Operator: Good day, ladies and gentlemen, and welcome to the First Quarter Praxair Incorporated Earnings Conference Call. My name is Jerry and I'll be your coordinator today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes.
I would now like to turn the conference over to your host for today Mr. Jim Sawyer, Executive Vice President and Chief Financial Officer. Please go ahead, sir.
James S. Sawyer - EVP and CFO: Good morning and thank you for attending our first quarter webcast. Liz Hirsch, Director of Investor Relation and Matt White, Vice President and Controller, are with me this morning. Liz will review our first quarter results. Afterwards, I'll discuss the current business environment, our outlook for the balance of 2010 and our earnings guidance. We'll then be available to answer questions. Liz?
Elizabeth T. Hirsch - Director, IR: Thank you, Jim, and good morning. Today's presentation materials are available on our website at www.praxair.com in the Investors section. Please read the forward-looking statement disclosure on page two and note that it applies to all statements made during this teleconference.
Please turn to slide three in our presentation for a summary of our first quarter results. Please note that these results and the year-over-year earnings comparisons have been adjusted to exclude the impact of the Venezuelan currency devaluation, which was announced in January. This resulted in a one-time pre-tax charge to our earnings this quarter of $27 million, $26 million after-tax, and $0.08 of earnings per share.
As you will recall, the earnings guidance we gave you in January for the first quarter and for the full year of 2010 excluded this charge. A reconciliation of these results to our GAAP reported numbers appears in the appendices to this presentation and the press release.
Praxair's results in the first quarter reflect improving global business fundamentals, though the strength of the improvement we have seen varied considerably by geography. Volumes have picked up sequentially in all our regions led by Asia and South America. The modest overall sequential volume growth we reported was muted because March was kind of an inflection point following demand levels in January and February that were pretty much on a par with December. So this should position us well for incremental growth in the second quarter, given that the March trends are holding or slightly improving in April.
Sales in the quarter were $2.4 billion, 14% above the prior year. Higher volumes contributed 6% growth and foreign currency appreciation contributed 7%. Volume growth came primarily from higher sales to chemicals, metals and electronics customers whose production levels were very low a year ago as these three industries were working through significant inventory destocking. New plant startups in Asia also contributed to volume growth.
Operating profit was $506 million in the quarter, up 14% from the prior year in line with our sales growth and the operating margin was 20.8%, also in line with the prior-year quarter. Higher volumes of base business atmospheric gases contributed a high incremental margin in the 30% to 40% range. However, this is masked primarily because last year we were collecting take-or-pay revenue from a number of large onsite customers. The first quarter of 2009 was our volume trough and therefore, the quarter, when take-or-pay revenue was the highest.
Secondly, to-date, electronics has shown the fastest and strongest volume recovery and electronics process gases have lower margins than atmospherics. Higher cost pass-through also had a modest negative effect on the margin percentage.
So we do expect that the incremental margin contribution from the recovery of our base business volumes will be more evident as we go forward.
Net income was $340 million and 14% of sales. Net income grew 17% from 2009, a higher increase than the increase in operating profit due to lower interest expense. Interest expense this quarter was lower than we had forecasted due to strong cash flow generation in several of our countries with higher interest rate debt. We expected to trend upwards over the next few quarters and be in a range of $140 million to $150 million for the year.
Earnings per share were $1.09, 17% above prior year. We generated $483 million of operating cash flow this quarter, primarily from net income and depreciation. This cash flow is 20% of sales due to the fixed cost reductions we implemented last year and our ongoing tight control of working capital.
This cash flow funded $288 million of capital expenditures in the quarter, related primarily to construction spending on the large on-site projects in our backlog. Our free cash flow after CapEx of $195 million funded a $138 million of dividends and $68 million of stock repurchases, net of issuances.
The reason our total debt increased from year-end was because in January we took advantage of very attractive rates in the bond market and issued $500 million of three-year notes at a coupon of 2.125%. These proceeds will be used to pay off a note issue that matures in May. At the end of the quarter, this cash was sitting on our balance sheet because we have paid down essentially all our commercial paper and U.S. short-term bank borrowings with the proceeds of the over $2 billion of note issues we executed over the past 12 months, locking in very attractive low cost financing.
Our after-tax return on capital this quarter was 13.6%. This number was impacted by the cash, which is temporarily on our balance sheet held for debt repayment, and also the significant amount of capital tied up on our balance sheet in construction in-progress. This capital doesn't generate revenue until projects are completed and start supplying products. The impact of construction in-progress on our reported return on capital is over two percentage points. However, these projects are high return projects, which will generate meaningful future sales and earnings growth.
