Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Om Group (NYSE:OMG)

Q1 2008 Earnings Call

May 8, 2008 10 a.m.

Executives

Joseph M. Scaminace – Chairman, Chief Executive Officer and President

Kenneth Haber – Chief Financial Officer

Gregory J. Griffith – Vice President of Strategic Planning & Business Development

Stephen D. Dunmead – Vice President and General Manager of Specialties Group

Troy Dewar – Director of Investor Relations

Analysts

Saul Ludwig – Keybanc Capital Markets

Michael Harrison – First Analysis Corp

Michael Judd – Greenwich Consultants

Rosemarie Morbelli – Ingalls & Snyder Llc

Operator

Good morning my name is Beverline [ph] and I will be your conference operator today. At this time I would like to welcome everyone to the first quarter 2008 financial results conference call. (Operator Instructions) I would now like to turn the call over to Mr. Troy Dewar, Director of Investor Relations. Please go ahead sir.

Troy Dewar

Thank you Beverline and good morning everyone. Thank you for joining us today for our review of OM Group’s 2008 first quarter results. On the call this morning are Joe Scaminace, Chairman and Chief Executive Officer, Ken Haber, Chief Financial Officer, Steve Dunmead, Vice President and General Manager of Specialities, and Greg Griffith, Vice President Strategic Planning, Development and Investor Relations.

If you have not seen a copy of the press release we issued earlier this morning, you can find it as well as the presentation materials that accompany our discussion on the OM Group website at www.omgi.com under Investor Relations.

Finally the comments made this morning by any of the participants on the call may include forward-looking statements. Actual results could differ materially from those expressed or implied. A more complete disclosure regarding forward-looking statements can be found at the bottom of the company’s press release or in the company’s form 10-K and applies to this call. At this time I will turn to the call over to Joe Scaminace.

Joseph M. Scaminace

Thank you Troy. And good morning everyone. We are pleased to report record sales and operating profit for the quarter ended March 31st, 2008. Our first quarter results demonstrate the powerful effects of our transformational strategy. Our results also reflect our unwavering focus on operational excellence and a more disciplined management of our business. We are building a company that delivers sustainable profitability while diminishing the impact of metal price volatility on our results.

In the quarter we achieved tremendous growth. In sales through strong demand for our products and favorable pricing across all the markets we serve. This growth clearly reflects the vitality and geographic diversity of our customer base across all of our markets. During the quarter we balanced this organic growth with solid contributions from our 2007 acquisitions. These acquisitions bolstered our coatings and electronics businesses which in total, added another 31% to our top line improvement. We are pleased with the pace as which these businesses are being integrated into OMG. We are now focused on optimizing the impact of these new businesses on our future performance. Let us take a minute to look at our results from a segment level perspective.

As we said in our press release, effective January 1st we reorganized our management structure and external reporting. We did this to better focus on growth and transformation. Again our goal is to achieve a predictable and sustainable business model and our 2007 acquisitions of Borchers and Rockwood’s Electronic chemical business certainly helps this greatly. Our advanced material segment revenue grew 119%. This segment consists of inorganics, our smeltered joint venture in the DRC, and metal resell. This triple digit growth was fueled by a combination of factors including higher selling prices, higher metal resell volume, and the surge in demand for rechargeable batteries used in portable devices such as cell phones and notebook computers.

Demand from our European powdered metallurgy customers who use our products for cutting tools and other industrial applications was also very strong. Our specialty chemical segment sales were up 123%. This segment includes our legacy advanced organics and electronic chemical businesses along with our recent acquisitions of coatings and electronic chemicals technologies businesses. With the integration of these businesses on track, our focus has shifted to capturing more profitability. While operating profit grew strongly it grew at a rate slower than revenue. The reasons for this include challenges such as rising input costs, a make shift of our businesses and what seems to be ever rising foreign currency rates.

Let me tell you what we are doing about realizing even more operating profit in both of our segments. Starting first with advanced material segment. Volumes from new products are up over 60% from the first quarter of 2007. When I say new products, I am talking about products that are less than five years old. The biggest jump occurred in our mixed metal precursors for the battery space. But we have also seen a significant increase in our powdered metallurgy area as well.

Second we are carefully managing inventories and the resulting impacting on profitability and cash flows. Any long-term follower of this company knows just how critical and complex this activity can be. But it is even more critical considering the jump in raw material costs reflective of the high cobalt price. Our efforts require global knowledge, leadership, encouraged by our management team and our people are really good at what they do. Their decisions encompass many complicated and interrelated activities like entering into fixed forward sales contracts, negotiating full value premiums that capture their performance characteristics of our products. Shortening the supply chain whenever and wherever possible. And carefully analyzing the implications of every metal resell opportunity.

In our specialty chemical segment we are taking a very aggressive position when it comes to pricing in advanced organics. We have implemented a series of price increases to offset the rapid increase in both metal and hydrocarbon based raw materials. Our position on pricing has resulted in some loss of business but we have already demonstrated that we will walk away from business that does not meet our profitability standards.

Second, as a result of the progress we have made in implementing a companywide ERP system. We have better metrics around a wide range of performance indicators. We are measuring and holding people accountable for safety, productivity, customer satisfaction, equipment utilization and much more. We are able to make better decisions faster and this translates into higher sales and profits.

In our photo mask business the key differentiator is customer service. We continue to see improvement in terms of quality and yield. This will serve this business well when demand picks up in the second half of this year. Productivity levels in our electronic chemicals and ultra pure chemicals business measured on a volume per man-year, continue to trend in a favorable direction.

At this point I will turn the call over to Ken Haber to walk you through the details of our financial performance. Following Ken’s comments, Steve Dunmead will take a few minutes to highlight the trends we are seeing in our end markets as well as offering his view of the cobalt market. Ken.

