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Executives

Joseph Gingo – President & CEO

Paul DeSantis - CFO

Analysts

Saul Ludwig - Keybanc Capital Markets

Robert Felice - Gabelli & Company

Christopher Butler - Sidoti & Company

Greg Macosko - Lord Abbett

A. Schulman Inc. (SHLM) Q2 2008 Earnings Call April 4, 2008 10:00 AM ET

Operator

Good morning ladies and gentlemen and welcome to the second quarter 2008 A. Schulman earnings conference call. (Operator Instructions) Before we begin the company would like to remind you that statements made during this conference call which are not historical facts may be considered forward-looking statements. Forward-looking statements involve risks and uncertainties that could cause actual events or results to differ materially from those expressed or implied. In addition this conference call contains time-sensitive information that reflects management’s best analysis as of the date of this live call. A. Schulman does not undertake any obligation or publically update or revise any forward-looking statements to reflect future events, information or circumstances that arise after the date of this call. For further information concerning issues that could materially affect financial performance related to forward-looking statements, please refer to A. Schulman’s quarterly earnings release and periodic filings with the Securities and Exchange Commission.

I would now like to turn the presentation over to your host for today, Mr. Joseph Gingo, Chairman, CEO and President; please proceed sir.

Joseph Gingo

Welcome to our second quarter conference call. I am pleased to have this chance to review the progress we have made during my first quarter as CEO and I look forward to answering your questions later in the call. From day-one, I have been greatly impressed with what I’ve seen regarding the talent we have throughout our global organization and the sense of urgency everyone has shown in our efforts to transform the company. We are clearly moving forward with a single goal in mind; to strengthen our operations so that we can unlock the value that resides within our North American business as well as increase the value we generate from our European operations.

For the second quarter our European operations continued strong with significant growth in sales and gross profit. In North America our non-automotive business performed well which helped offset the impact of the weak automotive market; although recently, we have begun to see weakness in our non-automotive sector as well. We also gained significant benefits from our North American cost saving programs that were initiated last year.

On January 3, 2008 we announced a 100-day plan to improve profitability and drive future earnings growth at A. Schulman. Since we are nearing the end of that 100-day period, I thought it would be appropriate to recap what we’ve done since that time.

Our plan addressed six primary areas that would drive improvement in the company:

more efficient and affective utilization of our North American manufacturing facilities;

enhanced focus on value-added products to drive profitable growth in the Polybatch and Engineered Compound segment;

reassessment of our North American automotive business to emphasize more profitable areas;

suspension of further capital expenditures on Invision while we refine our marketing strategy;

identification of additional efficiencies in the sales and administrative structure of our European as well as our North American operations;

and ensuring that we have the best leadership team in place to execute our strategy.

Although there is still work to do, we have made significant progress in each of these areas.

The closing of our St. Thomas plant in Canada and the sale of our Orange, Texas plant will reduce our overall capacity and improve the utilization of the rest of our North American facilities. These actions will also enable us to focus more on value-added and recession-resistant products. With the St. Thomas shutdown, we are discontinuing lower-margin automotive business and with the sale of the Orange plant we are exiting the low margin tolling business.

Regarding Invision although we still believe the product line has outstanding potential we have suspended any further investments until we are farther along in our marketing strategy. We will certainly broaden our focus on automotive applications for Invision.

For the global marketplace we feel Invision is a promising alternative to other plastic materials that have to be painted, especially in European and Asian markets where government restrictions on painted products are expected to be enacted in the near future. We are also focusing on strengthening our management team in Europe as well as our organizational structure in North America. We have made management moves in Europe with the goal of not only increasing gross margin but improving manufacturing and administrative efficiencies.

As announced in February we have a solid leadership team in Europe with the promotions of Bernard Rzepka to head the Polybatch business and Thomas Koerlin to head the Engineered Plastics business. In North America as recently announced we have changed the organizational structure so that all four of our North American business units; engineered compounds, Polybatch, resin distribution and Invision will now report directly to me. Because of the losses we had experienced in this business and the economic conditions we are currently experiencing in the United States, I feel the business would benefit from my many years of operational experience.

In addition, we have just named Gary Miller as Vice President of Global Supply Chain and Chief Procurement Officer; a new position at our company. Gary has been responsible for global purchasing at Goodyear for the last 16 years; a $10 billion annual spend. We are extremely fortunate due to his recent retirement that Gary will be able to lead our global efforts. His responsibility will be to ensure that we get the most benefit from our global position in the marketplace by leveraging our purchasing power, reducing our materials inventories, eliminating waste and improving efficiencies.

