Tronox Holdings plc (TROX) Q3 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Tronox Limited Q3 2013 Earnings Conference Call. [Operator Instructions] As a reminder, today's conference is being recorded. I would now like to introduce your host for today's conference call, Mr. Brennen Arndt. You may begin, sir.

Thank you, and welcome, everyone, to Tronox Limited's Third Quarter 2013 Conference Call and Webcast. With me today are Tom Casey, Chairman and CEO, who will review our third quarter performance and business segment results; and Kathy Harper, Senior Vice President and CFO, will report on our financial position. Tom will conclude our remarks by sharing his perspective on the growth strategy Tronox is pursuing. And joining us for the Q&A session will be Kevin Mahoney, Vice President and Corporate Controller. We'll be using slides today as we move through the conference call. Those of you listening by Internet broadcast through our website should already have them. For those listening by telephone, if you haven't already done so, you can access them on our website at tronox.com. Let me begin this morning with a reminder that our discussion today will include certain statements that are forward looking and subject to various risks and uncertainties, including, but not limited to the specific factors summarized in our 2012 Form 10-K, our most recent Form 10-Q and other SEC filings. This information represents our best judgment based on today's information. However, actual results may vary based on these risks and uncertainties. The company undertakes no obligation to update or revise any forward-looking statements. During the conference call, we will refer to certain non-U.S. GAAP financial terms, which we use in the management of our business, including EBITDA, adjusted EBITDA and adjusted earnings per diluted share. EBITDA represents net income before net interest expense, income tax and depreciation, depletion and amortization expense. Adjusted EBITDA represents EBITDA as further adjusted for non-cash, unusual and nonrecurring items. Adjusted earnings per diluted share represents EPS, adjusted also for unusual or nonrecurring items on a fully diluted basis. A reconciliation is provided in our earnings release. It's now my pleasure to turn the call over to Tom Casey. Tom?

