Spartech Q4 2007 Earnings Call Transcript

Spartech, Inc (SEH)

Q4 2007 Earnings Call

December 18, 2007 11:00 am

Executives

Randy Martin - Interim Chief Executive Officer

Michael Marcely –Vice President, Corporate Controller

Analysts

David Begleiter - Deutsche Bank

Mike Harrison - First Analysis

Mike Sison - KeyBanc

Presentation

Operator

Good day, ladies and gentlemen and welcome to the Spartech Fourth Quarter 2007 Earnings Conference Call. My name is Maria and I will be your audio coordinator for today. [Operator instructions]. The speakers on the call today will be Mr. Randy Martin Interim Chief Executive Officer and Michael Marcely Vice President and Corporate Controller.

I would now like to turn today’s presentation over to Mr. Randy Martin, please proceed.

Randy Martin

Thank you.

Thanks for taking time out today to listen Spartech’s discussion of its fourth quarter earnings release. Mike and I will be reviewing the release that was issued yesterday evening carrying the fourth quarter and the fiscal year results. The conference call today will tape the presentation and you can find it on our website www.spartech.com. If you look under the Investor Relations menu you can click on the presentations and then select the file and title ‘Investors Presentation Fourth Quarter 2007 Conference Call’. You may want to have the slides available in front of you we’re going to discuss some of the highlights during the call from those slides.

Some of the comments in today’s conversation are considered forward-looking. Refer to slides two and three of the presentation which provide a summary of the Safe Harbor Statements with the factors that could impact our results in the future. Slide four provides the overview of the items we’ll cover in our formal comments, before we open the lines up for questions that you may have.

I’ll start with a presentation that will review the fourth quarter activities and a review of the fourth quarter performance. Then Mike will continue with the discussion in more detail on our operating performance, results by segment and a review of some of the key balance sheet metrics for the quarter and at year end. I’ll conclude then with a status update on activities, some closing comments and then we’ll open the call up to questions from the participants.

We’ll start on slide five. This slide highlights three priorities that on which we made progress during the quarter: the Greenville plant consolidation, Oracle business process improvement implementation, and integration of the Creative acquisition that was completed in the middle of September.

We’ll start with the plant consolidations. We noted on the slide that we’ve been working on several different efforts in the last three years to reduce our overall cost per plant by consolidating plants. This has involved 14 plants that have been consolidated or sold which means that another 14 or more plants have received production and the results of those integrations. Therefore, if you look at our high point of 54 plants three years ago, in the last three years, we’ve disrupted approximately 30 or 60% with these sorts of activities.

Some of these efforts have been easier than others and some have been done better than others. Ultimately we’ve served to eliminate 25% of our plants with certain fixed costs while losing very little of our capacity. The last consolidation I would say, the hardest of these, has been our Greenville facility. The good news is that our productivity statistics which we measure by quality pounds per machine hour was tracking at approximately 40% of our goal in September, and is now approximately 70% in November. We’re certainly not done yet, but we’ve made good progress in the last three months. We expect to reach our goal through further improvements in the next few months to reach 100% of that quality pounds per machine hour metric that we continue to track.

The business process improvement is another effort that we’ve had in process since 2005. It’s related to the implementation of our global ERP system to standardize our business processes, improve operating and financial visibility and enhance our daily and weekly measures to run our business. Some of this is a process of integrating businesses from acquisitions, and upgrading our capabilities. We’ve spent nearly $18 million to complete the design elements of our ERP system and we’ve implemented about half of our operations to date. We project the other half to be implemented through the course of 2008.

The increase in our corporate SG&A from this is about $2.6 million in 2007 over 2006 related to depreciation of the CAP Life costs plus consulting and training expenses. We expect about another $2 million in 2008 related to these activities. These reductions will help us in driving operating improvements, visibility to operating results and realizing synergies from consolidated data and administrative processes.

The final initiative that we’ll talk about is Creative acquisition. We’ve been very disciplined in our process in the last three years in seeking out any valuing acquisition candidate. The last acquisition that we made prior to Creative in September of this year was in 2004, our VPI acquisition at the end of that year. Creative offered unique affinities to Spartech while also allowing us to broaden our capabilities and offer accelerated growth opportunities.

