Cabot's Management Presents at Credit Suisse Chemical & Agricultural Science Conference (Transcript)

| About: Cabot Corporation (CBT)
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Cabot Corporation (NYSE:CBT) Credit Suisse Chemical & Agricultural Science Conference Call September 12, 2012 11:30 AM ET


Eduardo E. Cordeiro – Executive Vice President, Chief Financial Officer


John McNulty – Credit Suisse Securities (NYSE:USA) LLC

John McNulty – Credit Suisse Securities (USA) LLC

Okay. For our next presentation, we’re very happy to have Cabot Corp. Cabot as I think a lot of you know, it's a specialty chemical or materials company with a platform in carbon black, ink colorants, metal oxides, and host of other products, so pretty diversified company.

From Cabot, we’re very happy to have the Executive VP and CFO, Eddie Cordeiro. For those of you who don't know Eddie well, he joined Cabot back in 1998. He held a host of various positions, including Head of Strategy and General Manager of the Supermetals and Superior MicroPowders business, or at least on the development side of that. With Eddie, we’re also happy to have Erica McLaughlin, she is the Director of their Investor Relations program.

So with that, let me turn it over to Eddie, so you can hear more about the Cabot platform.

Eduardo E. Cordeiro

Great. Great, John, thanks a lot for that introduction, I appreciate it. And I appreciate all of your attention, and to John for inviting us to the conference again this year. Yeah, here we go, perfect.

So I’ll just start by reminding you that today our conversation will include some forward-looking statements, which are subject to risks and uncertainties and Cabot’s actual results may differ materially from those expressed in the forward-looking statements. List of factors that could affect Cabot’s actual results can be found in our Form 10-K, which is filed with the SEC.

So as many of you may know, our company has been organized into four segments, based on the different business models of each segment. The Core segment sells rubber blacks for use in tires and other industrial rubber applications. In this business, we’re really more focused on competitive dynamics, cost position and industry structure.

The Performance segment on the other hand sells specialty carbon blacks and specialty fumed silicas for use in a wide array of applications such as adhesives, sealants, coatings, plastics, toners, and polishing slurries. These specialty applications are focused more on the customer, applications development, new products, and in understanding and capturing the value and use for our materials.

Our Specialty Fluids Segment sells cesium formate drilling fluids for oil and gas wells. We developed this unique ultra-niche product where we serve our customers primarily through a rental model as opposed to a sales model. And finally the New Business Segment has a variety of businesses with unique products that are sold into various high-growth industries. In this segment, we are focused on profitable growth through the commercialization of newer technologies.

Our vision is to deliver earnings growth through leadership and performance materials. To support this vision, we are focused on four key strategic levers. They are first, margin improvement, which includes things like yield improvement, value pricing, portfolio optimization and new energy efficiency technologies. The second key lever is capacity expansion, where we are well underway on a number of announced expansions across our segments around the world.

The introduction of new products is the third key element to this specialty chemicals business, and we have a focus on technology, innovation and application development across all our segments. And finally, portfolio management, where we are really focused on projects that will ensure the portfolio of our businesses, we operate fit with our core competencies, and have leading technologies and market positions.

Now we rollout this strategy in 2008. At the time, we were earning approximately $1.50 to $2 per share and had been roughly flat for the prior three to four years. In our first few years, we were really focusing internally on strengthening our existing portfolio. In 2009, we substantially restructured the company, and by 2011, we had achieved our initial goal to grow earnings to a new level of $3 per share. Having completed this, we set new targets last year to achieve $4.50 per share in 2014.

As we focus on growth, and with the acquisition of Norit earlier this year, we have upped our target to range of $4.90 to $5 in 2014. A piece of this growth will come from our acquisition of Norit, which was completed on July 31 of this year. With Norit, we’ve added a high growth, high margin business to our company. Norit is the global leader in activated carbon for the purification of water, air, food and beverages, pharmaceuticals, as well as other applications.

The addition of Norit supports the ongoing transformation of Cabot to a higher margin less cyclical specialty chemicals company. We chose Norit, because we saw the opportunity to combine with a successful, highly profitable company in growing markets with products and processes similar to ours, and with whom we could share our technical and business expertise.

