
Schnitzer Steel Industries (SCHN) Q1 2019 Earnings Call Transcript
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Earnings Call Transcript
Operator: Good day, ladies and gentlemen, and welcome to Schnitzer Steel's First Quarter 2019 Earnings Release Call and Webcast. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, today's program is being recorded. And now I would like to introduce your host for today's program, Mr.
Michael Bennett, Investor Relations. Please go ahead sir.
Michael Bennett: Thank you, Jonathan. Good morning. I am Michael Bennett, the company's Senior Director of Investor Relations.
I'm happy to welcome you to Schnitzer Steel's earnings presentation for the first quarter of fiscal 2019. In addition to today's audio comments, we have issued our press release and posted a set of slides, both of which you can access on our website at www.schnitzersteel.com or www.schn.com. Before we get started, let me call your attention to the detailed Safe Harbor statements on Slide 2, which is also included in our press release and in the company's Form 10-Q, which will be filed later today. As we note in Slide 2, we may make forward-looking statements on our call today, such as our statements about our outlook, targets for growth and future margin expansion. Our actual results may differ materially from those projected in our forward-looking statements.
Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in Slide 2, as well as our press release of today and our Form 10-Q. Please note that we will be discussing some non-GAAP measures during our presentation today. We have included a reconciliation of those metrics to GAAP in the appendix to our slide presentation. Now, let me turn the call over to Tamara Lundgren, our Chief Executive Officer. She will host the call today with Richard Peach, our Chief Financial Officer and Chief of Corporate Operations.
Tamara Lundgren: Thank you, Michael, good morning everyone. Thank you all for joining us on our first quarter fiscal 2019 conference call. We appreciate your interest in our company, and we look forward to sharing our results with you this morning. On our call today, I'll review the highlights of our quarterly performance, the market and macroeconomic trends underlying each of our businesses, and new productivity initiatives we are implementing to address current market conditions. Richard will then provide more details on our segment performance and our capital structure and I'll wrap up, and then we'll take your questions.
So let's turn now to Slide 4 to get started. Earlier this morning we announced our fiscal 2019 first quarter adjusted earnings per share of $0.58, our highest first quarter performance since fiscal 2011. Both divisions delivered strong operating results and I'd like to start this morning by mentioning a few of their key accomplishments. First, CSS delivered its best first quarter performance since fiscal 2008 with operating income up by 41% year-over-year. This was achieved despite an adverse impact from a third-party gas pipeline interruption as well as downtime related to the implementation of mill upgrades aimed at improving productivity.
Second, in challenging market conditions that saw a significant decline in the net selling prices for our nonferrous products, AMR delivered solid year-over-year performance with a 15% increase in ferrous volumes and an 18% increase in nonferrous volumes demonstrating the benefits of our sales diversification strategy and our commercial initiatives to expand our supply channels. And third, our strong balance sheet enabled us to continue to invest in our company's growth and return capital to our shareholders through both the repurchase of 150,000 shares of our common stock and the issuance of our 99th consecutive quarterly dividend. Our results in the quarter did, however, reflect the adverse impact from compressed margins primarily due to a significant decline in nonferrous prices as well as diverging export and domestic ferrous prices that occurred towards the end of the quarter. The ferrous and nonferrous export markets have been adversely impacted over the past six months by uncertainty surrounding tariff and nontariff barriers, regulatory changes in China, and expectations of slower economic growth, all of which have led to lower prices. The benefits from the productivity initiatives we implemented over the last several years together with the operating leverage we have created through our focus on expanding our supply channels and increasing our sales volumes have enabled us to partially offset these headwinds.
Last quarter, we announced a productivity initiative aimed at delivering $10 million in benefits in fiscal '19. We are expanding that target to $35 million, which includes $25 million of new productivity initiatives to mitigate the weaker price environment in the ferrous and nonferrous markets. Let's turn now to Slide 5 to review the ferrous and nonferrous market trends and conditions. During most of the quarter, export ferrous prices were on an upward trend, but began to weaken in November. Since the end of the quarter, ferrous export prices have continued to decline dropping between $30 and $40 per ton depending on destination.
Most recently reported export prices are in the range of $280 per ton off the East Coast and slightly above $300 per ton off the West Coast. In contrast to the export markets, domestic demand for ferrous scrap remained strong through the first quarter. This led to a significant divergence in export and domestic ferrous scrap prices, creating pressure on purchase prices and compressing margins. Since the end of the quarter, however, domestic prices have fallen sharply influenced by the weaker export markets. Looking at nonferrous, after an initial uptick in Zorba prices during the first part of the quarter, the market weakened with average nonferrous prices during the quarter falling 19% year-over-year.
