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Executives

Nick Lamplough – Investor Relations

J. Brendan Barba - Chairman, President, Chief Executive Officer

Paul M. Feeney - Chief Financial Officer, Executive Vice President - Finance, Director

Analysts

[Bill Erman] - Santana Partners

Nick De Leonardis – Bond Street Capital

[Vingus Singall] - The Travelers

AEP Industries Inc. (AEPI) F3Q08 Earnings Call September 9, 2008 10:00 AM ET

Operator

Welcome everyone to the AEP Industries Inc. third quarter 2008 results conference call. (Operator Instructions) Mr. Lamplough you may begin your conference.

Nick Lamplough

Before we get started I would like to remark briefly about forward-looking statements. Except for historical information mentioned during the conference call, statements made by the management of AEP Industries are forward-looking statements that are made pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties which may cause the company’s actual results in future periods to differ materially from forecasted results.

Those risks include but are not limited to risks associated with pricing, volume, and conditions of the markets. Those and other risks are described in the company’s filings with the SEC over the last 12 months, copies of which are available from the SEC or may be obtained from the company.

Today’s format will be as follows: Brendan Barba, chairman, president, and CEO will discuss operations and then Paul Feeney, executive vice president of finance and CFO will discuss the financial results. After the prepared remarks Brendan and Paul will be available for questions.

So without further delay, I would like to turn the call over to Mr. Barba.

Brendan Barba

I am sure you have all had a chance to read our release and our results were, we consider them pretty good considering the status of the plastic bag/film industry. Clearly things are not good in the business right now.

Again we were faced with major cost increases. Resin, our most significant cost, was up again $0.18 over the last three and four months and lags in getting our price increases grew on a timely basis, had a significant negative effect on our results

We are expecting, with the reductions in oil and gas prices recently, that in September prices will start to come down on resin; having said that, with the storms hitting the gulf and suppliers actually shutting down and now preparing for a second shut down with this second storm coming, no one has dropped prices yet. I think they are all waiting to see what happens. If there is any disruption of supply those reductions would most likely be delayed.

We also had major increases in our freight costs again. Our fuel surcharges now exceed 40% and of course electric was driven up by the oil and gas prices, just like your electric bill at home went up, so did ours. These are really not costs that we can control. We think we did a very good job on controlling all of the other costs.

Our volumes were up 3.6% for the quarter and 2.3% year-to-date. Those results were really driven by a series of new products that have really been selling very, very well for our company. You can compare us to the industry where the growth for the year-to-date is something like 5% negative, so we’re not wild about the growth that we’ve had, but it’s certainly better than the industry standards that we’re seeing in the business.

We continue to expand our businesses. In North Carolina we’re adding a 90,000 square foot plant. We need that capacity. That plant increased in size to take care of some new equipment that we’re putting in. We’re putting in a stretch line, a cash stretch line. It will make about 25 million pounds and it will be running between November 15 and November 30 and we are also installing a blown specialty film line which should be ready and running by the end of October. The North Carolina expansion will not be complete until August of ’09.

In our can liner business we put into production another seven million pounds of can liner capacity. It’s in production as of September and the line is running fine. In Coax we have a three layer line that went into production in August in Pennsylvania and we have another three layer line that will be installed in Californian and up and running in November. That will add about 20 million pounds of overall capacity to our Coax business.

In our PVC business we made some investments in what we would call auxiliary pieces of equipment. There were three pieces of equipment. One was to reduce costs, one was to increase capacity in some high margin specialty films and the third was put into enter, again, high margin specialty film businesses that we are not in currently.

I am sure you have all seen the announcement on Atlantis Plastics. In the last few conference calls we have been telling everyone that we were taking a hard look at a number of acquisitions. This is the one that we came up with as best suited for AEP. We really don’t want to say too much more about that until the transaction is complete in the bankruptcy court and there is a final decision.

At this point I have finished my portion of the program and I am going to turn it over to Paul Feeney.

Paul Feeney

As Brendan indicated, one of the things that we are most happy with is the volume increases. Again 3.6% for the quarter, 2.3% year-to-date and one of the things that is most gratifying about that is that those increases were materialized in a falling market. Overall resin sales in the United States were down about 9% actually, so it’s pretty good.

