Annual and Q4 2007 Results Conference Call
Mark Davis
Good morning, ladies and gentlemen. Thank you for joining us for our conference call and webcast this morning.
Joining me today is Rohit Bhardwaj, our Chief Financial Officer. We will review the fourth quarter and full year results, after which we’ll answer any questions you may have.
Before I commence the review, I would remind you that our presentation contains forward-looking statements that are based on current expectations, and are subject to a number of uncertainties and risks, and actual results may differ materially. Further information identifying risks, uncertainties and assumptions, and additional information on certain non-GAAP measures referred to in this call can be found in the disclosure documents filed by the Fund with the securities regulatory authorities, available at www.sedar.com.
As set out in our press release, we generated 48 cents per unit of Distributable Cash after Maintenance Capex in the fourth quarter while continuing our distribution rate of 30 cents a quarter. Clearly, it was a good quarter for Chemtrade.
During 2007 we implemented or continued a number of initiatives designed to strengthen and stabilize our business both operationally and financially. These actions positioned us to take advantage of the favourable market conditions for our products. Among these key initiatives were the continued investment of capital to enhance the long-term reliability and efficiency of our plants, and a number of actions to stabilize our SHS products.
Before looking at the latest results in detail, I would like to briefly recap 2007.
You may recall that entering 2007 we provided a few cautionary notes. We indicated that the second half of the year would have stronger results than the first half; certain raw material cost pressures could offset some of the benefit we sought to achieve from our 2006 initiatives; and that our International business was facing some competitive pressures. Essentially, this is how the year unfolded, the one notable exception being that our International business did much better than any of us anticipated.
We continued and will continue to improve the operating reliability of our plants, as this is a core component of our business strategy. Our upgrades started a little earlier than we had expected as our plans were accelerated by the effect of Hurricane Rita, which hit our Beaumont plant soon after we acquired it in 2005. Since then, we have continued to invest in our assets. We expect this attention to have benefits going forward and place us in a strong position to take advantage of the buoyant market for acid that evolved during the year and which I will comment on later.
Regarding our SHS products, some of the costs for the cessation of operations of our powder SHS plant were required to be booked in 2007. However, the repositioning of our SHS business, including the plant closure, the marketing arrangement with ZhongCheng, and the purchase of the Olin assets in May 2007, substantially stabilized these products’ earnings potential. We obtained new sources of product, eliminated our risk of manufacturing costs for powder SHS and similar to sulphur products also share the risk and benefits of movements in end market pricing on powder SHS.
Turning to our Pulp Chemicals business, it operated well throughout the year, although the benefit of higher selling prices for sodium chlorate were not enough to offset the increased cost of salt, a major production input, which we’ve mentioned earlier.
International had an excellent year, culminating with an exceptionally strong fourth quarter. This was a result of the very tight international market for sulphuric acid. This was a pleasant result because at the end of 2006 it looked as though increased competition in Europe would result in lower earnings from our International segment.
Turning now to the fourth quarter results, each of our operating groups produced strong performances. The key driver was the strength of the sulphuric acid market, which was a continuation of the trend we started to experience during the third quarter. The Sulphur Products & Performance Chemicals segment benefited from our ability to implement sulphuric acid price increases and from consistent volumes of SHS products. Higher revenues were offset to some extent by the stronger Canadian dollar, and earnings were restrained by higher costs for sulphur and by net zinc costs, which Rohit will explain in more detail. Operating issues at a few refinery customers also had a slight negative impact, as our regen sales were lower than they could have been if those refineries had operated well.
Pulp Chemicals’ plant operated well again in the fourth quarter, although the financial improvement over 2006 reflects to some extent the disruption to production in December 2006 caused by our then salt supplier declaring force majeure. Costs were higher due to increased cost of caustic soda and salt. Some of these higher costs are recoverable under our long-term supply contract with Canfor. The improved selling prices for chlorate help our non-Canfor sales, although the increases have not been enough to fully offset the higher input costs.
We believe that we performed well in 2007. Our initiatives strengthened and stabilized our business. Chemtrade generated distributable cash after maintenance capital expenditures of $1.47 per unit in 2007 excluding the costs to stop powder SHS production which had to be booked in the first half. Further, excluding the costs in the third quarter related to the senior management change and the strategic review, distributable cash was $1.54 per unit.
At the beginning of the year we indicated that 2007 distributable cash results should be substantially similar to 2006 and that we expected to generate more distributable cash in the second half of the year than the first. This is exactly what occurred. Distributable cash generated in 2007 comfortably covered our distribution payments of $1.20 per unit for the year.
The strategic initiatives we implemented over the past couple of years are paying off. The acquisitions that broadened our product and customer base and extended our geographic reach, the actions to stabilize our SHS products, and the investment of additional capital to improve operating reliability and efficiency, all played a role in delivering the solid results that were apparent in the second half of 2007. Challenges will always arise in our business, but the latest results demonstrate that we are well positioned to deal effectively with those issues.