Thank you, Brennen. And thank you, all, for joining our call. Also I'd like to welcome Kathy Harper to her first call as our CFO. As we talked about last call, we had arranged for Kathy to join us. And she's now here. She's been here for a couple of months. And we're very, very pleased that she has agreed to join us. So hopefully, you -- as she gets herself acclimated in the business, you would have an opportunity to talk to her directly. And thank you, again, Brennen. As you all saw in our earnings release that we put out yesterday afternoon, our third quarter financial performance reflects market conditions that we believe are stabilizing. Pigment sales volumes remain strong for the third consecutive quarter. Sales volumes equaled those of the second quarter, which -- last year -- or this year which were very strong and were 33% higher than the year-ago quarter. So essentially on the pigment volume front, we think that demand has returned and has recovered to normal levels. Sequentially, pigment prices have been essentially level for 2 quarters, down 1% for the second consecutive quarter. Again, another sign that matters are stabilizing in the pigment market. We believe that there is still some inventory of finished goods in the system. We're back to, on a tonnes basis, we're sort of where we were. We expect to end the year back below where we have finally reported, and as we work our way through the fourth quarter. But we think that there's still some excess inventory in the system and that will have the effect, when combined with the seasonally soft sales quarters in the fourth quarter and the first quarter of next year, of keeping any price increases to a relatively modest level if at all. Mineral Sands revenue was 10% lower than the prior year quarter due to lower selling prices. However, to the extent that 100% of our feedstock consumption in the pigment unit is from our own feedstock supplier, our Pigment segment captures the benefit of these declines in the form of lower feedstock costs and we also retain margin on the balance of the feedstocks sales that we make to the third parties. Current industry fundamentals, again, in our view indicate that the pigment market is bottoming and will remain stable for several quarters before turning upward. And that again is largely because of the seasonality effects of Q1 and Q4 and -- rather than inherent market softness. By that time, we expect that inventories that have built up in pigment will be gone, excess inventories. We also think that there is some excess inventory in the feedstock market, where as pigment plant utilization rates turn down over the last year or so, mining production did not turn down correspondingly. And so there's a somewhat of an inventory build in the feedstock market. We don't think it's an extraordinary amount, but we think it's somewhat, and that is what is influencing prices right now. Turning to our third quarter results. Revenue of $491 million increased 1% versus $487 million in the third quarter of 2012 and was 6% lower than the $525 million in the second quarter of 2013, again, because of price. Adjusted EBITDA was $92 million compared to $134 million in the year-ago quarter, and $101 million in the prior quarter. Our adjusted EBITDA margin of 19% is down versus 28% in last year's quarter and equal to that of the second quarter of this year. The adjusted net loss attributable to Tronox Limited in the third quarter was 48% -- excuse me, $0.48 per diluted share. That number contained a variety of onetime non-cash charges, which Kathy will discuss in more detail when we get to that section. Our Mineral Sands segment delivered revenue of $245 million and adjusted EBITDA of $95 million for an EBITDA margin of 39%. Pigment revenue was $300 million and adjusted EBITDA was a negative $3 million, a significant improvement over the second quarter, driven primarily by lower feedstock costs. As you would remember, we are essentially buying 100% of our feedstock from our affiliated Mineral Sands segment, and we buy it at market spot prices with a small 5% discount reflecting credit rating and lack of sales and marketing effort and so on. Earlier this week, our board declared a quarterly dividend of 25% -- $0.25 per share, representing a current yield of more than 4%. This dividend will be payable on December 3 to shareholders of record of the company's class A and class B ordinary shares at the close of business on November 18. Let's look at each of our operating segments in more detail. First, Mineral Sands performance. Again, I said, the Mineral Sands segment revenue of $245 million, that was 10% lower than the $272 million in the third quarter of last year. Sales volumes increased 32% year-on-year, driven by robust volume gains in zircon and higher intercompany rutile feedstock shipments as we shifted to execute on the vertical integration strategy more completely, while selling prices declined across all of the product lines in the Mineral Sands business. Looking at the third quarter performance compared to the second quarter, sales volumes for titanium feedstock increased 2%, but selling prices declined 14%. Zircon sales volumes in the third quarter were at more normal levels and in line with our production volumes at 54% lower than the record shipments in the second quarter, while selling prices were 1% lower. But the significant feedstock -- I mean, the significant zircon inventory levels that were built up in 2012 and the first part of 2013 have essentially been worked down. Revenue from intercompany sales was $89 million in the quarter and sales to third parties was $156 million, including $76 million of revenue from zircon and pig iron. Recall that in sales to third parties, profit is recognized as title is transferred, which generally happens when the feedstock is transported to the transport ship in Australia or South Africa. Whereas in the case of intercompany sales, profit is recognized when the pigment made from that feedstock is sold. Given the time it takes for feedstock to be transported and inventory at the pigment level processed at the plant and held in finished goods inventory prior to sale, this time difference is typically 5 or 6 months. As this pigment is sold in future quarters, the margin will be recognized. The margin on the feedstock and on the pigment will be recognized at the time the pigment is sold. In the third quarter, 64% of titanium feedstock revenue was derived from intercompany sales. As a result, in the third quarter, $34 million of Mineral Sands gross profit was eliminated in consolidation. $51 million of previously eliminated gross profit was booked in consolidation as the pigment made from that feedstock was sold in the third quarter. Therefore, the adjusted EBITDA impact in the second quarter at the company level -- in this quarter at the company level was a net contribution of $17 million. We'll continue to report this net income each quarter to enable you to reconcile the components of adjusted EBITDA that we report at the company level. In terms of operating income, Mineral Sands segment operating income was $41 million, which was an increase of 28% versus $32 million in the year-ago quarter. Adjusted EBITDA, as I mentioned, was $95 million, and the margin was 39%. And that Mineral Sands segment adjusted EBITDA is calculated before the elimination of gross profit on sales to the commonly owned Pigment segment. Moving to the Pigment segment. The Pigment performance -- the revenue of $300 million was an increase of 7% versus $280 million in the year-ago quarter. The sales gain was driven by a 33% sales volume increase, which was partially offset by 20% lower selling prices; and smaller impacts of mix of products and of foreign exchange. Strong volume gains were realized in all 3 major regions for the second consecutive quarter, led by robust volume growth in the Asia Pacific region. As I mentioned earlier, demand remains strong sequentially. Sales volumes equaled those of the seasonally strong second quarter, and selling prices were essentially flat, declining about 1%. Pigment segment adjusted EBITDA of negative $3 million improved from the second quarter adjusted EBITDA of negative $26 million, driven primarily by the lower feedstock cost I mentioned. Average feedstock cost reflected in the Pigment segment income statement in the third quarter was $1,188 per metric ton, down from $1,333 per metric ton in the second quarter. During the third quarter, 100% of Pigment segment feedstock purchases were from our own Mineral Sands business at an average cost of $1,038 per metric ton. As I mentioned already, finished pigment inventory remained above level and the average plant utilization rate increased slightly. I'm going to now turn over the call to Kathy Harper for a review of our financial position.

