Q3 2019 Earnings Call
Good morning walk into the on Corporation third quarter 2019 earnings conference call <unk>, unless only mode should any assistance police said no conference specialist <unk> followed by zero.
After today's presentation, Toby an opportunity to ask questions.
Plus the question me first started on one on your touched on found.
<unk> question, Please press store them to.
Please now this event as being recorded Oh now, it's kind of conference over to login bonnor courses or instructor. That's relations. Please go ahead.
Good morning, everyone in thank you for joining us to that before I began let me remind you that that's presentation along with the associated slides and the question and answer fashion. Following our prepared remarks plan could statements regarding estimates of future performing.
Please note that these are forward looking statements and the actual results can differ materially from those project that.
Come on the factors that could cause actual results differ from our projections are described without limitation and the rest factor section of our most recent farm 10, K. and in yesterday's third quarter earnings press release.
A copy of today's transcript in size will be available on our website and the ambassador section under pastor that.
Earnings Pressrelease, another financial data and information are available under press release it.
With me this morning, our John Fisher, Owens, Chairman, President and Chief Executive Officer.
<unk> Dawson Executive Vice President and President of Hoxsey, an international Jim Garlic, Executive Vice President and Chief operating Officer, and Todd Slater, Vice President and Chief Financial Officer.
We are began with our prepared remarks and they're after we will be happy to take your question.
Well now trying to call ever to John Fisher John .
Thank you log in good morning, everyone. Today will begin my remarks by discussing the key points from the third quarter, followed by our updated outlook for the remainder of 2019, a detailed overview of each of all one's business segments are long term view on market dynamics folklore, our client apoc C. and concluded with the Winchester segment with that let's.
Turn to slide three.
During the third quarter of 2019 own reported adjusted EBITDA of approximately $293 million. While this represents a year over year decline results for the quarter improve 43% sequentially to despite a challenging economic backdrop third quarter results benefited from lower plan maintenance turn around.
Costs strong operating performance the resolution of the one time events that affected the epoxy business during the second quarter as well as seasonally higher volumes across our business segments.
However, several challenges during that period worked to offset piece positives.
Beginning in the middle of the third quarter, we saw significant slow down in demand from abroad spectrum of chemical customers, we experience lower than expected demand from your thing agricultural refrigerant alumina pulp and paper automotive electrical laminate and industrial coatings customers.
Addition to lower volumes lower customer demand negatively affected prices for several products, we experience lower pricing for costing soda Abilene dichloride hydrochloric acid corneas organics and hypocrisy resonance.
Moving out to our updated outlook for the full year 2019, which is on slide for we expect full year 2019, adjusted Eva dot to be between 930 $980 million.
Compares to full year 2018, adjusted EBITDA of $1.265 billion per year over year decline in adjusted <unk> can be primarily attributed to three factors and approximately 325 million dollar impact from lower cost six soda pricing lower a pox he resin pricing.
<unk> offset by lower maintenance turn around costs.
In your head, we expect the week underlying demand fundamentals at our classical businesses to persist at least through the remainder of this year as a result, we anticipate our fourth quarter adjusted either died to decline when compared to the third quarter of 2019, the fourth quarter may represent the lowest earnings quarter of the year.
The key assumptions behind the score cast or lower cost six soda Abilene dichloride hydrochloric gas incarnate organic send a proxy resin pricing lower volume levels in the core outlying apoc see lower operating rates in the chemical business due to seasonally weaker demand coupled with seasonal inventory destockings and fourth quarter Turner.
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Now we would like to to take a more detailed look at each of our business segments, starting with core alkali products in <unk>, which is on slide five.
The core alkali products in vinyls business experience lower demand from abroad spectrum of customers, including your thing agricultural refrigerant alumina and pulp and paste customers. As an example, a major chlorine customer did not by any chlorine over four week period beginning in September .
The slower demand negatively impacted both volumes in pricing.
Third quarter 2019, adjusted either die for the core outlay products and vinyl segment was $234.9 million, representing a 29%. Your rear decline. This decline was driven by lower cost six soda pricing cost six soda pricing in old system has declined more than 20% or approximately 99.
<unk> when compared to the third quarter of 2018, corny organics and hydrochloric acid pricing also declined year over year.
Volume levels for costing soda chlorine corrine organics and hydrochloric acid all declined euro per year.
Upsetting some of this year over year pricing and volume pressure were low raw material and operating costs.
Looking at the fourth quarter of 2019, and given the current demand environment. We expect results for the core alkali products in vinyl segment to be lower sequentially and too likely represent the lowest earnings quarter of 2019.
Now, let's take a closer look at cost six soda pricing, which is on slide six.
Costing soda pricing in Owens system declined in the third quarter.
Decline was particularly pronouncing it export market, where caustic soda pricing indices were down $55 per time in the third quarter and $25 per time. Additionally in October domestic pricing, while lowering the third quarter and in October was more resilient to support from a relatively stronger <unk>.