This acquisition increases our current EBITDA by approximately 20%, and adds a stable earning stream and end market diversification, providing a new growth platform for Cabot. Norit enables our participation in environmental and purification solutions. It will also provide us with further growth opportunities in emerging markets, and new customer tailored applications.

Like Cabot’s products, the uses for activated carbon are really non-discretionary, and the end markets are really non-cyclical. The business surrounds attractive EBITDA margins in excess of 25% for its specialty products that enable customer’s performance. Norit is a great complement to Cabot's core strength, and existing global footprint. Both companies have built reputations for being innovative and customer-focused suppliers. In serving our markets, we create products that are essential to modern day living.

Activated carbon is very similar to Cabot’s specialty businesses like fumed silica and specialty carbons. It requires close customer touch, and focused applications development. Its products are used broadly. It has high focus on value-added products and services. It has very similar manufacturing characteristics, which are reflected in similar economics, EBITDA margins, and capital intensity.

These common operating platforms allow Cabot and Norit to share technology and engineering expertise, and create even stronger businesses. Cabot is uniquely positioned to support Norit’s growth in a number of areas. We intend to grow the company, including into emerging markets like Asia and South America, where Cabot has the experience of building an operating profitable businesses.

In addition to meeting multiple customer challenges worldwide, Norit is uniquely positioned to capture the growth from the adoption of mercury removal for the coal-fired utility fleet in the U.S. With an assumption that only half of the coal-fired utility fleet adopts mercury removal technology growth, growth in this end market is expected to average 30% per year for the next five to six years.

Norit has a strong share in this end market, and is expected to participate significantly in this growth. Beyond the potential of the U.S. market, we also see large opportunities in countries like China and India, which have a vast coal-based power industry. I will try to the mercury removal space, there is also solid growth of 5% to 10% per year in other end markets, such as water, food and beverage, and pharmaceuticals.

In 2012, we completed two significant portfolio moves. In January, we divested our Supermetals business and as I just discussed in July, we acquired Norit. Both moves will help us deliver more consistent and predictable earnings over time. Due to these portfolio moves, we thought it was necessary to make some minor changes to the composition of our segments and give the names that are more reflective of what they represent, or what they intend to achieve. Therefore, we are making the following changes to our reportable segments, and we’ll start reporting this in this way in our fourth quarter and fiscal 2012.

Our Core Segment will now be renamed Reinforcement Materials and our Performance Segment will be renamed Performance Materials. Our New Business Segment and our Specialty Fluid Segment will be combined into a New Segment named Advanced Technologies.

And finally, Norit will be reported as a standalone segment called Purification Solutions. These changes are designed to give our investors and other stakeholders better insight into our portfolio businesses. Especially with the addition of the Norit business, we have significantly strengthened our portfolio in 2012, which can be seen by the robustness of these segments.

Now, I’ll spend a little time highlighting the many strengths of Cabot. Most notably, our robust portfolio, where we have leading market positions such as the number one share in carbon black, number one share in cesium formate, number two share in fumed silica. We have technology leadership positions in all of our businesses with over a hundred years of experience in Performance Materials. We have a truly global footprint with over 80% of our revenues and assets outside of North America.

We're well positioned in emerging economies with experienced local management teams in place, and we are aligned with the leading customers in the industries we serve with very longstanding relationships.

As I mentioned earlier, Cabot has a strong global footprint. We have focused on emerging high growth markets such as Asia Pacific and South America for many decades. As you can see from this chart 10 years ago, we generated almost 80% of our revenues in mature markets like North America and Europe. While today we generate roughly 50% from mature markets and the other 50% from the emerging markets. This puts Cabot in a great position to participate in the high growth expected in these emerging market segments. This also creates a very strong platform with which to grow our new Purification’s segment.

As we look at these very exciting opportunities in our businesses, we see four major trends that will drive our growth. They are the need for improved energy efficiency and sustainability, the growth of the middle class in emerging markets, the drive towards globalization and mobility, and environmental needs for clean air and water.

These trends link to our existing businesses such as the need for high-performance insulation and better performance tires to improve energy efficiency. The growth in the middle class driving the need for infrastructure, as well as more consumer spending on things like automobiles, tires, and electronics. As more business transported, the need for the movement of commercial goods drives the need for more tires and demand for cleaner air and water drive the use of activated carbon as a purification solution.