Thanks, Tom. I'll review the Corporate and Other segment, and then move to major line items on our income statement and balance sheet. Revenue in Corporate and Other, which includes our electrolytic manufacturing business, was $35 million in the third quarter, compared to $38 million in the year-ago quarter, primarily the result of lower sales of electrolytic manganese dioxide and sodium chlorate. The electrolytic business generated adjusted EBITDA of $1 million, which was offset by adjusted EBITDA of negative $18 million related to corporate operations for net adjusted EBITDA in Corporate and Other of negative $17 million. The operating loss from Corporate and Other of $20 million improved from $26 million in last year's quarter. Selling, general and administrative expenses for the company in the third quarter was $45 million or 9% of revenue, down from $60 million or 12% of revenue in last year's third quarter. SG&A is settling to a more normalized run rate. Year-to-date SG&A expenses are $130 million, 9% of revenue, versus $207 million for the 9 months ended September 30, 2012. Total inventories continued to fall, driving working capital improvements. Cash flow from operations for the quarter was $131 million, a 15% improvement over the third quarter 2012. Interest and debt expense was $32 million compared to $18 million in the year-ago quarter, primarily the result of the higher debt levels. On September 30, 2013, gross consolidated debt was $2.4 billion and debt net of cash was $947 million. We're in compliance with our covenants and note our only financial maintenance covenant is with the active [ph] revolver. Our debt maturity profile is very favorable. Of the $2.4 billion of gross consolidated debt, 97% of it matures in 2018 or thereafter. Depreciation, depletion and amortization was $92 million in the third quarter. We expect that annual depreciation, depletion and amortization for 2013 will be in the range of $300 million to $320 million. This is roughly $10 million above the estimate at 2Q due to revised depletion estimates. Capital expenditures were $25 million in the third quarter. For the full year 2013, we expect capital expenditures to be approximately $180 million. The nonrecurring item Tom referred to includes $10 million non-cash loss on the liquidation of a subsidiary. We're reviewing other legacy entities for liquidation, so some charges or credits may result in Q4 and into 2014. Moving to noncontrolling interest line. This component of equity on our balance sheet represents the amount of Exxaro's 26% ownership of our South African entity as required by the bank -- the country's Black Economic Empowerment legislation. In our 10-Qs and 10-Ks, we provide third-party revenue generated by our South African operations, which was $121 million in the third quarter. This should enable you after making your own assumptions regarding profit margin to estimate noncontrolling interest. As noted in the past, Exxaro does not contribute capital or share in cost of our South African operations. Regarding our tax rate, we continue to expect that our estimated effective tax rate for 2014 and thereafter to be in the 15% to 20% range. With that, I thank you. I'm pleased to be part of the Tronox team and look forward to working with all of you. I'll turn it back over to Tom.

Thank you, Kathy. I'd close by reviewing a recent development and then also talking a little bit about our perspective on the growth strategy that we are pursuing. With respect to the recent announcement, we have mentioned that at the receipt of the water use license in South Africa, that the -- any party down in South Africa can file an appeal. The Mtunzini Conservancy has filed an appeal of the water use license with the South African Department of Water Affairs. As we have talked earlier about, the filing of that appeal requires us to suspend ongoing construction at Fairbreeze, and it will take roughly 3 weeks for us to safely suspend operations at the mine. In that time, we will file a petition with the Minister or the Ministry of Water Affairs seeking to have that stay or that freeze order on work overturned, which is provided for in the procedures in South Africa. The -- and we will file that next week. We think the appeal was filed either on Friday or Monday of this week, and we'll file our petition next week. We have assumed that there would be an appeal filed and would be -- there would be a delay caused while we filed our petition to overturn the stay and the ministry responded to it in our estimate of the completion date for Fairbreeze, which is the second half of 2015, which we have said is the second half of 2015. So at present, this filing does not cause us to delay beyond what we have already estimated as our production date. However, obviously, the granting of the water use license and the other necessary government permits to begin work at Fairbreeze took almost a year longer than we had originally anticipated. As a result, the project was already delayed from what we thought originally. It is critical that work on Fairbreeze continues uninterrupted for this new mine to make economic sense for Tronox. And by uninterrupted, I don't mean tomorrow, I mean we've taken into account a short period of time for the minister to evaluate our petition seeking an overturning of the stay and to respond in due course, according to their procedures. But if it goes beyond that, if there is an unanticipated lengthy delay or failure to grant that petition, obviously, the economics of Fairbreeze will require us to reevaluate that project. But for right now, mostly, I'm just disclosing that the appeal was filed, that we had assumed it would be, and we have taken into account a certain amount of time associated with that. With respect to where we are on our growth strategy, we've said before and we continue to say that we pursue a disciplined approach to growth and we see ourselves as an advantaged consolidator in the global pigment industry, in particular. Those advantages not only accrue from our ability to extract the kind of synergies that -- on an operational and functional cost structures that other participants in the market, but from a advantages that we believe we have uniquely that are differentiated -- that differentiate us. We bring what we estimate could be more than $5 billion in future tax deductions to transactions involving U.S. taxable income. This obviously would result in substantially more free cash generation from the same EBITDA and other measures of economic performance as any other buyer who doesn't have similar attributes. These attributes come from $1.2 billion of tax net operating losses. Future interest expense deductions that will further enhance cash retention and additional tax -- U.S. tax benefits that will result from potential settlements or judgments in the Anadarko litigation. We also bring our almost 300,000 tonnes of high-grade feedstock that we produce every year that our facilities on the mining site can produce and beneficiate, but that our pigment operations at their current levels do not require. So clearly, the first 300,000 tonnes of that production we already make, we could feed into a newly acquired set of assets. As we could with the large low-cost ilmenite stockpile we have in South Africa, which we could feed into sulfate plants directly or could beneficiate for higher grade chlorate feedstocks. As Kathy mentioned, our debt structure is very positive. We have an attractive cost on our debt maturity profile that's weighted beyond 2018 and contains essentially no or very minimal financial maintenance covenants. Our cash position is substantial, approximately $1.5 billion. And as a result, we are in the desirable position of having strategic flexibility, coupled with very strong financial position. Our field of view as we look at these opportunities to grow is wide. We continue to evaluate them, and our focus is on growth vehicles that will deliver the highest return for our shareholders over the -- both the short and the medium and long terms. As a result of our disciplined approach and the strength of our operating cash flow, we have the ability to pay a quarterly dividend yielding an attractive return, while at the same time, evaluating ways to expand our scale relative to our market. We think the market is ripe for consolidation and we continue to intend to participate in that process. We remain very confident in the long-term value creation potential of our business. And we are committed to delivering that value to our shareholders. With that, I thank you for your time and attention. We'll be happy to take your questions. Operator?