The nonferrous markets have been primarily influenced by Chinese import restrictions, tariff, and nontariff barriers and softer end product demand including weaker auto sales in China and the rest of Asia. Price fluctuations in ferrous and nonferrous scrap are nothing new, and we are experienced in managing what we can control to mitigate as much as possible the adverse impacts from price volatility so that we are positioned to benefit from the longer term drivers of scrap demand. So let's turn now to Slide 6 for a deeper dive into these longer term trends. Demand for scrap has been underpinned by several trends, including the increased focus on the environmental impact from steelmaking, the wide-ranging objective to lower greenhouse gas emissions, and the economic and environmental benefits of reducing energy consumption. We can see how these trends have been translated into higher scrap usage by looking at the chart in the upper left-hand corner of this slide.
As the chart shows, steel scrap usage has significantly outpaced the growth in crude steel production through the first six months of calendar year 2018 in some of the largest steel manufacturing countries including China, the U.S., Japan, Turkey, and Russia. Equally as important, the share of global steel production from electric arc furnaces continues to grow even in China. By 2025, Chinese steel production from EAF is expected to double compared to 2017, and China is aiming to increase its ratio of scrap consumption and steelmaking by 50% from current scrap input estimates of 20%. While U.S. ferrous scrap export levels have not yet been reported for calendar year 2018, global demand for ferrous scrap is projected to be high.
Through October 2018, U.S. ferrous exports had increased by 21%. Although exports eased towards the end of the year primarily due to Turkey stepping back as its rebar market softened, U.S. exports should show significant full year growth. Now, let's turn to Slide 7 for a review of our nonferrous volumes and destinations.
As the top chart shows, we continue to find new outlets for nonferrous material which has been displaced due to Chinese import restrictions. Demand for nonferrous material has shifted to countries such as India, Japan, South Korea, Malaysia, Taiwan, and Thailand, which have largely been able to offset the drop in China's imports of nonferrous scrap from the U.S. In the first quarter we shipped almost 75% of our nonferrous product to countries other than China. The success of our sales diversification strategy can be seen in our increased volumes. In the first quarter, AMR's nonferrous sales volumes increased by 18% year-over-year.
We're also utilizing a balanced approach to product mix which aims to mitigate as much as possible adverse fluctuations in nonferrous pricing and demand. In late December, the Chinese Government announced that beginning July 1, 2019 new regulations will recharacterize certain scrap from solid waste scrap to raw or furnace ready materials. This change should allow China to deliver on its proposed 2020 solid waste import band [ph] while still allowing Chinese industry to import needed clean grades of scrap. Although more clarity on the new regulations are required, our initial view is that this could be positive for recyclers like ourselves who produce high quality products. Let's turn now to Slide 8 to discuss our ferrous and nonferrous strategic priorities.
Our ferrous and nonferrous strategic initiatives are focused on three main pillars; expanding our margins, deploying our capital to further grow our business, and increasing our volume. Clearly Q1 reflected a softening price environment driven by continued uncertainty regarding trade, moderating global growth, and regulatory disruptions. As a result, we took action to identify an additional $25 million of productivity improvement measures which are on top of the previously identified $10 million we announced last quarter. We expect approximately two thirds of the benefits from these measures to be realized in fiscal '19 with the remaining one third in fiscal '20. A second pillar of our strategy is to expand the nonferrous products that we offer to our customers.
We are focused on increasing the efficiency of our processes to produce quality products on a cost-effective basis. We expect to roll out advances to our nonferrous processing systems that will enable us to increase our throughput, lower our processing costs, increase recovery rates, and create product optionality to meet our customers' needs around the world. We expect to begin implementation of these new technologies during fiscal '19 with the full-year run rate benefits by the end of fiscal 2020. We also continue to focus on our third strategic objective to grow our annual ferrous volumes to 5 million tons companywide. Our run rate over the past 12 months is 4.5 million tons.
Our success in growing our volumes over the last three years has been driven by a dedicated focus on commercial initiatives, including analytics to expand our customer base and supply channels and logistics to enable us to expand our market access, supported by positive market conditions. Political, economic, and regulatory uncertainties could of course impact the timing and trajectory of this goal. So now, let's turn to Slide 9 for a review of the trends in the finished steel markets. During the first quarter, the U.S. long products market continued to remain strong.