Kenneth Haber

Thank you Joe. And good morning to everyone. Please turn to the presentation materials from our website and turn to page 4. A couple of general comments before I begin the review of the company’s results.

Included in the first quarter 2008 for the first time are the results of the recently acquired electronics businesses from Rockwood’s Specialities Group. Also as a reminder the nickel business which was sold on March 1st, 2007 is included in discontinued operations for the first quarter 2007.

The increase in net sales of 122% on a year over year basis was driven primarily by higher product selling prices totaling $110 million in the advanced materials segment. A $61 million increase from the resell of cobalt metal and strong volume growth in that segment. In the specialty chemicals segment, the coatings and electronic technology acquisitions contributed $67 million in the first quarter 2008 and higher selling prices contributed $16 million.

The increase in operating profit in the current quarter versus last year’s first quarter is due to an increase in gross profit of $64 million partially offset by a $17 million increase in SG&A expenses. Primarily due to $11 million of the acquired coatings and electronic technologies SG&A expenses.

The gross profit increase was essentially due to the higher cobalt reference price resulting in higher product selling prices offset by increases in cobalt raw material costs. The coatings and electronic technologies acquisitions contributed $13 million which included a $1.7 million charge related to the step up to fair value of inventory acquired and sold in the current quarter. Also favorably impacting gross profit were improved volumes in advanced materials and a $5.8 million unrealized gain on certain cobalt forward purchase contracts.

Income from continuing operations of $55.6 million reflects the operating profit of $95 million offset by income tax expense of $27 million and minority partner share of income related to the company’s 55% owned joint venture in the DRC of $13 million which is net of taxes.

During the fourth quarter 2007, the company was informed by the DRC taxing authority that the joint ventures tax holiday had expired. As a result the first quarter of 2008 includes income tax expense related to income earned in the DRC. No income tax expense was recorded by the joint venture in the first quarter 2007. As a reminder the $13 million of minority interest partners share of the income is 45% of the net income of the joint venture for the period.

On a consolidated basis because we cannot recognize our share of the joint venture partners until the inventory we purchased from the joint venture is manufactured and sold to an outside customer. There is a time lag between recognition of the minority interest partner share of income and recognition of our 55% share.

Net income for the first quarter 2008 was $55.2 million or $1.81 per diluted share versus $114.8 million or $3.85 per diluted share in the first quarter 2007. Excluding discontinued operations income from continuing operations from the current quarter was $55.6 million or $1.82 per share versus a loss of $18.5 million or $0.63 per diluted share in the first quarter of 2007.

Please turn to page five which is a reconciliation of the company’s GAAP reporting of net income and income from continuing operations to non-GAAP results for the period shown. Excluding total income from discontinued operations in the special items as shown. Income from continuing operations, as adjusted for special items, was $57.8 million or $1.90 per diluted share. This compares to $1.66 per diluted share in the fourth quarter 2007 and a $1.25 per diluted in the first quarter 2007.

On page six is the first quarter 2008 operating results for the advanced materials segment. Revenues were up 119% year over year on a 38% volume growth. Excluding metal resell, copper bi-products and nickel specialty [inaudible] products, revenues are up 120% driven by increased product selling prices of $110 million and a 51% increase in product volumes. The increase in the year over year volume growth was driven by battery, powder metallurgy and chemical markets.

The improvement in operating profit was related to a $35 million net impact of higher product selling prices offset by increases and cobalt raw material costs. A $12 million from increased volume and a $5.8 million unrealized gain on cobalt forward purchase contracts. These increases were offset by increased manufacturing costs, increased selling expenses related to higher sales and unfavorable currency impact.

As a reminder in the fourth quarter of 2007, we entered into a cobalt forward contracts to secure a fixed margin and mitigate the risk of price volatility of planned sales to a customer that will take place during the second quarter of this year. Given the rise in metal prices and because these particular contracts do not qualify for special hedge accounting treatment, i.e. they must be mark to market; the gains on these forward contracts recognized in the fourth quarter 2007 and first quarter 2008 will be partially offset by losses on the sales in the second quarter 2008. Although the timing of the gains on the forwards does not match the timing of the losses on the customer sales contracts, the favorable fixed margin will ultimately achieve.

On Page 7 is the first quarter 2008 operating results for the specialty chemical segment which includes the end markets as shown. As stated earlier the acquired coatings and electronic technologies businesses contributed $67 million of the $82 million increased revenues in the first quarter 2008. The remaining portion was related to increase product selling prices of $16 million. Favorable pricing in advanced organic and markets was slightly offset by lower pricing in the other end markets and lower volumes in advanced organics.

Starting with the end markets of advanced organics total combined revenues of $72.3 million were up 78% versus the first quarter 2007. Driven by price increases of $17 million, the $17 million of acquired coatings and favorable mix in exchange impact, this offset by lower sales volume.

Implementing price increases to offset the rapid increase in both metal and hydrocarbon based raw material costs has been a major focus since the end of the last year. Excluding the coatings acquisition volumes were down in all end markets except tire. Lower coatings and chemicals volumes contributed to reflect the economic conditions of the US in reaction to OMG’s position on pricing are more than offsetting the growth in the Asian region. Volumes in the tire end market were up 14% year over year based on market share gains in Asia and weak demand in the first quarter 2007.

The combined revenue of the other end markets, which include semiconductors, transcircuit boards, memory disks, and general metal finishing, were $76.8 million. This was a $51 million increase over the first quarter of 2007 of which $50 million was related to the electronic technologies acquisitions.

Net of the acquisitions revenues were $1 million on a 12% increase in volume. The increase in volumes primarily in the general metal finishing end markets were offset by lower selling prices reflecting a decrease in the allamine nickel price and the impact of $1.5 million of sales in the first quarter 2007 to Rockwood who were the customer of OMG prior to the acquisition. These sales now are treated as an internal transfer.

