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Executives

Ward Nye – President and Chief Executive Officer

Anne Lloyd – Executive Vice President and Chief Executive Officer

Analysts

Arnie Ursaner – CJS Securities

Rodny Nacier – KeyBanc Capital Markets

Todd Vencil – Sterne Agee

Jack Kasprzak – BB&T Capital

Garik Shmois – Longbow Research

Kathryn Thompson – Thompson Research Group

Ted Grace – Susquehanna

Adam Rudiger – Wells Fargo Security

Mike Betts – Jefferies

Brent Thielman – DA Davidson

Desi Dipierro - RBC Capital Markets

Stanley Elliot - Stifel Nicolaus & Company

Martin Marietta Materials, Inc. (MLM) Q2 2012 Earnings Call July 31, 2012 2:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Martin Marietta Quarter 2012 Conference call. (Operator Instructions) I would now like to turn the conference over to host Mr. Ward Nye. You may begin.

Ward Nye

Good afternoon, and thank you for joining Martin Marietta Materials quarterly earnings call. With me is Anne Lloyd, our Executive Vice President and Chief Executive Officer. We're pleased to share our second quarter 2012 results, and our expectations for the full year. Before we begin, let me remind you that this is discussion may include forward-looking statements, as defined by securities laws in connection with future events, or future operating or financial performance. Forward-looking statements in this discussion are subject to a number of risks and uncertainties that may cause actual results to differ materially from such statements. Except that's required by applicable law, Martin Marietta takes no obligation publicly to update or revise any forward-looking statements. Whether resulting from new information, future developments or otherwise.

Martin Marietta refers you to the legal disclaimers contained in our press release, relating to our second quarter, 2012 results, and to Martin Marietta's other filings with the Securities and Exchange Commission, which can be found on the SEC's website. Finally, any references in our discussion to margin are based on net sales, excluding freight and delivery revenues. This is also explained in our SEC filings.

For the second consecutive quarter, our Heritage Aggregates business has reported an increase in operating margin, expanding 150 basis points in the second quarter 2012. This expansion was driven by our Heritage Aggregates product line, which reported a 2.8% increase in shipments; and a 2.4% increase in pricing. Underscoring this performance, are signs of recovery in certain of our markets, predominately in the western United States. These trends, along with the recent passage of a multi-year federal highway bill, and regionalised improvement in home building, have provided optimism for future construction activities. We also continue to be pleased with our specialty products business, which established a new second quarter record for net sales, and once again, generated impressive margins.

The volume momentum generated in the first quarter, for our Heritage Aggregated product line shipments, continued into April and May. In fact, Heritage shipments for the two month period ended May 31, increased 8% over the comparable prior year period. In that volume environment, we generated an incremental gross margin consistent with our expectations. Predictably, in markets with more notable volume growth, we generated an incremental gross margin much higher than 60%. As an example, our Des Moines, Iowa district experienced a 16% shipment increase for this two month period; and generated an incremental gross margin of 75%. However, in June, certain project delays and economic uncertainty led to a 5 1/2% decline, in Heritage shipments compared with June 2011.

This erratic volume pattern, together with planned inventory control measures; diluted the incremental gross margin gains, that were achieved in the first two months of the quarter. We see consistent indications of recovery in our West group, which reported a 7.6% volume increase for the quarter. Shipments were notably strong in Texas, and Iowa. The Texas market experienced robust construction activity, including increased shipments to both the energy spectrum, as well as the residential end use markets.

Our mid-west division, particularly Iowa, benefited from mild winter weather, which facilitated to an earlier start to the construction season, and allowed for significant progress on several projects. Including the expansion of Highway 20, also known as the Midwest Connector, in western Iowa. Heritage Aggregates volume in our mid-east group increased nearly 8% for the two month period ended May 2012, as compared to the prior year; driven by strength in our Indiana and Ohio markets for major highway projects. However, June volumes declined over 4%. Primarily as a result of project delays in North Carolina, which are expected to defer certain shipments to the second half of the year.

Overall, our mid-east group reported a 2.9% increase in Heritage Aggregates product line shipments for the quarter. Our south-east group experienced a 10% decline in Heritage Aggregate product line shipments, due to economic conditions, lagging national trends, which is largely attributable to weak job growth and continued high foreclosure rates. We're pleased that three out of four of our end-use markets reported Heritage Aggregates product-line volume growth. Shipments to our Heritage infrastructure market increased 3% over the prior quarter. This end use, which accounts for more than half of our aggregates product line shipments, should benefit in the future from the recent passage of the Moving Ahead for Progress in the 21st century act, or MAP 21; which is signed into law earlier this month.

MAP 21 is essentially a final three month continuing resolution to the previous highway bill, through September 30; followed by an abbreviated two year highway program. We believe the new law, which provides highway expenditures of $40 billion annually, will create a higher degree of fiscal certainty for states, counties, and municipalities; compared with a series of shorter-term continuing resolution in effect, since 2009. Furthermore, MAP 21 provides for expedited project approvals, eliminates ear marks and embraces more private sector involvement, all of which we believe will be positive for our business. Aggregates product-line shipments to our residential end-use market, increased 8% in the prior year quarter.

This growth is due to a 40% increase in shipments to the energy sector, which are primarily reflected in our west group results. Our Heritage residential end-use market continued its recovery from depressed levels, has experienced a 21% increase in aggregates product line shipments over the prior year quarter. This growth reflects the increase in National year-to-date housing starts, and was noteworthy in our Charlotte, Kansas City and San Antonio markets.

Finally, aggregates product line shipments to our heritage ChemRock/Rail end-use market declined 19%, driven by the unusually strong balance volume in the second quarter of 2011, as well as project delays related to rail track maintenance schedules. We anticipate certain of these shipments to be recovered in the second half of the year. We continue to see positive construction trends in the Denver market, as previously communicated, when we exchanged our river assets for assets in Colorado, we increased our exposure to winter weather. The front range of the Rocky mountains experiences a later start to the construction season, than markets along the southern portions of the Mississippi river. Still, the Colorado operations once again, outperformed our expectations for the quarter, and had break even operational profitability, generating EBITDA in excess of the previously mentioned river markets.