They have comprehensive design and engineering skills focused on the patching industry. They’ve provided new opportunities already for the sixth combined operations that now make up our new segment Project Patching Technologies to pursue new business.

Dave Goins our Vice President of Spartech Patching Technologies segment has been dedicated to the integrations of these two businesses. We believe this additional focus on the value-added capabilities of this group will produce above average growth at higher margins going into next year. This is a key growth area for Spartech and the company for the future.

These three priorities that I’ve just summarized highlight significant effort in 2007, and they will prove to be very beneficial to our very near future.

Switching gears a bit to the high level view of our fourth quarter results on slide six, we provide a bridge of our fourth quarter 2006 to our fourth quarter 2007 performance and recurring operating earnings. As we expected, we will reduce our earnings outlook at the end of October. The drop in operating earnings was driven by several factors including a weak volume demand, challenging resin prices and increase in converging costs on a per pound basis.

This bridge should really only be used for high level review. It calculates the impact based map, volume and price changes. I think it provides a relative reference to the magnitude of the different influences that impacted our quarter. Starting down through the bridge, looking at volume, volume is down 5% for the quarter compared to the prior year fourth quarter. This includes an approximately 2% drop from the disruption at our Greenville facility, where we weren't able to meet timely deliveries. That particularly occurred during August and September. As I mentioned a moment ago, we’ve seen substantial progress in that through October and November. The lower volume accounts for approximately $2 million of our operating earnings shortfall.

As we go into price mix, as a matter of fact the changes in our material margin shows approximately $7 million in operating earnings. There are a few specific items that impact the material margin in the quarter, Dautry off-spec inventories, our Dautry, France operation has held some off-spec inventory that we decided to liquidate which generated about $1 million in cash, to do that we recognized a $1.3 million loss in wholesaling the material. We have since made improvements to minimize the generation of off-spec material. We’ve improved the operating rates of the Dautry facility that has allowed us to produce positive operating trends in both October and November. We’ve made money in Dautry, France as we haven’t done the prior several months before that.

Going to another inventory adjustment that we’ve mentioned, when we implement our global inventory Oracle solution at one of our locations in the month of September, we identified a problem with how we were valuing certain materials that were returned to inventory after production. In the process of reconciling the new system trial balance we identified a $2.2 million unfavorable adjustment to correct the inventory values. We have verified that no other location has this issue, or have not reconciled the values. They use different Legacy systems; therefore the trial balance created by the system is properly reconciled. We verified that we don’t have this issue at any other operations that will be influencing the global Oracle solution.

When you eliminate those two items the other price mix effect was down approximately $3.8 million. This was a favorable mix from the Creative Patching business that does realize above average margins with the negative impact of continuing pressure on resin prices.

Let’s talk about the resin market and the ongoing changes there. During the fourth quarter a number of macro-economic influences, particularly the rising crude oil prices, the weakening US dollar, continued to impact the traditional relationship between the North America resin demand and resin pricing. Rather than resin prices stabilizing or falling in tandem with falling domestic resin demand as they often have in the past, prices actually rose on resin products.

Strong international demand is also adding impact for resins, particularly polyethylene and polypropylene especially in South America and Europe, it continues to bolster by the weak US dollar. North American resin inventories have fallen as resin exports have reached a record pace and domestic resin buyers will face sharp increases in resin prices set by the strong international resin market.

Resin raw material costs were also under pressure as crude oil prices moved steadily upward from the mid $70 to the mid $90 per bale level. In addition ethylene, one of the key building blocks of polyethylene, has been increasing in price with reference to crude oil which is a true global commodity instead of in reference to natural gas which is more of a North American commodity, and sometimes less expensive than oil.

As a result when you look at the prices for the different resins that we use, polyethylene prices were up 7% for the quarter and up nearly 40% since January. An additional $0.05 increase was implemented in the market at the beginning of our first quarter in November of 2007, and there were two additional increases of $0.06 and $0.05 that are scheduled for December and January implementation.

