Westlake Corporation (WLK) Q4 2013 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Westlake Chemical Corporation Fourth Quarter 2013 Earnings Conference Call. [Operator Instructions] As a reminder, ladies and gentlemen, this conference is being recorded today, February 20, 2014. I would now like to turn the call over to today's host, Ben Ederington, Vice President and General Counsel. Sir, you may begin.

Thank you, Marie. Good morning, everyone, and welcome to the Westlake Chemical Corporation fourth quarter 2013 conference call. I am joined today by Albert Chao, our President and CEO; Steve Bender, our Senior Vice President and Chief Financial Officer; and other members of our management team. The conference call agenda will begin with Albert, who will open with a few comments regarding Westlake's performance in the fourth quarter and the current perspective on the industry. Steve will then provide a more detailed look at our financial and operating results. Finally, Albert will add a few concluding comments, and we will open the call up to questions. Today, management is going to discuss certain topics that will contain forward-looking information that is based on management's beliefs, as well as assumptions made by and information currently available to management. These forward-looking statements suggest predictions or expectations and, thus, are subject to risks or uncertainties. Actual results could differ materially based upon factors including the cyclical nature of the chemical industry; availability, cost and volatility of raw materials, energy and utilities; governmental regulatory actions and political unrest; global economic conditions; industry operating rates; the supply-demand balance for Westlake's products; competitive products and pricing pressures; access to capital markets; technological developments; and other risk factors. This morning, Westlake issued a press release with details of our fourth quarter financial and operating results. This document is available in the Press Release section of our web page at westlake.com. A replay of today's call will be available beginning 4 hours after completion of this call until 3:00 p.m. Eastern Time on February 27, 2014. The replay may be accessed by dialing the following numbers: domestic callers should dial 1 (888) 286-8010; international callers may access the replay at (617) 801-6888. The access code for both numbers is 35323816. Please note that information reported on this call speaks only as of today, February 20, 2014, and therefore, you are advised that time-sensitive information may no longer be accurate as of the time of any replay. I would finally advise you that this conference call is being broadcast live through an Internet webcast system that can be accessed on our web page at westlake.com. Now I'd like to turn the call over to Albert Chao.

Thank you, Ben. Good morning, ladies and gentlemen, and thank you for joining our fourth quarter earnings call. This morning, we reported record quarterly net income of $171 million, or $2.54 per diluted share, on sales of $952 million. Our strong fourth quarter concluded a record year for Westlake, with 2013 net income of $610 million, or $9.09 per diluted share, on net sales of $3.8 billion. Throughout 2013, both our Olefins and Vinyls segments continued to benefit from lower cost, ethane-based ethylene production resulting from North American shale gas and oil production. Our Olefins segment achieved record annual income from operations, while our Vinyls business continued to see improvement as the construction industry gradually recovers. We also achieved a number of important accomplishments in 2013 that will improve our cost position and expand our product offering. In March, we completed the successful turnaround and expansion of one of our ethylene units at our Lake Charles, Louisiana site, increasing our ethylene capacity by approximately 240 million pounds. In May, we acquired a specialty PVC pipe business, which enhances our North American pipe and building product portfolio by adding specialty product lines and supporting technology to our portfolio. And most recently, in December, we completed a new chlor-alkali plant at our Vinyls facility in Geismar, Louisiana, adding 350,000 ECU production capacity, which will improve the vertical integration of our Vinyls business from chlorine down streams into VCM and PVC as well as increase our caustic soda sales. The completion of these projects, as well as the recent specialty PVC pipe acquisition, will further our integration strategy and improve the cost structure in our Vinyls business. These investments, plus our ongoing expansions, reflect our continuing confidence in the strength of the business and better position us for 2014 and beyond. I would now like to turn over to Steve to discuss the financial and operating results for the fourth quarter and the year.