The average selling price in our heritage aggregates product line increased 2.4% over the prior year quarter. The west group reported the highest increase, 5.4%, which was supported by pricing in south Texas, to the energy sector. These shipments are primarily from sales yards, which have a higher average selling price, compared with producing queries; due to transportation costs from our producing locations to a sales yard. Our product aided the 4.7% heritage aggregates product line pricing increase for our southeast group, we're none the less pleased to see price increases in all segment markets, despite the groups growing decline.

Finally, heritage aggregates product-line pricing for our mid-east group declined approximately 1%. This reduction, however, reflects changes in the geographic mix of shipments, which further lower the average selling price variance by 240 basis points. For the overall aggregates business, which includes the impact of the Denver market, our aggregates product-line average selling price increased 1/2%, over the prior year quarter. Remember though, that aggregates product-line shipments in the Denver market, reflect lower average selling prices compared with the company average, due to both geographic and product mix.

As we've previously discussed, it's reasonable to expect a 30% to 40% difference in sales price, driven by these mix issues. Proper inventory control is an important operational discipline. During the quarter, we adjusted production and reduced our heritage aggregates product-line inventory levels. The inventory reduction lowered gross profit by $8.4 million compared with the prior year quarter. Our operating teams continued their focus on cost control, limiting the increase in heritage aggregates product-lines cost per ton, to 1%, inclusive of the impact of reduced production volumes. Also, reversing a multi-quarter trend, energy costs benefited from a slight reduction in diesel fuel prices, and remained essentially flat compared to the prior year quarter.

Our average price for diesel fuel was $3.03 per gallon, compared with $3.08 per gallon in the prior year quarter. Our specialty products business benefited from strong demand for both chemical and dolomitic lime products, and generated net sales of $50.4 million; which represents the second quarter record. Despite increased direct input costs, this business generated an operating margin of 34.6%. On a consolidated basis, gross margin was 20.8%, a 300 basis point decline compared with the three year prior year quarter, primarily as a result of the inventory control measures discussed previously.

We continue to focus on what we believe is industry leading performance in our consolidated selling, general and administrative expenses. In that respect, these expenses declined 40 basis points, as percentage of net sales. The absolute increase o $4.3 million is due to incremental overhead incurred in our Denver operations, and costs related to our planned information systems upgrade. We expect improvement in SG&A expenses in our Denver operations, since we continue to integrate them into our disciplined cost structure.

Consolidated earnings from operations for the quarter were $59.3 million, inclusive of $9.2 million of business development expenses; excluding the $0.12 per-diluted share charge for these expenses, our adjusted earnings per diluted share was $0.92 for the quarter. Inclusive of these expenses, earnings per diluted share were $0.80, compared with $0.78 in the prior quarter. For the first six months of the year, cash provided by operating activities, excluding the impact of business development expenses, was $52.6 million. Days sales outstanding, was 43 days, an improvement compared to 2011.

We continue to invest in the new lime kiln being constructed by our specialty products Woodville, Ohio facility. We expect this project to be substantially completed during the fourth quarter, and thereafter generate annual net sales ranging from $22 to $25 million, with margins comparable to current levels. During the first six months of the year, we invested $66 million in various capital initiatives, including $22 million for the new kiln. We also maintained our quarterly dividend rate of $0.40 per common share. At June 30, 2012 our ratio consolidated debt to consolidated EBITDA, was 3.63 times in compliance with the limits under our debt covenants. We remain optimistic about our performance in the second half of the year. We continue to expect our infrastructure end-use market volumes to range from flat, to down slightly. We anticipate double-digit growth in non-residential shipments, driven by increased energy sector demand.

Residential shipments are expected to increase at a higher rate, compared to the level of improvement in 2011. Finally, we expect ChemRock/Rail volume to range from flat to down slightly, depending on the timing of the previously mentioned [inaudible] projects. Overall, for the full year, in our heritage aggregate product line, we expect volume to increase 4% to 5%, pricing to increase 2% to 4%, and direct production costs to be flat. SG&A expenses, exclusive of the incremental expense for our Denver operations, and costs related to our information systems upgrade, are expected to decline slightly compared with 2011. Earnings for our specialty products segment are expected to range from $68 to $70 million.

We expect interest expense to remain flat this year, our effective tax rate is expected to be approximately 23%, exclusive of discrete events; and capital expenditures are fore-casted $155 million. This CapEx estimate includes the remaining capital for the new kiln at our specialty products business. We look forward to building on the positive first half trends, in the second half of the year. We remain confident that our disciplined operating approach will deliver results, that enhance long-term shareholder value. Thank you for your interest in Martin Marietta Materials. The operator will now give the required instructions, we'll be happy to address your questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Arnold Ursaner, of CJS Securities. Your line is open.

Arnie Ursaner – CJS Securities

Hi, good afternoon Ward. My first question is the 60% incremental margin target that you had spoken about previously, you mentioned that you had it in April and May. Do you have any reason that your target of 60% incremental margin is not achievable on a go-forward basis? Maybe expand on some of the factors behind it.

Ward Nye

Sure, Arnie. Thanks for your question. The short answer is we continually believe that the 60% incremental margin is attainable, with volume recovery. If we look at April, volume recovery was up 8.8%, if we look at May volume was up 7.3%. So if you look at those two months, as we discussed, it was 8%. The fact is, we believe strongly that we can hit those incremental margins, when we watch the next, call it, 40 millions tons come back. Keep in mind, we're 80 million tons away from where we were at peak. Oart of what's important here though, Arnie, is it does have to come back across the enterprise, and that's really part of what we were seeing in April and May. The other component that I would remind you of, and we discussed this before. Markets like North Carolina and the southeast are dis-proportionally profitable markets for us. So, when we're looking at volumes down 10% in the southeast, and when we're looking at what was a challenging period of volume for north Carolina, those two markets do tend to put a particular drag on that incremental margin target. But again, if we see volume come back across the enterprise, we're very confident in that incremental margin target.