These macroeconomic trends are the underlying long-term drivers of growth for Cabot. In the near-term, we will achieve our growth objectives through the four key levers I mentioned earlier, margin expansion, capacity expansion, new products in new business development, and delivering value from the acquisition of Norit. All of our segments will contribute through the growth.

Our focus on margin improvement includes pricing initiatives and product mix optimization, as well as process improvements to reduce our costs. We’ve announced capacity expansions in Reinforcement and Performance Materials. Our focus on innovation drives the new product and new business development to expand across all segments. And finally, we are making excellent progress on the integration of Norit and expect the acquisition to contribute between $0.40 and $0.50 in 2014.

And I will now give you a few examples to address each of these in a little more detail. So first from margin perspective, we've been advancing a number of key initiatives. Specifically, we’ve been working on value pricing, portfolio optimization, and process technology initiatives. These activities have been paying off.

As you can see from the graph here, our Reinforcement Materials, which was formerly called rubber blacks, EBITDA margins have steadily improved since 2009. This is from a combination of ensuring, you are getting paid for the value and use of our products, optimizing the product portfolio we sell, and investing in process technology to improve our yields and reduce our energy costs. We’ve installed new process technology projects this year that meet both our sustainability goals and our financial return expectations.

These projects can be implemented throughout our network of plants and we anticipate spending $50 million from 2011 through 2014 on these projects. We’ve announced and are in the process of a number of capacity expansions, which will provide significant volume leverage as demand grows. There are number of expansions that have been completed this past year, including the addition of rubber blacks capacity in Indonesia, fumed metal oxides in masterbatch expansions in China, and an inkjet expansion in the United States. We anticipate the completion of further capacity additions by the end of the calendar year 2012, including rubber blacks capacity in South America and Europe, and fumed metal oxides to bottleneck in Europe.

All the rubber blacks projects will result in approximately 80,000 metric tons of new capacity in Indonesia, South America, and Europe by the end of calendar year 2012. By the end of calendar year 2013, we plan to complete additional rubber blacks capacity of 140,000 metric tons in China and Europe, and an efficient to bottleneck of our specialty carbon black capacity in Europe.

Our fumed metal oxides expansion in China tripled the size of our existing plant and we doubled the size of two of our lines at our inkjet colorants plant in the United States.

For over a 100 years, Cabot has been an innovator and leader in technology and this is no different today. We have a rich pipeline of new products focused on meeting the changing needs of our customers. During 2012, we launched a number of these new products.

In Performance Materials, we launched two new fumed silicas that will be used in specialty adhesive of applications. These products called CAB-O-SIL ULTRABOND are used for windmill bonding paste and to maximize industrial adhesive performance, particularly in epoxy formulations, where the fastest growing application is for structural adhesives.

Our Advanced Technologies segment also launched Transfinity branded elastomer composites. Products targeted to meet the critical demand of the transportation industry, or as driving to improve fuel efficiency through vehicle weight-reduction without compromising overall performance or liability. These products provide the highest level of durability for using parts, they are smaller, lighter, and more reliable.

Another example from our new business development efforts is a conductive performance additive for lithium ion batteries. Our performance additive enables lithium ion battery manufacturers to meet tough industry fuel economy challenges and significantly improve the performance of their products while lowering costs. We believe this will support the growth of these energy efficient vehicles and consumer electronics.

And finally, portfolio management has been a key focus for us this year. We divested the Supermetals business in January for $450 million. This divestiture reduced the volatility and cyclicality of our earnings and strengthened our balance sheet. We’ve then made the strategic Norit acquisition in July. This transaction was aligned with our portfolio management strategy to acquire a business with a leading industry position, unique technology, and strong financial performance.

In addition, the Norit business is a closely related adjacency to our existing businesses, which allows us to extend our competencies and further drive growth. The combination of Norit and Cabot creates a company with over 200 years of particle engineering experience.

Financially, Norit will be immediately accretive as we expect to add EPS of $0.04 per share in fiscal year 2012, excluding one-time purchase accounting adjustments, and that’s for the two months of August and September alone. Norit then expected to add adjusted EPS of $0.30 to $0.35 in fiscal year 2013 and $0.40 to $0.50 in fiscal year 2014.

