be in great shape. The key is that this is not new technology, it's proven technology. We already have one plant up and running. The second one's a bit larger, but we're not at all concerned about startup.

Evan L. Kurtz - Morgan Stanley, Research Division

And would you expect it to break even by the end of this year?

James L. Wainscott

Again, what we've said is we'll be accretive. This will make us even more money as the year goes on.

Evan L. Kurtz - Morgan Stanley, Research Division

Okay. And then on the last call, you talked about taking an outage at Ashland in the third quarter and possibly one at Middletown in the fourth quarter. Is that still the plan?

James L. Wainscott

We continue to monitor those things, Evan, and we only take them when we need them. Right now, I would say that we are planning to take an outage in the third quarter. The size and scope of that to be determined. It could be a meaningful one, though. Our challenge, I think, is to continue to meet the needs of our customers over the long run, while doing these outages only when they're absolutely essential for the equipment. We think that makes sense to do in the third quarter. It's another one of the reasons why we'll continue to build inventories a little bit in advance of that so that we serve our customers well. But it could be a $20 million, $25 million outage in Q3, much smaller one perhaps in the $10 million variety in the fourth quarter order of magnitude, Ashland in Q3 and Middletown in Q4. That would also position us, I would tell you, exceptionally well going into 2013 as the economy continues to gather steam.

Operator

Our next question comes from David Gagliano of Barclays.

David Gagliano - Barclays Capital, Research Division

I just wanted to turn to -- just turn to liquidity and use this as an opportunity to address some of the issues that we still hear about fairly frequently even after the debt deal. So my question is based on the current environment, what you know about your business today, do you think you'll need to tap into the capital markets again in 2012 to shore up your liquidity position?

Albert E. Ferrara

Well, David, as you know, we finished the quarter with $883 million of liquidity at the end of the quarter. Clearly, a very robust liquidity position, as solid as we've had for a long, long time. Again, I think our belief, with respect to the capital markets, is we've addressed the capital markets issue this year with what we thought was a very successful opportunity in terms of getting into the bond market with a transaction that not only raised very reasonably priced funds, but also without any covenants that won't restrict us going forward. Again, we believe we've addressed the liquidity issue in a very direct and forthright manner, which is beneficial to all of our stakeholders. And as you go through the year, if you will, we think, again, based on what we know today, that our liquidity position should remain very, very robust for the remainder of the year.

David Gagliano - Barclays Capital, Research Division

Okay. That's very helpful. And then just my second question. Electrical steel, obviously an important driver within your business, but visibility's fairly low. I was wondering if you could just give us a little bit of information with regards to the profitability of that business. Specifically, could you tell us what the profit per ton is on average for your electrical steel business at the moment?

Albert E. Ferrara

Dave, I would tell you, I don't think that's good information to share from a competitive standpoint. It has been a good business for us. It's obviously less profitable in this current environment as we're experiencing some of the challenges both from a NAFTA and particularly from an international standpoint. So it's been a key driver, it's been an important driver of our success. It's been a positive contributor certainly to our margins. But we've really never characterized that and I don't think we want to begin to get into that at this point in time. But we thank you for your question.

Operator

Our next question comes from Luke Folta of Jefferies & Co.

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

So when I look at shipments in the first quarter, as you had projected and telegraphed, they were down year-over-year. Do you expect -- I mean, and I guess, a lot of that has to do with the fact that you've built some inventories over that time frame, you said automotive shipments were up 20% in the first quarter. Do you expect in the second quarter that your shipment trends will be more reflective of the steel market as a whole? Or do you think you'll still be running a negative shipment number year-over-year?

James L. Wainscott

Let me just offer a couple of thoughts, Luke. First off, in terms of shipments being down in the first quarter compared to 4Q and a year ago, several reasons, you've hit on one. I would say the other is really unattractive spot market pricing, and as our outlook was for higher prices to come, we'd rather ship it later and capture those higher prices particularly in the carbon steel arena. But the other key driver as you've touched on here is the stronger demand from automotive. They pulled more than we thought during Q1. As I mentioned, Q1 was our best automotive shipment quarter in nearly 4 years. And we've also, in light of that and expected increases in automotive, we've had to support the higher second quarter shipments and second half shipments here, so that is consuming some things. I don't know that we'd give guidance now relative to last year. I would say we expect to have a much better quarter, not just on automotive, but on overall shipments, and probably a pattern of where we've been in recent years for the second quarter.

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

All right. The second question, your shipments to automotive are up, I think, quite a bit more than automotive production as a whole. Can you talk about whether you think you're gaining share in automotive, number one. And then also, is that -- if you are, is that one of the factors that causes you to be more optimistic on the second half relative to the first?