Please turn to page four for our results in North America. Sales in North America were $1.24 billion, 6% above prior year. Higher volumes contributed 4% growth and currency appreciation in Canada and Mexico – 3%, offset slightly by 1% lower price mix. The strongest volume growth came from chemicals, steel and electronics customers.
Sales to the energy market ex-natural gas were lower due to continued weak oil well service activity. Last year's first quarter was the peak for our fracing volumes in Canada, so the year-over-year comparison is difficult. Oil well services revenues in Mexico are below 2009 levels due to lower spending by PEMEX, but we expect these volumes to increase over the balance of the year.
On-site volumes were 13% above the 2009 first quarter and grew 2% from the fourth quarter sequentially, driven primarily by higher pipeline oxygen and nitrogen volumes. Our oxygen pipeline volumes have rebounded significantly from the low point, but are still about 15% below 2008 levels. Demand for hydrogen from refiners has been steady and volumes are above last year.
Merchant liquid volumes were 2% above prior year. Excluding our fracing business, volume growth was 6%. Liquid oxygen and argon volumes increased year-over-year and sequentially due to higher demand from steel producers. We began to see a modest pickup in demand in March in the U.S. and Canada. Liquid hydrogen and helium volumes were higher to electronics and solar customers. Liquid volumes in Mexico showed strong sequential growth of 5% from the fourth quarter. Total liquid volumes in North America were 5% higher sequentially.
Packaged gases in the U.S. and Canada continued to be slow to recover. This is attributable to the fact that within the manufacturing sector, non-residential construction, infrastructure spending, equipment and welding activity are still weak. Higher auto production and appliance manufacturing should provide lift going forward.
Total North American packaged gases sales were 1% below prior year. In Mexico, packaged volumes were higher due to improving domestic manufacturing demand. In PDI, our business in the U.S. and Canada, sales ex-currency were down 4% versus the prior year quarter. Sequentially, we have started to see some volume pickup, but it is stronger in hard goods and gases, which is typical in the very early stages of an economic recovery.
Operating profit in North America increased 8% to $277 million and the operating margin increased to 22.4%. The margin improvement is due to higher volumes and the substantial cost reduction actions in 2009, but is mitigated by the large customer take-or-pays we were receiving a year ago. New business activity is picking up and is increasingly broad-based in food, chemicals, metals, manufacturing, refining and environmental applications, so we expect a stronger second quarter in North America.
Please turn to slide five for our results in Europe. Sales in Europe were $338 million, up 12% from prior year. Higher volumes contributed 7% growth and currency 5%. Volume growth came primarily from higher on-site oxygen and nitrogen sales in Spain and Germany to steel and chemical customers. Liquid volumes are also up about 10% year-over-year. Liquid volumes are recovering across the region and volumes are higher than last year in Germany, Spain, and Italy versus a very weak quarter last year.
Auto production is increasing and exports are stronger in Germany. New business activity and contract signings are positive and above 2009 levels. Both on-site and merchant volumes grew sequentially from the fourth quarter. Packaged gases sales recovery is lagging on-site and merchant. Construction activity remains weak, especially in Spain.
Operating profit was $67 million, up 6% from the prior year. We expect to see continued recovery in Europe, but expect it to be slow. The strong volume increases this quarter reflect increased production by large customers who are making global commodities and exporting to the world market. After some restocking, sequential demand growth could slow in the second half. Merchant liquid and packaged gas volumes are more reliant on local consumption and an increase in manufacturing and construction activity and our expectation is that these will be slower to pull out of the downturn.
Please look at slide six for our South America results. Sales in South America were $458 million compared to $353 million in the prior-year quarter, an increase of 30%. Currency appreciation, primarily the Brazilian real, increased sales by 21%. Underlying sales grew 12% and 3% sequentially from higher volumes and higher price. Industrial production in Brazil has rebounded strongly from negative 15% in last year's first quarter to positive 12% in this year's first quarter.
Steel production in February was almost 50% above February 2009, but still 25% below peak production in 2008. Our on-site volumes are up strongly on a year-over-year basis and have continued to improve sequentially driven by oxygen demand.
Low interest rates in Brazil by historical standards and credit availability has provided economic stimulus and supported domestic consumer demand. Merchant volumes are higher versus prior year and last quarter. As in our other regions, packaged gases are recovering more slowly along with general manufacturing, but volumes are up 5% sequentially. Overall sales to manufacturing are up 10% from the fourth quarter.