[Operator Instructions] Our first question comes from Chris Nocella with RBC Capital markets.

Tom, you mentioned, and you gave a variety of reasons of why an acquisition in the U.S. makes sense. But there doesn't seem to be too many assets available. So does that mean that DuPont is really the only option for you guys, but wouldn't their size be an issue given your capacity?

No, I think that DuPont has set out a course for its own business, which it has publicized. And it has talked about that it intends to spin off its Performance Chemical segment. Our view of our strategic opportunities expands -- extends obviously beyond DuPont. I mean, there are other assets in the United States, there are other assets in Europe and in Asia that are probably available for sale. The transaction structure by which we bought assets out of the United States might be different than a transaction structure that we would use to buy assets within the United States to try to maximize these benefits. But I don't think that we have no choices. I mean, I think we continue to have a variety of choices. It's a very powerful -- we bring a very powerful set of attributes to the table in an acquisition or in a combination. And those are value-creating attributes. And I think, we will find a way to realize them, whether it's in one transaction with a large party or whether it's in transaction with a smaller party or whether it's in a series of individual asset purchases that we sort of tie together to build -- to expand our portfolio, I don't know yet. But we are -- you can be sure that we are engaged in a variety of different conversations with a variety of different people located in a variety of different areas.

And just on the Pigment operating rates, they picked up during the third quarter a little bit and therefore, inventories remained level over the second quarter. So maybe some people were hoping the inventories would have been worked down a little bit faster. Is it just maybe demand isn't quite as strong as it could have been or is it producers in general have increased their operating rates and built it prematurely? Why are inventories not getting worked down?

Well, I mean, I think some of the -- I mean, I don't speak for other companies in the industry specifically, but I think people are balancing utilization rates of their plants with sales forecasts and they're trying to move the inventory levels out. I mean, we, for example, we looked at that and we think of the third quarter leading into the fourth and the first quarters, so we know that the second -- the first and the fourth quarter are going to be relatively soft. They always are because it's wintertime in the northern hemisphere. And so we kind of look at it across that whole period of time. And when we get into the first quarter of next year, we want inventory levels to be down to the level that they would normally be at, which is 50 days or so. And so we're planning ourselves to be at that level. And we're confident that we'll be there. What other people are doing, I don't know. Some of them speak to inventory levels, some of them don't. So that's what we're doing.

Got you. And just one quick one, if you don't mind. Where were slag and SR prices at the end of the quarter versus maybe the beginning of the quarter? I mean, how much farther did they trend lower during the third quarter and what's your expectation for the year end?

The pricing, we talked about sort of feedstock pricing, generally, they were down 14% quarter-on-quarter. So for the last -- the average price -- it wasn't day 1 to day 90, but it was the average price in the second quarter compared to the average price in the third quarter was down 14%. Marco [ph], is that right, you're looking at those numbers? Okay, yes, that's right, 14% quarter-on-quarter. We expect, and as I think we said, our average cost of purchases of feedstock in the quarter was a little bit over $1,000. I expect that they're going to continue to decline modestly in the fourth and the first quarters because, as I said, there's a slight overhang of supply in the feedstock market because the pigment plant utilization rates are lower than they have been, and which puts pressure on price. So I don't want to forecast price specifically, but if our average consumption across all products was $1,033, then you can assume slag was lower than that. And I would expect that there will continue to be pressure on feedstock prices, not enormous, but some pressure on feedstock prices for the next quarter or 2.