So as you can see, we are progressing very well against our plan, and I am confident we will deliver on our objectives, including our value pricing initiatives, which will drive margin expansion, the implementation of yield and energy efficiency technologies, which will reduce our costs, the building of new efficient capacity, which will provide significant volume leverage as demand grows, new and innovative products that will help us differentiate our offerings to our customers, and the integration of Norit, which allows us to participate in the high growth sectors of air and water purification, as well as food and beverage pharmaceutical and catalyst industries.

Our portfolio businesses has been strengthened with the addition of Norit and continues to position us as one of the top tier specialty chemicals and performance materials companies. I thank you again very much for joining us today.

John McNulty – Credit Suisse Securities (USA) LLC

Maybe we can kick it off a couple of questions. On the Norit acquisition, you’ve, I guess owned it now for a month and a half, two months or so. Any surprises one way or the other either on the positive or negative and maybe you can talk about what you are seeing with them right now and how that’s going to fit into the company?

Eduardo E. Cordeiro

Yeah, that’s a great question. I’ve been obviously deeply involved. I've had a number of management meetings throughout the world, business reviews. I walked away after about a month or a month and a half thinking, this is actually far more, a far tighter fit with Cabot than even I would expected.

As I sat through the reviews that Norit people talked exactly the same language as the Cabot people. The way they approach the customer, the way they approach manufacturing their product, how they differentiate themselves, how they drive leadership, how they drive pricing, we are really very excited. We are well on the way of integration. The acquisition came together very quickly. We financed it very quickly and it closed much more quickly, and I think anybody expected and I think our integration plans are moving along very quickly as well.

John McNulty – Credit Suisse Securities (USA) LLC

On the CapEx front, you’ve had some significant planned expansions in 2012, you’ve got a few more in 2013. I guess, at that point, it seems like you’ve had massive capacity that you’ve put in, or you will have had massive capacity put in. I assume you’re kind of at the end of what you need for a while. So I guess how should we think about the CapEx maybe wind down over the next few years, and really at that point where does cash go?

Eduardo E. Cordeiro

Yeah, I think that’s a great question. And when I think about CapEx, I’m thinking about three things. I’m thinking about expansions, which I think you addressed. There is also substantial piece of profit improving project. So when we put in, for example an energy center or a yield improvement project, it’s not capacity. But what it does drive is improved margin, and so you’re seeing some of that in the margin already.

And then the third thing of course is, maintenance and sustaining CapEx, which we’ve also increased over the last few years, because we had underspent for sometime through the downturn, and we need to ensure that we have the availability of the assets.

When we get through this expansion campaign, some of the cash will be used towards paying back the debt for the Norit acquisition. We’re still strongly BBB+ with S&P, and so we haven’t lost anything there, but we want to make sure that we get those metrics in line.

The other places where we have used cash has been in share repurchases. Our philosophy has been to essentially buyback shares to offset dilution into the extent, there is an opportunistic opportunity, let’s say, to do a little bit more than that, we’ve done that. We paid a pretty consistent dividend for more than 20 years. It was just increased this year. And so, those are really the main areas.

And then finally to the extent that there continued to be opportunities for growth, specifically within our existing businesses, we would look at those opportunities too.

John McNulty – Credit Suisse Securities (USA) LLC

Any other questions?

Question-and-Answer Session

John McNulty – Credit Suisse Securities (USA) LLC

Same question John had, Norit for Supermetals. How’s that acquisition going, and can you remind us, I think at least a portion that $450 million, it’s paid down the line…

Eduardo E. Cordeiro


Unidentified Analyst

How much of that payment depends on Supermetals’ performance?

Eduardo E. Cordeiro

So that transaction has gone very well. We’ve received about half of the cash upfront approximately $250 million has been received, and we have another $200 million to go. That will be received in approximately 18 months. So it was about 24-month time period. And it’s really not dependent on the performance of the business. If the business were to substantially outperform expectations, there might be some upside to the $450 million in total, but that’s really a minimum payment.

We continue to maintain good relationships with the ownership over there. We see them probably once a quarter and things seem to be going on track. Thank you. Anything else?

John McNulty – Credit Suisse Securities (USA) LLC

Great. Thank you very much.

Eduardo E. Cordeiro – Executive Vice President, Chief Financial Officer

Great, thank you, John.

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