Arnie Ursaner – CJS Securities

My final question if I could. I think you said $8.4 million hit from the planned inventory reduction plan. Can you give us the quantity or the tonnage, decline that you had from inventory? Perhaps walk us back through the math around the $8.4 million item you mentioned.

Ward Nye

I can certainly take you through that. What we're talking about Arnie, is basically a reduction in inventory of about 3.5 million tons. So if you take a look at the production tonnage that we had in Q2 '12, versus Q2 '11, we actually produced less tonnage in '12 than we did in '11. We took our inventory volumes down by 3.5 million tons; so fully call it 10% of the heritage volume, worth of volume, just went out. Frankly, came out of inventory. Keep in mind, when you're working in a volume environment that we're in today, you're probably running with fixed costs somewhere near 70%. When you're in that type of volume environment, with that type of fixed cost structure, when you do bring volumes down, you're simply going to feel it to the tune of that $8.4, $8.5 million. So, from an operating perspective, it was entirely the right thing to do. We've discussed where we've been with inventories for some time, but hopefully that put some metrics to it.

Arnie Ursaner – CJS Securities

Thank you, very much.

Ward Nye

You're very welcome.

Operator

Our next question comes from Todd Vencil, with Sterne Agee. Your line is open.

Todd Vencil – Sterne Agee

Good afternoon.

Ward Nye

Hi, Todd.

Todd Vencil – Sterne Agee

Let's talk about the second half of the year for a minute. Obviously there's a fair amount of concern about the macro economic environment. You guys kept your guidance unchanged. You talked a little bit about the second half and sort of what your specific expectations are there. Can you give us a feel for what's underlying that, and what you're seeing that makes you feel as confident as you seem to be in that?

Ward Nye

Sure. Well, Todd, as you recall, we indicated we though volume would be up 4% to 5%. If we take a look at really, the bottom end of that range, and what it takes us to get there. I'll try to take you through the different buckets, and give you a sense of that. We expect an infrastructure of slow downs in the second half, so we're actually showing second half volumes down in infrastructure, down around 1.6%. Now non-res, particularly driven by energy had a nice first half. We saw that volume up around 12%. Based on what we're seeing right now, we think that will likely replicate itself again, in the second half. If you look at res, res was up 15% in half one, and obviously there's a lot of activity in res right now; at least comparatively. We're actually seeing res, in our numbers, slow down in the second half. If there's some place where there may be some upside, I think candidly, that may be it. We saw res up 15%, half one, we're showing it up only 9%, half two. Then if you assume that we're not going to see the same level of down in ChemRock/Rail; in half one, we saw that down 9%. We're seeing that down 2% in half two. That at least gives you some degree of book-ends around the different percentages that we're talking about, and the different end uses. If I come back and take a look at those, none of those percentages seem to be particularly unrealistic to me, Todd.

Todd Vencil – Sterne Agee

That's great. Thanks for that. You mentioned 2013, in your press release, when you were talking about MAP 21. I can't resist taking the opportunity to ask if you want to give us an early indication on what you think next year might look like. Whether it's for infrastructure as a result of that, or just broadly speaking.

Ward Nye

Well, you can't resist, I probably can resist, Todd. Actually Todd, I do think the highway bill, is clearly going to be something that's helpful to this industry. When Secretary LaHood came out with his announcement around much of that, he said that he thought this was going to give some degree of interest, to an area that truly has [inaudible] and I don't disagree with that. As you recall, for the last couple of years, about the only sector of our business that we said we thought had [inaudible] demand, was in ag-line. I do think there is [pinup] demand around the larger multi-year projects, and I think what we have in MAP 21, at least giving a clear two year snapshot of what we have, is going to be helpful. Keep in mind, I didn't think we would see a highway bill, so I think this is a better place than I thought we would be. I think that in addition to the flat funding, I would suggest to you Todd, that it's pretty good. I think if you look at the reform provisions that are in it, those are going to matter, I think, quite a bit as we go through. I would particularly encourage people to look at the TIFIA program. Because that's going to end up, I think, putting a considerable amount of money out there, that people will be able to use. You can look at the projects that have been bid in the TIFIA program since 1998, they're simply going to be much more robust, going forward. In fact, again, I think it was last Friday, LaHood announced that there would be immediately available $17 billion of TIFIA loans. So by the time you end up putting the leverage amount to that, you can have something coming out of TIFIA, I believe, that can be much more important to the industry, than for example, the prior stimulus bill was.

Todd Vencil – Sterne Agee

That's great. Thanks for that.

Ward Nye

Thank you, Todd.

Todd Vencil – Sterne Agee

You had talked about the possibility of medium price increases this year. Are you seeing that come through the way you anticipated?

Ward Nye

You know what? We have certainly seen mid-year price increases. They have not been across the board as much as they would have been last year, at least by market. We've seen increases in certain markets in the east, primarily for ready-mix stone. We have seen mid-year price increases as you would expect in portions of the southwest. We've seen price increases in San Antonio, we've seen fine and course aggregate pricing go up, in some places as much as $1.00 a ton. In Houston, we've seen mid-year price increases on aggregates anywhere form $1.00 to9 $1.50 a ton, we've seen sand and gravel go up in that market as well. We've seen similar price increases in south Texas. The one area in Texas that we have not seen the mid-year price increases stick, is in DFW. As you recall, we're not really the market leader in DFW, but we've certainly seen what we believe, is productive mid-year price increases in San Antonio, Houston and south Texas.

Todd Vencil – Sterne Agee

Great. Final question from me. In the inventory reductions, can you just talk about what drove your decision to make that? Was it particular product and market driven? Going forward, are you looking to produce in line with shipments, or are there further productions to come? Thanks.