Excluding the acquired electronic technologies from Rockwood, electronic packaging and finishing was up 8% due to market share gains in Asia. Transcircuit board volumes were down 4% due to softness in the end markets. Memory disks volumes were up 2.5% due to market growth. And general metal finishing was up 89% due to new customers, new applications and market share gains in Asia.

Operating profit in the first quarter 2008 of $8.5 million includes $2.5 million combined for the acquired coatings and electronic technologies businesses including the inventory fair value step-up charge of $1.7 million. Excluding the acquired businesses the impact of favorable pricing of $3 million was offset by lower volume, higher operating expenses and an increase in information technology and travel related to the acquisition integration and ERP implementation activities. And a $1 million expense for terminating two distributors.

On Page 8 is a summary of selected financial data and metrics for the current quarter. The financial data and metrics as shown for the first quarter 2008 and the fourth quarter 2007 includes the coatings and electronic technologies acquisitions. Due to the continued rapid rise in cobalt metal prices in the first quarter of this year, working capital needs required an additional $113 million of cash. This was funded in part by income from operations with the remaining balance funded by proceeds from the revolving line of credit. Total borrowings during the quarter was $70 million. As of March 31st, 2008, the borrowings outstanding under the revolver were $47 million.

Excluding the acquisitions working capital as a percentage of net sales in the current quarter was relatively even to the same period last year and up slightly over the fourth quarter 2007. Looking at network and capital days, which reflect the cash cycle of the business, the comparable numbers are 89 days this current quarter versus 102 days for the fourth quarter 2007, and 117 days for the first quarter 2007.

This positive trend reflects the company’s continued efforts to improve the utilization of its investment and working capital. During this high price environment, we have continued to execute initiatives to minimize the cash invested in inventory levels and the potential risk exposure while at the same time ensuring we are able to meet our customers’ needs.

Turning to page 10, consolidated EBITDA from continuing operations was $96.5 million for the first quarter 2008 compared to $58.4 million for the same period last year. The increase in attributable to the rise in operating profits in 2008 versus 2007. At this current level of EBITDA, the company is within its required debt governance under the current $100 million revolver.

This completes my review of the company’s first quarter 2008 results. I will now turn it over to Steve.

Stephen D. Dunmead

Thanks, Ken. First I’d like to discuss a few of the key drivers in advanced materials. Demand across all major markets continues to be very strong. In the rechargeable battery market, lithium ion battery cell volume is expected to be up 15% year over year and reach 3.3 billion cells for 2008. This demand is being driven by strong demand for laptop computers, as consumers continue to move away from desktop PCs, steady growth in cell phones and other portable consumer electronic devices and high growth in new applications, such as power tools. Although we continued to see movement to new lower cobalt-containing chemistries, cobalt consumption in this market continues to grow.

The power metallurgy market continues to be very strong. Demand for hard metal tooling is being driven by continued infrastructure development in areas such as China and India, mining and drilling associated with oil and gas exploration. We continue to gain share due to our expansion that came on stream at the end of 2007 and our continued focus on the development of new products.

The only area that has been soft for OMG is ceramics and pigments. As we have previously stated, we have make an elective shift of cobalt units to other higher-value markets. I would like to spend a few minutes discussing the cobalt market.

During Q1, cobalt prices continued their upward movement with low-grade averaging approximately $46 a pound up from $33 in Q4. This price surge was driven by strong demand coupled with limited new supply and lower production levels from a few of the key metal producers.

While the market has leveled off since March, likely due to some profit taking, physical availability remains tight. As we look forward, we expect demand across all major sectors to remain strong, and although projections call for increased supply coming from a variety of copper projects in the DRC, the near term should remain tight.

Now a few comments on the specialty chemicals markets. One of the key attributes of our new specialty chemicals segment is that we touch a variety of key end applications ranging from electronics to construction to energy to transportation.

Additionally, this business is truly global with more than 70% of our sales outside of the U.S. These two key aspects of this segment should allow it to contribute significantly to the stated corporate goal of delivering more sustainable results.

Softness in U.S. housing has hurt demand in the coatings and chemicals markets. We do not expect this to change until the economic situation in the U.S. improves. The Borchers acquisition, however, allows us to participate in an environmentally friendly water-based coatings market, which is growing at greater than GDP.

With respect to the tire market, the overall growth rate is expected to be in line with GDP with 12% to 15% growth in Asia and flat demand in the West, as tire producers migrate to Asia.

The shipment of hard drives globally is expected to be up approximately 10%. With increased storage per disk, however, the growth of aluminum-plated disks is expected to be up 4% to 5%. This is in line with what we saw in Q1 and expect to see for the balance of the year.

The general metal finishing market is expected to be upgraded in GDP. For OMG, however, we expect our growth for the full year to be substantially higher with continued share gains in Asia and the development of new customers and new applications.

Although the PCB market was up year over year, the market was down approximately 15% in Q1 versus a strong Q4 ’07. This market was negatively impacted by uncertainty in the global economy. This uncertainty had a greater impact on general consumer electronics than on portable electronics, that is those that require rechargeable batteries. We expect the market to remain somewhat soft until at least Q3.

Even though two of our new businesses Photomask and UPC both participate in the semiconductor industry, the demand drivers are different. Photomask demand is tied to the introduction of new devices.

Capital spending in the semiconductor industry, which was down 15% to 20% from 2007 levels, tends to be a leading indicator for the introduction of new devices. As the economic situation comes into focus, we would expect demand to firm up in Q4.

Ultra Pure Chemicals demand, on the other hand, is directly related to the volume of semiconductor devices produced. This demand is expected to be up 8% for 2008. Both of these trends are in line with what we have seen in Q1. I would now like to turn the call back over to Joe Scaminace.

Joseph M. Scaminace

Thank you, Steve. At this time, we would like to open up the call for your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Mike Harrison of First Analysis.