James L. Wainscott

We hope we're gaining a bit of share. We're growing with customers who like what we do. And as I mentioned in my prepared remarks, we continue to get high marks. And I think we want to continue to associate with those people who put value into things that we bring to the table, which is far more than just a price equation. There will be those who will always challenge us on price, that's the market. But indeed, we've been growing and we're growing with those that are growing. For example, we're delighted to see the recent BMW expansion, they're one of many important automotive customers producing a variety of wonderful products in South Carolina. We're part of the X35 and X6 vehicles made there. Wonderful part about that is the vehicles are made in America, some are consumed here and many of them are exported to all parts of the world. And now they've announced the X4 Sports Activity Coupe, we're going to be on that. And look, when we make things in America, right, when America makes things, it makes America stronger and it certainly helps AK Steel. So yes, indeed, we're growing with those that are growing in this country, including the domestics and the transplants and if we're taking market share, that's great.

Operator

Our next question comes from Charles Bradford of Bradford Research.

Charles A. Bradford - Bradford Research, Inc.

I understand that from what you said that you have no real major labor contracts coming up, except at Butler. But some of your major competitors who sell to the same automotive market that you do have contracts that expire at the end of August. My understanding is that the union's not going to start negotiating until June, but have you heard anything from any of your customers who might be little concerned and might want to protect themselves by maybe buying a little more from you guys in the fall?

James L. Wainscott

We really haven't heard much about that yet, Chuck, in all candor. I suspect that the dialogue will pick up a bit. There's some saber-rattling typically on both sides as the summer approaches and we haven't seen anything along the lines of double booking or insurance bets at this point in time. That's not really what we see driving our better second quarter and second half in automotive. It's more fundamentals. Having said that, we'll be well prepared to help our good customers if they run into a situation of need.

Charles A. Bradford - Bradford Research, Inc.

Have you heard anything scuttlebutt, if you will, about the success of some of your new competitors, like ThyssenKrupp in getting their product approved?

James L. Wainscott

I think that everything we hear is that they're still in a ramp-up and fix-it mode, that they are indeed bringing more product to market. Most of that has been in the spot market. I think they remain in qualifications, although they're getting through in some areas. We're meeting them in the market a bit more, but I think they're still a ways off from really being fully qualified and seeing us face-to-face in a number of areas. It's going to be interesting to see what happens, of course, in light of their sale of the stainless unit or 70% of it to Inoxum, appears to be primarily related to the roll-up, consolidation of stainless business in Europe, yet to really understand what that will mean to America. On the carbon side, we've never quite been able to ascertain how or if they'll get any sort of return on their investment, particularly in the magnitude of the dollars that have been spent. Having said that, they're here, we're dealing with it, we've dealt with others before. Eventually, there will be a home for them as the market recovers right now. It could get a little sloppy.

Operator

Our next question comes from Michelle Applebaum of Steel Market Intelligence.

Michelle Applebaum - Steel Market Intelligence Inc

I'm looking forward to your profit next quarter.

James L. Wainscott

Indeed, we are as well.

Michelle Applebaum - Steel Market Intelligence Inc

Thought we were past all the red ink, guys. It's too good to be true. So I didn't hear it and if it was said, I apologize profusely. Contract price rollover going into the April 1 year, up or down?

James L. Wainscott

In terms of carbon contract deals that had been coming up for renewal, we have been obtaining higher base prices just along the lines of moving from red ink to black ink. It's important that we do that. We're very focused this year, whether it's in the carbon part of our business or stainless or electrical on enhancing margins, and that goes to markets to products to customers. And we're doing it, in the case of carbon, through a combination of higher base prices and continuing to implement variable pricing mechanisms that allow us the opportunity to recover high steel making input cost. Our steelmaking input cost, cost for things like iron ore and coal and coke and scrap were up $100 million now in the first quarter of this year. I mean, you'd think, Michelle, that we're at a point now where most of that's behind us. I think that's going to start turning and we've indicated here in the second quarter, we'll be $15 to $20 a ton just on iron ore alone better. But we still got smacked in the face on that. So it's all about expanding margins. It can't just come at the expense of our customers. We're also doing everything we can to control our costs. We'll start making some great quality and a lot of it and we need a few more orders to make that happen.

Justine Fisher - Goldman Sachs Group Inc., Research Division

Okay, I'm sorry. You said that they've -- that the renegotiations happened but -- so the April 1 model year, Japanese fiscal year, those contracts are up or higher? They're at a higher price than what was rolled over in March 31?

James L. Wainscott

Yes, I wouldn't characterize it as one group or another. I just say that as we have contracts expire throughout the year, some renew January 1, some are April 1, some are at other points throughout the year. To date, we've been successful in garnering higher base price increases wherever possible, and we'll expect to continue to do that with our other contract business going forward.

Operator

Our next question comes from Arun Viswanathan of Longbow Research.