Average domestic rebar pricing in the quarter was up almost 30% year-over-year supported by strong GDP growth and broad-based demand across multiple industry sectors, including transport, energy, and constructions. Rebar to scrap metal spreads remain at the highest levels that we have seen in the past eight years. Lower imports have also continued to benefit domestic utilizations and pricings. We expect CSS to continue to benefit from these positive macro economic and market conditions. Now, I'll turn the presentation over to Richard for a more detailed review of our financial performance and our capital structure.
Richard Peach: Thank you, Tamara and good morning everyone. I'll start off with a review of AMR's performance. In the first quarter, AMR's adjusted operating income was $23 million which represented adjusted operating income per ferrous ton of $25. In challenging market conditions AMR achieved strong volume growth year-over-year with these benefits partially offsetting the adverse impact of significantly lower selling prices for Zorba and other nonferrous products. Our ferrous sales volumes were up 15% and nonferrous sales volumes were up 18% compared to the first quarter of last year.
We continued to benefit from our sales diversification strategy, our strong relationships, the quality of our products, and our commercial initiatives to increase supply flows. Average ferrous net selling prices in the first quarter were up 5% year-over-year and down 5% on a sequential basis. Average nonferrous selling prices increased significantly by 19% year-over-year and were down by 14% on a sequential basis. The primary driver of the nonferrous price weakness was import restrictions to China and while we were successful in diversifying sales volumes to other countries, the fall in selling prices outpace the reduction in purchase costs for scrap which led to margin compression both sequentially and year-over-year. Average inventory accounting had a neutral impact in the first quarter which was consistent with the same period last year and compared to an adverse impact of $2 million in the fourth quarter of fiscal '18.
Over the last four quarters we have shipped ferrous and nonferrous products to 24 countries. The flexibility of our operating platform also enables us to increase the percentage of ferrous sales to the domestic market when economically advantageous to do so. Sales to the domestic market in the first quarter increased to 57% of the higher year-over-year AMR sales volumes and this compared to 50% in the first quarter of last year. We continue to focus on actions that management can control and on pulling all available levers to maximize our performance. In light of lower Zorba prices and weaker market conditions for ferrous we are now targeting $27 million in annual productivity improvements in AMR which represents the equivalent of $7 per ton based on AMR's ferrous sales volumes in fiscal '18.
Of that total we expect AMR to achieve benefits of $16 million [ph] in the remainder of fiscal 2019. These new AMR productivity improvements will be split 90% coming from production efficiencies and cost of goods sold and 10% in SG&A. Now before going over our outlook for AMR for the second quarter, I want to provide further qualification on the drivers of the current challenges within our markets. The levers that management can pull on and other market dynamics we are watching for improvement, there are three major market factors which are currently impacting our margins. First, the market prices for Zorba have fallen by almost a third since China enforced tariffs on scrap aluminum in the spring of 2018.
As we currently sell over 200 million tons of Zorbo annually, this reduction in prices is impacting our margins by $10 to $15 per ton across all of AMR's ferrous tons. Second, in the ferrous market there is currently a divergence between domestic and export prices for recycled metals with domestic trading approximately $40 per ton higher than export of the East Coast. As we purchase scrap in the U.S. the higher domestic market is currently compressing margins on our export sales of ferrous. And third, the drop in scrap markets is adversely impacting our auto business because car costs for end-of-life vehicles are less elastic and tend to lack the reduction in selling prices for recycled metals.
As we are currently purchasing in the range of 90,000 end-of-life vehicles per quarter, this in elasticity is adversely impacting AMR's operating income per ton by somewhere around $5 per ton. In combination, these three factors which at a minimum are impacting our margins by $15 to $20 per ton have created a strong market headwind which has materially impacted our margins compute our average for fiscal 2018 which was $45 per ton. In terms of the levers we are pulling and actions that management can control, AMR's new productivity initiatives are expected to create a benefit of $7 dollars per ton when the initiatives are fully implemented. Combined with more stable market conditions and even at current price levels, this will create an opportunity for AMR performance to exceed $30 per ton. We are also advancing plans to make further investments in nonferrous technology.