Michael Harrison – First Analysis Corporation

Hi, everyone.

Joseph M. Scaminace

Good morning.

Michael Harrison – First Analysis Corporation

You know, looking at the minority interest line, obviously that JB is making a ton of money when cobalt prices are this high, but can you just go over once again or maybe give a little bit more detail on these timing issues that you were mentioning that sort of help explain the big payout this quarter compared to the $1.1 million you paid out last quarter and maybe give us a better sense of how we should model that minority interest payout going forward?

Kenneth Haber

Okay. This is Ken. I think there may have been like three questions there, so let me first talk about the first quarter. The earnings in the partnership was reflecting -- the higher earnings reflected both two items. One was certainly the run-up in the price, the cobalt price, but also shipments were probably 40% higher than production and higher than they were in the fourth quarter last year.

That was due to the fact that there were delayed shipments or receipts in Kokkola in the fourth quarter, and those, we caught up on those, and those were reflected in the first quarter results so, again, price but also higher deliveries that were priced in the first quarter related to that.

I think that also in the fourth quarter last year, if you recall, in the fourth quarter were notified of the tax holiday being expired, so in the fourth quarter the minority interest included their share of that total annual cost and I believe that was somewhere around $4 million or so.

So when you look at the fourth quarter, I think we recorded about a million dollars or so. Included in there was that catch-up on the tax expense for the full year plus lower shipments in the fourth quarter that we caught up in the first quarter.

I think as to the timing relative to between our minority partners recognizing their share of the income and ours is, again, they record theirs in the first quarter or they record their income as it is earned in the current period.

We delay ours into subsequent quarters, and usually that can run somewhere between three, four months based on -- and it is tied to the inventory as it moves through our balance sheet and ultimately being sold to our customers.

Michael Harrison – First Analysis Corporation

Did any of the terms of your agreement with your joint venture change at all?

Kenneth Haber

No.

Michael Harrison – First Analysis Corporation

Between Q4 and now?

Kenneth Haber

No other terms or conditions have changed.

Michael Harrison – First Analysis Corporation

And then any guidance on how we should model that payout going forward? Just is $12 million a good run rate or should it be lower next quarter, for example?

Kenneth Haber

Certainly, $12 million is not the normal run rate. As I said before, that was higher than normal because of the additional shipments being received in this first quarter. So I think the run -- certainly, the shipments are going to be lower in the second -- receipts of material at Kokkola will be lower in the second quarter.

So I would say that, you know, they would probably be -- and I am going to give you a rough estimate -- maybe half of that number that you saw in the first quarter that will be recorded in the second quarter.

Michael Harrison – First Analysis Corporation

Okay, that is …

Kenneth Haber

Plus, you know, plus or minus a million dollar swing. Again, you know, this is somewhat influenced by when the actual material is received in Kokkola, and it doesn’t get priced and, therefore, it doesn’t reflect as revenue and, therefore, profits for the joint venture until that occurs.

Michael Harrison – First Analysis Corporation

No, that is very helpful. I appreciate that. And then question also on working capital. It seemed like that was a pretty significant use of cash in the quarter. Particularly interested in the other assets or other line of the cash flow statement. That was and $18.6 million use of cash this quarter, was a source of cash last year.

Obviously, I know part of this is related to the price of cobalt, but can you help me better understand why the use of cash for working capital was so much larger?

Kenneth Haber

Are you referring to that other line, other net that you are referring to, Mike?

Michael Harrison – First Analysis Corporation

Yes.

Kenneth Haber

On the cash flow? Yes, what’s in there is some prepaids. Certainly, the taxes on our final tax payment that was due on our 2007 earnings contributed to a good portion of that.

Michael Harrison – First Analysis Corporation

Okay, that makes sense. And then wanted to ask a question maybe best for Steve. How big of a concern is the power supply in the DRC? I know it is not a new concern, but I think recently people have seen some issues and particularly with new projects coming on stream there, concerned that the grid may be under even more stress than in the past.

Stephen D. Dunmead

Yes, Mike, this is Steve. Certainly, so far this year we have seen two power issues. The first one did on impact us, and I believe that was in February, and it really did not impact us. It impacted other parts of Lubumbashi but did not impact us at all.

This latest issue that happened about a week ago with part of the copper transmission line being stolen has impacted us somewhat. We are operating at less than capacity during the day and at capacity at night, but we understand that within the next week to 10 days that that cable should be repaired.

But I do believe that as you sort of alluded to, this is a constant issue when you have infrastructure that is in as bad of a state of repair as it is in the Congo. And so certainly as these big, new projects come online that use a lot of electricity, especially when you are electrowinning copper or cobalt, they will require upgrades in the infrastructure, especially the electrical infrastructure.

Michael Harrison – First Analysis Corporation

Can you talk a little bit about some of the precautions you are taking to make sure that your operations are not impacted too severely?

Stephen D. Dunmead

Well, certainly, we have backup generators for key pieces of equipment. When you are operating a smelter like this, the worst thing that could happen is rapid surges relative to temperature, which could deteriorate the lining.

And so we have, both from an environmental standpoint and an operating standpoint, backup generators. From an overall OMG standpoint, the supply like, as we have talked about previously, is fairly long, and we do have adequate inventory to protect our customers.

And quite honestly, as we told you when we made the nickel transaction, this diversification of supply was a key part of us doing the cobalt part of the transaction with Nirils [ph] and enabling us to make sure that we can offer stability of supply to our key customers.

Michael Harrison – First Analysis Corporation

All right. Thanks very much. I will get back in queue.

Stephen D. Dunmead

You are welcome.

Operator

Your next question comes from the line of Saul Ludwig of Keybanc.

Saul Ludwig – Keybanc Capital Markets

Just to get a little more further granularity on this minority interest. First of all, Ken, how much in the tax line was tax related to DRC?