In the case of polypropylene prices were up 5% in the quarter despite expectations at the end of the summer peak season would take some of the pressure off of raw material cost for polypropylene. The combination of high crude oil and unplanned propylene outages during the quarter continued to drive up resin prices into November by another 10% before beginning to level out in December. Polystyrene prices were down slightly in the quarter but moderating prices had been partially offset by the portion of polystyrene raw materials that are made from ethylene.

Finally, the start of the polystyrene joint venture Nova late in the quarter was accompanied by new price capacity reductions announcements that have now started to affect other polystyrene suppliers to want to increase prices in their margins. Due to these dynamics, we’ll have to get even more aggressive in managing our resin suppliers and in passing through price increases to our customers. And we can talk more about that I’m sure in our Q&A period.

Conversion cost is the next line item on the bridge. Beside demand and resin pricing, the other big impact on our quarter was the level of conversion costs given the volume of pounds sold. Our conversion costs were up approximately $0.01 per pound which means we weren’t able to flex our cost enough to match the decline in demand of 5%. WE only reached about $800,000 of our $1.5 million goal that we had to reduce conversion costs during the quarter.

Some of the reduction initiatives weren't until late in the quarter so they didn’t have the full effect on the quarter and we also saw from the disruptions and redundant costs at our Greenville consolidation to have an impact, particularly in August and September. We are making sincere efforts to reduce the cost on slowdowns and flex our cost more directly with the current level of demand.

Finally a line item that we highlighted was the foreign currency losses. The foreign currency losses relate to assets that we had in Canada which is produced by QA in cash from the profitable operation that we had there over the years. We have recognized losses from the weakening US dollar in relation to the Canadian dollar from August through October. This amount is not covered in cash, but it did negatively impact our operating profit and isn’t tax-deductible. Over the last few months we’ve developed a resolution to reduce our net US position to an immaterial level. Therefore at the end of the year we minimized the risk and shouldn’t have had any other mature impact in the near future from movements in the translation rates of the Canadian dollar.

That gives you kind of a big picture overview of some of the items that were impacting the quarter. Mike will now go through some of the details that twill help explain more specific results for the fourth quarter and explain some of the segment performances.

Michael Marcely

I will be starting on slide number seven which summarizes our overall performance for our fourth quarter of 2007 versus our fourth quarter of the prior year. Consolidated sales volumes were down 5% in the quarter comparison which was due to decreases in volume sold in our color specialties segments. We saw a decrease of 11% in our sheet segment in the quarter comparison. Our color specialty compound segment was down 1%. Our material margin per pound sold decreased 2.1 cents to 33.2 cents in our fourth quarter.

This drop was mostly caused by increases in our resin costs and a weak demand environment which prevented us from passing on the cost increases to customers as higher selling prices. A decrease in sales mix of higher margin product such as sheet sold into the heavy truck, recreational vehicle and small sectors of our end-markets which tend to have higher margins also hurt the material margin in the quarter comparison.

Our conversion cost per pound sold increased $0.01 to 23.9 cents in our fourth quarter. This increase was due to our decreases in our conversion costs which did not keep pace with the significant volume decline that we saw in our sheet segment.

Our net earnings were $1.3 million in our fourth quarter which compared to $8.6 million in our prior year fourth quarter. Excluding special items we earned diluted earnings per share of $0.08 for our fourth quarter this year.

Slide number eight provides highlights of our segment performance for our fourth quarter comparison. Starting with our custom sheet and roll stock segment our operating earnings of this segment decreased from $13.7 million to $6 million due to the 11% sales volume decline coupled with a decrease in our gross margin per pound sold of 4.2 cents.

Our weak volume for this segment mostly occurred in our residential construction, RV, heavy truck and pool and spa markets. Our drop in gross margin was caused by increased resin costs and a soft demand environment, a worsening of mix of higher margin product, as well as a de-leveraging effect of the volume decline on our conversion costs for this segment.

Operating earnings for our new Spartech packaging technology segment were $6.4 million in our fourth quarter of 2007. This amount is net of a $1.6 million impairment of a customer related intangible assigned to our relationship at our recently acquired Creative business had with Pfizer. This intangible was acquired as part of our Creative acquisition which we closed in September. Our impairment occurred in October upon Pfizer’s announced exit of their new Exuba drug.