Ward Nye

It was not driven by any single product, Todd. It was really across the spectrum. What I would suggest to you, is as volumes come through next year, particularly after MAP 21, I think you'll see more of a draw down in base products. This is simply the way we run our business, this is not unusual for us to go and adjust the inventories down. We'll continue to watch what we thin shipments are going to be, and we'll try to manage that in a way that we think is responsible. So, I don't want to sit here at this moment and tell you exactly what our plan will be, because we will watch that as the year unfolds.

Todd Vencil – Sterne Agee

Thanks, very much.

Ward Nye

Thank you, Todd.

Operator

Our next question comes from Rodny Nacier, with KeyBanc Capital Markets. Your line is open.

Rodny Nacier – KeyBanc Capital Markets

Hi, good afternoon everyone.

Ward Nye

What's up Rodny.

Rodny Nacier – KeyBanc Capital Markets

You had highlighted in your prepared remarks [inaudible] during the second quarter, and as I'm thinking about your guidance of 4% to 5% for the full year, could you perhaps break out on a regional basis, your outlook for the segments?

Ward Nye

I'll try to break it out on an end use basis. Really, if we look at the way the trends are going right now Rodney, clearly I think we can all say the west is going to be a more robust area for the country, for the rest of this year, than the east is going to be. I think, at the same time, if we come back and look at our mid-east group, the deferrals that we saw of some volume in the mid-east, particularly in north Carolina, is fairly notable. If we took a look at some rather large projects, there's a fairly large project on I-5 crossing the Yadkin river, that was delayed. We've seen some lining projects on I-85 around Charlotte delayed. We've seen some delays on highway 311, which is going through the middle of the state, really, in Randolph County. Even as we get to the eastern part of the state, there were some delays on the Welmington Bypass, and of course, we've had good military work throughout our enterprise, because of our different locations, and we saw some delays at Camp Lejeune. So if I come back and say to you, broadly, we do anticipate volumes to be stronger in the west, we do anticipate seeing a stronger second half, clearly in the mid-east, and I think the area that's simply going to lag is what we're seeing in the south-east right now. I think that's driven by a number of different factors. I think the economic factors in the southeast are pretty powerful.

If we just take a look at what employment situations are like right now in Florida, Georgia and in south Carolina; looking back where they were at peak, and where they are today. They're 55% below peak today. In Georgia it's down 37%, north Carolina 34%, south Carolina is down 40%. At the same time, housing, which is driving a lot of the activity in many parts of the country. Let's celebrate the fact that it's up 28% right now, but at the same time, on a seasonally adjusted rate, that's 780,000 units; versus a norm of 1.4 to 1.5 per annum. I think if we look at the southeast, and here's a factoid for you, I think we can tie it back in, very directly, apply it to our southeastern lag. If we look at 1,000 homes in the US, what you can assume is around 4.3 of those homes are in some degree of foreclosure. That's not a very heartwarming statistic, and it gets even uglier when we talk about Georgia and Florida, because Georgia has got 8.3 of them in some degree of foreclosure, out of 1,000, and Florida at 8.6. So, I try to give you at least some data, that I think comes back to underscore what we said in the west, and the mid-east, and the southeast, Rodny. The one thing that I would say is this. It's been remarkably dry in portions of the west, this year, and in particular parts of Iowa. I think that may end up putting some degree of duress on the agriculture community there, if they don't get some rain soon. Of course, what that can actually do is impact your AG line volume at the end of the year. So, Rodny I hope that was helpful.

Rodny Nacier – KeyBanc Capital Markets

That was very helpful. Not to focus on the laggard here, but looking at the southeast segment, with volumes down 10%, just looking at the restated volumes that you have, it was on a pretty similar comp to the first quarter. So, the first quarter was up 5%, and this quarter was down 10%. Was there anything specific, that happened this quarter, that really drove that market to just deteriorate, at a faster pace?

Ward Nye

I don't think there was anything horribly specific. I think there were several things that are rather general, and I think one of the issues that we need to watch, is what happens today in the state of Georgia; because that is when we're going to see what the full results are, on the 1% sales tax that Georgia is trying to put in, in [inaudible] districts. I think, clearly not having a good viable funding mechanism in the Georgia DOP, is something that does cause them some concern. The other issue I would mention, and we didn't put in the press release, and I didn't put it in my prepared remarks because it's an outdoor sport. I mean, you did have a tropical storm that came through, Debbie did come through in June; and to say that Florida and Georgia escaped that without any effect, would be entirely right. When storms come through, you just deal with them.

Rodny Nacier – KeyBanc Capital Markets

All right. Thank you. That's very helpful.

Ward Nye

Thank you, Rodny.

Operator

Our next question comes from Jack Kasprzak of BB&T. Your line is open.

Jack Kasprzak – BB&T Capital

Good afternoon, Ward.

Ward Nye

How are you doing, Jack?

Jack Kasprzak – BB&T Capital

I'm doing all right. Thanks. What do you think happened in June? I mean, seems like declines were fairly widespread and was it something you guys saw coming or did it catch the industry a bit by surprise?

Ward Nye

I think perhaps the degree to which there was a decline. I think it caught the industry by surprise. I think when you're looking at double-digit numbers down in Georgia and you're looking at double-digits down in part of North Carolina and double-digits down in South Carolina, I think those are bigger numbers than what people would have expected.

At the same time, when I remember that we're talking about North Carolina and South Carolina and Georgia, those aren't states that you would expect to stay down. These are states that have broad, good, solid economies. But I think to answer your question directly, Jack, it was a deeper fall in June, but I think people would have expected.

Jack Kasprzak – BB&T Capital

And with regard to the residential piece where are expecting not quite a gain in volume in the second half versus the first. When I look at the housing starts in single-family starts, there, right now anyway, at the highest level of the year. So as your guidance there reflects some of those market specific factors or just more of some conservatism, even given that housing has gained a little momentum lately?

Ward Nye

I think that's a fair point, Jack and I think that the comments will filter around that in the earlier Q&A was. I think if there's a place here that we probably benefit punitive to ourselves, it may well be on the res side. I was out in San Antonio here a few weeks ago and I was in Florida for part of the other week, as well, and, Jack, what I'm seeing is I'm seeing activity in the field that feels like, in some respects, that I'm back in 2006.