Kenneth Haber

About $7 million.

Saul Ludwig – Keybanc Capital Markets

$7 million.

Kenneth Haber

And, again, the tax rate -- just so everyone knows -- the tax rate in the DRC is 42%.

Saul Ludwig – Keybanc Capital Markets

Okay. Now, I understand that they shipped all this additional quantity, which created earnings. Was there any change? You know you had this reviewed by the DRC with your contracts. Did that result in any change in how you transfer the material that would put more profits in the Big Hill pocket and less profits in the Kokkola pocket?

Kenneth Haber

No. First off, there have been no changes to any of our terms, conditions with the joint venture at this time. Yes, we did receive a letter that they are reviewing those contracts. We have not had the opportunity yet to sit down with them to discuss those.

Saul Ludwig – Keybanc Capital Markets

So everything is status quo at least in the first quarter.

Kenneth Haber

Everything is status quo as of this –

Saul Ludwig – Keybanc Capital Markets

Fact is could cost you some money in subsequent quarters?

Stephen D. Dunmead

Saul, this is Steve Dunmead. As we said in our 10-K last year and we have also said, I believe, in the 10-Q, we do not -- the letter that we got from the joint Ministerial Commission really the issues were relatively minor in the grand scheme of things, and we do not believe that they will, after we have gone through the full review, will have a substantial impact on the joint venture.

Saul Ludwig – Keybanc Capital Markets

Great. And then so you have this big profit that came to the DRC because of the high shipments, high cobalt price. How will that sort of work its way through your income statement, let us say, in the second quarter? And how should we think about this? I mean obviously your stock’s getting pummeled because of I think confusion over this whole minority interest issue as it affected your earnings in the first quarter.

And it sounds like the initial impression that this may be something that is sustainable is incorrect, and that is good to hear, but could you clarify it a little more as to how we are going to see this sort of roll through in subsequent quarters where you might pick up the apparent hiccup that you had in the first quarter?

Kenneth Haber

Well, first off, there is no hiccup. Number one, I think, you know, the positive is we have made a lot of money. That operation made a lot of money, obviously, in that regard so that is been very positive. There has been no hiccup. I think the fact is, as I indicated earlier, there is a timing difference, and there is no -- you guys can do the numbers. You can back calculate the numbers.

You can take the minority interest, which is 45%. Tax rate is 42%, and you’ll know that we made approximately $48 million. The operation, the joint venture, made $48 in the first quarter due to the reasons we gave you earlier, okay? Of that $48 million, probably a little less than half of that we recognized in our earnings in the first quarter.

Saul Ludwig – Keybanc Capital Markets

And will that come in in the second quarter?

Kenneth Haber

And that will roll -- and that will come back into our earnings as the inventory moves through there, and that takes usually two to three months. You know, I would say an average three months for that to roll through, three to four. And again it depends, you know, on the inventory movement and sales and that and production. But that is how you should look at it, and that was the impact on the first quarter. So there is no hiccup, and there is been nothing lost here on that.

Saul Ludwig – Keybanc Capital Markets

Okay and then a question for Steve. What percentage -- on an annual basis, not the first quarter -- what percentage of your cobalt are you now going to get from the DRC? I know the game plan is to, you know, reduce that over time. What progress is being made in that regard and where are we now on the curve?

Stephen D. Dunmead

First of all, we do not disclose what percentages of our feed are coming from various sources, but our goal is not necessarily to decrease the amount of feed that we are getting from the DRC necessarily. It is to diversify the supply streams, and I think that we have done an effective job of that, and I do not see any changes as we look forward.

Saul Ludwig – Keybanc Capital Markets

Okay and, Ken, what was the dollar sales of the metal sales?

Kenneth Haber

For the resale?

Saul Ludwig – Keybanc Capital Markets

Yes, cobalt resale, right.

Kenneth Haber

Yes, the Delta was, the difference was $61, $62 million. I think the total was roughly $70 million. We had very little in the first quarter last year.

Saul Ludwig – Keybanc Capital Markets

Okay and also, you know, in the prior quarters, Greg, we had, you gave us a table with volumes of different products shipped and the volumes of cobalt that you produced. We do not have that this quarter. Is that something you are going to stop providing?

Greg Griffith

It’ll be in the Q. Yes, we disclose those in the MD&A section of the Q.

Saul Ludwig – Keybanc Capital Markets

Do you know what your cobalt -- can you share with us what your cobalt production was?

Greg Griffith

I think in the first quarter, the Kokkola refinery was up about 8% over the prior year quarter.

Saul Ludwig – Keybanc Capital Markets

Okay, great. Thank you very much. I will get back in queue.

Greg Griffith

Thanks, Saul.

Operator

Your next question comes from the line of Rosemarie Morbelli of Ingalls & Snyder.

Rosemarie Morbelli – Ingalls & Snyder LLC

Hi, all. Can you hear me?

Kenneth Haber

Yes, yes.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay. I was playing with my telephone. When you look at the cobalt price, the average of $46.19 for the first quarter, could you give us a price for what it was at the end of the quarter and where it is in May unless you want to pick today’s date?

Stephen D. Dunmead

Rosemarie, this is Steve. At the end of the quarter, we were probably at about $49, and it came down a little but during April but then now has rebounded or solidified, so we are in that $47 to $49 kind of range if you look at the two grades right now.

Greg Griffith

That is the low grade that we are quoting there.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay and could you talk about the timing of the new copper mining, which will add to the cobalt supply?

Stephen D. Dunmead

Yes, Rosemarie, this is Steve again. Certainly, you know, you have seen as many press releases and projections over the past years as I have. Certainly, there are a multitude of projects going on in the Congo. I think that the delays in them are related to a couple of issues, one of them being this mining contract review and the second one being the general area of infrastructure. And certainly, those projects with the copper prices where they are, they will happen. I think the question is one of timing.