Let’s turn now to what we expect for the rest of the fiscal year and the remaining months of the calendar year. We expect challenging market conditions to continue throughout the remainder of the fiscal year as a result of the high and volatile petroleum product prices, a recessionary North American economy and a potential slowdown in the European markets. But we also expect to continue seeing benefits from our European leadership position in Masterbatch, our ongoing savings initiatives and our newly reorganized North American business units.

And to further strengthen our company increased cash flow and improve our prospects for long-term profitability our plan for the next 265 days is to focus on four key initiatives:

reducing our working capital to competitive levels by the end of fiscal 2011;

revamping our global raw materials purchasing process to reduce costs;

improve efficiency and better leverage our worldwide purchasing power. We have already taken the first step toward achieving this goal with the hiring of Gary Miller as Chief Procurement Officer.

revitalizing our product development activities to ensure that we have higher-margin products in the pipeline and implementing a continuous improvement program to promote further global cost reductions.

By significantly increasing cash flow and improving profitability these actions will have both short-term and long-term benefits. They will help us address the current challenging market conditions as well as improve our position for the future. It will be gratifying that we will be able to see an immediate pay-off from these initiatives but at the same time, we know that we are creating a stronger company, with better prospects for long-term profitable results and value creation.

I know you would like more specific short-term and long-term financial targets, but given the uncertainly of the global economy as well as my abbreviated tenure, I will decline to predict the future at this time. In a healthy economic environment I believe the actions we have taken in North America would have allowed us to be in a break-even position by next fiscal year. However achieving that goal within that time frame now seems more uncertain given current expectations for the economy. And if the economic malaise we are facing in the United States spreads to Europe we will have to take significant steps there to address costs.

As you can see, we already are taking aggressive actions and will continue to do so as necessary, all with the intent to improve short-term and long-term on stockholder returns. For now we want to prove ourselves by the results of our actions before we make specific promises for the future.

To sum up I am enthusiastic about A. Schulman’s long-term potential though the short-term is uncertain due to economic conditions. In the meantime, we are taking the necessary steps to strengthen our company for the long-term and the benefits from what we are doing will have both immediate and long-term affects. It is interesting to note that despite our challenges our performance, primarily due to our global footprint is as good as or better than our closest publically traded peers. Still we know we have room for improvement and that is the driving force behind all the actions we are taking. As a result of these actions, we are transforming A. Schulman into a truly global company, one that will be able to weather any economic downturn that takes place as well as provide excellent long-term returns when the economy recovers.

In doing so, our goal is to enhance the direct returns we provide our stockholders over the long-term. Now I’ll turn it over to Paul, for his discussion of the financials.

Paul DeSantis

Thanks Joe. Overall we’re pleased with the progress of our cost savings and restructuring activities to date as well as the performance of our European business. In fact, excluding the effects of our significant one-time non-operating items, we had a strong quarter which was primarily driven by our European business. In North America the second quarter demonstrated a weakness in the automotive market and the overall US economy. Unfortunately during the second quarter we gave back most of the favorability that the North American business unit earned during the first quarter.

As you can see from our press release we had a number of significant unusual items. In total we booked $11.7 million of unusual, after-tax items for the quarter and $12.8 million for the year-to-date period. These charges primarily represent our investments in restructuring and cost savings programs. By comparison in fiscal 2007 we booked $1.5 million of unusual items in the second quarter and $2.5 million during the first six months. I will not go through the details as they are in the press release and our soon-to-be-issued 10-Q.

For the remainder of the year we expect to incur additional charges for employee-related costs, contract termination costs and other related costs of approximately $4 million to $7 million in connection with the announced initiatives.

Total company sales for the quarter were $479.8 million, up $67 million from last year’s $412.8 million. Tonnage was up 2.2% for the quarter driven entirely by the volume increase in Europe. Tonnage in Europe was up 6.7% while North American tonnage was down 8.6%. Foreign exchange primarily the euro increased sales by $41.2 million or 10%. In North America the primary driver of the tonnage decline was the business exposed to the North American auto markets. Meanwhile our non-auto business performed well. For example the North American packaging business saw tonnage increase in the double-digit range. Overall our average price-per-pound-sold increased significantly in North America driven by the change in product mix, as well as price increases to try and offset increasing costs and lower volumes.