Rohit will now review the financial results, after which I will have some remarks on our outlook for 2008.
Rohit Bhardwaj
Thank you, Mark and good morning everyone.
For the three months ended December 31, 2007, Distributable Cash after Maintenance Capital Expenditures was $16.1 million, or 48 cents per unit compared with $8.9 million, or 26 cents per unit in 2006. The fourth quarter of 2006 included $2.7 million of restructuring costs related to the Leeds plant closure, so excluding those costs, the comparable distributable cash for the fourth quarter 2006 was $11.6 million, or 35 cents per unit. So the fourth quarter this year was 13 cents per unit or more than 37 percent higher than last year, even after adding back the 2006 closure costs.
EBITDA for the fourth quarter of 2007 was $22.7 million compared with pre-Leeds EBITDA of $16.6 million in the fourth quarter of 2006. EBITDA for each year was generated from revenues of $144.6 million and $146.9 million respectively. The decline in revenue is misleading as it is related primarily, as we have noted on recent calls, to the adoption of the new CICA Handbook section on Financial Instruments that required us to record certain sales transactions in the International segment on a net margin basis. In reality, virtually all of our products actually generated increased revenues in this comparable time period and these increases more than offset the impact of the stronger Canadian dollar on our U.S. dollar denominated revenues.
For the full year 2007, excluding $2 million of Leeds shutdown costs incurred in the first half, Distributable Cash after Maintenance Capital Expenditures was $49.5 million, or $1.47 per unit, compared with $49.1 million, or $1.46 per unit in 2006, also pre-Leeds. Consolidated revenue for 2007 was $546.6 million versus $552.1 million in 2006 and EBITDA, before the Leeds costs in both years, was $71.4 million compared with $68.1 million. Again the revenue decline is the result of the accounting change mentioned above.
From a business operating perspective the year-over-year increase in EBITDA is better evidence of the strengthening of our businesses. In our segmented results the businesses in aggregate generated EBITDA in 2007 of $88.5 million, an improvement of $8.4 million over 2006 EBITDA of $80.1 million. (Both of these numbers exclude the Leeds shutdown costs). The difference between these results and our net EBITDA increase of $3.3 million is in the corporate cost section.
The corporate cost increases relative to 2006 were mainly due to costs associated with the Fund’s LTIP, a senior management change and to activities connected with the review of strategic alternatives. In aggregate these amounts equal $6.1 million.
Net earnings for the fourth quarter were $9.1 million, compared with $5.4 million in 2006, and for the full year, net earnings were $22.7 million compared with $18.8 million in 2006. These amounts exclude the restructuring charges in both years and the non-cash charge of $12.3 million in 2006 with respect to impairment in the value of property, plant and equipment used to manufacture powder SHS.
Turning now to the segmented results for the fourth quarter, the 2006 restructuring costs of $2.7 million were included in SPPC segmented results while there were no similar costs in 2007. My comments on SPPC 2007 performance relative to 2006 will exclude these costs.
SPPC generated revenue of $73.8 million and EBITDA of $12.9 million in the fourth quarter compared with $72.5 million and $13.3 million, respectively, in 2006. The higher revenue reflected higher prices for merchant acid and higher volumes of SHS. However, these were partially offset by the effect of the stronger Canadian dollar and lower volume resulting mainly from operating issues at a few refineries. From an EBITDA perspective, the benefit of higher acid prices was also offset by higher sulphur and net zinc costs. With respect to the zinc costs, although lower zinc costs are good, the period in which they decline is adversely affected. As you probably recall from previous calls, we offset our zinc costs with sales of by-product zinc oxide. There is typically a lag between the purchase of zinc and the sale of zinc oxide and when prices are falling, we absorb the decline in prices during the lag period.
Pulp Chemicals reported fourth quarter revenue of $14.6 million compared with $13.1 million in 2006, reflecting higher volumes and selling prices for sodium chlorate. The increase also reflects the disruption to production and sales that occurred in December 2006 due to our salt supplier declaring force majeure. EBITDA was $5.3 million compared with $4.3 million. The costs for salt throughout 2007 were higher than in 2006, which we expected following the change in supplier. We continue to look for ways to mitigate the impact.
International reported revenue of $56.1 million for the fourth quarter, which was $5.3 million lower than the fourth quarter of 2006. However, as I just mentioned, the decrease in revenue is due to the adoption of Section 3855 of the CICA Handbook. Revenue from international acid sales was up substantially on a per tonne basis as product was sold into a very robust acid market. Our ability to use our network of infrastructure and relationships enabled us to place a relatively low quantity of sulphuric acid at very high margins due to the tightness in the international sulphuric acid market. As a result, EBITDA for the quarter was $9.4 million compared with $3.5 million last year. Although we are, of course pleased with this result, we do not expect the magnitude of this quarter’s earnings to continue.