We're seeing people cutting in new subdivisions. It's not just that they're building homes, they're paving streets, they're building sidewalks, they're putting in curb and gutter. So I do think the housing piece is a very good story right now and I don't want to soft sell that. I think that is good and it's clearly more important to this industry than I think people would have believed.

Jack Kasprzak – BB&T Capital

Sure. Well, it's been a while since we've seen it, obviously. And I'm pricing, you mentioned some of the markets where pricing has been good and you're getting some mid-year price increases, but you've also said on this call, as well as for, I think, a few quarters at least, that it is choppy, I guess, maybe is the word or sporadic in terms of the ability to get pricing. There still some important markets out there where pricing is somewhat competitive and that's, if it happened in the wrong market, it can really affect margin. I mean is that something that you're dealing with?

Ward Nye

No, and I wouldn't say that it's hard to get price. I think what I'm more saying is in some markets it's not as easy to get a mid-year price right now, Jack.

Jack Kasprzak – BB&T Capital

Okay.

Ward Nye

If I'm looking at our pricing again in a very tepid volume environment, realistically this is still the way I measure it, a pretty good story.

Jack Kasprzak – BB&T Capital

Yeah. Okay. Fair enough. Thanks, Ward.

Ward Nye

Thank you, Jack.

Operator

Our next question comes from Garik Shmois of Longbow Research. Your line is open.

Garik Shmois – Longbow Research

Thank you. I just have a follow-up question with respect to the inventory control measures you took in the second quarter. I was wondering if you could break out, perhaps, by reason how much of $8 million was spread across where?

Ward Nye

You know, well, Garik, I could probably go back and take a look at that. I can't break that out for you right now and give you a good spread of exactly where that was. I don't think there was any particular area that really drove. I think we pretty much did that across the portfolio. I think there might have been a little bit more east of the Mississippi, but as a practical matter we also had better business west of the Mississippi, but I think that's probably as good as I can give you right.

Garik Shmois – Longbow Research

Okay. And then, I guess, as we think about the close margin in back half of the year, looking for a mid single-digit volume growth, some pricing lift. All things being equal, especially with diesel tapering off, could we expect gross margin expansion year-over-year in the back half of the year, meaning some of these revenue growth opportunities will more than offset some of the negative mixed issues that you're seeing geographically?

Ward Nye

Garik, I don't think that's something that you should dismiss at all. I think that primary driver is going to be volume and where the volume is. I think those are going to be the two issues that, if I were you and it being me, that those are two things that I'm going to watch. How much and where.

Garik Shmois – Longbow Research

Okay. Fair enough. And, I guess, just a question on non-residential demand. The (inaudible) energy has been very strong for you in the first half of the year. I just wondered may be if you could provide some color on what you're seeing in the more traditional and non-res end markets, office and retail, end markets like that?

Ward Nye

It continues to get better, but I will tell you it's getting better from a very, very, very low point right now, Garik, and we're seeing that better in a number of markets. I'm seeing that better in Ohio. I'm seeing it better in Indiana. I'm seeing good warehousing distribution. I'm seeing portions of that in the Mid-Atlantic and we're clearly seeing good activity along those lines in places like Kansas City and in the Western U.S.

So, if we come back and really look at what non-res, really more the lighter side of it is doing, we're seeing better activity than we've seen in a long time; Florida probably being one of the few places right now, on that piece, of still not an enormous amount of activity.

Garik Shmois – Longbow Research

Okay. And then, I guess, this question is just housekeeping. I was wondering if you could provide the number of gallons of diesel you consumed in the second quarter?

Ward Nye

I can. It looks like in Q2 we consumed about 7.5 million gallons of diesel fuel. So for half one we were 13.5 million gallons, and, just so you'll know, usually Q3 is our highest diesel fuel consumption period.

Garik Shmois – Longbow Research

Great. Thanks so much.

Ward Nye

Sure, Garik.

Operator

Our next question comes from Kathryn Thompson of Thompson Research. Your line is open.

Kathryn Thompson – Thompson Research Group

And I thank you for taking my questions today. I was going to see if you could just give me a little bit more clarity on volumes on apples-to-apples basis just to reconfirm you're gaining about 8 million tons in fiscal '12 from Denver and taking out about 6.5 million from other divested assets and other related assets. And taking those to account, how did the Denver assets perform on a year-to-year basis versus your core asset base volume performance in the quarter?

Ward Nye

Sure, Kathryn. Let me address that. Actually, what we've said before it the 8 million tons that I think you're referencing is not just Denver. That's the cumulative tonnage from the acquisitions last year. So that would include Denver and it would include San Antonio.

But let me do this, let me come back and try to help you a little bit on Denver because I can understand that that's something that you want to try to bring some clarity to it. If we look at it for the quarter, we shipped around 1.6 million tons of aggregates in Denver. It was around 485,000 tons of hot mix and around 230,000 cubic yards of Ready-mix and generated approximately $60 million net sales from the acquired Denver business.

So if we look at that we had something in Denver for the quarter that really getting its lights under it. It was EBITDA positive for the quarter and, again, part of what we're intrigued by like and what we're seeing in Denver, Kathryn, is the rate of growth in highly construction awards in Colorado as ranking among the highest in the country and also looking at what their relative to decreasing construction-related unemployment is pretty impressive. Colorado added jobs at a rate of 4.2% versus the national average of 1.9%. And that's really going back even to the last question. This is one of the markets where we're seeing a nice uptick in non-res and residential construction.

And to give you more of a sense of it, during the quarter we bid on nearly 1,200 different projects in Colorado, up and down the front range. So, hopefully, that gives you a sense of how that market is starting evolve and growing into something that we thought it would, but it also gives you some volume and some revenue metrics around Denver. The other thing that I would point out to you too is if you went back and took a look at the way the TIFIA program has worked, even historically, Colorado's been one of the better states at coming up with projects of a national or regional significance and getting (inaudible) dollars put into those. Is that something to say all you need, Kathryn?