Total company sales for the six months to date were $976.4 million, up $120.9 million from last year’s $855.5 million. Tonnage for the year-to-date period was up 2.7%. All the growth was experienced in Europe as North America was flat year-over-year. Within the North American business, we saw the same trends for the six months as in the quarter with the strain on the auto related business being completely offset by the non-auto related businesses.

For the quarter gross profit was $57 million, up $9.6 million from last year’s result. Gross profit margin increased to 11.9% of net sales for current quarter, up from 11.5% a year ago. Excluding the significant non-operating items, the gross profit was up almost $8.7 million compared with last year’s result. Foreign exchange contributed a benefit of $5.4 million while operating performance was up $3.3 million.

Gross profit margin for Europe in the quarter increased to 13.7% of sales from 12.7% a year ago driven the by favorable impact of price increases, product mix and efforts to control expenses. Although gross profit margin for the second quarter declined in North America to 6% of sales from 8.1% a year ago, the average selling price increased by double-digits. Unfortunately this was not enough to offset the volume decline, Invision loss and increases in costs.

Losses in gross profit for Invision were $1.2 million during the second quarter compared with $1.1 million last year. For the year-to-date period the gross profit was $114.2 million, up almost $18 million from last year’s result. Reported gross margin rates increased to 11.7% of net sales for the six-month period from 11.3% a year ago. Excluding the significant non-operating items the gross margin was $115.1 million, up $17.8 million from the prior year’s result, while rates increased to 11.8% from 11.4%.

On a reported basis, foreign exchange contributed a benefit of $10.2 million while operating performance was up $7.7 million. Gross profit margin in Europe for the six months increased to 13.3% of sales from 12.8% a year ago driven by favorable costs and pricing increases.

Gross profit margin declined in North America to 6.7% of sales from 7.1% a year ago although the average selling price and mix increased by approximately 5% for the current year-to-date period, it was not enough to offset the increases in costs and losses at Invision. Losses in gross profit for Invision were $2.8 million during the first six months compared with $2 million during the comparable period in 2007.

Total SG&A for the quarter was $48 million compared with $39.1 million last year. For the six months to-date, reported SG&A was $88.9 million compared with $78.6 million last year. During the quarter we recorded $4.2 million in non-operating items including the CEO transition costs and the write-up on the termination of our airplane lease. Foreign exchange accounted for an additional $2.9 million for the quarter and $5.3 million for the six months. In addition to the foreign exchange affect, there were two large drivers of the increase; we experienced several bankruptcies in North America which required us to write-off a total of $800,000 worth of receivables and we spent $500,000 on last year’s proxy contest bringing our year-to-date total spending on the proxy contest to $700,000.

Total SG&A was up $10.3 million for the six-month period. Excluding the unusual items SG&A was up approximately $6.1 million with the translation affect of foreign exchange increasing SG&A by $5.3 million and both the bankruptcies and proxy contest costs contributing to the increase. North American business SG&A was down by $1.2 million for the year-to-date period due to the impact of our cost savings programs. This is especially good performance considering that this includes the $800,000 bankruptcy charges.

Europe contributed an increase of $7.8 million in operating income for the quarter while North America’s operating loss was $1.8 greater than a year ago. Operating income for Europe increased to $23.9 million for the quarter compared with $16.1 million a year ago. The increase was primarily due to the strong gross profit performance. The translation effect of foreign currencies increased operating income by $2.6 million. The North American operating loss which now excludes general corporate of $6.2 million in this year’s second quarter compared with an operating loss of $4.4 million a year ago. The increase in loss was primarily due to the weakening market conditions in the US, increased Invision losses and bad debt expense, partially offset by SG&A savings. Invision operating losses in the quarter were $1.9 million compared with $1.3 million last year.

Europe operating income for the six-month period increased by $11.6 million which North America’s operating loss was a $1.2 million improvement from a year-ago. For the six-month period, operating income for Europe increased to $46.5 million compared with $34.9 million a year ago. The $11.6 million increase was primarily due to the strong gross profit performance. The translation affect of foreign currencies accounted for $5 million of the increase.

North America’s operating loss decreased to $9.4 million in this year’s six-month period. It should be noted that last year’s figure includes almost $950,000 of accelerate depreciation related to the 2007 restructuring plans while Invision losses for the six months were $3.9 million compared with $2.5 million last year.