Enemy and the cost to serve that market.
Looking ahead, we expect the current weakness in cost excited demanded continue in the fourth quarter and potentially into 2020.
But as Sam moved to the performance of our <unk> segment, which is on slide seven.
During the third quarter of 2019 owns a proxy business generated adjusted EBITDA $51.1 million and 9% decline from the level achieved in the third quarter of 2018, well. These results fell short of our expectations. The first three quarters of 2019 represent old and strongest nine month period.
For this segment since the acquisition of <unk> Corrine products businesses in 2015 to gradually improving trained in the proxy results highlight the strength of the businesses Korean integration and the potential longer term earnings power.
Looking ahead to the fourth quarter of 2009 team, we expect a proxy segment results to be lower than the fourth quarter 2018 results sequentially, we anticipate seasonally lower volume levels stable raw material costs and unfavorable pricing trends to affect quarterly results. We now believe 2019.
In a proxy segment adjusted EBITDA will be lower than last year's levels do the lower margins, partially offset by lower maintenance turn around costs.
Looking now what a global epoxy resin prices, which are shown in the exhibit on slide eight during the third quarter like what a proxy rising price and continued to move lower in all regions. The average global epoxy resin pricing has declined approximately 15% during the first nine months of 2019.
Price declines pipe, primarily been driven by demand weakness from global automotive electrical laminate and industrial coding cats customers bright spot in the epoxy business has been sales in the wind energy sector, which are forecast to increase approximately 15% in 2019 compared to 2018.
Before moving to the Winchester segment, I would like to emphasize the long term outlook for a chemicals businesses, which is on slide nine.
Demand for Owens key products, such as cost six soda chlorine coordinator Gannetts ethylene dichloride and a policy residents have been weaker in 2000 902018.
Production levels for Lumina, and pulp and paper two key and use markets for costing so to have declined demand for a proxy resin in Europe Owens largest hypocrisy market has been flat and hydrochloric acid demand in North America has declined due to weaker demand from oil and gas producers.
In spite of these near term dynamics, we continue to believe market fundamentals for core alkali vinyl and a patsy products will be supported by favorable long term supply and demand.
Fundamentals, we continue to believe that there will be demand growth for the core alkali sector on both sides of the E.C. you both chlorine in chlorine derivatives as well as cost six soda.
Capacity growth will lag demand to date, there had been minimal global capacity additions and announcements of additions to meet projected demand growth.
The U.S. will continue to enjoy a sustain energy and feedstock advantage over the rest of the world.
Current industry economics, do not support Worldscale core outlay investments.
Ultimately over the long term supply and demand balances will tighten resulting in upward pricing momentum for owns costing soda chlorine in corrine derivative products. Similarly, any epoxy business, we see global demand growth and minimal capacity additions.
Now, let's moved and talked about or Winchester segment, which is on slide 10.
Winchester experience, it's first quarterly year over year increase since 2016, ending the third quarter of 2019 with adjusted Eva Dob $19.1 million.
6% improvement was a result of higher commercial military and law enforcement volumes and favorable commodity and operating costs lower year over year product pricing, partially offset the improvements. We're forecasting is sequential declining adjusted he but died during the fourth quarter consistent with the businesses normalcy.
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We need to expect Winchester results for the full year 2900 to be comparable to are slightly better than the full year levels achieved in 2018.
Now turning to the Lake city contract and slide 11.
And the third quarter was announced that owns Winchester segments secured the contract to operate the government owned Lake City US Army ammunition facility in independence, Missouri.
This award is transformational for the Winchester business. After a one year transition period Winchester, we'll assume operational control the facility on October 1st 2020.
Contract has an initial term of seven years and we expect this multi year contract will drive is significant increase in annual profitability for the segments starting in late 2020.
Estimate increased annual revenue or between 450, and $550 million and a corresponding improvement in annual adjusted EBITDA of $40 million to $50 million.
The full year affected the Lake city contract will be gain in 2021.
We'd like to highlight several other near term enhancements that will improve cash flows as we transition from 2020 to 2021 and these are slot shown on slide 12.
2021, we expect incremental cash generation of approximately $225 million from items within olin's control or that are contractually committed.
The refinancing of the high costs bonds, which were issued as part of the doubt acquisition in 2015 will become callable in late 2020 and are expected to reduce interest expense by $50 million to $70 million annually.
The winding down at the multi your information technology project to integrate the acquire Dow Corning products businesses will save approximately 100 $100 million of capital and expand spending.
Vinyl chloride monomer contractors transitioning from the toll manufacturing arrangement that has been in place since the acquisition to a direct customer sale agreement beginning on January 1st 2021, and finally, the full year affected the new Lake City Army ammunition contract. These cashflow enhancements of approximately two.
$125 million provide significant incremental cash flows to old independent of industry conditions and with that I'd like to turn the call over to tide Slater all in Seattle type.