Thank you, Albert, and good morning, everyone. I will begin by discussing our consolidated financial results followed by a detailed review of our Olefins and Vinyls segment results. Let me start with our consolidated results. In this morning's press release, Westlake reported net income for the fourth quarter of 2013 $171 million, or $2.54 per diluted share, an increase of $76 million over fourth quarter 2012 net income of $95 million, or $1.42 per diluted share. Net sales for the fourth quarter of 2013 were $952 million, which were $151 million higher than sales reported in the fourth quarter 2012, primarily due to the higher sales prices for polyethylene, styrene, PVC resin and higher sales volumes from most of our major products. Westlake's operating income for the fourth quarter of 2013 was $258 million, an increase of $102 million compared to the same period in 2012. The increase in operating income compared to the fourth quarter 2012 was driven mainly by higher polyethylene and PVC resin sales prices, as well as lower ethane costs, which were partially offset by higher propane cost. Sales revenue of $952 million in the fourth quarter of 2013 decreased by $52 million from sales in the third quarter of 2013, driven by lower sales volumes for polyethylene, PVC resin and building products, partially offset by higher polyethylene sales prices and higher ethylene sales volumes. The fourth quarter income from operations of $258 million was $9 million lower than in third quarter 2013, primarily due to lower Vinyls margins resulting from higher feedstock costs, which were partially offset by higher polyethylene sales prices. For the year 2013, we reported net income of $610 million, an increase of $224 million over the $386 million reported for the full year 2012. Sales revenue of $3.8 billion for the year 2013 increased by $188 million compared to 2012, mainly due to higher sales prices for most of our major products, higher sales volumes for styrene, caustic and PVC resin and sales contributed by our specialty PVC pipe business, which we acquired in May 2013. Income from operations was $953 million for the year 2013, an increase of $338 million over the prior year period, and was mainly attributable to higher Olefins and Vinyls integrated product margins, predominantly due to a significant decrease in feedstock cost. The increase in income from operations was partially offset by the lost production and the unabsorbed fixed manufacturing and other costs associated with the turnaround and expansion of one of our Lake Charles ethylene units in the first quarter of 2013. Our utilization of this FIFO method of accounting resulted in an unfavorable impact of $11 million pretax, or $0.11 per share in the fourth quarter as compared to what earnings would have been if we'd reported on the LIFO method. Please bear in mind that this calculation is only an estimate and has not been audited. Let's move on to review the performance of our 2 segments. Starting with the Olefins segment, the segment reported operating income of $247 million on sales revenue of $668 million for the fourth quarter of 2013, compared to operating income of $143 million on sales of $550 million in the same period of 2012. The increase in operating income was mainly attributable to higher integrated Olefins margins, primarily as a result of higher polyethylene sales prices and lower feedstock cost. Olefins operating income of $247 million in the fourth quarter of 2013 was $10 million higher than operating income in the third quarter of 2013. This increase is primarily due to higher polyethylene sales prices, partially offset by lower polyethylene sales volumes. For the year 2013, the Olefins segment reported an increase of $280 million in income from operations to $833 million, up from $553 million for the same period in 2012. This increase is mainly attributable to higher integrated product margins as compared to 2012, driven by significant lower feedstock costs. Now let's move onto the Vinyls segment. The Vinyls segment reported income from operations of $19 million in the fourth quarter 2013, which is an increase compared to the $18 million reported in the fourth quarter 2012. The increase in earnings benefited from higher sales volumes for caustic and PVC resin despite a 36% increase in propane costs compared to the fourth quarter 2012. The fourth quarter of 2012 was negatively impacted by the lost PVC resin production and costs due to a scheduled maintenance turnaround at the Geismar vinyls complex. The Vinyls operating income of $19 million in the fourth quarter of 2013 decreased by $21 million from the operating income reported in the third quarter of 2013. The decrease in operating income was primarily due to seasonally lower sales volumes for PVC resin and building products and higher propane costs as compared to the third quarter of 2013. For the year of 2013, the Vinyls segment reported income from operations of $155 million, an improvement of $69 million over the $86 million reported for the full year 2012. This increase was largely driven by lower feedstock cost, higher sales volumes for PVC resin and higher operating rates as compared to 2012, partially offset by non-recurring costs associated with our specialty PVC pipe acquisition. Now let's turn our attention to the balance sheet and the statement of cash flow. As of December 31, 2013, we had cash and marketable securities balance of $701 million and total debt was unchanged at $764 million. During 2013, we invested $679 million in our capital programs. For 2014, our guidance for capital expenditures is in the range of $475 million to $525 million. This estimate includes the ethylene plant feedstock conversion and expansion and the PVC expansion in Calvert City, Kentucky, that we expect to complete in the second quarter of 2014 and the engineering and long lead equipment for the ethylene expansion at our Lake Charles facility that is planned for late 2015 or early 2016. Looking forward into 2014, we estimate that the outage in Calvert City to complete the conversion and expansion of our facility will be approximately 20 days, starting in the first quarter. Additionally, we expect our first quarter Vinyls results to be negatively impacted by the extreme weather conditions that the U.S. has been experiencing, which has driven our propane feedstock cost for our Calvert City, Kentucky plant and delayed the start of the normal construction season. 2013 results reflect the execution of our investment strategy to improve our product integration and lower our cost. We remain focused on growth and investment opportunities and rewarding shareholders. Our dividend increase of 12% announced this week, the second increase in 6 months, combined with the 2-for-1 stock split reflect our confidence in future. Now I will turn the call back over to Albert to make some closing comments. Albert?