Kathryn Thompson – Thompson Research Group

Yeah, and I was just looking at Denver. How much is that non-res demand is really more energy driven versus your core, kind of, other category in non-res?

Ward Nye

You know what? Actually, not a lot of it is purely energy driven there. I mean, what you'll see coming out of there is really going to a (inaudible) deposit and the type of tonnage that we would see going to (inaudible) compared to anything that we might be seeing in the Barnett, for example, which way down, or the Haynesville, which is down, or even the Marcellus, that we don't have the huge presence in. It's not as much as we would see in any of those other deposits.

So when we're talking about non-res in that market, it truly is what you would think about it. It's the Westin that's going up at the Denver Airport and it's other projects of that nature.

Kathryn Thompson – Thompson Research Group

Okay. And doing the pricing, how much does mix account for in the upside in the quarter?

Ward Nye

You know what, it really doesn't count for much of the upside. In fact, mix was clearly a headwind on what we experienced in the Mid-East. The only place that we got really a tailwind that was appreciable on mix was in the Southeast where I want to say we up, what was it 4 and some percent, and I want to say it was around 200 basis of that that was a positive mix effect. Aside from that, it wasn't a great moment for the quarter.

Kathryn Thompson – Thompson Research Group

And then going back to inventory reduction, even if this had been for good or for ill kind of an issue for the industry in general, really since the stimulus program got going and had having to battle through base inventories. Here's my question to you, I think it's great you're EBITDA, focusing on inventories, but, and you talked a little bit about it earlier in the Q&A, but maybe you can help me understand a little bit better inventory, particularly basis, has been an issue for the downturn. Why maybe focus a little bit more in this quarter or is there an opportunity maybe to unload a type of inventory that you hadn't had the opportunity before because of different demand trends?

Ward Nye

No, the demand trends didn't change from our (inaudible) plan and Lord knows the problem with the industry right now is there's not enough opportunities to unload volume anywhere right now, Kathryn. That's the real challenge that we're faced with. And simply recognizing that, to your point, if you're going to be in a mode for much of the last several years that you're producing principally a clean washed stone material. You were going to build some other inventories. You are doing to have to go back and run your plants at times in a different mode and you will build up some inventories and you do have to manage it.

So there was nothing that was particularly magic about this quarter, it's obviously easier to the extent that you're going to sell out of inventory to do it when you feel like you're in the right season to get much of that done. So that's simply what drove it.

Kathryn Thompson – Thompson Research Group

Okay. Great. And, finally, is anything on the impact of the drought on your ag line business?

Ward Nye

It's hard to say that there will or won't be an impact right. That was really just going back to what we've felt like the puts and takes and maybe with respect to volume later in the year. Obviously, we've had a couple of good years of ag line volume. I think the need for ag line in many respects is still there.

At the same time, if the crops end up, in large part, being subject to drought and the farmers find themselves in a more distressed place at the end of the year, then they won't buy as much ag line. That's simply the way that market works. I don't think we're to the point that any of us can say that that's where the farmers are, but at the same time, I think that's something that they are probably watching right now. If they are, we are.

Kathryn Thompson – Thompson Research Group

Okay. Great. Thanks so much.

Ward Nye

Sure, Kathryn.

Operator

Our next question comes from Ted Grace of Susquehanna. Your line is open.

Ted Grace – Susquehanna

Thank you. Hi, guys. How're you doing?

Ward Nye

Good. How are you?

Ted Grace – Susquehanna

Great. So I had a quick question. I apologize if I missed, but on specialty products, revenue up 2%, gross profit better at 7%, operating profit down 9%, margins down 420 basis points. You know, so, otherwise, revenue up $2 million, profit down $2 million. You say that higher raw material costs, I think contract services and repairs, I wondered if you could give us a little better sense for what the raw material issue was in the quarter? How to think about? If it's a cyclical issue? If it's something other than... is it natural gas, is it some other raw materials and starting point?

Ward Nye

Well, to tell you the truth, really, Ted, is we went back and looked at that. Some of it was simply in supplies and explosives. Some of it was in repairs. Some of it was just in pure maintenance. We had some issues with respect to lime, but at the same time the issue that we're faced with right now is a few hundred thousand dollars here, a few hundred thousand dollars there, you get up to something that, $1 million, $1.5 million.

I don't think it's anything that's really likely recur or be that notable. At the same time I think you and I both look at those margins and take them every day of the week and that team has done very well.

The one thing I will say to you is that nat gas has been our friend up there. If we look at the way nat gas has worked historically, we had looked at the energy profile for that business, nat gas clearly would have been the single largest component of that and as we sit there today, coal and electricity and nat gas really on a percentage basis are all about the same for that business right now, so.

It wasn't any one thing, Ted, it was just a series of smaller things that, as I've looked at them, and as John Harmon, who runs that business very well for us, looks at them, we're not particularly alarmed by what we saw.

Ted Grace – Susquehanna

Okay. So not to nag on it, but I agree. It's a phenomenal business. So it's been extraordinary to the downturn and upturn, but just when it comes back to thinking about the profitability on a go-forward basis, it's a business that's historically put up some really impressive incremental in the 50%, 60% range and you had 220% decremental this quarter. And so just in terms of calibrating our expectations, I know you reaffirmed the $68 million to $70 million of pre-tax profits, but it's still a pretty big swing.

So if you start heading up a couple hundred thousand dollar things here and there, you still come to a $4 million net swing, revenue up 2, profits down 2.

Ward Nye

All right. I understand where you're coming from. If I really was concerned about it, to your point, I would have gone back and changed the guidance. I feel confident that we'll be where we are. Still's running at a 77.8% capacity right. Obviously, the input cost with respect to natural gas are in a very attractive place compared to history.

We're right on time, right on schedule, right on dollars with the kiln project, as well. Ted, I don't see anything there that for the full year is concerning to me. I feel very good about it.

Ted Grace – Susquehanna

Great. Because I know you mentioned 77.8% capacity (inaudible). Could you just tell us what it was last year? (inaudible)

Ward Nye

Last year the numbers run 74.5.