We currently expect these investments to be in the range of $40 million to $50 million split over fiscal 2019 and 2020 and to return well in excess of our cost of capital. When implemented, we anticipate benefits from additional throughput enhancement of our products and reductions to our processing costs all of which provide a further opportunity for margin improvements. Beyond actions that management can control we are also closely watching for market improvement in the following four areas. First, resolution of current tariff uncertainties between the U.S. and countries which represent significant demand for scrap.
Second, regulatory changes which can benefit scrap markets such as recent announcements from China on reclassification of higher quality metal products. Third, domestic and export markets for ferrous scrap moving back into equilibrium consistent with historical norms and fourthly normalization of spreads between purchase cost for end-of-life vehicles and selling prices for recycled metals. Now, turning to the outlook for the second quarter, despite weaker markets, AMR's ferrous volumes are still expected to approximate last year's second quarter and nonferrous volumes are expected to be up by over 5% on a year-over-year basis. We anticipate AMR's operating income for ferrous tons will be lower than the first quarter reflecting an estimated $3 per ton negative impact from average inventory accounting. Now, let's move to Slide 11 and discuss Cascade Steel and Scrap.
CSS first quarter operating income was $12 million an increase of 41% compared to the prior year quarter. CSS benefited from expanded metal spreads for finished steel as increased selling prices year-over-year outpaced the increase in the cost of steelmaking raw materials and other consumables. West Coast demand for finished steel products remained steady and imports are low due to trade actions. The first quarter for CSS also benefited from higher ferrous sales volumes year-over-year for exports to third party customers. Finished steel sales volumes were down by 6% both sequentially and year-over-year.
This was primarily due to lower production resulting from a combination of a temporary disruption to a major external natural gas pipeline and downtime related to the implementation of mill equipment upgrades and improving productivity. The adverse impact of the disruption to natural gas supply was $1 million in the quarter. Due to the downtime, rolling mill utilization of 87% was down year-over-year, but still up on a sequential basis. Average selling prices for finished steel were higher by 25% year-over-year, which reflected the steady West Coast market environment, the reduced pressure from imports and the higher cost of raw materials and other steelmaking inputs including graphite electrodes. A strong focus on productivity continues at CSS with targeted annual improvements to cost of goods sold of $5 million from production efficiencies.
This goal is part of our overall companywide productivity target of $35 million and we expect to deliver all of the CSS benefits during fiscal year 2019. Looking ahead to the second quarter, we expect finished steels sales volumes to approximate the first quarter. Operating income in the second quarter is expected to be approximately 50% higher than last year's second quarter, but lower than the first quarter of fiscal 2019 due to normal planned downtime which took place over the holiday period. Moving on, let's proceed to Slide 12 to review our capital structure. Operating cash flow in the first quarter was negative by $12 million which was mainly due to the payout of fiscal '18 bonuses which occurs each year and early November and the timing of shipments at the end of the quarter which resulted in the collection of receivables occurring after the quarter end.
Together, these two factors more than offset the positive cash generated from our profitable operating performance. Looking ahead, we expect a return to positive operating cash flow for fiscal second quarter. Capital expenditures in the first quarter totaled $27 million. This includes a combination on normal spending on maintaining the business, upgrades and replacement of frontline mobile equipment and significant spend on major environmental capital projects. In fiscal '19 as a whole, we currently expect to invest up to $100 million in capital expenditures, including additional investments in nonferrous processing technology.
Net debt increased by $54 million sequentially, but decreased $19 million year-over-year. Our balance sheet remains strong with leverage of 19% and a net debt to adjusted EBITDA ratio of only 0.8x. Turning to corporate items, corporate costs in the first quarter were $12 million, a $4 million decrease compared to the same period of the prior year, which included a charge of $4 million for a legacy environmental liability. As part of our productivity initiatives, we are targeting a $3 million annual reduction to current quarterly run rates on corporate expense all of which will benefit SG&A. Looking ahead to the second quarter, we expect corporate cost to be less than the first quarter by $2 million.
Our effective tax rate in the first quarter was an expense of 20% which included a discrete tax benefit associated with higher tax deductions for share based compensation. Our expected tax rate for the remainder of the year is 23%, although our actual tax rate will be subject to a level financial performance and other relevant factors. I'll now turn the presentation back over to Tamara.
Tamara Lundgren: Thank you, Richard. In mid December we issued our fifth sustainability report which shares our progress across five areas; integrity, ethics and compliance, safety health and wellness, diversity, inclusion and cultural awareness, community engagement and partnerships, and environmental performance and protection.