Our next question comes from Ian Corydon with B. Riley and Company.

What is your quarterly run rate of zircon production today?

I think our -- I think the rate is something in the order of 50,000 tonnes.

50,000 per quarter?

Per quarter, give or take.

And the 100,000 tonne feedstock contract that's at below market prices. Do you expect still to have that fulfilled by the end of this year?

Absolutely. That expires at the end of this year. We'll have no continuing obligations under that contract going into 2014.

Great. And the D&A was up sequentially, I think you mentioned more depletion. What's the right quarterly run rate to use there?

The second quarter run rate, the depletion was essentially a mining -- a catch up on an estimate of depreciation -- depletion in the mining business. And so when we saw that, we thought we have under estimated, under accrued for that. We fixed it in the third quarter. But that's a onetime charge. The normal run rate will be closer to what you have in the second quarter. That's about $300 million a year, for all 3, $75 million a quarter.

Got it, appreciate that. And then just a clarification for my last question, the South Africa revenue, was that $121 million? I wasn't sure I caught that.

$129 million.

Our next question comes from Des Kilalea with RBC.

Tom, I want just to pick up on that TiO2 feedstock market question. Looking at China, sulfate products look really the weakest part of the market. And we saw Rio the other day saying that they might restart UGS in Q4, no commitment. If that did happen, would you see the China market tracking up a little bit for sulfate. And then as a follow-up [ph] to that, your Namakwa Sands ilmenite stockpile, that sulfate product, are you sort of as a result perhaps not consuming that as you thought you might?

There are two questions. One on Rio starting up UGS. Rio just closed its mine. And so the idea that it's going to be starting up a high quality, high grade, very expensive feedstock at this point in time, I was surprised by that announcement. I don't what they'll do. Obviously, I'm not privy to their planning, but they're smart people and they'll certainly do the right thing.

It was a strange comment for them to make, I agree.

Yes, well, I don't know their planning as well as they do obviously. I have great admiration for their business acumen, and whatever they do, I'm sure, will be smart. But the impact on China, I don't think UGS -- I don't think there's a really big market for UGS in China. And so I'm not completely sure that there will be much of a correlation between...

I'm just thinking of the diversion of sulfate slag to Quebec rather than maybe selling it in China.

I don't -- honestly, I haven't thought about that. I don't have a good answer for that. And the other question was, I'm sorry, what?

It was on, given the weakness in the sulfate market and that your Namakwa Sand ilmenite stockpile is -- that's sulfate product. How you're moving that, are you consuming it and what kind of rate?

We're consuming some of it to feed KZN. Given the softness in the market, we're actually rebuilding one of the furnaces of KZN now. So that obviously reduced our consumption of that. We blended some materials together in KZN. So we didn't expect all of the requirements of the KZN furnaces from that stockpile. It is primarily sulfate material. We can upgrade it, obviously, by running it through some separation facilities or we can feed it into sulfate plants. And to be honest, we're kind of waiting a little bit to see how the acquisition strategic activity goes to know for sure which way we want to go on that.

The next question comes from Edlain Rodriguez with UBS.

Quick question, Tom. I mean, what's -- this is on TiO2, on pigment. Once you get into the seasonally strong 2Q, 3Q period of next year, do you think the market will be sufficiently strong that you could get some price lift [ph]?

Yes.

Okay. Another question in terms of the timing of when you'll have to decide whether you'll do some acquisitions? I think previously you have mentioned end-of-the-year, first quarter 2014. Are you still on that time frame or what's going on there in terms of...

Yes. I mean, I actually had a year, and that was, in my mind, that was a year after we took the money. So that's the first quarter of 2014. And if we have -- by the time we report on first quarter 2014, if we haven't -- if we don't have any use for that money, we're going to have to evaluate what to do with it. Because we don't want to pay the negative carry on it and we borrowed it with a certain representation to the lenders what we're going to use for it. And if we're not going to use it for that, then we should give it back. That's my view. However, I think that we will have activity that's either announced or pending during that period of time. And so if you're a lender, don't count on that money coming back. Except of course in principal and interest payments. My treasurer, John Merturi, just almost had a stroke when I said that. So it will come back. It will come back in normal payment form.

Our next question comes from Hassan Ahmed with Alembic Global.