Thanks, John had good morning, everyone thinks celebrated share repurchase program that was announced on August 5th was completed in early October .
5.7 million shares of all wins common stock.
Purchased for $100 million also during the third quarter Olin completed a 750 million dollar wide offering and a new 2 billion dollar bank credit facility.
We are able to we were able to establish a low risk pathway to refinance high cost bonds.
During the 2015 Dow acquisition.
When they become callable enlighten 2020.
Increasing our financial flexibility.
Now, let's turn into her updated 2900 cash flow forecast, which is one slide 13.
Assuming the midpoint of our four year adjusted EBITDA egg.
We expect to generate approximately $230 million for free cash flow in 2000 in 19.
The midpoint of our adjusted even at T.A. forecast, which is on the far left of the waterfall chart, we deduct $30 million, an estimated cash tax payments.
Cash taxes paid in 2019 or almost all attributable to earnings and foreign jurisdictions.
I'm three reflects the midpoint of our current forecast for capital spending $375 million, which includes annual maintenance capital spending a between 225 and $275 million and the investment associated with our multi year information technology integration project.
Approximately $70 million.
As we previously discussed in 2017, we began a multi year project to implement new enterprise resource planning manufacturing and engineering systems across the heritage Roland and the acquired outpouring products businesses. The project also includes the required information technology infrastructure.
That turning to the fourth column, we are expecting 25 million dollar increase in working capital in 2019, as we use cash from our from the refinancing to reduce the sale of receivables under our factoring arrangement.
And the next column one time items include information technology integration costs and cash restructuring costs were approximately $90 million. This includes approximately $50 million for the I.T. integration project that I just spoke about at approximately $25 million.
Duplicate I.T. costs being encouraged during the transition.
These costs are partially offset by $20 million a pre tax proceeds from the sale of an investment and non consolidate affiliate in the first quarter.
The next column represents cash interest expense as of September 30th we had approximately five per cent of our debt at variable interest rates.
In the far right column, we're forecasting $250 million.
$230 million or free cash flow.
Now I'd like to move on to owns priorities for free cash flow, which one slide 14.
Since they acquisition in 2015, Poland has utilized it's cash flow repaying approximately $500 million of debt.
Purchasing $190 million of Colin common stock or 6% of shares outstanding.
And continuing are consistent quarterly dividend.
Looking ahead or 2020 priorities for free cash flow will be expanding our cash position on the balance sheet in advance of the approximately 490 million dollar ethylene payment at the end of 2020.
As a reminder, this investment will provide olin additional costs based ethylene for 20 years and support the V.C.M. contract.
After 2020, we expect to use our free cash flow to reduce debt levels.
Toward shareholders and invest in our pipeline.
Lowcost organic growth projects.
Growth opportunities exist in smaller increments across the chlorine Oslo and our production platform and can be implemented as market conditions warrant.
Finally on Wednesday October 23rd owns board of directors declared a dividend of 20 cents on each share of all uncommon stop the dividend is payable on December 10th 2019 to shareholders of record at the close a business on November 12th 2019.
This is the 372nd core consecutive quarterly dividend to be paid by the company.
Operator, we are now ready to take questions.
We were now begin the question and answer session.
Question Man press started them one on your touch 10 from a furious and speaker fancies took up your handset before pressing the keys.
So the Charger question, please press store than two.
This time, we will pass momentarily there was some more roster.
[noise].
First question comes from Don Carson of Susquehanna Gone. Please proceed.
Thank you get a question on the Chlor alkali cycle. This cycle seems a little different and that normally industrial demand is more sustainable then you know vitals demand, especially into residential construction, we seem to have the opposite this this time around.
Is that why you think that we're going to have lower caustic pricing in 2020 versus 2019, and then I have a follow up in Winchester.
What I would say is what I think is that we think is different about the chlor alkali cycle. As we stated this moment is theres been a significant increase in the amount of chlorine.
Exported as derivatives over the past 12 years, if you look today between 35 and 40% of the chlorine. That's produced in North America is actually exported. So when we look at as slowdown in industrial production in the United States. It has typically been accompanied by a slowdown in housing.
The thing and construction in the U.S., but what we really for the cycle to take full effect, we really need there to be a global slowdown inc. in construction, so that the chlorine demand actually goes down.
In North America, So we would see a lower level of exports I think if you looked.
Caustic demand in North America would it would significantly exceed chlorine demand right now just in North America.
And then my follow up on Winchester, we've seen a significant change in industry distribution patterns are about see work middle largest retailers Walmart is going to we're restricted sales.
Yes.
Certain types of ammunition, what impact do you think this has on on overall demand if any and could actually be positive for for you given that.
Presumably the smaller distributors, who make who will take over from Walmart don't get the same terms as a Walmart us.
I would say at the moment, it's probably says too soon to tell because Walmart is still in the market their targeted exit on the products that are exiting is that December onest.