Arun S. Viswanathan - Longbow Research LLC

I guess I just had a question on the stainless side. Maybe you could talk a little bit about what you're seeing as far as order patterns and whatnot? The way you guys report numbers, stainless, electrical, it is fairly down year-on-year. Is that mainly the electrical or is -- what are you seeing on the stainless side?

James L. Wainscott

I would say electrical is off a bit and we expect it to be flat as we look out pretty much year-over-year. Just as a reminder and may be a briefing for those of you who may not be as familiar as others, for AK Steel, the stainless steel market is really a variety of market segments. For example, it's the high temperature automotive exhaust market, that's our 400 series products. And candidly, that's quite strong now due to the robust nature of the automotive market that we've been speaking of. It's also commodity, 300 series stainless, which we're not a huge player and that's held fairly steady, and that market tends to depend greatly on the direction of nickel prices, which have been declining of late. And then there's our specialty grade products [indiscernible] and other parts that are produced at our Coshocton plant, and those are really remaining in pretty high demand as well. So it really does vary depending on which aspect of stainless, but stainless overall, has been pretty good. For us electrical has been down a bit.

Operator

Our next question comes from Chris Olin of Cleveland Research.

Christopher David Olin - Cleveland Research Company

Just one more question on the domestic landscape. There has been some speculation within the channel regarding some of the weaker steel mills possibly closing some capacity this year with liquidity constraints and the loss of some baseload volumes. I was just curious if you see any benefit associated with your market share from customers moving away from these weaker mills or do you have any kind of projections on -- do you see this as a possible catalyst for the summer?

James L. Wainscott

Well, I'd be cautious in how I respond. I want to say from your lips to God's ears, but I won't say that. We've all seen mills get in trouble before only to find additional sources of funding and hang around a bit longer. And we don't wish any of our competitors ill will. Well, we wish them well. Obviously, they're attempting to make things in America and create jobs, and that's all good. Having said that, to your specific question, we stand at the ready to capitalize. We would love to run at higher operating rates. We think we can certainly help a number of our current customers and other customers meet their needs. We have not seen anything yet. I think we've seen some starts and stops at one particular entity, but they've got some funding here recently and are going again. So no, we haven't seen anything in any great detail. We wouldn't want to opine in any way at this point as to what all that foretells. We'll see it and we'll watch it as you do.

Operator

Our next question comes from Timna Tanners of Bank of America.

Timna Tanners - BofA Merrill Lynch, Research Division

I just didn't really get clear on the Q2 mix if it was going to improve. If you could talk to us a little bit more about the lineup there? So you talked about volumes improving and price improving, is that from better mix? Is that from any -- could you give us a little bit more detail there, please?

Albert E. Ferrara

Generally, Timna, the second quarter mix is usually a little leaner, if you will, in terms of a little less value-added. Like I said, we haven't given specific guidance on that, but generally speaking, the first quarter represents a somewhat higher value-added mix. Less hot-rolled shipments, we do get generally speaking, a few more hot-rolled shipments as a proportion of total shipments in the second quarter. But overall, our overall shipments will be higher as Jim indicated earlier.

James L. Wainscott

I think the other thing, again, on the cost side, Timna, as I mentioned, it's a combination of lower input costs, coupled with higher operating rates. In the first quarter, we were probably in the lower 80 percentile range. We're going to be in the mid-80s here in the second quarter. That helps. It's still not where we want to be. Which would be 90s or full out. But directionally, that's a good guide us well. So we should benefit from operating costs, from input costs and from more volume generally. We're not looking for dramatic increases in pricing, if at all, but we'll keep pushing that envelope again to make sure that we're generating the kind of margins and returns that we need to.

Timna Tanners - BofA Merrill Lynch, Research Division

Okay, that's helpful. And then my other question, if I could, please, is I'm just trying to understand, when you talk about the high strength -- high strength steel focus in R&D, a lot of the other mills have been talking also about this and the opportunities for lightweighting vehicles are well known and the aluminum guys are talking about it. But how do you move into that area without making the big investments that we hear other companies making?

James L. Wainscott

We have a variety of relationships around the world. We've had one that's been a long-standing one with JFE, which is the successor to Kawasaki and NKK, where we share technology in terms of sort of the recipe, if you will. We're looking at what we can do with what we have currently. And where we would need to spend dollars and target those dollars. But I want to make sure that you realize and others realize that we're not just looking backwards. We're not just trying to integrate from a vertical standpoint that we're also very much looking forward. Some of that may require some capital, some of it may not. But we've put our faith and confidence into our highly skilled research group. They're making great progress and I think we're going to try and do some things that tend to leapfrog the current technology to not just match, but to get ahead of what's out there.

Operator

Our next question comes from Justine Fisher of Goldman Sachs.

Justine Fisher - Goldman Sachs Group Inc., Research Division

The first question is just also about end markets for the second quarter. Do you -- is there another market that could possibly pick up the slack if automotive doesn't continue to grow as expected or if you guys don't take the expected share in automotive?