Thank you, Steve. Westlake had an excellent 2013, delivering record results and achieving a number of important milestones, including a significant ethylene expansion and the completion of our chlor-alkali plant with the achievement of our best safety performance on record, which lays foundation for our continued success in 2014 and beyond. In 2014, we expect to see the full financial contribution from the completion of the Lake Charles ethylene plant expansion, the Geismar chlor-alkali plant and our specialty PVC pipe acquisition. We will continue to build on our success as we plan to convert our Calvert City ethylene plant from propane to ethane, as well as expand the ethylene capacity by approximately 180 million pounds and the PVC capacity by approximately 200 million pounds, starting in the first quarter of this year. In late 2015 or early 2016, we will complete another ethylene expansion in Lake Charles, further expanding our chain integration by adding approximately 250 million pounds of ethylene capacity. All of these investments expand our integration, while leveraging our existing asset base to deliver immediate benefits and demonstrate our belief that a shale gas advantage will benefit us for years to come. Thank you very much for listening to our earnings call this morning. Now I'll turn the back call back over to Ben Ederington.

Thank you, Albert. Before we begin taking questions I would like to remind you that a replay of this teleconference will be available starting 4 hours after we conclude the call. We will provide that number again at the end of the call. Marie, we will now take questions.

[Operator Instructions] Our first question comes from the line of Brian Maguire from Goldman Sachs.

For Steve, how much cash do you estimate that you need to run the business on a day-to-day basis?

Brian, the number isn't nearly the size of the balance we have today. I would say the number is in the neighborhood of about $100 million or so.

Then I just have a follow-up. As you sit here today and look at your investment opportunities, do you think that Westlake as a corporation has an opportunity to earn a higher return on that cash than your shareholders do? And how do you think about the timing on reallocating that cash?

Brian, as we continue to look at opportunities, we certainly are looking for ways to deploy it in ways that give us return on a risk-adjusted basis above our costs of capital. So if we can't find those opportunities, we are certainly well positioned to be able to return that, but we'll continue to look for opportunities that provide a value to the shareholders.

And one last one, if I could. Just on the Lake Charles, the second expansion there. I think initially it was slated maybe for late '14 and then it slipped to early '15. And now it sounds like -- you are thinking is may be late '15 or early '16, it's just as good as the margins are now and what we would expect to be in next year, what will be the reasoning for pushing that out?

Well. We have timing with our turnaround. And our turnaround looking at some time in the 2015 maybe early 2016 time period.

But still 100% confident just to go ahead with that expansion and it seems like a good opportunity for you, right?

Yes. It is our plan.

Our next question comes from the line of Don Carson from Susquehanna Financial.

Steve, a question on feedstock position. I was little surprised that FIFO actually hurts you in Q4, given that feedstocks were rising as the quarter went on. But can you talk about sort of your propane requirements in Q1? It sounds like you're going to be shutting down Calvert City imminently to convert over to ethane. And so, how long will you be running on propane in Q1? And secondly, when will that ethane conversion start up?

We'll be -- as I mentioned in my comments, we'll be undertaking the start of that work in 1Q. We'll be out for approximately 20 days. And so the unit will come back up on ethane feedstock in the second quarter. So we'll no longer be exposed to that propane feedstock once we complete this feedstock conversion.

And then just as a follow-up with the -- I know you commissioned Geismar chlor-alkali expansion yesterday. So are you out of the market in terms of buying merchant chlorine now? It's all vertical integration?

Yes.

And what benefit do you see that providing to you in Vinyls in Q1?

Well, as we know, the season for the construction market, given the weather conditions, has really been somewhat delayed because of the severe cold weather. But I think as we go forward, I think you can continue to see that with the integration of ethylene and chlorine that we'll continue to benefit as we march forward.

And then, Steve, just wanted to get a clarification on that $0.11 of FIFO cost in Q4. Again, I would've thought FIFO would benefit you, so why was it a penalty?

Remember, we're using that as a finished goods measure. Feedstocks are coming in at an average cost. And so this effect is really the flow through from earlier in the quarter and late last quarter.

And our next question comes from the line of Frank Mitsch from Wells Fargo Securities.