And I imagine that theyre, not helping the market right now because they're trying to move all that product longer in the immediate aftermath I would.
Not be surprised if there's some short run disruptions on the retail supply side, just because Walmart has such a large presence and nobody else comes close I think you're.
Hi, your comment on pricing probably has some validity, but we'll need to see how that plays out.
Thank you.
Our next question comes from Kevin Mccarthy of vertical Research partners. Kevin. Please proceed.
It's good morning would you comment on where you think demand for Chlor alkali is tracking in 2019 and based on your prior experience.
With previous downturns.
What would you expect the trajectory to look like demand wise as we move through 2020.
Kevin This is Jim.
I would say on a on a year over year basis have seen some weaker operating rates and so forth, which would indicate that we have had.
Lower caustic.
Output.
So I think that's been exacerbated here in the third quarter, we've seen that we've seen that decline and we've seen it in specific pocket quite pulp and paper and alumina that are actually driving that.
Having said that I think.
There's some inventory corrections and.
So forth that are taking place in those markets and as we look into 2020.
We need to see some kind of a what I would call in industrial production rebound to see increasing demand and we need to get.
As mentioned earlier, we need to get the industrial production side of things, which driving drives caustic demand.
Moving to the upside in excess of chlorine demand, which will help bring balance back to the market.
And then a follow up question if I may on Winchester on on Slide 11, I think you reference $25 million of transition costs.
Can you talk a little bit about what those are and also whether you need to reinvest capital to serve this contract and whether or not there or any other meaningful contracts that might roll off or roll on over the next year or so.
The 25 million.
$1 is the expense that Olin will occur to take over what is effectively a 500 million dollar business in a different location. We have to provide the entire management team, which is somewhere between 12 and 15 people. They have to be relocated they have to have a what I'll call. It transition period living there.
There are certain investments that we need to make in terms of getting what I'll call. The management systems up to speed that there are 2000 employees at Lake city that become our employees, we have to put them on our benefit programs et cetera et cetera.
So that that's what the $25 million is about in terms of.
Estimates by all in the only real investment we are obligated to make is in working capital and I would tell you I think thats in the $60 million to $80 million range, which will occur late next year.
That's helpful. Thank you.
Our next question comes from Jim Sheehan of Suntrust. Chen. Please proceed.
Good morning, Thanks for taking my question.
Would you expect caustic soda customers.
To be a need restocking inventory sometime in early 2020.
Yes, we would expect.
I mean, they've been in destock mode for quite some time. So we would expect that at some point here that restocking has to has to occur right now with prices moving down with that.
We say industrial production in general demand and kind of a malaise.
They've been Destocking, and we'll probably continue to do that until they see something.
The positive side that will cause them or given the trigger to restock, but.
It's got to happen at some point in time.
Thank you and what is your expectation for a turnaround cost in 2020 relative to 2019.
We haven't given a specific number Jim but I would tell you.
Qualitatively they will be higher the we've talked about the large turnarounds theres one in the VCM plant that occurs every three years. It will occur in the second quarter of next year and that will all other things being equal make turnaround costs higher next year than this year.
Thank you.
Our next question comes from Frank Mitsch from Me I'm Research Frank. Please proceed.
Thank you and congrats on the Lake City contract.
John interesting factoid on the chlorine customer not buying anything for four weeks starting in September .
Wondering what.
Okay.
Our one end market that was and do we have to go back to like the only nine timeframe for the last time you saw that occur.
That is the longest outage from that type of customer we've seen since 2000 at the end of 2008. So yes, you do have to go back that far I'd, rather not say where they came.
From.
But I would just take the opportunity to say we were moving along through the month of August last.
This past August with relatively high demand across the spectrum of what we're doing and it's like we hit a wall in September and.
That's what we're really.
Variances now things dropped off dramatically and they've stayed down.
As a pill today anyway.
Okay, that's helpful and yes.
And discussing not just a customer inventories, but I'm more curious on caustic soda side in terms of producer inventory levels. We heard that they were somewhat elevated can you talk about.
How that trended how do you believe that trended through the third quarter aware producer inventory levels are.
Caustic here today.
I would say that I don't feel qualified to comment on that competitors or the other participants in the market I would tell you that as we sit today our classic inventory is.
Equal to or slightly below our normal levels.
Okay and was it above it during the during the third quarter and you've been able to worked that down is that is that the way that we should think about that.
We've had as we've had a series of term was our third we built a little bit of inventory in the third quarter, because we have a series of turnarounds that are going.
Going on early in the fourth quarter, those turnarounds of had the effect of bringing inventory levels below normal.
Terrific. Thank you.
Our next question comes from Neel Kumar of Morgan Stanley Neil. Please proceed.
Thanks, I'm just wondering if you can give any preliminary expectations on how to think about 2020 EBITDA given the softness for seen that man you think it's fair to think about it as annualized fourth quarter EBITDA expectations, plus perhaps a quarter and then you.