Ted Grace – Susquehanna

Oh, wow. Okay. So nice improvement.

Ward Nye

Yeah.

Ted Grace – Susquehanna

Great. And then I apologize to go back, I just wanted to touch on the incremental margins in aggregates. I know there was mix, there's the inventory issue, and you talked about giving 60% incrementals in April and May. Was that on the business on a reported basis or was that really the underlying aggregates when you strip out the downstream stuff and any other noise?

Ward Nye

Okay. That was on our aggregates business and the way we report our aggregates business is really if we're looking at... I'm just thinking through it, Ted, there's no downstream, at least appreciably in the east, and, obviously, there is in the west. So what we're talking about on that is the incremental margins with respect to the ags business across the group. So ag rock only.

Ted Grace – Susquehanna

Okay. The last thing I just want to ask and then I'll just hand off the baton to somebody else, but the (inaudible) costs, can you just talk about kind of what's driving the upgrade. I think what involved your guys as having kind of best of breed technology. Just wondering what exactly you're doing with the total cost will be and how should we think about payback and the anticipated benefits?

Ward Nye

(audio difficulty)

Can you hear me?

Ted Grace – Susquehanna

Hello?

(audio difficulty)

Ward, I apologize I don't think you can hear me, but I think something is wrong with my line because I can't hear anything. I'm just going to hang up and they can circle up offline. Thank you.

Operator

Thank you next question comes from Adam Rudiger of Wells Fargo Security.

Adam Rudiger – Wells Fargo Security

Hi. Can you hear me?

(audio difficulty)

Ward Nye

So all told and $8 million upgrade investment, which is simply standard due course and something that we are prepared for and, obviously, we feel like the way we run our business and the importance of our systems is an important and critical investment.

Operator, if you can still hear us, I'd like to go to the next call.

Operator

Our next question comes from Mike Betts of Jefferies. Your line is open.

Mike Betts – Jefferies

Yes, hello. Can you hear me, Ward?

Ward Nye

The good news, Mike, is I can hear and I'm sorry for whatever happened there. I'm glad all of you could continue to hear us.

Mike Betts – Jefferies

Yeah, I'm not sure we could, Ward. I mean maybe I could ask first just simply because I think you broke up to everybody. If you could just summarize. You came back in on the $8 million upgrade on the IT. Was there anything else crucial that you were saying in that? I think we missed that.

And then my specific questions were the kiln in the (inaudible) products that's opening later on this year, I mean should be we expect any dilution in margin. I mean should we expect any dilution in margin as that kiln ramps up? I mean will it take some time before it comes up to full production?

And, secondly, you've not talked about your lime volume inventory and I know you won't give specific numbers and this stage, but this is basically the trend continued the way it's been in June or is there anything significant that's changed in July in the aggregates business versus June? Thank you.

Ward Nye

Mike, thank you for your questions. Let me go back and try to address the systems question one more time just in case I was cut off and, again, I apologize for whatever technical issues we ran to.

On that, it's simply an upgrade to our JDE system. We're looking at about $1 million a quarter for '12 and for '13. So, in other words, it's about an $8 million investment to upgrade that system. So we'll just leave that there.

With respect to July, what I'll tell you about July when we're sitting down at our next quarterly call I'll give you a quick update on that, but, obviously, right now that's not a conversation we feel like is appropriate for us to go into.

With respect to the new kiln, obviously, what we feel like we can do there is we can bring capacity into the market and the capacity has already got a home in large part in the market. We feel like we will bring the process online here in the fourth quarter. We think we will go through the debugging process and actually what we would anticipate is coming into 2013 with margins coming out of that kiln that very much marry up to what you've seen come out of that business heretofore.

So, we're not seeing what we believe will be any degration in that business at all from a margin perspective.

Mike Betts – Jefferies

You don't see even in Q4 when it first starts to come on?

Ward Nye

You know, you can certainly have some degree of debugging for a brief period of time. That would not be wholly unusual again. It is a kiln process, but, Mike, based on what we've seen on the project based on the conversations that we're having regularly with our teams and based on the track record that they have I don't want to spread anything that would be material.

Mike Betts – Jefferies

Okay. And then just one final question, Ward, If I may. I think you also altered the guidance slightly on your heritage (inaudible) production cost from the decline to flat. Was that just the inventory issue or was there anything else behind that?

Ward Nye

No, Mike, it was primarily the inventory issue. You're exactly right.

Mike Betts – Jefferies

Thank you very much, Ward.

Ward Nye

Thank you.

Operator

Thank you. Our next question comes from Brent Thielman of DA Davidson. Your line is open.

Brent Thielman – DA Davidson

Hi. Good afternoon. Thanks for taking my questions.

Ward Nye

Sure, Brent.

Brent Thielman – DA Davidson

First on Texas. You mentioned some of the strength in the energy sector in residential and I'm just wondering, have you seen the public side slow at all in that market or is it just more steady as it goes?

Ward Nye

You know, I'll tell you, the market in Texas just feels pretty good right now. I mean there's just no doubt about that. I mean if we look at the 12-month contract awards, it's around $4.9 billion. What I'm hearing, and obviously that's an August fiscal year state. I mean they have it come out exactly what their budget's going to be, but I'm certainly hearing budgets out of (inaudible) or spending that could be well in excess of anything we've seen the last several years.

So we're looking at something that we think in Texas, for the next 18 to 24 months, just on the public infrastructure side, is likely to be very strong. At the same time, if you're looking at markets like San Antonio, the residential recovery has been really something to see. I mean home values hit a two-year high in June, multi-family continues to be a 93% occupancy rate and if we look at just new projects we added there for the quarter, I count up nearly 11 new projects that we added just in San Antonio.

At the same time we know the Eagle-Ford deposit is booming. I think one component that will likely come out of Texas that I'm not sure everyone completely appreciated, is how many secondary or foreign market roads are being absolutely destroyed by the activity that's going on in the Eagle-Ford shale deposit right now. So by the this process is done it won't just be stone going into the shale fields, it will be stone going into the roads that need considerable repair.