Corporate costs for the fourth quarter were $4.9 million compared with $4.6 million in 2006. However, gains and losses on our currency hedging program are included in corporate costs, and if we ignore these, fourth quarter corporate costs were actually $1.6 million higher than in 2006. Most of this was due to accruals for the LTIP and annual incentive compensation.
During the fourth quarter of 2007, there were no net foreign exchange gains as realized gains were offset by unrealized losses, whereas during the same quarter of 2006, there was a net foreign exchange loss of $1.3 million.
Total capital expenditures for the fourth quarter were $4.7 million in 2007 and $3.3 million in 2006. Of the spending in the fourth quarter this year, $2.8 million was for maintenance capital requirements, bringing total maintenance capex for 2007 to $6.9 million. Most of the non-maintenance capital expenses during the fourth quarter were related to the expansion of the Rotterdam terminal. The project appears to be on track and we expect it to be completed by the fall of 2008.
As we noted on our last call, the high demand for skilled labour and materials has led to increased costs for most capital projects of 25-30% and we expect, therefore, that our annual maintenance capex spending will be higher than the rate we had previously indicated. We have stated previously that we expected our maintenance capex to be about $7.5 - 8 million. Accordingly, we expect 2008 maintenance capex to be about $11 million. We expect these expenditures will continue to improve our plants’ reliability.
Finally, an update on foreign exchange. We continue to be in quite good shape. As you know, to manage the predictability of our cash flows, we entered into a series of foreign exchange contracts that hedge that portion of Chemtrade’s U.S. dollar based cash flow that is expected to be converted into Canadian dollars. As of December 31, 2007, substantially all of 2008 has been effectively hedged at approximately 83 cents.
We estimate that a one-cent change in the Canadian/U.S. dollar exchange rate impacts distributable cash after maintenance capital expenditures by less than $150,000 annually. Again, this is not an issue for us in 2008 as we are almost completely hedged, but affects our unhedged position post 2008.
Also, to remind you of the way we account for foreign exchange, our business segments already use a spot rate to record their transactions and so their results reflect the stronger Canadian dollar. We record the benefit of the hedge in the Corporate segment.
I’ll now hand the call back to Mark.
Mark Davis
Thank you, Rohit.
The second half of 2007 illustrated the capacity of Chemtrade to generate strong cash flows. Despite some non-recurring corporate costs and upward pressure on some raw material inputs, we generated Distributable Cash after Maintenance Capital Expenditure of 90 cents per unit, substantially more than the 57 cents we generated in the first half of the year.
We will continue to invest in improving the operating reliability of our plants. It is critical that we are able to take advantage of these buoyant market conditions and to do so we must be able to operate at maximum capacity. As Rohit noted, we expect, therefore, to increase our total capital spending in 2008, some of that being a reflection of the higher labour and material costs for the projects we anticipate. Due to our maintenance shutdowns and seasonality of some of our products we again anticipate that the first half of 2008 will generate less distributable cash than the second half of 2008.
Despite the higher capital spending, we expect to generate similar levels of distributable cash in 2008 as we did in 2007.
As we look ahead, we are confident we can maintain the momentum. We anticipate generally stable demand for most of our products, and robust demand for sulphuric acid.
As some of you may have seen or heard, the pricing for both sulphuric acid and sulphur have increased dramatically, and this upward trend is continuing. I think it is important to give you some input or perspective on these issues and how they affect Chemtrade.
There are really two factors at play in the acid market. First is the supply/demand characteristics of acid itself, and second is the price of sulphur. Due to the supply/demand tightening for acid, pricing has and continues to increase, and one industry publication has indicated that pricing for acid in the U.S. southeast has increased by over 50% in the past year. Most of this price increase has been driven by the lack of acid supply to service the growing demand for acid in fertilizers, metals leaching and bio-fuels. As we have previously discussed, acid is generally a regional market and the regional supply demand characteristics dictate pricing. While each region is different and, as you know we don’t generally sell into the fertilizer market, the pricing trend mentioned above is similar to what we are seeing in many of the regions we serve.
Very recently the somewhat different supply/demand characteristics for sulphur has led to the benchmark price for sulphur, which was about $60 per tonne for some time, to spike to over $250 per tonne. This will again lead to acid prices increasing not due to any change in the acid supply/demand balance but rather as producers seek to recover this increased input cost.
Our fourth quarter results show some of the benefit of the higher acid pricing we were starting to achieve before the sulphur price escalated. We believe that we will be able to maintain this increased margin due to the acid market’s own supply/demand balance throughout 2008, and that we will be able to obtain additional price increases to offset the increase in the sulphur input costs.
Industry experts seem to agree that the current high price environment for sulphuric acid will continue through 2008 and only moderate slightly in 2009. As most of you know, Chemtrade does not receive all the benefit from higher pricing due to our contracts which share benefits; however, the higher acid pricing environment is clearly a benefit to Chemtrade and one we anticipate will last throughout 2008 and well into 2009.
Thank you for your attention. Rohit and I would now be pleased to answer questions.
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