The report also describes the multi-year progress we have made in lowering our carbon emissions, energy consumption, water usage and process waste generated on a per ton basis. We estimate that based on our ferrous scrap volumes in fiscal '18 over 4 million metric tons of CO2 emissions were avoided compared to the use of new iron ore to manufacture steel. This is the equivalent of taking more than 900,000 cars off the road for one year. The key performance indicators that are described in the report are also tracked against the global reporting initiative framework. As one of North America's largest metal recyclers, sustainability is at the core of what we do and how we operate.
Our commitment to sustainable business practices and further integration of sustainability throughout our operations are key components of our long term strategy. We invite you to visit our website and view our latest sustainability report. Let's turn now to our summary on Slide 14. As you've heard this morning, in the first quarter we delivered a strong set of financial results despite challenges in both the nonferrous and ferrous markets. Our performance can be attributed to the steps we have taken and steps which are currently underway to continually improve our business.
These measures include a strong focus on productivity, systems, operational excellence, sales diversification, expanded supply channels and generating synergies within our operations. Our balanced business model has led to a strong balance sheet which enables us to continue to invest in our business and return capital to our shareholders through our dividend and the repurchase of shares. In closing I'd like to thank our employees, many of whom I know are listening to our call this morning. Our performance is the direct result of your ability to drive best-in-class results without wavering from our core values of integrity, safety, environmental stewardship, quality and customer service. Each of you continues to meet our opportunities and challenges with dedication, commitment and results strengthening our company at every turn.
My thanks go to each of you as you've truly demonstrated why we have continued to be a leader in our communities and the recycling industry. Now operator, let's open up the call for questions.
Operator: [Operator Instructions] Our first question comes from the line of Matthew Korn from Goldman Sachs. Your question please?
Matthew Korn: Hi, good morning everyone. Thanks for taking my questions.
Tamara Lundgren: Good morning.
Matthew Korn: So I had a question on the productivity enhancements, on the new 25 million, the incremental 25 million in particular, can you elaborate a little bit more on what this will actually entail? Is this OpEx improvements you’re aiming for in the AMR from new automation, is it overhead, does this depend on reaching a certain level of volume throughput in AMR itself, that's where I'd like to start?
Richard Peach: Hi, good morning Matthew, it is Richard. Let me just go through the productivity initiatives. In AMR, we're looking to achieve the benefits that we’ve outlined from a variety of areas including production cost efficiencies, enhancing our asset management, reducing our outside services, and optimizing the use of logistics. And in CSS, the benefits will come from maintenance practices, improving our yields, enhancing our product quality, and use of alternative consumables and corporate is SG&A as you know.
So we've developed a detailed plan which underpins the numbers we’ve disclosed today and we feel as in the past we can successfully execute on this plan as we move forward.
Matthew Korn: Let me dig a little bit more into the investments that you're making in AMR, you outlined $100 million in capital spending for the coming year, what do you – what can you share on the specific technologies that you are, that you're actually putting this money into? Can you help us understand, is this the choppers, is this use of magnets, is it air currents, does it help sortings and help yields, is it something that there's headroom across all of your facilities to bring them up to kind of the state-of-the art processing ability? How do we think about what this money is actually going into, and what is that technological improvement, how much does that represent of that $100 million?
Richard Peach: Yes, Matthew, it’s Richard again. So we’ve said that we are going to be investing $40 million to $50 million, and split between fiscal '19 and fiscal '20. We expect the projects to start during fiscal '19 and that fiscal '20 will be a ramp up year and that we'll achieve the full run rate of benefits by the end of fiscal '20. At present what we can say is we expect returns well in excess of our cost of capital and we expect a short payback on the investments.
We also expect that we'll be deploying the technology in our major yards. Now this will be, likely a significant upgrade to our current nonferrous processing technology; and as we said in our prepared remarks, we are looking to get benefits from really four real areas here; increasing our throughput of nonferrous material, increasing the amount of recovery of nonferrous, reducing our processing cost, and increasing our optionality on the products we can make to meet the demand of our customers, so it really is a major upgrade for us.
Matthew Korn: I appreciate it, Richard, thanks for the clarity there. There is one more from me and this is, you spoke a lot about the market and the challenges in the market and then your responses in terms of flexibility, optionality, and quality. One thing where you've gotten successful has been in rotating from China as that market has changed and finding other homes for product.