James L. Wainscott

We can have pretty good visibility at this point in time into the automotive market. I think the only thing that concerned us maybe up until the last day or so was the issue with the resin problem, which by and large, has subsided. I think most of our customers are telling us that, if anything, that's likely to be a bigger challenge for the European auto producers than America. There may be some trickle over effect here, but we don't look for that to be a great concern other than that. Again, most of the analysts, I think we came into the year with an estimated forecast of 13.5 million to 14 million units in autos. I think they've now been raised to 14 million to 14.5 million. Who knows, that may be light as well. And I would just put an asterisk by that, but that's still about 3 million units annually, shy of the all-time record. So there's still a long way to go, still a lot of upside potential. The age of the fleet is, I don't know, 10 years or something now. More people are entering the driving age. You've got people living longer. Yes, all kinds of reasons why we begin to get even more excited about what's going on with automotive over the long term. Could there be something in the second quarter that might derail that? Again, we have pretty good pipeline into their pool rates and they to us, and we don't see a lot of changes there. Again, if something would change there, we'd have to make the decision, as we always do, as to whether we take more tons into a rather full spot market.

Justine Fisher - Goldman Sachs Group Inc., Research Division

Okay. And the second question's for Al, it's a follow-up on Dave's question from earlier about pension payments. So we also don't calculate that AK would have to access capital markets again in 2012. But in 2013, with pension contributions being as they're expected to be now, remaining CapEx payments from Magnetation, it may need -- it may be more likely that AK may have to seek liquidity elsewhere. And I was wondering from a bigger picture perspective, what does the company view as its priorities -- or its preferences in terms of raising liquidity, if it's necessary? Would it be a cut in CapEx? Would it be the capital markets or -- how do you guys think about that over the next 3 years as opposed to just the immediate 2012?

Albert E. Ferrara

Justine, great question. Again, it's that's the kind of thing that we, as a management team, and our board look at very carefully. Of course, underlying all of this is we're not looking to finance our way out of liquidity challenges or anything else. We're looking to do it the old-fashioned way, generate positive cash flow, generate significantly improved EBITDA. So much will depend in terms of whether or not we have a need and the extent of that need and the timing of that need on our EBITDA generation. So I'll start with that, beyond that, I really would not look to speak here on behalf of the board as to whether there would be a capital raise, and if so, what it might be. I think you can look at our history. Our board has been extraordinarily judicious as to when we have raised capital, particularly with respect to our shareholders. We have not diluted their interest. They've hung in there with us now for many years as we have repaired, recovered, gone through the recession, coming out of it and looked to improve things. And so we'll have more specificities as we know them, but that's what I'd have for you today.

Operator

Our final question comes from Mark Parr of KeyBanc.

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

I don't know, you may have mentioned this, Jim or Al. Did you talk at all about how much of your contract to mix now has raw material pass-through in it?

Albert E. Ferrara

No, what we've indicated in our public filings, Mark, is about 90% of our contract mix has some component of a pass-through of some part of raw material costs, so to speak. In other words, whether we scrap natural gas, iron ore, or some combination thereof.

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

Okay, but you haven't talked about or given any update as far as how much of the iron ore sensitivity is covered. Is that fair?

Albert E. Ferrara

No, it hasn't. But I would say that we're recovering more and more, that we've had good traction in terms of our negotiations, particularly with our auto producers that have provided us additional cover with respect to iron ore costs and in addition to Magnetation. We feel very good about how we've positioned ourselves strategically regarding those cost changes.

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

Okay. If I could just ask one other question on mix, is there any mix change in your second quarter guidance? I mean, are you looking for hot-rolled to be a slightly lower mix in the second quarter than it was in the first quarter?

James L. Wainscott

I think quite the contrary. I think it'll be up just a little bit. I think carbon shipments will be higher. We'll look for a little bit better stainless hopefully. And electrical, I think as we said, is flat. So the mix in terms of carbon and specialty will shift a bit more towards the carbon side of the equation, including a bit more in the spot market.

Operator

This concludes our question-and-answer session. I would now ask Mr. Wainscott for his closing comments.

James L. Wainscott

Some very good questions today from all of our listeners. We want to thank you for those. We are indeed well into the second quarter and look forward to having all of you join us a quarter from now.

Again, as I mentioned earlier, the story at AK Steel is one of recovery and progress. From 4Q to 1Q, we're improving. From first quarter to second quarter, we expect to improve, second half to first half of this year improvement, and so on and so forth. That's what we're doing as a management team and as a board at AK Steel. We're delighted to do so every day on behalf of all of our constituents. Once again, I want to thank you for joining us today and for your ongoing interest in AK Steel. Have a great day and a better tomorrow. Bye for now.

Operator

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

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