Rosemarie Morbelli – Ingalls & Snyder LLC

And what would be the earliest based on, you know, your best guess? The earliest they could come on stream?

Stephen D. Dunmead

That really wouldn’t be for me to comment on. That would be for the people that are doing those projects.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay and could you talk -- give us your latest thoughts regarding the bottlenecking which you talked about as a potential? Well, you said you were studying the bottlenecking last quarter. Could you give us some idea as to what you are concluding at this stage?

Stephen D. Dunmead

I think that what we were talking about was debottlenecking in Kokkola, and we are focused on that from a couple of perspectives: one of them the expansion and debottlenecking of the fine powder line that came online in Q4. We are also doing things to debottleneck various parts of the refineries so that, you know, Ken said or Joe said, one of them, in their remarks that our sales of cobalt were up 20% even excluding the metal resale.

And so we have done an effective job -- the guys in Kokkola have done an effective job of debottlenecking the refinery to be able to get more and more material through there. From a market perspective, with the lack of materials coming out of the DRC and going into China, we have had share gains versus the Chinese across the board in most of our key end markets for cobalt-based material.

Rosemarie Morbelli – Ingalls & Snyder LLC

Do you see it going back to China at some point soon?

Stephen D. Dunmead

Yes, it is probably -- I mean from my perspective I think that there are a bunch of the key customers, the big customers, that in some way, shape or form have been burnt by being able to source from the Chinese and then all of the sudden that supply chain drying up. Whether they go back, I think it’ll depend on individual customers.

Greg Griffith

This is Greg, and continuity of supply, reliability, are key factors that establish OM Group in the supply chain.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay and tell me the sales of cobalt went up 20%, and this is excluding the metal resale. Is it because you were selling the metal at a lower margin, obviously? Is that because you were not -- well, you need to extend the power liner in Kokkola because you just could not produce some of the higher-end materials that you were selling metal or is there something else behind that?

Stephen D. Dunmead

Rosemarie, maybe you could clarify the question for me just slightly.

Rosemarie Morbelli – Ingalls & Snyder LLC

Yes, I’d be happy to try. Your sales of cobalt were up 20%. You also sold a lot of metal, and the metal has a lower margin. So were you going, were you selling the metal because you just did not have the capability of making more of the higher-end products or was there another reason behind the sale of all of that metal at a lower margin?

Stephen D. Dunmead

Rosemarie, we had always intending on only consuming portions of that Russian metal that we were going to get. The other portions of that we resell on the market. That was always our intention was to have the options of what we would do with that metal whether we consumed it as raw materials for making higher-value added products or whether we were selling it into applications, which quite honestly, like alloys where we do not participate.

Kenneth Haber

Yes, this is Ken. I just have one other thing just as a reminder. In the first quarter last year, we did not have -- the Nirils contract was not in place yet. And that activity really did not start until the beginning of the third quarter of last year. So to your point that there was a lot of higher metal sales this year than last quarter or last year quarter.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay. I appreciate that, and, Joe, one very quick question. Will you have the new segment for the balance of ’07 in the Q?

Joseph M. Scaminace

No, we will be issuing those sometime in the next week or two in an 8K that we’ll file.

Rosemarie Morbelli – Ingalls & Snyder LLC

Okay, thank you.

Operator

Your next question comes from the line of Mike Judd of Greenwich Consultants.

Michael Judd – Greenwich Consultants

Yes, good morning. Just a series of, you know, sort of financial questions here. The tax rate that you had, you know, given the issues in the DRC and things like that, I think that at least in my model had 25% tax rate for the year. Should I just use the first quarter tax rate as the ongoing tax rate for the rest of the year?

Kenneth Haber

No, included in that 28.4% tax rate were a couple of discrete items of about $1.5 dollars, so you back those out, and the effective tax rate that we are now using is 26.8%, so I would use, you know, 27%, and as I’ve said in earlier calls, you know, that can fluctuate a couple points up or down.

The difference between the 25 that we gave guidance on at the beginning of the year now is primarily being impacted by the higher earnings in the Congo, which is being taxed at a higher rate at 42%, and that is the primary driver. There is some other things that are moving that number up slightly, but that is the key issue or key reason I should say.

Michael Judd – Greenwich Consultants

Okay and then you are still generating a lot of cash here. Should we just assume that you guys are going to just continue to, you know, with your free cash flow, you are just going to generate -- it is just going to go into cash balance sheet here? Or is there any, you know, plans to do anything with, you know, the small amount of debt that you have?

Kenneth Haber

I think that we are, you know, we are going to monitor it and manage through this on a month-to-month basis. You know, certainly, the key driver, as I indicated in my comments, was driven -- the need for working capital was driven by the metal price and the rapid rise in it.

Right now if prices stay fairly stable, we would not be requiring any additional investment in working capital, so we would look at this probably in the second quarter and possibly pay down some of those borrowings.

Michael Judd – Greenwich Consultants

Okay and then just to a strategic question. I mean, obviously, you guys have made two acquisitions fairly recently, you know, generating plenty of cash. You know, your net debt to total capital is obviously extremely low. Could you talk a little bit about, you know, the opportunities for, you know, further acquisitions? I mean it seems like this is a good environment here, you know, given that private equity guys are kind of locked out of the market?

Joseph M. Scaminace

Yes, this is Joe. Absolutely, that is really a very good point. And you know, as you can imagine, we are very acquisitive right now, and we see opportunities in the marketplace to pursue today. There has been clearly a lack of the crowded private equity guys that are out there, and we have got the balance sheet, the drive, the strategy.

You know, we have laid out very clearly, from, you know, every call about our transformation philosophy and that is to get a more predictable and sustainable business model. We made progress to that end with Borcher’s and with Rockwood Electronic Chemical Business.