We expect strong growth in South America to continue in the base business from new applications and new project startups. We have seven projects scheduled to start up over the balance of this year and we are looking at numerous new project opportunities. Our healthcare business in Brazil also continues to grow steadily.
Operating profit increased to $109 million from $75 million in the prior year and operating margin was 23.8%. The operating leverage came from strong incremental margins on higher volumes, higher pricing, productivity gains and cost reduction in 2009.
Page seven shows our results in Asia. Asia had a very strong quarter with sales of $258 million, up 43% from 2009, due primarily to 31% volume growth. This growth came from significant growth in on-site and liquid volumes in China, India and Korea due to broad-based demand across most end-markets.
Oxygen volumes are growing in China due to strong steel demand fuelled by auto production and infrastructure spending on roads, tunnels and rails. In March, China produced 1.7 million automobiles, more than U.S. production.
Higher cost pass-through and currency appreciation added 14% to sales growth and price mix was down 2%. Electronic sales have completely recovered from last year's low point, up 88% excluding FX. The mix effect of such strong electronic sales is the primary reason that overall price is negative 2% and that our operating margin percentage declined.
Merchant pricing in atmospheric gases is stable and beginning to firm due to strong demand and tighter capacity. Merchant sales in China were at record levels in March from strong demand from glass, chemicals, electronics, and met fab customers.
In India, strong growth in merchant sales was driven by steel, pharma and auto. Carbon dioxide sales in Thailand for food freezing were also strong. In Korea, on-site and merchant volumes are sharply higher due to demand from electronics, as well as general industry.
This quarter we started up two plants in China. New business activity is robust in both China and India. There are many new large project opportunities. We are sticking to our strategy of selectively pursuing sale of gas, not sale of plant opportunities, where we can get good returns and can grow the merchant liquid business locally.
We have a strong project pipeline in Asia. Several projects in China will start up this year, but the larger projects we are working on, such as our second 3,000 ton oxygen plant to supply coal gasification and our large hydrogen plant for Indian Oil Company start-up in 2011 and 2012. So, we are confident that our strong growth in Asia will continue.
Page eight shows Surface Technologies results. PST sales this quarter were $136 million compared to $123 million in 2009's first quarter. Sales increased 7% ex-currency effects due to the $20 million in sales from Sermatech, which we acquired last July. Overall, coating volumes, ex-Sermatech, were lower than the prior year.
Industrial gas turbine coatings are down due to weak IGT build by the major manufacturers resulting from the economic downturn and the credit crisis, but we are forecasting a pick up in these volumes in the second half of 2010 inline with the manufacturers increased forecast for new builds.
EBPVD jet engine coatings, which are used in the new GE GEnx engines and will power the 787 and 747-8 planes were strong and above prior year, but more conventional aerospace coatings declined. We are expecting EBPVD volumes to pick up in the second half as more planes are delivered and as spares for rebuild engines pick up, along with growth in passenger miles flown.
Operating profit of $19 million compares to $22 million in the prior year. The margin decline is due to lower volumes and Sermatech acquisition integration expenses, which has offset the profit contribution from Sermatech in the last two quarters. Our integration plan will be completed on schedule next quarter.
We will have closed five of 11 manufacturing sites, reduced headcount by a 150 people, and consolidated admin and back-office processes. The PST's operating margin should improve to the high teens range by the end of the year.
Now, I'm going to turn this over to Jim, who will give you more detail on our end market trends and discuss our earnings guidance.
James S. Sawyer - EVP and CFO: Thanks, Liz. Please look at page nine. We showed you this slide last quarter shows that sales trends we've seen from peak to trough in four of our key end markets. (Indiscernible) sales for the third quarter of 2008, which was pretty close to the peak in these markets. We updated it this quarter to illustrate the sequential improvement we've seen from the fourth quarter of 2009 to the end of March. This also gives you a visual of where we are now relative to third quarter of 2008.
What you can see is that electronics was the most cyclical end market in the downturn. It felt the furthest, recovered the fastest and sales volumes are now above previous peak levels. Chemicals and metals continued to recover and showed positive sequential growth this quarter. Our global sales to both markets are still modestly below the 2008 third quarter. We expect continued growth in these markets and we are forecasting a slower sequential growth rate in the second half of the year as we believe that inventory restocking has been a part of the increased demand we are seeing today.
Manufacturing has been slow to recover. As Liz mentioned in the regional discussions, we began to see sub-sequential pick up in March and you can see that on this graph. However, we are still about 13% below the peak and so this end market represents a great source of upside to earnings as volumes continue to recover.