I think I read in a couple reports, Reuters, Financial Times, the Vietnamese Government for example isn't particularly happy, I hear that some of the scrap spillover that they're receiving since China ranged -- they raised the threshold of what they'd accept. Is there, can you think about any risk there could be a cascade of barriers that emerge in other countries, perhaps politically, perhaps environmental reasons that would add difficulty here?
Tamara Lundgren: Thanks for the question Matthew. I think that one thing that has come through very clearly is that high-quality product from quality recyclers is in demand around the world and that's one of the things that I think is being reflected in the new regulations that China announced just a couple of weeks ago in December. So I think that there may well be countries who are resisting poor quality, higher waste content that is in the material that's being sent, but those concerns are not concerns that bother us because we've been very focused on selling high quality product to our customers.
Matthew Korn: Got it.
Thanks Tamara. Good luck folks.
Tamara Lundgren: Thank you.
Operator: Thank you. [Operator Instructions] Our next question comes from the line from Phil Gibbs from KeyBanc Capital Markets.
Your question please?
Phil Gibbs: Hey, good morning.
Tamara Lundgren: Good morning.
Phil Gibbs: So I just was noticing something here, so car purchase volumes were down almost 15% in AMR in the quarter versus last year, your ferrous sales volumes were obviously up very strongly 15%. I mean, I've expected historically that the purchase volumes and the sales volumes in the ferrous side align directionally; and just trying to understand here, if your business model at all has changed in the last several quarters. Have you moved into any sort of brokerage model with the international -- domestically with the international markets getting soft, just trying to understand that because I wouldn’t have expected your purchase volumes to be down that much and your sales volumes up by 15% it's definitely something to notice here?
Richard Peach: Yes, hi Phil, it’s Richard.
I can start with saying there is no change to the business model. I’ve explained in the prepared remarks, our auto part of the business is experiencing some compression currently because car purchase costs tend to temporarily lag changes in the scrap markets, and that's because the sellers of end-of-life vehicles tend to behave in a less elastic way than other scarp market players. And so, clearly we manage our car buying, and to enable the car purchase cost situation to catch up over time, and that's the primary reason for that, and that affects the amount of cars that we're buying and that's really what's going on there.
Phil Gibbs: So, I mean, I think you are saying though that you've changed your model and practices given the current conditions, I mean that's a pretty staggering difference between the one being down 13 and the one being up 15, so where are you procuring your scrap now relative to how you were procuring it year ago or a year and a half ago?
Richard Peach: No, there is no change to the business model. It has really to do with a difference in behaviors between and scrap market players for the markets vary a lot, tends to be more elastic and in the auto business where the sellers of end-of-life vehicles often don't have the same level of visibility that players in the scrap markets have.
So and it leads to a car purchase cost taking longer to adjust to changes in the scrap market, so it's more of a behavioral thing and not related to any change in our business model.
Phil Gibbs: No, I understand that part. I'm asking where would you be actually getting the feedstock that you're selling? I mean where are you getting more of your feedstock now that the mix has changed obviously versus what you're procuring from the market on the auto shred side, so where do we think you should be getting your flows from I guess?
Richard Peach: Well, we get our flows from a variety of scrap channels and that continues and that includes auctions and private parties and tool companies and that continues. And, but what's happening here as I said it's really to do with the length of time those channels take to adjust to changes in the scrap market which is impacting on the car flows. But I would also say that these end-of-life vehicles in terms of relative to our overall scrap volumes, 90,000 cars which is around maybe 150,000 tons is really only a single digit percentage from a scrap perspective overall ferrous scrap volumes in the quarter.
Phil Gibbs: Okay, well that makes more sense. I appreciate the perspective there. And this is a kind of a secondary question here and I'll hop off. The steel business February down versus November, it sounds like volumes are going to be the same sequentially. Spreads kind of look like they're holding in right now.
So where is the added or incremental cost or margin pressure that you would be seeing to seeing to see a $3 million to $4 million drop off in Cascade's profitability in the second quarter or is it just some conservatism? Thanks.
Richard Peach: It's a combination of the impact of the downtime on production time and levels and some impact of the projected spreads in that business. But as we noted, we're expecting still to be 50% above last year's second quarter. So we expect it to be a strong quarter overall year-over-year.
Phil Gibbs: Thank you.
Operator: Thank you. Our next question comes from the line of Tyler Kenyon from Cowen. Your question please?
Tyler Kenyon: Hey, good morning.