Currency losses for the year-to-date period were approximately $600,000 which compares very unfavorably to the benefit of $1.3 million we booked last year. We’ve taken significant volatility off our P&L with our hedging approach which we implementation in North America during the third quarter of last year. Taxes were $4.1 million favorable for the year-to-date period compared to last year. The reported effective tax rate was just over 50% for the first six months, which compares favorably with the reported tax rate of 72.7% last year. However if we remove the affect of the significant unusual items, the vast majority of which are in North America, we see an effective tax rate around 31% for the year-to-date period; a great improvement over the comparable period last year. The decrease in the effective tax rate was driven by an increase in foreign pre-tax income in lower rate jurisdictions, recently implemented tax planning strategies and recently enacted tax legislation in Germany which reduced the German statutory rate by approximately ten percentage points.

Note that the effective tax rate for the quarter is not meaningful. It’s driven by the number of North American significant non-operating items in the results for which the company receives no benefit. Excluding those non-operating items, the effective tax rate would have been around 31%, similar to the year-to-date number.

The overall net loss reported for the second quarter was $3.8 million or $0.13 per share down from last year’s second quarter net income of $1.6 million or $0.06 per diluted share. For the year-to-date period net income was $6.2 million or $0.23 per diluted share compared with $4 million or $0.15 per diluted share last year. Excluding unusual items net income for the quarter was $7.9 million or $0.29 per share. This is more than double last year’s second quarter earnings of $3.1 million or $0.12 per diluted share also excluding unusual items. The benefit of the strong euro accounted for $1.9 million of the increase. For the year-to-date period excluding unusual items net income was $19 million, up significantly from $6.5 million last year on a comparable basis. The benefit of the strong euro accounted for $3.5 million of the increase.

At the end of February we had $44.6 million of cash-on-hand compared with $80 million at the end of last February and $43 million as of August 31, 2007. Net debt has increased to $121 million compared with $78 million at the end of February, 2007 and $83 million at the end of August, 2007. The increase in debt is primarily due to the increase in working capital, foreign exchange and share repurchase plan. As noted in our press release cash flow from operations was $5.5 million for the first six months of fiscal 2008 compared with $39.7 million in the same period last year. This decline was due primarily to an increase in working capital.

Working capital which includes inventory, accounts receivable, accounts payable and accruals, was up $64.2 million over fiscal 2007 year-end. Almost $40 million of this increase was due to the strengthening of the euro. Days in receivables were 67 days compared with 62 days at year-end. Days in inventory increased to 65 days from 60 days at year-end and 64 days at the end of February, 2007. Receivables were up $36.9 million from last year-end as a result of stronger sales, the increase in days and the affect of foreign currency which contributed $27.1 million of the increase.

Inventories were up $32.9 million from year-end with the foreign currency primarily the euro again, increasing inventory by $22.5 million. Lastly accounts payable decreased slightly while days remained relatively flat at 29 days. Working capital levels are not where we want them to be and are significantly higher than others in our industry. As Joe mentioned, we’ve kicked off a formal, long-term working capital reduction program that we expect will begin to pay off for us later this year. We’ve created a global team, identified specific actions to take and processes to change, and created a monthly follow-up during our profit review meetings to ensure all projects are progressing as scheduled. Incentives have been changed for the year-end to reflect new targets for working capital. Associates pay will be seriously impacted by performance on this project. Our goal is for our working capital levels to be consistent with others in our space in three to four years.

Depreciation for the six months was $14 million, up from the $12.5 million reported in last year’s comparable period. Capital expenditures were $13.2 million, up from $12.1 million reported a year-ago due primarily to our investments in our new Polybatch facility. We continue to focus on directly enhancing the value we return to shareholders. During the quarter we bought back approximately 700,000 at an average price of $20.04 a share. We expect to repurchase an additional 1.3 million share before the August 31 fiscal year end as long as conditions remain favorable. We’re also pleased to announce that we’ve raised our quarterly dividend by half a cent per share to $0.15 a share, an increase of more than 3%. We have confidence that with the strategic actions we’re taking including our working capital initiatives and our strong financial condition we will be able to support the higher dividend level going forward.