Excluding this impairment our operating earnings increased $1.4 million in the quarter comparison which was driven by a higher mix of thermal-forming sales along with the benefit to the Creative acquisition for which we had seven weeks of activity in our fourth quarter.

Our operating earnings of our color specialty compound segment decreased from $6.8 million in our prior year fourth quarter to a loss of $700,000 in the fourth quarter of this year. This decrease reflects a 1% decline in volume sold from a weak domestic automotive market. We also saw lower sales of color concentrates in the packaging market in the quarter comparison. We also saw a decrease in gross margin per pound sold of 3.9 cents which reflects the $3.5 million of inventory adjustments in total at our two facilities that Randy mentioned previously in the call. Also the decline in gross margin per pound reflects the impact of our resin cost increases during the quarter in a soft demand environment which created margin compression.

Our operating earnings in our engineered products group were $2 million in our fourth quarter. Our comparison with our prior fourth quarter includes the $3.2 million of good-will impairment that we recorded in our profiles business in our prior year fourth quarter as well as a $1.2 million increase in foreign currency income for this segment. Excluding these items our operating earnings were down $700,000 from the loser sales of wheels and fencing profile products.

Slide number nine shows our historical material margin per pound sold by quarter. As the chart shows our 33.2 cents that we reported in our third quarter this year is well below our historical average. As we have indicated this decline reflects our environment of resin cost increases and a time of soft demand in our end market which is causing compressing of margins.

Slide number 10 covers our balance sheet and cash flow performance for the quarter. We ended our year with net working capital of 8.6% of our trailing two months of sales. This compares to 9% which we had at the end of our prior year. This improvement was driven by higher inventory turns and longer days-payable outstanding. The benefits of where were partially offset by an increase in days sales outstanding in our accounts receivable which was caused by an increase in sales mix to customers with longer payment terms.

Our cash flow generated from operations was $104 million in 2007. We adjusted $35 million in capital expenditures, used $38 million for stock repurchases and used $61 million to fund our Creative acquisition. Of the $35 million that we spent in capital 2007, $10 million of that was for our Oracle implementation, $6 million was for our new Greenville facility, and then we invested $4 million to expand our Mexico facility.

We entered our year at $334 million of debt outstanding as of the end of our fiscal year which represented a .61 debt to equity ratio. We had $204 million available on a revolver at the end of the year, of which we could have borrowed $107 million under our most restrictive covenant.

Slide number 11 shows our net working capital percent of our trailing two months of sales and highlights the fact that our 8.6% which we achieved a the end of fiscal 2007 is the company’s low point going back to 2005.

Moving into slide number 12, this slide presents our cash flow generated from operations by quarter in 2007 versus 2006, and our cash flow from operations of $104 million in 2007 was lower that the $128 million that we generated in the 2006. This decrease was mostly caused by a greater benefit that we saw from our net working capital reductions in 2006. Our cash flow from operations includes a benefit from reductions in net working capital accounts of $14 million in 2007 and then $32 million 2006.

Slide number 13 presents our debt outstanding going back to 2004. As shown on this chart, we hit our low point of debt of $269 million at the end of our third quarter this year. Our debt increased $66 million in our fourth quarter. This increase that occurred in the fourth quarter includes $61 million used to fund our Creative acquisition and $28 million to buy back stock. Exclusive of our Creative acquisition and stock buy-backs we would have had funds available to pay down $35 million of debt in our fourth quarter and $64 million for the year.

I’ll now turn it back over to Randy to cover some other highlights and provide some closing comments.

Randy Martin

Finally on slide 14, some other items of note during the quarter, fist of all in stock repurchases, in September we authorized the repurchase of up to 2 million shares of our common stock. In September through November we funded $35 million in share repurchases under this program. Our new share count starting fiscal 2008 is roughly 30.3 million shares.

Our December board meeting which we hold each year will review our cash flow projections, dividend payouts and potential for additional stock repurchases as we move forward.