In the beginning of the year we had given you guidance and said that we expected volume increases of 4 % to 6%. It does not appear that we are going to be able to meet that 4% level, but it is still going to be in the area of, I am going to say, 2.5% to 3.5% for the year-to-date and we are happy with that.

Gross profit is down a little bit. You will remember at the end of the second quarter we said that third quarter will definitely be better and it certainly is. The $18 million is not particularly great, but let’ not forget there is about $14 million, almost $15 million of LIFO reserves in there and you adjust that we are up to about $32 million in gross profit and that is a very important number to us.

LIFO year-to-date is also another important thing. LIFO charges year-to-date are $22.8 million. It is a big number. The bad news of course is that that is charged to our P&L. The good news is we don’t have to pay taxes on those profits.

Total accumulated LIFO over the years is $40 million. That means that $40 million has been charged to our P&L. Our balance sheet is understated by $40 million on a market value basis and at the 40% rate we have saved approximately $16 million in tax payments. As is very clear, we are running the company for cash and not book profits and we value the company based on its adjusted EBITDA numbers which have been presented, do we are happy to answer any questions you might have on that.

One of the biggest things that’s passing through the increased cost of resin that we have experienced, at the end of the third quarter we are behind in that effort somewhere between $0.03 and $0.04 a pound. We intend, at the end of the second quarter I forecasted a better quarter in the third quarter, that has come to pass and we are expecting a better fourth quarter than we had in the third quarter in terms of pass through.

So, we are catching up. As Brendan just noted it kind of depends on what happens with resin pricing through these next couple of hurricanes that are on their way in and what happens with the shut downs by the resin guys etc… but right now we are getting our increases and I really think that the rest of the industry are getting their increases.

Gross profit per pound, as you know, is a very important thing that we look at that on a book basis was $0.10 compared to $0.19 in the prior year; however, if you adjusted for LIFO we are looking at $0.18 for the quarter and $0.18 year-to-date and we compare that to $0.22 and $0.23 in the prior year and there comes up that ugly 3 ½ to 4 cents a pound again. No matter how you look at this, the lag is still 3 ½ to 4 cents a pound and passing through the resin cost increases.

As you can see adjusted EBITDA for this year is somewhere in the area of $14 million and what we always like to do is to take a look at what we did with the cash that we generated. Well, $800,000 went into stock buy backs, which incidentally we have discontinued that during our third quarter, primarily because of the potential of this Atlantis transaction. If it doesn’t materialize, what we do with stock buy backs is open to anybody, but we have also reduced debt. We have repaid $7.9 million in debt and we have also greatly increased CapEx in the quarter.

We had originally said that we were expecting CapEx in the area of $`5 to $16 million for the year. As of the second quarter it was a little bit north of $10 million, but we spent $9 million in the third quarter. Most of that was an acceleration of projects. We accelerated a number of projects because we are getting ready for some of the issues that might come our way with Atlantis. Also a number of our infrastructural projects had to do with plant expansions and there have been increases in the cost of steel and concrete and stuff like that.

So, yes we greatly accelerated our CapEx. At the end of the third quarter, however, the only amounts that we had approved, a total of about $14, $14.5 million of approved RFE’s of which we expect we will probably end up paying down about an additional $3 million in the fourth quarter. We haven’t approved any other RFE’s since then and we’re probably not going to approve any through the year end; so the long and short of it is that we are looking at a carry forward into the next year, somewhere in the area of $11 to $11.5 million.

As always we did control costs and of course the increases in delivery expenses are primarily the result of fuel cost and we are not happy with that, and increased volume which we are happy with. So that is both the bad and the good news.

Just a few final facts about the company and things not to lose track of:

During the quarter we greatly reduced inventory. We forecasted that the resin price increases announced for August 1 would not stick and we actually ran down resin inventories and we built about $2.5 million in cash and so we have a total cash account of about $3.5 million at the end of the quarter.

Another thing that you should all be aware of, if on this Atlantis transaction we are the successful bidder and it does close prior to October 31, there will probably be a significant increase in LIFO reserves resulting from the Atlantis volume coming into our LIFO inventories. I just want you to be aware of that. We are not in a position to put any parameters around it, but it is going to be a complication that everybody is going to have to deal with. We view it as a good complication.