As Joe mentioned we’re not finished with the initiatives that are underway to drive greater value at A. Schulman. We’re already seeing the benefits from the initiatives we announced last year and we should see additional benefits later this year from our more recent actions. That should help offset some of the headwinds we are currently facing from the weakening North American markets. We are also keeping a close watch on our European markets and a potential for a downturn in those economies.

In conclusion for the full year of fiscal 2008, unless global economic conditions become worse than anticipated the company continues to expect net income to exceed $36 million excluding the unusual significant items.

With those comments, Joe and I would now like to answer any questions you may have.

Question-and-Answer Session

Operator

Your first question comes from Saul Ludwig - Keybanc Capital Markets

Saul Ludwig - Keybanc Capital Markets

A couple of questions; on Invision, first of all how much did you have sales of Invision in the quarter and do you think the $1.9 million total loss rate is likely to sort of stay about that level for the remaining part of this year?

Paul DeSantis

In terms of sales for the quarter Saul, they were not meaningful. We did have some sales but they weren’t meaningful and in terms of the loss we’re still expecting to be in about the $7 million range by the end of the year.

Joseph Gingo

But at the same time I would have to say on Invision right now, we’ve just really started to refocus in non-automotive back in January, we are beginning to see some progress in the non-automotive applications but it’s really just at the sampling stage. I think that we are going to be in a good position by the end of this fiscal year to see where our success is in terms of the non-automotive markets. In addition we are going to absolutely hold down costs during that time frame while we are doing that assessment, Saul.

Saul Ludwig - Keybanc Capital Markets

Right. Next question; you said your special losses were $11.7 million. I need some clarification on this. In the income statement you have three items at the bottom of the page, the goodwill impairment, the asset impairment and the restructuring expense which add up to $8.8 million; I would assume that’s $8.8 million of the $11.7. Then when you were discussing SG&A on page 2 of your release and you talked about the $3.6 million CEO transition cost and the plane loss expense, that’s $4.2 million and then you also alluded to the fact that if not for some special items, gross margins would have been higher which would imply there was some dollars of special expense in cost-of-goods-sold so if you take those dollars plus the $4.2 million in the SG&A plus the $8.8 million in the three items in the income statement, it would seem to come to a number much bigger than $11.7 million.

Paul DeSantis

Yes, the total year-to-date number—

Saul Ludwig - Keybanc Capital Markets

No, just focusing on the quarter.

Paul DeSantis

Saul, I’ve got the list right here in front of me so let me—I’ll have to re-add it while we are not on the phone just to make sure that we’ve got it but I’m looking at two lists that both total $11.7 million with those same numbers on them, so let me get back to you on that.

Saul Ludwig - Keybanc Capital Markets

That would be great and then the final—just on your balance sheet you alluded to the fact that your receivables were up I think $36 million; two questions related to that. In your [inaudible] statement you say the receivables were up only $11 million, so why is there a disconnect and with the days outstanding of receivables having expanded from 62 to 67 days, are you concerned that there might be additional bankruptcies that are going to result in more bad debt write-offs in the back end of the year?

Paul DeSantis

Okay so in terms of reconciling these statements that you’re looking at excludes foreign exchange. All the foreign exchange is classified out of that statement and moved down to the bottom so when I was reconciling the number, I was just looking at the face of the financial statement for cash flow purposes. The statement that you’re looking at, that cash flow is all excluding foreign exchange as I said, that’s moved out.

Joseph Gingo

With regard to the second part of your question, Saul, it’s a good question and one that we are spending a lot of time on and more emphasis on. With the economy that we are facing in North America, automotive and even ultimately non-automotive, we’re taking a closer eye on credit. I’m not worried that the receivables went up; we’re going to drive those down through the process we’ve put in place, but I am worried about credit. We are going to take the hard look. We have integrated our credit organization in our restructuring much more directly linked to our comptroller office. We have a better connection I think now with our sales department that we’ve ever had and that was told to me by my credit manager, so of course we are concerned. In this economy you have to be concerned. I think we are taking the appropriate steps to address it.

Saul Ludwig - Keybanc Capital Markets

Thank you.

Operator

Your next question comes from Robert Felice - Gabelli & Company

Robert Felice – Gabelli & Company

Just a couple of quick questions; I guess first on North America you really got quite a bit of pricing during the quarter despite weak end market demand and I was hoping you can just talk a little bit about the pricing environment and outlook, especially in light of the competitive situation and worsening economic conditions.