Regarding our CEO search, we are in the final stages of completing our search for the next Spartech CEO. The search has been extensive. We have been successful that candidate with strong leadership skills and a demonstrated track record of growth and performance. We should be in a position to announce the new CEO within our first quarter of 2008 which is our January quarter end.

Finally on outlook, we de expect many of the current economic factors to continue through at least the first half of 2008, which will be a difficult comparable for the first half of 2007 which was relatively strong. The weak demand is expected particularly in the durable good market and that includes heavy truck, RVs, spas, manufactured housing and domestic automotive. We also expect some continued pressure in resin pricing. We are again going to have to be more aggressive in raising prices to keep pace with this.

We had a solid first half of 2007 and the demand in the first half of 2008 is expected to be weaker. We will recognize benefits from several items in 2008. The completed Greenville consolidation in early 2008 will provide the expected $2 million in cost savings and allow us to avoid some of the redundancy of the cost and disruption that hurt the last half of our 2007.

We also had some items that Mike and I both mentioned that impacted our fiscal 2007 that will not repeat themselves, the $3.5 million in inventory charges and approximately $2 to $2.5 million in EPEX losses that were reflected in our 2007.

We’re going to be focusing on additional cost structure reductions, driving business process improvements, passing along price increases and targeting new business, particularly related to our packaging segment. These initiatives and a new CEO to aid our efforts should allow is to respond to the challenges and opportunities we think we have available to us leading into 2008.

That concludes our prepared comments. The operator will now open the line to receive any of your questions.

Question-and-Answer Session

Operator

[Operator instructions] the first question comes on the line from David Begleiter from Deutsche Bank.

David Begleiter - Deutsche Bank

Thank you, good morning. Randy, have you lost any share in your businesses, either in Q4 or in 2007?

Randy Martin

To say I’m glad to say we haven’t lost any share in any of our business would probably be an overstatement but I wouldn’t be able to support completely. I think in particular if you look at the Greenville scenario with the Greenville, Richmond and Clair, we do have a backlog. It’s very strong right now. This suggests that we do have a lot of business and pent-up demand from some of the constructions that we’ve had. I can’t say unequivocally that we haven’t lost some temporary share.

I think in view of our management team that is closer to the customers is that we haven’t lost any customers and we haven’t lost any permanent share but we have certainly delayed some shipments and haven’t been able to meet all the deliveries that we should have been able to in the last half of the third and certainly the fourth quarter. I don’t believe it to be permanent and I think the cost position that we’ll have with the consolidated facility and our capabilities will prove out over time. But we’re probably still a couple of months from getting that to be exactly where we want it to be.

David Begleiter - Deutsche Bank

On the price versus resin price increases, have the higher resin prices structurally impaired your earnings power going forward?

Randy Martin

I don’t think they have with our existing business. I think at some level there is less of a motivator to move in to plastics when you have volatile and high prices. I don’t think we’ve reached that level yet, but I think we do maybe have a decelerating pace of things converting into plastics or some new initiatives. We saw some pretty strong opportunities. A lot of our opportunities exist because they are trying to reduce their cost structure and they’re trying to reduce the weight in an RV or a heavy truck. We are seeing many opportunities because of energy prices rising, if we do decelerate with some of the resin prices.

But I think there’s that potential, David, that at some level someone may want to convert something on the margin into plastics. Those things allow them to be lighter weight, more formability, more creative in their product design, that’s still going to happen despite resin prices being up. It’s not as if plastics are unique to paper and metal and other products that have gone up as well. Maybe it’s gone up more dynamically more recently, but other prices and commodities have gone up as well.

David Begleiter - Deutsche Bank

The last thing, Randy, in your new segment Patching technologies, what are your sales and margins or profitability targets going forward?

Randy Martin

I think on the sales side when we look into the roofing business for example that we acquired, that sort of gross next year is more in the 5 to 8% growth potential. They certainly run at a higher margin that some of our historical business, similar to some of the businesses that we’ve combined into the packaging segment. I think they run at a much higher growth potential and they tend to have a premium on the margin.

I think we’ve got some nice opportunities with that. It’s a modest $25 to $40 million business, but we’re going to see above average growth in margins going into the future.

David Begleiter - Deutsche Bank

Thank you.