Can you tell us where -- what are your operating rates right now at Geismar? And when would you anticipate that being close to 100%?

Well, Frank, as we've said earlier, the season for the construction market really begins to occur typically at the very end of the quarter and into the second quarter and well into third. And so we'll be at commercial operating rates as the season for construction begins.

All right. So the -- in terms of startup, there is no issues here. Everything is running fine. It's really a matter of the markets dictating?

That's correct.

And with the start-up, obviously you have a lot more caustic soda to sell. What's your outlook in terms of pricing there? We heard from another player in the market that they thought the overall ECU was bottoming or near a bottom. What's your take?

Well. There was a move to increase prices by $40, $50 a ton in the first quarter and industry has yet to be able to implement that price increase.

Okay. And then also, there was also a move to increase quantity but it looks like that's DOA. How, in terms of natural gas having spiked here, can you -- do you have any hedges in place? What are sort of your concerns regarding the inflationary effects of nat gas and, of course, ethane also has ticked up here as well.

Yes. I think the short term, certainly, it has an impact of energy cost and feedstock cost. But if you look at the future prices for gas and ethane and starting March, April, the price will come down to more a normal level.

We can hope so. And then lastly, is there any update from your perspective on the case in front of the Texas Railway Commission ruling on the pipelines? What -- where -- what do you see as the next steps in that process?

Frank, as we look forward I think that case will play out. We expect that both parties will continue to position themselves to benefit their shareholders and to take the right steps and work with the commission as we move forward.

And nothing in terms of dates or anything like that we can point towards?

I think there's a hearing in May and there's another hearing in August.

And our next question comes from line of Hassan Ahmed from Alembic Global.

So question around ethane. Obviously, you talked about how looking at natural gas sort of near-term futures you expect pricing to take down. And then in past calls, we've obviously talked about the oversupply situation in ethane. Nowadays, obviously we are hearing a fair bit of chatter about European exports. How do you see that playing out? Do you think that's going to sort of change the slack U.S. ethane supply demand story at all?

As we understand, there is an ethane terminal for export in Philadelphia that won't be finished for at least a year or 2 or maybe 3. And there is talk about maybe 55,000 barrels a day of ethane that will be shipped to Europe. Today, as we hit in the stands [ph] about 200,000 to 300,000 barrels a day of ethane will be rejected. So that's a small part of the excess ethane that we are seeing.

Fair enough. So not a big needle mover at all. Changing gears a bit, in 2012, obviously you guys paid out a special dividend, did not in 2013. Just trying to understand what made you guys sort of lean towards the special dividend side of things in '12 and not do so in '13?

Well, Hassan, when you think about the special and look across all the industries, you saw there was quite a significant number of firms that were paying specials, and there were certainly some changes in tax legislation that were contemplated, that were also a big prompter for that. As we look forward into '13 and I made a comment earlier about '14 about deployment of capital, we're continuing to look for ways to deploy capital that provide value above our risk-adjusted cost-to-capital. And if we can find ways to do that, we'll deploy that capital that way, but if we cannot, there's certainly a number of ways of returning that capital, whether it's through the form of a dividend, special or regular, or through additional share repurchases.

And our next question comes from the line of Aleksey Yefremov from BofA Merrill Lynch.

Do you -- could you comment on the status of polyethylene price increases for February? And whether you're contemplating an increase in March?

Yes, as said and as reported in IHS and chem data, there's a $0.04 pound price increase for polyethylene in February. And we believe that this price increase will be implemented.

All right. How about March?

There's 1 company that made an announcement for price increase, I think about $0.06 a pound, but that is the only company that has made that price announcement.

Okay. Fair enough. And as for your start-up at Geismar, your exposure to natural gas has increased. Could you give us a sense of how many BTUs you now consume as a company in total? Or maybe a sensitivity -- earnings sensitivity of $1 change in gas.

I think that our exposure to gas is still very small, despite the increase in power consumption at Geismar. We can get back to you on that.

Alex, if you'll call me, I don't have the number at the tip of my tongue but we can give you the numbers off-line.

Okay, great. And I guess, Steve, as best you can tell at this point, do you think in Q1 you will have a positive or a negative inventory tailing impact?

Talking [ph] to LIFO? FIFO?

Right.

It's always hard to call a mid quarter. But if we drew the quarter right now, I think, it's probably be a positive impact but it's hard to know what the next month will play out to be.

Great. And then final question, if I may. Are you benefiting from tight ethylene market in Louisiana? And if you are maybe could you help quantify that?