Tyler Kenyon: So Richard, just to clarify, you had mentioned you had expected a $3 per ton decline in AMR profitability associated just with the average inventory accounting, so does that imply that there would be more downside quarter-over-quarter excluding that impact?
Richard Peach: Well, good morning Tyler or afternoon. You heard us say earlier on that scrap prices have fallen since the quarter end and that has an impact on expected changes in purchase prices and where we have kind of sharp falls in the scrap market and what tends to happen as you know is it can have an knock on effect on or average inventory accounting effect because changes in the cash cost of scrap and they lead the change in the average inventory cost that goes into our cost of goods sold.
So we projected as part of our outlook that we believe that will be around and $3 a ton in the second quarter due to the fall in the scrap market.
Tyler Kenyon: Okay, but that $3 per ton is just the average inventory accounting impact kind of what's reported there.
Richard Peach: Oh yes, yes.
Tyler Kenyon: Okay. Okay and then Tamara just a question for you I mean, I know there's certainly been a lot of volatility in the market, certainly some shifts particularly on the nonferrous side and you know sticking to your 5 million ton ferrous volume system-wide target by fiscal 2020 and I was just wondering if things were held constant kind of where we are today and excluding timing related impacts from disjointed spreads on timing of cost versus pricing, is there any way to think about how you're viewing kind of the core profitability on a per ton basis in AMR when you're incorporating just your anticipated benefits from operating leverage? Thanks.
Tamara Lundgren: Tyler, well, that's a good question and is obviously influenced by stability in the marketplace a return to what is more of a convergence between export and domestic prices than what we've seen fundamentally over the last six months. So when we look forward Tyler we see more long term upside with stability coming back into the market which it eventually does with increasing scrap usage with the success of our commercial initiatives which has allowed us to grow our volumes over the last few years and continue as you saw just in this last quarter which was a challenging quarter. And then we look at other potential market movers which we think have more upside than downside looking over the long term which is resolutions on tariffs particularly in the countries that have high scrap demand whether it's ferrous or nonferrous like Turkey and China, the regulatory clarity in China. And this normalization of what Richard was alluding to which is the temporary inelasticity that you see in end-of-life vehicles where purchase costs tend to lag aligning with ferrous. So when I look at all of those market mover factors, we feel good about the volume target and good about the long term improvement in performance.
Operator: Did that answer your question?
Tyler Kenyon: Yes, thank you.
Operator: Thank you. Our next question is a followup from the line Phil Gibbs from KeyBanc. Your question please?
Phil Gibbs: Hi, thanks. Richard, your guidance for the second quarter for AMR saying that we are going to see a $3 a ton impact from inventory accounting, I think $3 million, excuse me, not $3 a ton, $3 million, was that the guidance for the second quarter, you're saying $3 million lower than the first or did I miss something?
Richard Peach: Yes, we said we expected the earnings to be similar to the first quarter except for the impact of average inventory accounting which we said will be about $3 million.
And I just want to correct something I said earlier Phil on the cars, the 90,000 cars in the first quarter being up round about 150,000 tons, that of course arithmetically is about 15% or 14% over ferrous sales volumes, I think I'd say at single digits, so I just wanted to clear it up.
Phil Gibbs: Okay, so if we're looking at $23 million of profits into the first quarter and you've got flattish, sounds like flattish sales in ferrous volumes, we should think about the operating income somewhere around 20. That's kind of what you're trying to communicate here then?
Richard Peach: No, let's just go back to exactly what we said here because we said in our guidance that we expect AMR's operating income per ton to be lower in the first quarter, now that per ton it was $25 in the first quarter and we’re expecting a $3 per ton negative impact. So that would suggest $22 per ton arithmetically. And we also said that we expected the ferrous volumes to approximately last year's second quarter, nonferrous volumes will be up like 5% on a year-over-year basis.
Phil Gibbs: Okay, so down a little bit, but not bad for us, so we're kind of in that ballpark.
Richard Peach: Okay. Thank you.
Operator: Thank you. This does conclude the question-and-answer session of today's program.
I'd like to hand the program back to Tamara Lundgren for any further remarks.
Tamara Lundgren: Thank you and thank you all for joining us on our call today and for your interest in our company. We look forward to speaking with you again in April when we report our second quarter fiscal '19 results.
Operator: Thank you, ladies and gentlemen for your participation in today's conference. This does conclude the program.
You may now disconnect. Good day.