Ancestor contract.
What I would say is we intend to give for full year 2020, when we report our fourth quarter earnings.
I would just go back to the comment I made to Frank about how.
The strong this slowdown was and I would say based on that and the ability of this industry to move.
Very rapidly one way or the other it would be imprudent to really give 2020 guidance at this moment.
Okay.
And then I just was wondering what you can you talk about what you're seeing in terms of the easy market going forward.
Seems at prices started strengthened a bit in October so just curious to what you're seeing that market.
Daniel This this is Jim.
Any see I think it at the last call. What we said was that we expected LDC demand to continue fairly solid in the third quarter, we did see that.
Prices did come down.
As we expected and we mentioned that we were going to be buffered from.
Good bit of that movement and we in fact did see that so.
The third quarter heading into fourth quarter. There is there has been still some pressure on 80 see prices to the downward side.
But you're correct in your observation that here in the last few weeks, we've actually seen some movement to the upside on DTC.
And as I have spoken before we often times CDC demand pickup as people start to restock in the fourth quarter.
So.
What will have to see where the rest of the quarter takes us in terms of pricing, but we would expect to see some increased volume.
In the latter part of the quarter.
Okay all right. Thank you.
Our next question comes from Michael I'd have Barclays, Mike Uh Huh.
Thanks, Good morning, guys.
If we weren't just flatline pricing for your key products right now what would the year over year EBITDA head wouldn't be next year versus this year.
Hi, I don't think we want to I don't know what flatlining.
Means.
It will move you want to flat line at this moment I would say if we just took third quarter levels and just random straight.
Yes.
I don't have that calculation I would prefer to answer that with more information.
Fair enough.
And then on cash flow I think slide 12 is helpful to think about 2021, but if we were to just bridge from 29 team to 20 for free cash we'll pick whatever level of earnings next year, but just agnostic of that how should we think about the change in cash calls next year versus.
What we have this year and 29 team.
Well, we've talked about a couple things that are what I would call one time cash flow Todd talked in his remarks about the ethylene.
We also talked about the bond call, there's a premium to be paid on that and we talked about the need there was an earlier question to fund cat working.
Capital at Winchester.
That said.
I would expect given the environment. We're in that you will see lower capital spending for us next year and.
If the business stays where it is we should see working capital ex the Lake City thing be a positive for us next year.
Yes.
Got it thank you.
Our next question comes from Eric feature a century city.
City Eric Please proceed.
Hi, good morning.
Hi, good morning.
It seems the alumina industry is oversupplied with recent producer announcements to review capacity is this impacted you at all and have you.
Saying that this slowdown in industrial production customers for caustic switch more to spot first this contract.
As I mentioned before Eric.
This is Jim.
I mentioned before we have seen weakness in the market and I think the best the alumina market I think.
The best indicator of that it actually is the pricing and the price declines that have taken place in that market with the come off.
All the way down into the they'll on these are way down into levels that they haven't seen in several years. So.
That it would indicate that the weak demand.
As far as individual capacities in in a.
Lumina and so forth.
I think I think you'd have to speak to them about what's the right sizing whether capacity needs to come off we have seen weaker demand coming out of the out of the illumina.
And then the sector, but.
To your comment about.
Spot or whatever.
Hey spot caustic.
Pricing and so forth.
And and spot versus contract.
I would say, we haven't seen a significant change in the in the action.
In that industry.
Helpful and secondly, how much of your proxy that <unk> volumes are index raw materials.
Index to raw material.
Yes.
Jeff. This is said sorry, Erik this is Pat but the indexing very little quite frankly, most of the indexing, where we index to raw materials is in our upstream.
Things like benzene and propylene so benzene, we can pretty much immediately.
Offsetting any changes there.
And our upstream.
Very little indexing gets done in the midstream and downstream parts of our portfolio.
Thank you.
Alright question comes from Jeff Jeff.
So the caucus JP Morgan Jeff. Please proceed.
Thanks very much.
What south American demand for caustic been like for you. If you look at third quarter end compared to the second.
Jeff This.
As Jim demand in Latin America has declined in the third quarter Latin America had been a very strong growth area over the past couple of years again.
I would focus on pulp and paper in aluminum markets, which which drive Latin America and growth and specifically Brazilian growth and those have been.
Have been softer and so we have seen the same things.
Latin America as we've seen enough.
Perspective to those two sectors.
Hi.
In thinking through the last few conference calls.
I think when we began 2019.
There was a general optimism around caustic prices and.
Obviously.
Caustic prices thats been weak.
When you think through.
The the change from a more optimistic approach to it to a less optimistic one do you.
I think thats the major factors were really and paper and alumina or do you think that the factors or wider than not leading to the weakness in caustic prices.
I think there much wider than just those two sectors I I really think that when you look at the whether you want to call. It an economic malaise, though the impact of trade.