Joseph Gingo

Robert, you’ve hit on always a great challenge. Right now it’s holding. As the economy turns down its going to be something you’re really going to have to watch and especially in light of this whole—the raw material increases are fundamentally continuing to grow, despite sort of an inconsistency in supply and demand from the standpoint of what we are seeing in a weakening market. But at this point in time, pricing is holding.

Robert Felice – Gabelli & Company

And in the same token Joe, your volume in North America was off quite a bit and I was just wondering was that all end market weakness or is there any share shift going on?

Paul DeSantis

In terms of share shift, we don’t believe that we’re losing any share but in terms of the end market weakness, we definitely are seeing end market weakness.

Joseph Gingo

Primarily in the quarters that we have seen in the automotive, both quarters, and in the second quarter a little softening also on the non-automotive. So the concern is how much does that go forward.

Robert Felice – Gabelli & Company

I guess what I was wondering is whether or not you were purposefully letting any volume go; sacrificing volume to get price?

Joseph Gingo

No, it is our intent but obviously as we have exited the tolling business, as we go forward during the year, exactly that. You will see drops in volumes associated with that exit and those are truthfully low-margin businesses that we do not want to be in. Plus with the closing of St. Thomas we will be refocusing in the automotive applications which are more profitable to us. So as you look over the next six to 18 months, you definitely will see the trend you’re indicating.

Robert Felice – Gabelli & Company

Okay and then on a separate front, you are reaffirming your guidance and you mentioned that you, I guess quote this, “unless global economic conditions become worse than anticipated” and I just wanted to gain some greater clarity around what specifically that means and kind of what economic situations you’re baking in?

Joseph Gingo

It really comes down to this, North America has a really bad cold and I’m just a little concerned Europe might catch it and that’s really it. If Europe continues to go with the slow growth, even the growth has slowed, we’re comfortable with the way things are going. If Europe begins to see what the North America sees, that would be the biggest problem we are facing because we are not anticipating significant growth in North America at all.

Robert Felice – Gabelli & Company

Okay so if I’m understanding this correctly, you’re anticipating a recessionary environment through the back half of the year in North America and you’re anticipating a continued slowdown in Europe but not necessarily an environment similar to that which we’ve seen in North America?

Joseph Gingo

That’s right and the concern is if you begin to see that in Europe.

Robert Felice – Gabelli & Company

Okay and then on a separate front and in terms of the reaffirmation of the guidance, it seems to me that the mix of earnings is a bit different than what you maybe expected six months ago but the continued deterioration in North America and the outperformance of the European business, so maybe to that end you can just talk about the shift in earnings mix relative to North America and Europe as it pertains to your guidance.

Paul DeSantis

I think that’s a good observation Robert, our expectation, if we look at internally, our internal expectations, Europe is outperforming North America. We certainly didn’t expect North America to be in this recessionary environment and although we’re very happy with the SG&A savings and we’re very happy with all the initiatives that we’ve subsequently put into place to try to control costs, the end result is North America is a bit weaker than we have been expecting and Europe is a bit stronger than we were expecting and more or less they continue to balance each other out.

Robert Felice – Gabelli & Company

Okay and in terms of North America, how much cost savings did you get during the quarter from last year’s restructurings, what was the benefit of that?

Paul DeSantis

I didn’t quantify the benefit of that because part of the issue that we have is a number of the cost savings that we had were in the gross margin line and because the volume is down as far as the volume is down, we’re not seeing those gross margin benefits. We actually, from an internal perspective, the cost savings benefits that we had expected on the SG&A line were actually doing better than we had anticipated there but it’s not enough to offset the losses that we’re seeing on the gross margin line from the cost savings plan.

Robert Felice – Gabelli & Company

So we’re really not going to see the benefit of those cost savings in their totality until North America accelerates?

Paul DeSantis

Correct, we’re seeing the benefit in the fact that the loss isn’t as bad as it could have been but that’s not a very satisfying answer.

Joseph Gingo

Well also you will see the benefit with getting out of the tolling business and shutting down Canada, that will be seen and that we quantified that in our last quarterly call.

Robert Felice – Gabelli & Company

Okay, thanks.

Operator

Your next question comes from Christopher Butler - Sidoti & Company

Christopher Butler – Sidoti & Company

I wanted to ask about Europe and pricing over there, you had mentioned that you had been able to increase prices more than the increase in costs. Is this something that’s continued thus far into the third quarter and I just wanted to get your feel. You had mentioned possibly catching a cold in Europe; what have you seen so far, what’s your feel?