Page 10 gives you some more detail on our end market sales trends, both year-over-year and sequentially.
Let me make a few comments here on the energy market. This quarter our sales to energy market are a little lower, but this is not a long-term trend. We see this market as a solid source of revenue growth for us in the future. Largest piece of our energy sales is hydrogen sold to refiners. Hydrogen demand remained very steady through the downturn and our volumes in the quarter were above prior year.
We expect continued growth from new project opportunities to supply refiners outside of North America for expanding refining capacity and outsourcing some hydrogen supply. As an example, in November we announced a large contract for hydrogen and nitrogen supply to Indian Oil's new refinery being built on the East Coast of India.
New projects will be the principal driver of future hydrogen revenues, there is two large projects in our backlog in North America, the first of which is expected to start up in the back half of 2010 and the Indian Oil project is scheduled for 2012.
We'll be selective about the projects we've been on and disciplined about returns and we're interested only in built, own and operate, not large plant sales, but there are significant opportunities around the world and geographies where we have a very strong presence.
Our liquid nitrogen and carbon dioxide volumes for oil and gas for fracing in North America are well below prior year, as Liz mentioned, and any significant will depend on the outlook for higher natural gas prices and drilling activity. Volumes declined over the course of 2009, and so after this quarter will not be as much of a negative comparison in our merchant volume. In addition, these lower volumes have had a negative mix effect on our North American merchant pricing.
In February, we announced a contract with Exxon Mobil to build the new plant to supply nitrogen for enhanced oil recovery in Hawkins, Texas. We're optimistic that over the long term, we will see more EOR project opportunities around the world as energy demand increases and producers look to increase production from existing reserves.
This month, we announced that we will be supplying CO2 under contract for enhanced oil recovery pilot project in Abu Dhabi with Abu Dhabi Future Energy Company or MASDAR. The Middle East has an abundance of energy-related projects going on but to-date has not been a region where Praxair has participated as many of the opportunities have just been equipment sales.
We've had business development people on the ground in Abu Dhabi for a while looking to see if there's an opportunity to develop an integrated industrial gas business in the region. Another energy opportunity is nitrogen dilution for LNG. We've recently announced a project with Chevron and Total to supply nitrogen at the Sabine Pass receiving terminal in Louisiana. This is not a large investment, but these projects are all examples of opportunities for industrial gasses in energy sector and why we feel bullish about this market over the long term.
Now, please turn to page 11 for earnings guidance. In the second quarter of 2010, our earnings guidance is for earnings per share in the range $1.10 to $1.15. This represents sequential improvement from the first quarter based on the trends we're seeing. We're raising our EPS guidance for the full year of 2010 to a range of $4.50 to $4.65, excluding the $0.08 negative impact in the first quarter resulting for the Venezuela currency's devaluation.
This represents year-over-year earnings growth of 13% to 17% and is well above Praxair's peak earnings in 2008 of $4.20. Our earnings guidance including the Venezuela charge is $4.42 to $4.57.
We expect full year sales to be in the area of $10 billion. The effective tax rate is expected to remain at 28%, and we still expect CapEx for the year to be about $1.4 billion.
Large project activity around the world is picking up from what we were seeing in 2009. The bulk of these projects are in South America and Mexico, India and China, where we have a very strong presence, a history of successful project execution, and integrated businesses, which allow us to get good returns on the capital we invest.
Our large project backlog at the end of the first quarter included 38 projects. This quarter, we started up six plants with a capital value of about $140 million. We added four new projects with a capital value of about $170 million. So the size of our backlog is holding up and start-up dates are now extending out into early (2013).
If you look at the chart on page 12, you could see how fast we're growing in Asia. Of 13% growth over six quarters, 8% was from project startups and 5% was organic growth from peak to trough.
Emerging markets represent about 34% of our global sales, which is at higher percentage than our competitors. I also believe we're winning more new business in China, India, South America and Mexico. This is a result of our reputation and demonstrated ability to execute in emerging economies. Additionally, our standard plant designs a key factor and our ability to win business at high returns due to a lower capital investment, better energy efficiency and greater reliability.
In addition, our base business in North and South America and Europe has a significant way to go to get back to pre-crisis operating levels. As you see them down 7% to 10%, realize that we also had 3% to 5% contribution from new project startups, so the dip in the base business is actually lower than it appears and you'll find more upside as the economy recovers.
In closing, I believe the outlook is clearly improving. Emerging markets are experiencing significant expansion which is being led by an internal demand and consumption while the mature markets are recovering from depths of 2009.
And now I'll be happy to take questions.