Also, thanks to LIFO we will probably not be a tax payer in 2008. We continue to operate with some NOL carry forward and we are very comfortable with that. More than likely we will be a taxpayer in 2009.

We still have approximately $32 million in our discounting program. We all know about that and that money is of course available to us if we decide to discontinue discounting. At the present time we find that to be an attractive activity for our company.

Again, I think I mentioned earlier, total LIFO reserve accumulated to date is $41 million and I also mentioned that aside from the $800,000.00 of stock buy backs that probably cleared around, I am going to say May 1, 2 and 3, we haven’t been doing any stock buy backs in the quarter. It is not that we can’t, we just haven’t done it. But, our basket at the end of this quarter is in the area of $4.5 million and what we do in the future really will depend on what happens with the Atlantis activities.

That all said, I think we will throw this conference call out to possibly answer any questions that you may have.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from [Bill Erman] with Santana Partners.

Bill Erman – Santana Partners

Paul you mentioned that you are running the company as always, enough to generate cash. Also at the same time you said at the beginning of this year that the company was taking the gloves off on pricing and was going to be more aggressive and the last comment is, is the generation of cash that is taking place this year a reflection of the sale abroad or of the continuing operations?

Paul Feeney

What I focused on in this conversation was the EBITDA numbers and what we were doing with the EBITDA. The sale of the Holland Company was really in our second quarter.

Bill Erman – Santana Partners

I am looking at your year-to-date generation of cash.

Paul Feeney

Well yes, there was some generation of cash in the second quarter. Some of that was operational and some of it is a result of that transaction.

Bill Erman – Santana Partners

But for the year, will you have generated cash out of operations excluding the sale of [inaudible].

Paul Feeney

Yes will definitely have, we are generating cash from operations right now.

Bill Erman – Santana Partners

Okay, even with the inventory. The second question is that the company over the last two years has been aggressive in repurchasing stock. Are we, as your shareholders, to assume that the Atlantis transaction was a more favorable transaction for their shareholders than in purchasing the stock at this valuation of adjusted EBITDA?

Paul Feeney

We believe that our activities with Atlantis, we don’t look at that as if there is a lot of sizzle on that. We are looking at that as if to say, there is a lot of hard work associated with it and there is going to be a fair amount of CapEx still necessary to get that business where we want it. We are looking at it as hard work, but we think there is going to be some upside for our shareholders and we also think there’s going to be some upside for the marketplace. It is going to rationalize the marketplace, so we think that other people are going to benefit by this activity also.

Operator

Your next question comes from Nick De Leonardis with Bond Street Capital.

Nick De Leonardis – Bond Street Capital

I was just hoping you could elaborate a little bit more on how you were able to get upper fund market on the volume side pretty substantially, if that was from an aggressive pricing or new product introduction or what not.

Brendan Barba

A lot of it has to do with new products but we are defending market pricing more aggressively than we had lets say last year.

Nick De Leonardis – Bond Street Capital

Do you think that sort of performance will continue in the coming quarters?

Paul Feeney

It’s a very, very volatile market and we think that we will be able to maintain growth rates in that range, in the 3% range.

Operator

Your last question comes from [Vingus Singall] with The Travelers.

[Vingus Singall] - The Travelers

I am looking at your cash flow statement and cash flow from operations was around $6 million, $6.4 for the past nine months and your CapEx is around $19 and you’re doing this acquisition, so I am thinking you had a lot of flexibility with the Garrett facility and now you will be doing these acquisitions and you are not generating any cash flow, so you are basically introducing your flexibility in a tough environment. I was wondering if you had any thoughts about it.

Brendan Barba

We really are not going to be getting into the details of this acquisition until it is a completed transaction. You may like that, you may not like it, but that is not something that we are going to be talking about. If it happens we are going to be very happy to fill you in. If it doesn’t happen, it is going to happen to somebody else and they can fill you in, but that is basically what we are doing here. The acquisition, all we are is a stocking horse. It is still open for other bidders and they are going to look at things their way and we will look at things our way, but we are not going to be talking about that to any extent. Thank you.

Brendan Barba

Thank you for attending the conference. As always if you have any further questions that you think of at a later date, Paul and I will be happy to answer those for you.

Paul Feeney

Thank you ladies and gentlemen.

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Source: AEP Industries Inc. F3Q08 (Qtr End 07/31/08) Earnings Call Transcript
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