And then even if we look at places like Houston right now, we're looking in the core development that's launching generation part that's a $5 billion development there. Exxon-Mobile is looking to put a new chemical plant in Mont Belvieu and, of course, the Grand Parkway that's going to be a 38-mile project, $1 billion of The Woodlands are all very considerable projects, many of which has strong commercial components to them, as well. So what we're seeing in Texas right now is a beautiful thing. We just wish we saw it in other markets, as well.

Brent Thielman – DA Davidson

That's really helpful. And then just a clarification in the other big market, North Carolina. Were all the project delays sort of weather associated or were there any issues there?

Ward Nye

I don't think weather had that profound an impact in North Carolina. We did get some rain in June that probably delayed some of them. I think much of it, you look at it and we look at it too in terms of what's it looking like this quarter. I think most owners and most DOTs aren't necessarily looking at it that way. They're looking at it more within the confines of a construction season. So I think to the extent that we saw something or you may see something pushed to the right 45 days, that's a much greater moment to people from the outside looking in than it is to a DOT or an owner.

So I don't think there was anything fundamentally or structurally that was different. I think we're just seeing the good and sometimes the not so pretty components of the way constructions works.

Brent Thielman – DA Davidson

Got you. Thanks a lot. Best of luck in the second half.

Ward Nye

Thank you very much.

Operator

Thank you. Our next question comes from Desi DiPierro of RBC Capital Markets. Your line is open.

Desi Dipierro - RBC Capital Markets

Thanks for taking my questions. You mentioned each of the volume rates of April, May and June and it appeared that things kind of got worse as the quarter went along and you said that the 5.5% decline in June reflected project delays and economic uncertainty. Are you able to breakout what portion of that you think is more due to project delays or a deteriorating economic environment.

Ward Nye

You know it's hard break that out. I think as we look at a market that clearly matters a lot to us and that is North Carolina. I think some of the larger projects that we would assuming would go were simply project delays. So I think as we're looking at the East Coast, that the Mid-Atlantic, that's really more of the issue because we're seeing good steady business in Indiana and Ohio, primarily driven by highways. The driver in North Carolina would continue to be highways, although we're seeing much better economic activity around Charlotte than we've seen for a while, as well.

I think back to my earlier comments, I think the issues in much of the pure Southeast, and by that I mean Florida and Georgia, and Georgia, in particular, are more driven not so much by delays, but by what's going on in that economy and I hope that geographic divide was responsive.

Desi Dipierro - RBC Capital Markets

Yeah. That's good. And then also, obviously, you didn't product Southeast would be down 10% this quarter when you issued your previous guidance of plus 4% to 5%. And since you're maintaining that is that assumed that the other areas are doing better you guys initially expected?

Ward Nye

You know I think clearly the west is having a very robust year. I think, again, as we look at what we have in backlogs and it's one reason that I try to go through each end use segment as carefully as I did and speak to the very specific increases or decrease in the infrastructure component, for example, that we thought we might see in the second half to show you how that build would be to get to the bottom end of our range. We're comfortable with where we sit right now.

Desi Dipierro - RBC Capital Markets

Okay. Thank you.

Ward Nye

Sure. Thank you, Desi.

Operator

Thank you. Our next question comes from Stanley Elliot of Stifel Nicolaus. Your line is open.

Stanley Elliot - Stifel Nicolaus & Company

Great. Thank you very much. Back to the TIFIA program, it doesn't sound like there's going to be much of an impact this year with your outlook for the back half of the year, but the way that the modifications that they made this program, can you all expect that kind of have sort of the same benefits as the regular (inaudible) 21 program when construction season starts in the first quarter, second quarter or is this more of a longer term type situations because of the partnerships being involved with all that?

Ward Nye

I think anytime its tied to this type of a build its going to be longer term by nature and so I think if we go back and think about it. I would saw we haven't talked much about (inaudible) because it hasn't been that big of a deal, but [TIFIA] has been around, as I understand, originally since 1998.

So, if you go back and take a look at some of the projects that we benefited from, particular with respect to TIFIA, and we'll continue to, I mean, in Denver we're seeing U.S. 36 and managed lanes project. TIFIA was actually some of funding for the Denver Union Station and Texas, it's money behind the 635, which is the LBJ managed lanes projects. Also, the North Triangle Expressway.

And even here in North Carolina on the Triangle Expressway, which was our first modern toll road that had TIFIA dollars in it, as well. I mean clearly we're looking at what, $750 million of TIFIA dollars of '13, $1 billion next year. So $1.7 billion. If the secretary's numbers are right and you put a ten time multiple to that, that's $17 billion of TIFIA loans.

And I think part of what's going to be remarkable as we watch TIFIA, I think this is going to be important to see is the maximum potential TIFIA share of project costs have basically gone from 33% to 49%. So in other words, its possible to take that $17 billion and assume that you might even see a distal leverage put to that and I think if we start looking at a $2.00 to $3.00 form of leverage, even of that $17 billion, that goes back to why I feel like TIFIA in the final analysis may well be more profound than even stimulus was coming into the sector. I think TIFIA is going to be something to watch. I many what LaHood has called it is the largest infrastructure loan program in history and that doesn't sound like a bad right now to me.

Stanley Elliot - Stifel Nicolaus & Company

Nope. Not at all. Great. Thank you very much.

Ward Nye

Sure, Stanley.

Operator

Thank you. I'm showing no further questions at this time. I'll hand the call back to Ward Nye for closing remarks.

Ward Nye

Well, thank you again for joining our second quarter 2012 earnings call and your interest in Martin Marietta Materials. We're encouraged by the first half trends, particularly the passage of a new highway bill and anticipate building on this momentum throughout the year into 2013 and beyond.

We look forward to discussing our third quarter 2012 results with you in November. Thanks for your time today and for your support of our company.

Operator

Thank you. Ladies and gentlemen, this concludes the conference for today. You may all disconnect. Have a wonderful day.

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