Well, as we take a look at the market there, we still see a tightness in ethylene kind of over by the river in the New Orleans Baton Rouge area. And we can opportunistically look at that but we still have customers' requirements that we have to meet. So we have to moderate the opportunities there to meet customer demand at the same time.

And our next question comes from the line of James Sheehan, SunTrust.

Albert, would you care to give us your thoughts on prospects for PVC price increases in March?

Yes. As you know, that the -- as reported in 3 publications, there are 3 price increases announced by the industry: of $0.03 in January; $0.03 in February; and $0.03 in March. And we have received the benefit from the $0.03 in January. We believe the second $0.03 will be also implemented in February. But I think it's a little too early to tell how the March increase -- price increase will be perceived by the industry.

And what is your sense for the level of caustic soda inventories right now?

Well, I think, as you know that we started our chlor-alkali plant in December and, I think, there are 2 other chlor-alkali plants that being started up. So that would -- if they don't start up and there's no reduction in capacity by the other companies or plants, then there will be an increase in supply of caustic to the marketplace.

And last one, if I could. As you analyze the potential for unlocking value through an MLP structure, do you think that there is a good potential for doing that? Or have you made any conclusions?

As we continue to assess that, we're looking at all the moving pieces. And while I don't have an answer in terms of our conclusion of our analysis today, we'll continue to assess that. And if we come to some conclusions, will certainly talk about them at that time.

And our next question comes from Jeffrey Zekauskas from JPMorgan. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: Are there costs that would pass through the income statement in the first quarter from the Calvert City conversion? And if there are, what would be the magnitude?

As I said, Jeff, we're going to have a 20-day outage. And so, certainly, we'll have some turnaround expenses and those will be expensed. And we'll certainly also have the unabsorbed impact there. So I think if you think about those numbers, they certainly are going to be significant to the Vinyls business in the neighborhood of, probably that 20-day period. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: Right. I understand how to think about the lack of production. I just don't know about the costs that you might spend in order to do the conversion that would pass through the income statement.

Well, I think, Jeff, when you think about the impact it's probably going to be between the turnaround expenses and the unabsorbed costs. You're probably talking in the neighborhood of $20 million to $25 million all in, in terms of the turnaround expenses and the other unabsorbed cost. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: And is it very easy to go up to a full utilization rate once the conversion is done? Or is it more difficult to do that?

No, once you've completed the expansion and the feedstock conversion, you can ramp up to capacities reasonably quickly. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: And can you talk about the ease of ramping up the new chlor-alkali facility to a full rate of utilization?

No. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: Or the difficulty?

I'm sorry? Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: Can you talk about the ease or the difficulty of ramping up your new chlor-alkali facility to a full rate of utilization?

As you think about starting up a new plant, it takes time and, fortunately, as I mentioned earlier, we're in a period of slack in normal seasonal demand. So we have the opportunity to ramp that up as the market dictates and will be at those commercial rates by the end of the first quarter. Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division: And then, lastly, you're always looking for domestic acquisitions that are interesting. Do you now look for offshore acquisitions as well, with any diligence?

In this space, both -- with our footprint largely in North America, of course, it's a natural. But we also look -- and always have looked very broadly across the space. You may recall we looked at opportunities to grow organically or through acquisitions very broadly for a number of years. And so we continue that look.

[Operator Instructions] And we have another question and this comes from the line of Richard O'Reilly from Revere Associates.

Most were asked but once you do the Calvert City conversion, are you out completely of propane as a feedstock?

We will be no longer using propane as a feedstock. Our facilities in Lake Charles, our ethane today and once we finished this conversion in Kentucky, we'll be an ethane cracker there. So we would have the ability of the economics that were indicated to go back and crack propane in some of those locations in Kentucky and Lake Charles. But today with the outlook for ethane, we expect them to be ethane crackers.

Okay. So propane shouldn't be an excuse, then.

Thank you. And at this time we have no further questions. And I'd like to hand back to Ben for any closing remarks.

Thank you, Marie. Thank you again for participating in today's call. We hope you will join us for our next conference call to discuss our first quarter 2014 results. Thank you.

Thank you for participating in today's Westlake Chemical Corporation fourth quarter earnings conference call. As a reminder, this call will available for replay beginning 4 hours after the call has ended and may be accessed until 3:00 p.m. Eastern Time on Thursday, February 27, 2014. The replay can be accessed by calling the following numbers. Domestic callers should dial 1 (888) 286-8010. International callers may access the replay at (617) 801-6888. The access code of both numbers is 35323816. Thank you for participating in this call. You may now all disconnect. Thank you.