Joseph Gingo

To tell you the truth, you’re correct. Pricing is holding in Europe and we are being able to recover the increased raw materials cost. I haven’t really seen anything in Europe that says it’s catching a cold. I’m just worried about it catching a cold. So at this point in time, I haven’t seen any evidence in our businesses of any problems. But if you look at the global environment today, you have to be concerned. And I guess what I’m expressing is that concern.

Christopher Butler – Sidoti & Company

Okay and with the improvements that you’re talking about to working capital and inventory levels in particular, just want to get an idea of how that works with your specialization strategy. I have to assume that as you get more specialized you’re probably going to have to hold more SKUs and that’s going to have a detrimental affect to inventory levels. Could you give us an idea of how you plan to work both?

Joseph Gingo

I think the issue is to establish a process and that’s what we are doing which links the sales, marketing and operations in one smooth transition overcoming any silo affect. I think that we actually have a lot of potential with that linkage. I really believe the specialization will not hurt us. It’s just a matter of—and remember we’re eliminating a lot of tonnage in Canada and North America that is a lot of inventory as well. So I’m not as concerned about the specialization. We have to get the process; we’ve started the process but I want to get it institutionalized in the organization.

Christopher Butler – Sidoti & Company

And finally, probably more a question for Paul, but you increased the debt through your credit line, just wondering what the rationale behind that was. It seemed like you had enough cash on the balance sheet at least for the quarter to finance the share repurchase, what are you thinking there?

Paul DeSantis

That’s a great question. One of the reasons that we have a lot of cash is that a lot of that cash is in Europe and a lot of that cash is trapped in countries in Europe and so we can’t efficiently get our hands on it. One of the things that we are doing in order to address that very issue is that we are implementing a cash pool in Europe that we believe will allow us to better manage our cash in Europe and you won’t see $40 million of cash and $130 million of debt on our balance sheet any longer. That’s a goal that we have that we are working towards right now. We are not quite there yet.

Christopher Butler – Sidoti & Company

Thank you.

Operator

Your next question comes from Greg Macosko - Lord Abbett

Greg Macosko - Lord Abbett

Just wanted to go through the cash flow and what we should expect looking out there. You do have, as you mentioned, some cash on the balance sheet but you look at the buyback and the increased dividend and you’ve estimated $36 million for the year in terms of net income, what’s the free cash flow expectations for the year at this point?

Paul DeSantis

What we’re looking at is, we’re targeting a reduction in terms of working capital days and so when we talk about working capital days, the way we calculate them is we use the last 90 days; so whether its 90 days sales or cost-of-good, and so we are targeting a reduction in those working capital days across all of our business units and in fact, tasks and goals have been assigned to all the business units. So I’m not going to quote you a specific number but I’m going to tell you that we’re looking for a reduction that we think will be pretty meaningful in terms of days, that our goal is to get us back down at the beginning of this program, to get us back down sort of close to last year’s level and then our anticipation is to continue driving that down further over the next few years as we get good processes into place.

Greg Macosko - Lord Abbett

Okay and then with regard to the restructuring were there any cash charges with regard to those and should we look for anything further throughout the year in terms of more restructuring and cash charges?

Paul DeSantis

Yes, there were cash charges associated with the restructuring so a number of the items that we have talked about had cash impacts. There were employee severance costs and things like that that were in there so we had cash charges let’s say in the $6 million range of that. In terms of cash that we received, when we sold the Orange plant you’ll see in our Q, we received about $3.7 million worth of cash for that so you can net the two numbers together. Going forward, I quoted a number of $4 million to $7 million of potential non-operating costs for the rest of the year and at least half of that [wouldn’t] in fact be cash as well as that turns out. I’ll update you on that next quarter when we tell you what happened.

Greg Macosko - Lord Abbett

So net net I sense you’re pretty comfortable with you’re cash flow goals here and with the working capital especially being the swing factor with regard to cash flow?

Paul DeSantis

Yes, we really are and I’ll add to that in just a minute. If you take a look at some of the other publically traded companies in this space and look at their working capital and you look at ours, I think we’d all agree that we have opportunity to generate some cash off of our balance sheet and I think we are pretty serious about getting our hands on it.