Operator

Your next question comes from the line of Mike Harrison of First Analysis, please proceed.

Mike Harrison - First Analysis

Good morning. I was wondering if you could walk me through what you were seeing at the end of October when you pre-announced a break-even quarter and what changed to get you to end up at $0.08. Did you see demand improve, did you get some pricing that you weren’t expecting, were your conversion costs lower, disruption of the Greenville not as bad as expected – what was it that accounts for the upside surprise there?

Randy Martin

I think of a few different items. I think first and foremost is on the Greenville side. We had had significant disruption in August and September. I mentioned before running about 40% quality pounds coming out of the new facility compared to by the time we get to November 70% pretty consistent improvement. By the end of September I wasn't sure how that was going to come through. We mentioned that we had taken a 30 day break in moving equipment in the October time-frame. How well that would allow us to realize some stability and meeting deliveries more quickly.

That was certainly an item about which we were concerned and making sure that we were doing everything that we could to do that. There’s a little bit of an edge from that, the demand environment and being able to raise prices in that environment. I think we did a better job in October. I don’t think we’re where we need to be in the promptness of raising prices. I think we were doing a better job just because of catching up from some of these price increases that have been announced in August and September. We’re not yet fully caught up on those but we made more progress in October.

I would say those are probably the two biggest items. We did take some pretty aggressive stands on cost structure and tired to reduce that. But that’s probably in the order of those three the third priority was probably Greenville first, looking at raising prices more significantly second, and then the conversion costs on the margin reduced a little bit in the short order.

Those reductions will have more impact in November and December than we were able to have in October.

Mike Harrison - First Analysis

You mentioned the cost structure. It sounded like you got about $800,000 worth of improvement there versus a $1.5 million planned. Is the extra $700,000 doable in the near-term time frame and would that be in addition to some other cost reduction targets? Or does it just get folded into ’08, or how should we think about that?

Randy Martin

I think it is doable. It’s kind of looking at one measure honestly from others with regard to what demand will in November and December and what resin price is then. But I think we will realize that $700,000. We are continuing to evaluate a more aggressive stance on our cost reductions. I don’t think we’re done there. But we’re making sure that we address that in a methodical approach. We’ll get the $700,000 and we’ll continue to look at opportunities. It’s just a matter of how that looks in light of the current demand environment and the resin pricing. But that I think we will achieve.

Mike Harrison - First Analysis

Over the last month or so, we’ve seen resin prices flatten out a little bit and also with the consolidation winding down, can you hazard a guess at all as to when we might see the material margin start to creep back up toward the $0.35 to $0.36 per pound range?

Randy Martin

Again 35 to 26 is kind of our peak. We did 36 in one particular quarter, prior to that 34 to 35 was kind if the quarter to quarter average throughout ’05 for the most part. But I think we can get back there. I think it requires demand to come up a little bit. I don’t think we’re going to necessarily going to just get there related to getting our resin prices up. I think demand need to be part of that equation. And in the mix that will be heavily influenced with things like our packaging growth and some of our new product development. You’ve been a part of some of our presentations where we’ve show some end-caps on RVs. We have a lot of good weatherable heavy gauge materials for the RV and heavy truck market that even though those markets are down they certainly add some benefits in the mix of our business.

It will take things like mix a little bit of buying improvement to get back to the 35 level I believe. But I think that’s certainly achievable, as we look at the second half of ’08 that is where we expect to be.

Mike Harrison - First Analysis

In terms of the economics of the Greenville consolidation, I have to assume that you were not budgeting for a $5.9 million negative impact on operating earnings when you were doing the IRR calculation, et cetera. How does that impact change the IRR of that project going forward? And in hindsight is it still something that you would have done given that additional cost, if you will?

Randy Martin

Yes, we certainly would and I think it’s important to note in the 5.9, Mike, it’s hard to vipercate that out. That 5.9 is a complete change in our operating profit from ’06 which was a pretty profitable year and a pretty high volume year for that business, the last half of which, and definitely the last quarter benefited by demand and things that were supplied to the RV and the building construction market. It was kind of a peak year.