There is uncertainty around Brexit and so forth I think that's weighing across a variety of different industries and it backstop into what we're seeing clearly pulp and paper in a little not alumina.
Have seen declines and we have we have a tendency to highlight those because they're larger and you segments.
But at the end of the day I think it's.
Broader decline and I think that's also why we say we saw the significant drop off in the middle of the third quarter. There was an awful lot of a negative economic data and so forth and forecast that came out during that period and I think that affect effected the mindsets of many of our customers.
Okay. Thanks.
Very much.
Our next question comes from Hassan Omar.
Alembic Global Hassan. Please proceed.
Again, and again a in your prepared remarks, I keep hearing that there's no incremental capacity on the horizon.
But over the last couple of weeks you know certain reports have popped up that can overseas Blair may invest as much as $3 billion in the U.S.
Well that's a.
Fairly integrated color line those facility. So how are you I mean have you had similar things and how should we be thinking about that.
Hi, Sean This is Jim I think the way to think about capacity and the future capacity I think what we've consistently said is that we believe over the long term that demand.
For caustic products will outstrip.
The capacity that's being added I don't think any Billy anybody believes that there won't be some incremental capacity or even longer term. There maybe some larger capacity that will be added at some point in time, what we've said is that demand will outstrip capacity additions.
And that right now reinvestment economics are not did not exist on a large world scale integrated facility. So I think you know suppliers in various whether they PVC producers or integrated players.
Continuously evaluate when and if the most opportune time might be.
To invest.
I think thats, an ongoing process, but we firmly believe that.
This imbalance between growth and capacity will continue for some period.
And there was probably there was something published about and overseas producer, adding capacity in North America, but that was capacity.
With PVC, some chlor alkali with a targeted date of installation of 2025 to 2026.
And it was relatively small amount when you look at an 80 million ton market that if it grows would happen that was.
Hi, less than half.
Of 1% of the.
The GDP mark or the classic market so.
Understood very helpful and just sticking to the de supply side.
You know and.
During sort of the course of Q3 earnings you know some of the companies reporting absorbed.
About.
You know increased you know in biomedical sort of inspections in the like in China are you hearing similar things a you know within total vinyls are you hearing with any curtailments in China based off of off of these sort of inspections and the like.
Hi, sorry.
This is a pad certainly you've seen a lot of volatility over the past year in China.
Around these environmental issues in a policy and specifically in epichlorohydrin.
So you know this volatility continues to persist around these supply disruptions and that has led to.
Happy prices going up 40% year over year now it's important to keep in mind that very little happy lead China, because it's just not cost effective and and.
Only kind of comes out is happy prices go up.
Outside of China. So.
What is 40% year over year increases dine in China.
Unhappy it's now caused Kelly our prices in China over the past a 30 to 45 days to go up.
Significantly and that actually prices for LCR in China are now about $500 at 10 higher and outside of China.
And so if this arbitrage persists and you know there will be increased LCR imports.
Into China from producers, probably primarily north East Asia, but at many parts of the world. So I think this could bode well for fraley, our pricing around the world.
And of course, a sound we tell.
Some of the.
Same movie before in late 17, and 18, which led to alley, our prices not just going up in China, but a in other parts the world as well so stay tuned the environmental issues continue to persist and it definitely continues to impact.
Yes, both chlor alkali and a proxy.
Ah capacity.
Very helpful. Thank you so much.
Our next question comes from likes the song of Wells Fargo. Mike. Please proceed.
Hey, good morning, but let me think about slide six and and you go back to the last downturn in 15 16 for industrial demand.
Contract North American contract prices were similar to spot and.
And now you know spots a lot lower and contracts what is little bit higher so they do you think.
Contract will sort of follow suit with spot or does the spot come up or how does that dynamic kind of.
Unfold over the next couple of quarters do you think.
Mike This is Jim.
I think that as long as a as fighter spot an export prices remained below the contract there their contract prices there will be some some pull down on those prices just because.
You know that that's the tradeoff that that companies make having said that however.
We still believe.
In the fundamentals of this marketplace and we're still getting a lot of request from from a contract standpoint.
Where customers continue to be focused on security of supply and so forth. So we believe that the we're not going to see dive off here in terms of the contract but.
Because of that security is.
Supply and so we think that it's going to continue to domain maintain this spread and in fact, you know the first thing that will move when we have them go to the upside is the export in the spot pricing and it can be fairly dramatically as as obviously you see on this chart.
Right and then just could you maybe just.
Give us where you think I'm operating rates are for North American you know spot export market is now and maybe where it was over the last year just to give us perspective of and you know where we're sort of that.
Well from an operating rate standpoint, I think the most recent operating rate was.
Uh huh.
84%.
Which was a significant decline from 92%.
In the previous month.
I think what you see over the course of the year is that were about 1% to 2% percentage points lower this year than last year in terms of operating rate.
September drop off there were a very significant amount of turnarounds that affected that that operating rate.