This is some interesting consolidatory announcements through the course of the quarter, Rockwood, Huntsman, obviously, the DuPont IPO as well. My question is, I guess, more from an investment perspective. First of all, is -- I'd like to think consolidation is clearly a good thing for the industry, but from an investor perspective, what I want to know is that now all of a sudden, you'll have more pure-play titanium dioxide companies in the public domain. So if I am an investor, am I better off to just go out and say, play the titanium dioxide, integrated titanium dioxide cycle by holding DuPont IPO shares as well as Iluka? I mean, how do you place Tronox relative to that sort of holding?

Well, I mean, if you could get hundreds of millions of dollars of net present value benefits on both the net income earnings line and also the EBITDA line from holding those 2, then they would be equal to us.

My question basically is, obviously, there's going to be more competition in order to attract that investment dollar, right? So how do you find yourself placed relative to these guys?

Our objective is -- we believe that in, I don't know, 7 to 10 years, let's say, that period of time, that the market will be global. It will be materially larger and the participants in the market will come from China and from the United States, principally. We think that to be successful in that kind of a market, you need to be -- you need to have the lowest cost structure. So that means you have to have a cost structure that competes with DuPont and/or the Chinese as they grow and improve their processes and procedures and the quality of their products. That is what we aspire to achieve. We think the transactions that we are looking at does that. And that's why we're being disciplined about it, because we are very focused on achieving a very low cost structure to enable us to be successful. If anybody else is going to compete with us, they're going to have to achieve that lower cost structure. I think it's extremely difficult to do unless you're vertically integrated, unless you are massive, really, much major, major size. And even then, we have relative stability of our earnings growth because we don't -- we're not subject to just the TiO2 market or just the titanium feedstock market. We're across both. So I think we're more stable in terms of our earnings growth. We'll have a lower cost structure. There'll be less risk associated with our company, and I would not recommend you buy Iluka and DuPont. I would recommend you buy more of Tronox.

Understood. Now, as a follow-up, I mean, why -- coming out of a trough of this year a good time to be sort of consolidating. Why did you guys not partake in these consolidatory activities that we just saw? Was it purely price?

Yes. Well, not purely, but, again, my focus is on achieving a very low cost structure. So you can assume, we talked about this in the last quarter, you can assume that if there is any TiO2 assets in the world that move from one owner to another and they don't move to Tronox, it's because Tronox didn't want them at the price that they were sold at. We're looking at everything.

Our next question comes from Ed Mally with Imperial Capital.

Wanted to ask a question on inventories. I infer from your comments that Pigment's inventories will be at about 60 days then if they were similar to where they were at the end of the second quarter. And assuming that's correct, are you still sort of eyeing toward moving inventories to a 50-day level as you had commented in the past or are you comfortable now with a 60-day level?

Yes, we were -- first of all, we used to -- when inventories were really a big deal and were hugely above normal, we talked about them in terms of days. The flaw in measuring them in terms of days is that it presumes a forecast of sales in the coming quarter. And as you move from the summer to the winter, the days change because the sales change. So we're no longer going to talk about it in terms of days because we think the inventory levels have come down to where they're not significantly material. But what I can tell you is that in terms of tonnes, the inventory at the end of the third quarter was flat, essentially flat to the number of tonnes at the end of second quarter, okay? So it's not necessarily days now, it's -- when I said flat, I meant -- we're talking in terms of tonnes. That's the first question. The second question is are we happy with 60 days? The answer to that is no. By the time we get out of the first quarter into the second quarter of 2014, I would expect we'll be down around 50 days.

And that would imply that absolute inventory levels would be lower in terms of tonnes? Given those moving targets with sales forecast...

I know, I know. But I mean, yes is the answer to that question. But it will also be a product of the second quarter forecast sales will be greater than the first forecast sales. So the same number of tonnes would translate into fewer days of inventory outstanding. And that's one of the reasons why we don't want to use tonnes -- or days anymore, because we think from quarter to quarter, it can be misleading. We're going to start talking about it in terms of tonnes.

And in terms of operating rate, I guess, going hand on hand with that. You mentioned operating rate increasing. What kind of level are you at [indiscernible] at the end of the third quarter, and do you see that operating rate higher or lower through the fourth quarter?

We haven't been that concrete, specific. I think we're in the 80s. 80%. I'm sorry, in the 80s, meaning not at 80%.

Right. Okay. But a level at which you're comfortable or are you aiming to get that operating rate higher?

No, we like to operate at 90%-plus. I mean, that's why we're absorbing as much fixed cost as we can practically, so the per tonne margin is the highest. All of our efficiencies are optimized at 90, 91, 92. It's not practical to assume you can sustain production at too much higher than that level over any period of time because of maintenance and other things. But our objective is to run the plants all out.