But I think the next two and three steps need to be taken, and I will tell you that we are very active along those lines. It is not without a deal flow that is out there, so we are staying very vigilant, and we think that there is opportunities that will clearly benefit our company.

Michael Judd – Greenwich Consultants

Okay and just lastly a couple of cash flow items here. For whatever reason, I have $50 million in CapEx in my model. That might be wrong. You only spent, you know, seven in the first quarter. Could you give us an update on what you think CapEx will be this year?

And then lastly I mean I realize that there is a lot of opportunities for acquisitions in here, but you are not currently paying a dividend. I mean is that something that, you know, that your shareholders, you know, are interested in or is that just not really an important issue to you guys at this point?

Kenneth Haber

This is Ken. To the question on the CapEx, we are currently forecasting for the remainder of the year between $30 to $35 million of additional CapEx above what we spent in the first quarter, so I think that probably totals, you know, on the high end it is probably about $42 million. And again, you know, those are our budget plans right now, but we do review every capital project and put it through our review process. But that is our plan right now.

Michael Judd – Greenwich Consultants

Okay and then on the dividend side any, you know, I mean I realize it is really not that big of a deal but just curious what you thought.

Joseph M. Scaminace

No, but a good point, you know. You know dividend, you know, is always under consideration. All things, you know, to be able to enhance our value and then to get more back to our shareholders. That is exactly our mindset, but currently we are not looking at paying a dividend out. We are looking really at the best value for our shareholders, and this idea of acquisition and model change is really superseding that concept now.

Michael Judd – Greenwich Consultants

Okay and then I apologize for being new to covering your company. That is why I am asking you all these questions, but I do just have one follow-up question on the minority interest. And thank you for your help in terms of, you know, bracketing what it could look like in the June quarter.

But if you look at September and December, are there any reasons to think that, you know, those types of minority -- the June quarter run rate, is that sort of what we should anticipate on a quarterly basis moving into, you know, the September and December quarters? Or are there any other factors we should be thinking about, you know, seasonality, et cetera, et cetera?

Joseph M. Scaminace

You know, I think a couple things, a couple comments. Certainly, you know, the biggest driver, as we all know, is the cobalt price. And on a quarter-to-quarter basis, as you just saw what happened between the fourth quarter and the first quarter with our long supply lines, there are disruptions in the delivery, so that happens there too.

I will tell you that our operation down there does run fairly consistent on a quarter-to-quarter basis on production, so you know, at the moment you could say yes. But I would say that it can shift back and forth quarter to quarter.

Michael Judd – Greenwich Consultants

Okay. Thanks a lot for the help, appreciate it.

Joseph M. Scaminace

You are welcome.

Operator

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

Michael Harrison – First Analysis Corporation

Some other questions. You have had the Rockwood acquisition under your belts now I know jut for a few months. Obviously, you said seeing some softness in semiconductor and Photomask, but in terms of the top line synergies that you had hoped to generate from that business, what have you seen so far?

Joseph M. Scaminace

Mike, I will say on the top line synergies clearly, you know, when you think about our legacy memory disk business and the whole idea of PCB, you know, there is clearly, you know, synergies there. And you know, not just market synergy but also operational synergy that we have been in the process of feeling very good about our integration of that.

In the areas of Ultra Pure Chemicals and Photomask, you know, the market and operations synergies have not be as clear. However, we knew that going in, and we have really looked at the Rockwood acquisition and we have stated that our issue here is an enabling acquisition to move to the next level.

You know, the whole idea of transformation, you know, in a company like ours where we are trying to get sustainability and a model that is sustainable over time, you know, we are looking for businesses that have sales margins, buy low and sell high. And clearly that is what we are getting out of the Rockwood acquisition so far. So we are realizing some synergies. We are pleased with where that is at, and we think we’ll realize more as we move up the channel here.

Michael Harrison – First Analysis Corporation

Given that there maybe is not the same kind of mesh with your existing business in the Photomask business, any chance that you might look to divest that portion of the business over the long term?

Greg Griffith

Mike, this is Greg. When we made the acquisition of the Rockwood businesses, as Joe said, we identified them as an enabling acquisition to round out our platform in what, you know, Ken alluded to earlier as electronic technologies. And it gives us a view in a fairly wide range of that supply channel.

We would not, even if we were contemplating portfolio moves, would even announce that because right now we are still learning the different touch points and how we leverage those touch points into growing the model, like Joe said, into a more sustainable, predictable model.

Michael Harrison – First Analysis Corporation

Then it is been a little while since we heard you talk about catalysts. Given the significant increases that we see planned for petrochemical capacity in certain parts of the world, what’s your outlook for the catalyst end market and is that potential area for acquisitions?

Stephen D. Dunmead

This is Steve Dunmead. I will touch on it from a market standpoint. Certainly, the chemical market has been very, very good for us with respect to our cobalt-based materials being driven by gas to liquid catalysts and also hydro desulfurization, so we would continue to expect further growth in those markets, especially as it is tied to one hand environmental issues and on the other hand the high cost of oil and gas.

Gregory J. Griffith

And, Mike, this is Greg. And I would only add to that, you know, as you pointed out, it is a very hot part of the market right now with a lot of growth prospects in that when we look at our transformation strategy, there is obviously a logical touch point to us. But the idea of making a meaningful entrée into that market would be a formidable task and would come at very high expense so that I think there are some very natural impediments to us, you know, making a meaningful move in that regard over and above everything that Steve just pointed out about how compelling that market is.

Michael Harrison – First Analysis Corporation

Right and the last question for you on copper. With copper trading quite a bit higher, when should we expect that to start to have a positive comparison in terms of the changing contribution that gross profit dollars versus last year?

Stephen D. Dunmead

I think that two things. One is the quantity of copper that we are processing does have a variability to it. I think, as we have said before in earlier calls, you know, it depends somewhat on the feed source and the mix of feed running through the refinery.