Joseph Gingo

I think Paul mentioned during his discussion the fact that we’ve very specifically goaled each of the heads of our businesses and our functions on cash flow targets. And I’d have to say I agree with you, I’m comfortable we’re going to achieve them.

Greg Macosko - Lord Abbett

And you also said in your—with regard to your outlook, you said that originally you had talked about break-even in think you said in the North American business by year end, was that the goal?

Joseph Gingo

By next fiscal year.

Greg Macosko - Lord Abbett

And so that is expected by the end of fiscal ’09?

Joseph Gingo

Well I said in my outlook, I thought we would be—with the moves we had made in Canada and in Texas and the other actions we’ve taken, I felt very, very comfortable that we would be break-even in North America in fiscal year ’09. With the economic conditions we are facing in North America right now, and I have no clue on how long they last, I’m much less certain about that. But it’s related to the economy not the actions. The actions in and of themselves would have accomplished this.

Greg Macosko - Lord Abbett

Okay and I sense that part of that was your statement about the non-auto business?

Joseph Gingo

Yes, absolutely. It does well for us actually in the first quarter very well, and in the second quarter it did okay and that really—your concern becomes well what’s the trend line?

Greg Macosko - Lord Abbett

Thank you.

Operator

Your next question is a follow-up from Robert Felice – Gabelli & Company

Robert Felice – Gabelli & Company

Just a quick follow-up; I guess I’m wondering with oil at $100, $110 a barrel and raw material costs escalating pretty rapidly here in the last couple of weeks, Joe to what extent are you worried about your price-cost gap widening considerably in the back half and I guess more importantly, to what extent is that dynamic baked in to your $36 million net income guidance?

Joseph Gingo

Well one, our projections are baked into that guidance but I would say this; we’ve made a move, just announced last night, with naming Gary Miller the Chief Procurement Officer of this company. Gary comes to us with a huge amount of experience and background and he’s going to be responsible for global purchasing. We’ve never had that position before in this company where we’re going to aggregate our spends. I have a lot of confidence that Gary’s going to be able to really do a lot for us in the area of purchasing efficiencies.

Robert Felice – Gabelli & Company

And you think those efforts will be immediate enough to have an effect in the back half of this year?

Joseph Gingo

I think that they will mitigate a lot of the price gap, yes, I do.

Robert Felice – Gabelli & Company

And how concerned are you that if non-auto in North America continues or shows a continued downward trend that you won’t be able to get pricing to the extent you got this quarter and that the price-cost gap could get much worse?

Joseph Gingo

I’d have to go—I am concerned obviously what you said would happen. If we continue to see the deterioration in the market and raw materials keep going up despite the fact there’s less demand at the other end, yes we are going to face a problem. By the way, everybody in our industry is going to face that problem. I’m just not a good enough economist to predict how deep, how long this recession is going to be.

Robert Felice – Gabelli & Company

But it sounds like that dynamic, non-auto slowing, prices not being as sticky and raw material costs going up is not fully baked into the guidance, that that would put some downward pressure on it.

Paul DeSantis

If there are headwinds that are worse than we’ve expected, then that’ll have an impact. Now at the same time, we have cost reduction plans that we’ve announced that we’re going to do everything we can to get the benefit of those plans early so there’s—we’re hoping that there’s a healthy tension between additional downside and our ability to offset it through additional cost reductions that we’ve already announced and are working on.

Joseph Gingo

I would say this, that our goal, we believe and we wouldn’t have put it out otherwise, is right now based on—unless there’s a dramatic, dramatic downturn in North America and we have a problem in Europe that’s similar to North America we believe our estimate is very realistic.

Robert Felice – Gabelli & Company

Okay and I’m just trying to get some sensitivity or some judgment on the sensitivity around that guidance and that’s very helpful, thanks.

Operator

With no further questions in the queue, I’d like to turn the call back over to Mr. Joseph Gingo for closing remarks.

Joseph Gingo

Thank you very much and first of all I want to thank everybody for participating. I do want to end on one note; in my short tenure here I have had tremendous support from my Board, across the board, every member of it supporting these programs and supporting our initiatives. I want to thank them for that support and their guidance and advice on many things. It’s a very, at this point, a very unified Board and we’re all moving in the same direction. I wanted to make that point clear to everyone. With that I’ll thank you all.

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Source: A. Schulman Inc. F2Q08 (Qtr End 02/29/08) Earnings Call Transcript
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