So 1% to 2% less lower than last year is what we're seeing from an operating rate standpoint.
Great. Thank you.
Right.
Our next question comes from Matthew Blair.
Tudor Pickering Holt Matthew Please proceed.
Hey, good morning, everyone on the last call I think you talked about expectations for pretty strong volumes in the back half a 2019 and I just wanted to clarify is that still.
No occurring and it's just the pricing has come off or are you also seen you know there this week demand environment pressure your volumes as well.
This demand environment that we based our second half outlook on when we had the conference call on August has.
Materialize as I said it to answer an earlier question sometime in September we saw a pretty significant slowdown in demand pretty much across the chemicals portfolio.
So what is impacting us today is a combination of weaker demand and weaker pricing some of which the pricing.
As the demand obviously.
Makes sense. Some in slide 20 shows chlorine price is holding steady, but some of the derivatives like Hcl and chlorinated organics or our soon price declines just hoping you could provide some commentary on this dynamic and when this happens are you able to.
I would just your production slate to them I guess minimize some of the downside.
What I would say on on the core on each of those there's a discrete market around.
Selling chlorine as a merchant product selling chlorinated organics, which is a global product and selling Hcl, which is.
North American product.
And we do.
We do toggle back and forth.
Across the entire portfolio, which includes EDI C, which includes a proxy resins.
According to where pricing is and where demand is for all three and that's kind of how.
We manage it if you look at just a simple tradeoff in Hcl for the last probably a year or so has had pricing higher than the merchant chlorine market, we would favor, making hcl versus merchant chlorine.
Merchant chlorine has held relatively steady that's positive.
And there might be a moment now where we would favor that over some chlorinated organics products.
Sounds good thanks.
Our next question comes from Steve Byrne.
Bank of America, Steve. Please proceed.
Yes. Thank you.
Several of your large petrochemical peers do not provide specific earnings guidance, just reflecting uncertainty in commodity pricing.
Just would like to hear your view.
On on your level of commitment to continuing just the level of detail you provide.
That's something we evaluate and on an annual basis.
And it varies.
It has evolved over time, when we were a smaller company with.
Prior to the Dow acquisition.
We had a different view there and we're doing something different now than we did then and it just continues to evolve.
Okay Fair enough. Thank you John .
I did want to ask you about your view of you have your competitors in apart for your Rosen's do you have an estimate of what fraction of your your proxy Rosen.
Cutters are back integrated into benzene and propylene.
And how much.
Those raw materials do you have long term supply agreements for.
Yeah. So see this is Pat I mean first of all no one none of the epoxy.
Competitors are backed integrated into the hydrocarbons in the benzene and propylene.
So.
Pretty clear quite quite frankly.
Very few of our competitors.
Actually I only I think we're the only wine.
It's fully back integrated into Chlor alkali.
And now you know, we but we use both chlorine.
And caustic and and net liberate or of caustic soda.
When we're making or epichlorohydrin so.
We had the best integrate position than anyone out there and.
You know people like Huntsman are.
We have moved really downstream and are no longer really in the upstream or quite frankly the midstream.
So I hope that answers your question.
Yes. Thank you.
Our next question comes from a room.
Just one awesome.
Of RBC capital <unk>. Please proceed.
Great. Thanks, Good morning, guys. Yeah, just wanted to cast back on the on the caustic price kind of evolution and outlook.
So I think going into Q4.
For the thought was that operating rates would come down on the chlorine side and that would support you know potentially some pricing on caustic.
I guess, a I guess, what you're communicating is that did happen, but the demand and caustic has been a materially weaker than you expected and so we are in a little bit of a state of.
Supply and in caustic my question is.
I'm, assuming that the pricing doesn't necessarily go up in Q4.
Usually when we enter Q1 in Q2, you know, we see a tick back up in operating rates and potentially that would.
No further you know prevent pricing progress.
So.
Is that kind of your base case for the progression is over the next quarter to that you know pricing will remain muted and if so is demand improvement in caustic. The main driver of what's going to drive a you know that's slightly better caustic pricing.
<unk>.
I would come back to just to start the basic issue for our core alkali producer is not necessarily the absolute demand for Korean or caustic, but that man for one relative to the other.
So to answer your question, we would have to make.
Or establish the premise of what happens to chlorine demand. We are seeing as I gave the example of a large Korean customer not.
Buying any chlorine for four weeks earlier.
Earlier this quarter.
We are seeing chlorine demand slowed down also we talked about that as it related to coordinate or.
Got it and some other things I don't know that we see clearly enough right now to know what's going to happen I think I don't think chlorine demand is that much greater than caustic demand it doesn't feel that way to us and if we had a couple percentage point decline in operating rate more than what we see in the fourth quarter.
Moving over into the first quarter, you could see caustic prices move up somewhat.
I think we're sort of on what I'll call the edge of.
Balancing imbalance.
And then just as a follow up so if you look at your three businesses you've laid out the a the incremental improvement that could happen.