And just last question. In the slide presentation and the press release, you made a comment about the pigment market bottoming and remaining stable for several quarters before turning upward. Is that consistent with the expectations you had had earlier in 2013 or do you see the recovery a little more extended in time now?

I think it's fair to say that it's a little -- we see it as a little bit more extended. We thought that as inventories work their way down and volumes stayed high relatively speaking, that prices would recover more quickly than they have. We now think that they're going to continue to recover. We also think that inventories didn't work down as fast, largely because, I think, manufacturers ran their plants a little bit higher than we would have assumed. So the recovery is taking some time. But again, we have a limited amount of supply. We have a growing amount of demand. And as a result, prices inevitably rise in a market like that, unless new supply is introduced, which we don't see. So it's a matter of timing for us as opposed to outcome.

Our next question comes from Hamed Khorsand with BWS Financial.

First question, can you add some color as to what the demand was in the third quarter versus second quarter?

Almost exactly the same. I'm looking at the numbers now. It was -- volume in the third quarter was about 100 tonnes more than volume in the second quarter.

Okay. And do you think that's going to play out into the fourth quarter as well that way?

No. Fourth quarter and first quarter in TiO2, historically, are lower sales volume quarters because it's North American winter -- excuse me, northern hemisphere winter, and people paint less, they construct less, and so they buy less.

Okay. And then, really what I was asking is how much less do you think it's going to be? Because I mean, 100 tonnes in the third quarter more than the second quarter doesn't seem all that much. It seems kind of flat.

That's what we said. We said it was flat to second quarter. Yes, so I mean, the normal decline is not 20%. It's single-digit percents, and that's the historical norm over many, many years. We would expect it to be the same.

Okay. And do you think that demand in the second quarter was about normalizing inventory in the channel?

We think that demand at the levels that we saw in the second and third quarter are normal demand. We think that, that's what we saw in 2010 and 2011, almost, I mean, as it rose -- as the market rose to shortage conditions. So we think it's very close to a sort of normal behavior, and we would expect it to come back to that, that's where we'll end up in future years.

There doesn't seem to be that much growth going on right now in the industry at all, right?

Yes, that's fair. I think normally, it would grow -- we would expect it to be growing at 3%, 3% to 4%, slower in developed markets and higher in developing markets. And right now it's about -- it's less than that.

Okay. And given that kind of situation. I mean, realistically, do you foresee getting price increases in the next few quarters or do you think it's going to be towards the end of next year?

I think -- we talked about this a little bit earlier. I think that by the second quarter, when demand picks back up again. Again, the demand -- historically, the pigment industry has very clear demand patterns. Second and third quarters in the northern hemisphere are strong. First and fourth quarters are relatively softer. So by the end of the first quarter of 2014, I expect that inventory levels will be taken down to normal, if not a little bit below for that period of time. Plant utilization rates will be back to relatively close to full and demand will continue to have grown and will pick up quarter-on-quarter because of the seasonal effect. So I would expect that at that point, the industry has had no pricing power for 18 months or so and that the conditions in the market will allow price recovery to start at that time.

Last question. Given all the consolidation going on, the industry should have more buying -- more pricing power to be able to pass on price increases. But when you say you want to go and purchase -- make an acquisition by the first quarter, realistically, is that possible when everyone is going to now hopefully be making more money? [indiscernible] price you'd be more inclined to purchase it at?

Yes, I mean, we don't -- the discussions we have with people are not about exploiting the absolute lowest point on the profitability or EBITDA cycle. I mean, sellers are not going to sell at that price. It's not realistic to expect them to when they can simply wait. As long as they're not going out of business, they can just always wait for the cycle to turn. So we don't have conversations on that basis anyway. We generally tend to talk about kind of averages and mid-cycle levels and normal levels and things like that. And that doesn't really get affected by the monthly performance or the quarterly performance of any given company. With respect -- so I think it's not -- the change in the cycle is not going to influence our conversations. With respect to pricing power, I would say that we don't know -- none of us know what the story on price is. We're obviously price takers now of the whole industry. And we think that, that's a function of supply and demand, as it is in any market. And the real issue there is what's the supply. I mean, are incumbents producing at levels commensurate with demand or are they producing more than demand? And are there new entrants coming into the market? We all have a sense of how long it takes to build a plant and where they're coming from and the quality of them and the difficulty on technology and so on. So we all can make our own judgments about that. But I mean, pricing power is not simply about what happens. DuPont spinning its business off does not consolidate the industry. I mean, Rockwood and Huntsman combining -- the Rockwood products were not directly competitive with Huntsman or TiO2 made by us or by Kronos or by DuPont because they tended to focus on specialty markets. Some overlap, but it's not clear to me that there's been a lot of consolidation in the 2 transactions we've seen so far.