It did fall from that peak year to this year by $5.9 million. Some of that is falling off a high year, some of that is just the current economic environment that we have in those durable markets served by that business. Some of that is the disruption in cost redundancy. We don’t have a perfect science to split that out into what is what. In fact, some things you don’t really know, if someone has moved some business temporarily or if they have in fact seen that drop in the business from the economic downturn.

We quote that number and I just want to caution because it’s a number that has a lot of different elements included in it. But getting back to your question, the return, assuming that all the business is still there and viable and the backlog gives us a good indication that it is, it’s still a very profitable initiative. It’s still in the 20s in a return on investment basis, which is what we were shooting for. It came from a high 20 level to a low 20 level because of some of the additional costs we spent, and the redundancy of cost we had during this transition period.

It’s still a very profitable initiative. It will put 55% to 70% of our polyethylene production in one plant. The efficiencies of production are certainly not something that we’re realizing now, or that we’ve built into the ROI, but should happen as you get the operation fully into one facility and fully able to meet delivery times. There are a lot of additional efficiencies that I think will come from that project that aren’t built in the ROI. But we’re still a ways from that having full effect.

Mike Harrison - First Analysis

Okay, the last question, in terms of working capital improvement, obviously than you were able to get in 2006. But it seemed to me a little bit better than you’d been expecting for 2007. I’m just curious what kind of targets you have for working capital improvements in 2008? Do you think that will still be a source of cash in ’08?

Randy Martin

I’ll let mike cover that.

Mike Marcely

The 8.6 percent that we achieved at the end of 2007 is a pretty optimal level and our target really going forward is to try to maintain that. We don’t think we’re going to be getting much cash flow benefit for the working capital improvements in the next year.

Mike Harrison - First Analysis

Okay, thanks, Mike.

Operator

Your next question comes from the line of Mike Sison of KeyBanc, please proceed.

Mike Sison – KeyBanc

Hey guys, good morning. When you take a look at your material costs per pound, fourth quarter versus third is up 7%. Based on the announcement that you alluded to Randy, and let’s just assume they all go through, what would the increase in material costs be going into the first quarter of ‘08 versus the first quarter of ’07?

Randy Martin

I haven’t calculated that because I don’t know that we suspect that all those will go through, but I think it would be something just under that. My guess right now and again, it’s somewhat of a guess, Mike, would be more in that 3% to 5% level. But that’s pretty unique in the first quarter. We’re normally aren’t talking about rising polystyrene and polypropylene prices in the months of November and December. It’s pretty unusual but I think it’s more at that level than the 7% we just saw.

Mike Sison - KeyBanc

I would agree but the visibility that you’re seeing, a good portion of those will go through?

Randy Martin

I think that’s fair to say.

Mike Sison - KeyBanc

Your selling prices are up 3% sequentially the fourth versus the third; basically you had a $0.02 squeeze per pound in the quarter. What have you announced in terms of price increases, are you announcing above that 3% to 5%, inline, below?

Randy Martin

Again, I have no account on a percent basis, Mike, but we’ve pretty much gone out and posted this on our website so you can see in our recent news when we talk about what we’ve posted and what we’ve indicated. We’ve posted pretty much all the price increases that are to come on those numbers that I mentioned to you earlier.

We’re being pretty aggressive in making sure they’re aware of that because we’ve sent that happen, we’ve seen them stick much more readily and I’d say in August time frame, we didn’t expect it and didn’t think they were going through. We’ve seen them consistently go through. We’re being much more aggressive on making sure that we don’t get caught with that again.

Mike Sison - KeyBanc

Since your price increases are achieved and the 3% to 5% is sort of the increase, would you close that $0.02 gap in the first quarter, or do you need another quarter to sort of close it out?

Randy Martin

I don’t think we would in the first quarter. That’s typically our lower margin quarter anyway because of volume and because of mix typically. I don’t think we’ll close that by any means. I think there’s still some trailing effect in the very first part of that quarter. I think it takes another quarter.

I really believe until we get to that first half of the year where we’ve got volume better stabilized we’re not going to get back to that $0.35 level that Mike was just questioning as well.