And then Winchester a relatively clearly so we can understand that I guess chlor alkali as you just pointed out it's going to depend on a chlorine caustic demand.
And assuming those and may be driven by a construction and industrial production and then I guess, what about epoxy I guess you know if you think about.
The drivers from year, you'd mentioned kind of a 250 million level of normalized EBITDA in the past is there is there a you know a path to that still that you lay out in 2020 or 2021.
Yeah, I think a this is Pat again.
Clearly yeah, we're very confident that.
There's a path to 250 300 million in a policy and the real drivers to that.
You know is around the demand side first of all and historically demand in a proxy is has grown around 3% I mean this year, we see growth.
Flat and best you know Europe .
The second largest apoc C market in the World has been flat since the middle of 18 so.
No question, we need to see that demand come back and his whole industrial.
Funk that we we have seen hitting us as really impacted the demand for a pocket.
Certainly centered around what's happened in automotive electronics and industrial coatings, So we need to see demand come back, but as we outlined at the February investors.
Discussion you got operating rates today, and happy and liquid epoxy resins in the mid to high Eightys and so if we just get some demand coming back we think we're.
In a good position and our cost position and we think we're in a good position to to grow and expand these margins.
Through volume increases here over the next several years.
Okay, Great and then just lastly, just wanted to pick up come back to the a the idea of new capacity.
You know again it does appear that there are several players who are looking at building some extra coral vinyls capacity here there has been some installations and a lot of ethylene here and so just wondering you know at one point you know would you expect new capacity announcements well what is it going to take as it's going.
To take a much better caustic pricing environment.
You know some some improved Oh, you know environment on the on the marine side and ethylene and so I guess, an implicit in your assumption that there's not going to be much capacity build it built would that also imply that the pricing.
For for these products is gonna stay relatively muted. Thanks.
I think the biggest two factors that you have to look at is what's the price of PVC and what's the price of caustic and right now neither of them are anywhere close to what it would take to justify a significant investment in the entire.
Core of Vinyls chain.
At least through PVC and depending on who it is maybe through ethylene.
So.
I think you and I you know we showed a slide back in February that showed where a long way from where reinvestment economics are for those today.
Okay, great. Thanks.
Our next question comes from John Roberts of Yes, John Please proceed.
Thank you back on Lake City, a lot's been going on with a T.K. since its orbital deal and that is Northrop Grumman deal did it become noncore for them I'm just trying to get a sense is how competitive the bidding was.
Well, what it was that allowed all into when this back after so many years.
John to the best to my knowledge H.T.K. was not a better for the contract.
I believe.
Other bidders were general dynamics, and Northrop Grumman and I think the orbital business is actually today sitting in Northrop Grumman.
Right, that's what I meant it with with Stephens. They offer it went through orbital Didnt Northrop Grumman, but they did they didnt bid to keep it then.
It did to keep it yes, okay.
And then do you think IMO 2020 could increase export caustic needy sea freight costs here and maybe result in a little.
But lower net backs as we get into next year.
Hi, This is Jim I wouldn't expect it to have a major impact there may be some some demand, but we it's probably going to the small enough that we may have a hard time finding it but.
Take anything to deposit is but I don't think it's going to be a big intact.
No I.
I was asking whether your freight costs would go up.
Therefore, maybe the net backs be a little bit lower I don't think thats going to dry freight costs. So okay. Thank you.
Our next question comes from Travis I've worked with Goldman Sachs. Travis. Please proceed.
Hi, good.
Morning, two quick questions of clarification for me first on free cash flow next year, you provided a little bit of detail on somebody elements impacting that.
But as you think about the upcoming ethylene payments Dal, if you're generating cash maybe bug buying back shares Opportunistically are you plenty to address that payment just using cash on the balance sheet or you think you'll have to pull down a bit on the revolver.
I would say at this point, we haven't given any guidance on what we intend to do there.
Got it. Thank you second question is on the Lake City contract.
You touched on this a bit on their prepared remarks, but again just a question of clarification is there any sort of sensitivity to that 40 to 50 million of incremental EBITDA.
Is there any.
Possible changes to the to the contract to sell for the that being the volume or price or side between now and when you take over.
Well the <unk> the majority of that business is the government's business and they have a pretty good idea.
We had our winning proposal the prices that we bid were based on a on a set.
Volumes that they're sort of obligated to buy.
So I think.
That's a positive theres an ability to use that facility commercially which I would tell you has a high degree of probability because we've been in that commercial market for 150 years.
So I feel that.
There's a relatively small deviation around those numbers.
Got it congrats on the way to think should we would have a lot of a horn and we're there to be a change.
Got it appreciate it thank you.
[noise] that's there no further questions. This concludes our question and answer session I would now let's turn the conference back over to John Fischer for any closing remarks as thank you all for joining us today, and we look forward to talking to again, when we review our fourth quarter 2019 results.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
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