Our next question comes from Josh Brennan [ph] with Sirios [ph].

Could you just give us an idea of the expected operating rates for the next 2 quarters? I mean, just keeping in mind that your -- you want to cut the inventories down about 10 days and then we also have the seasonal declines in the normal volumes. So what does that imply in terms of the relative operating rates to the mid-80s today, is it headed down significantly from that the next 2 quarters?

Not down significantly. I think that it will stay mid to lower 80 percentile.

Okay. And you'll still be able to work the inventory down?

We think so. And if we can't, then we'll adjust. But we think so.

Okay. And then on the acquisition side, is there any limitation on the use of the NOL on an annual basis? If you were to, say, do a large acquisition and utilize significant amounts of the NOL, is it limited per annum?

If we remain in control of the combined entity, I think the limitations are pretty -- not particularly binding. If we are not in control of the combined entity, then they're kept at a percent of our equity value at the time of the closing and there, I think they're also limited in terms of time in terms of years. So we think that there's -- in transactions in which we are not the controlling party in terms of ownership, shareholder ownership, that there would be still very material annual tax savings coming out of the NOLs for a significant period of time. And when we are the controlling party, it would be even more.

Can you give us an idea roughly if it was limited, how we get to that number?

I could give you that. I could give you the exact number, actually. But it depends on -- I mean, the problem is it's so laden with assumptions about what the net income, the taxable U.S. income will be in a combination is that I'd rather, not to be honest. But it's substantial. I mean, it's a very substantial number.

Okay. And then just last question, on the slag pile, what is the amount of available or kind of on a TiO2 equivalent basis that you have currently there?

Are you talking about on the stockpile that's in South Africa?

Yes.

I think it was 3 million tonnes. It's a little bit -- it's less than that now. Probably 2.5 million tonnes. It's as Des, I think, pointed out earlier, it's sulfate-able ilmenite, so it's probably around 50% titanium. So those are approximate numbers for both but that's -- I think the last question operator I think is from Des. I saw Des on the line.

Okay. Our next question is from Des Kilalea with RBC.

Very briefly, you've mentioned that if there's too much of a delay, you'd have to reassess. That is -- so there will be capital spending penalties, with contractors and so on? And then there are 2 permits, there's water use and there's the water permit to build the pipeline. Are they both basically stopped right now?

The pipeline has not been issued because it's out of the same ministry. But -- so the water use license was issued and is now stopped and that's where we are. With respect to the contract penalties and all that, we've been pretty aware of the contingencies associated with all these licenses. So we try to minimize the amount of contract commitments that we make. We have bought some, during the period between when we receive the license and now, we authorized the purchase of some long lead items. So that can -- they can be manufactured and we can have them when we resolve the licensing. We focused on items that if something were to happen to Fairbreeze, we could use in other parts of our business. So we don't think there's a lot of risk about that. The pipeline permit, Des, we don't need that till 2015, and the ministry knows that. So there's not a lot of pressure on that right now.

Our last question comes from James Finnerty with Citigroup.

Just in terms of the M&A front, the potential transactions you're looking at, would they be in the same scale as, say, Huntsman and Rockwood in terms of valuation or would they be smaller transactions?

They vary. Some are smaller, some are around that size and some are larger.

Okay. And the follow-up question would be, the transactions that you are looking at, would you imagine that you'd be able to maintain your credit ratings based on the transactions of various -- whether it be smaller or bigger?

Yes, our objective is -- yes, to do that. When we borrowed the money, we said that maintaining the BB rating was important to us and so our goal would be to try to maintain the rating. We think we could, obviously. But it depends, but it's our goal. So we'll try to do that.

Yes. I guess, the scale and the benefit from the acquisition would sort of counter the additional leverage?

Exactly. And particularly, given -- we look at all these tax shelters, [indiscernible] talked about, which means we're going to be generating a lot more cash than the normal business running at whatever performance levels we're running at would be generating. And so we feel like even if we were forced to take advantage of a really strong opportunity to do something more aggressive than we originally intended, we'd get back to it very quickly. And it would be important for us to do that. But we don't think we have to do that at all. We think we'll be fine, given what we want to do at the BB rating. And as I've said before, it's important to us to keep that. Okay. All right. Then that's it for the questions. I thank you, all, very much for participating. Again, we remain confident in the industry. It's obviously taking us a little longer to turn this corner, but with volumes being strong and prices being flat, we think we're kind of at the corner point, and we'll move forward going forward in the next couple of quarters, as we said. So thank you for your interest. Thank you for your support, and we'll talk to you next quarter. Bye-bye.

Well, ladies and gentlemen, this does concludes today's presentation. You may now disconnect, and have a wonderful day.