Second is I do not think there is been a lot of -- it has not been a significant number or we would disclose it, and that is usually our guideline is if it is significant on a year-over-year, quarter-over-quarter comparison, we would identify it, so right now, it is not that significant.

Gregory J. Griffith

But copper price is only one variable. The copper supply due to the variance of the supply is the other component to that, Mike.

Michael Harrison – First Analysis Corporation

So should I assume that it was unchanged on the top line and gross profit dollars versus last year or what –

Stephen D. Dunmead

I’d say relatively, you know, flat.

Michael Harrison – First Analysis Corporation

Okay. Thanks very much.

Operator

Your next question comes from the line of Saul Ludwig of Keybanc.

Saul Ludwig – Keybanc Capital Markets

At the Big Hill they shipped out 40% more product than they produced, which would kind of imply they had inventory. Is that normally a dislocation? I mean are they building inventory that they hold there? I thought generally they produce it and they ship it. Why was there such a big spread between what they produced and what they shipped?

Stephen D. Dunmead

Saul, this is Steve. It was not material that was produced in the first quarter and not shipped in the first quarter because as you well know, the supply chain even under the best of circumstances is somewhere on the range of three to four months.

But because of changes in the government, changes then associated with the export officials at the border, disruptions in weather and the roads and the railways trying to get the materials to say, the harbor, Richards Bay, South Africa, to get it out of there, all of those impact this. And right now, are we sitting on any inventory, any significant inventory in the DRC? The answer is no.

Saul Ludwig – Keybanc Capital Markets

So going forward it would not be possible to ship more than you produced because you do not have anything extra?

Kenneth Haber

Right and again just as a reminder just to reemphasize what I said earlier, that detail does not recognize the revenue until those shipments are received and priced at Kokkola. Okay so it is not, you know, the smelter is continuing to produce and ship on a constant basis. The swing on the amount of receipts at Kokkola is really directly reflected in the supply line and the logistics of moving the material from the Congo to the –

Saul Ludwig – Keybanc Capital Markets

In your pretax earnings of $95 million, you know, your operating earnings of $95, did that include the -- what was it you said--$46 million of, $48 million of pretax earnings of the DRC?

In your $95 million would that include $48 million from the DRC?

Kenneth Haber

No, it does not. Again, the $48 million was what the joint venture earned in the quarter. Okay, we only recognized a portion of that.

Saul Ludwig – Keybanc Capital Markets

How much of the $95 million has been your portion of this $48 million? Roughly?

Kenneth Haber

None because again -- yes, again -- you know, all that got deferred until the next succeeding quarters. What we did recognize was the earnings from the prior quarter, and that net total probably about $17 million I believe was the number. So we did not recognize any of the $48 million in the first quarter of this year. It will be recognized as we go forward. What we did recognize was the earnings from the prior quarter.

Saul Ludwig – Keybanc Capital Markets

So what we should say is that of the $95 million of operating income, it included roughly $17 million from the DRC. Now, from whatever you have profits in the quarter it would include the $48 million.

Kenneth Haber

Some portion of it. Again, depends on the inventory movement through our system.

Saul Ludwig – Keybanc Capital Markets

Assuming you move it out.

Kenneth Haber

I am sorry.

Saul Ludwig – Keybanc Capital Markets

Assuming you move it out, so that would imply that all other things being equal, you should have much stronger second quarter earnings at the bottom line than the first quarter just because of this transformation if everything else stayed the same.

Kenneth Haber

I think that, again, it depends on the next quarter’s results and also what happens in the smelter itself too.

Greg Griffith

And the other thing, Saul, whenever you try to look forward –

Saul Ludwig – Keybanc Capital Markets

I would assume that everything –

Greg Griffith

Saul, one second. Whenever you try to look forward, Saul, embedded in that assumption is your metal price and the flow-through, et cetera, so the initial part of your statement’s correct. Of that $48 million as that flows through, not only in the second quarter but in subsequent quarters, but the other issue is if you try to draw that correlation and conclude a much stronger second quarter, you miss out on a variety of other factors that influence quarterly results.

Saul Ludwig – Keybanc Capital Markets

That is why I said, Greg, you are absolutely right, and that is why I said assuming everything else was stable second quarter and first quarter. And the only thing that was different would be this DRC thing. It would have a positive effect on your numbers.

Greg Griffith

That is correct. Right but there is two things to remind you. The $48 million is 100%. We only get 55% of that. And also do not forget there is tax on that now, too.

Saul Ludwig – Keybanc Capital Markets

That is right and what were the revenues that supported that $48 million in profit at the DRC level?

Greg Griffith

We do not disclose that.

Saul Ludwig – Keybanc Capital Markets

Okay. Thank you very much, guys.

Greg Griffith

Thanks, Saul.

Operator

We have reached our allotted times for questions. Mr. Scaminace, are there any closing remarks?

Joseph M. Scaminace

Yes, there are. Again, we are just real excited about the record quarter and operating profits that we had of $95 million, and I would like -- we remain optimistic about our future. And I’d just like to thank all of you again for your time this morning. Likewise, for the men and women of OMG, particularly those who have recently joined the OMG family who may be listening to today’s call. I want to thank all of your for your collective effort that defines OMG in the marketplace and creates the growth opportunities for our investors.

If you have any follow-up questions on today’s discussion, please do not hesitate to either reach either Greg or Troy. In the meantime, let me thank you again for your interest in OMG. I look forward to updating you on our progress as we move forward.

Operator

This concludes today’s conference call. You may now disconnect.

Copyright policy: All transcripts on this site are the 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 IN THE 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: transcripts@seekingalpha.com. Thank you!

Source: OM Group, Q1 2008 Earnings Call Transcript
This Transcript
All Transcripts