Mike Sison - KeyBanc

In terms of volumes for the new custom sheet segment, I didn’t see the data anywhere, did that get worse year-over-year than the third and the second quarter? Was that the weakest of the year?

Randy Martin

That was, yes. Again, a good portion of that, roughly about half of that 5 to 6 percentage points of that 11 was related to the Greenville disruption that caused us not to get that out. I forget the exact number, Mike, is it about a 4 million build and backlog that we have right now?

Mike Marcely

Yes.

Randy Martin

At our Greenville facility, we definitely have the backlog; it’s just catching up with getting our productivity up from that 70% of our metric to 100% before we’re going to recognize the benefit of that backlog.

Mike Sison - KeyBanc

When will Greenville be done with everything you’re doing in terms of the restructuring efforts?

Randy Martin

By the end of January we should be realizing the full effect of the cost reduction. We’re now all within our Greenville campus is you will. The new Greenville plant is less than a mile away from our old Greenville plant. The speed at which we have to move lines between those two plants becomes less significant. We basically have reduced the cost structure now to operate out of one facility by the time we get tot the end of January.

Now we can be very selective as to how we move lines. It doesn’t take much to ship things back and forth between the two plants. We’re probably going to move pretty slowly making sure that we’re continuing to meet our progressive targets from the 70% level to the 100% of our productivity targets. We may be out until April until we have every line moved, but we’re going to make sure that we’re stabilized and manage that improvement in productivity while still meeting delivery times and being able to deploy the backlog that we have.

Mike Sison - KeyBanc

I guess when we look into the first half of ’08 underlying demand is down mid-single digits. It sounds like it will stay that way for the rest of the first half. But the negative from Greenville becomes less so the fourth quarter should be the weakest quarter I guess for custom sheets.

Randy Martin

Yes, I think that’s certainly fair.

Mike Sison - KeyBanc

Okay, in the first and second quarter the volumes get a little bit better sequentially, you’re still going to be squeezed a little bit, but if you do the math, and get the pricing, we should have at least sequential improvement in EPS, first second, versus the fourth?

Randy Martin

You’re talking like going from first to the second?

Mike Sison - KeyBanc

First versus the fourth, the second versus the first.

Randy Martin

Yes, you should see sequential improvement for both of those quarters, from fourth to first and first to second, the first to second being the most significant because that’s got the more difficult seasonality, so you’re going to see improvement in it anyway, but more improvement from the Greenville and some of the other things that we just talked about.

Mike Sison - KeyBanc

My last question, could you remind us when you take a look at the metrics that you have out for the full year 2007 operating cost per pound, conversion cost per pound, you guys were originally hoping to earn somewhere north of $1.50. Can you remind us what that was supposed to look like? Were conversion costs supposed to be lower? Was material margin supposed to be higher? What were some of the operating profit per pound forecast at the beginning of the year for higher outlook and maybe give us a feel for if we can get back there? What’s the road back to recovery if you will?

Randy Martin

Sure, I think the biggest impact might be on the material margin, I think in the year was 34.8, and we were running in the mid 35, I think in our expectation going into this year. So you have somewhere .7 cents that you lost on material margins. On conversion costs, something a little less that that. It was 23.4 that we came in at. It would have been a little bit higher. I think we projected 23 even if I recall going into this year.

You’ve got roughly between those two somewhere between $15 and $20 million dollars on the per pound metric, and then factor in some of the volume impact, which impact that metric as well, but also take some additional profitably by just dropping in volume more than we anticipated. Those three things together, everything else was pretty much in line if you’re looking at the recurring operating profit numbers.

Mike Sison - KeyBanc

Okay, great, thank you.

Operator

At this time there are no further questions in queue. I would now like to turn the call back to Mr. Randy Martin for final remarks.

Randy Martin

Again, I appreciate your time in looking to our call today on the fourth quarter conference call. We continue to appreciate your interest in the company. We hope you have a nice Christmas and look forward to our next call at the end of our first quarter in 2008.

Operator

Thank you for your participation in today’s conference, ladies and gentlemen. All parties may now disconnect. Enjoy your day.

Copyright policy: All transcripts on this site arethe copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES INTHE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: [e-mail]. Thank you!