Earnings Transcript for AJRD - Q1 Fiscal Year 2008

Executives: Linda Cutler – Vice President Corporate Communications J. Scott Neish – Interim President & Interim Chief Executive Officer Yasmin R. Seyal – Chief Financial Officer & Senior Vice President

Analysts: Joseph B. Nadol, III – JP Morgan Pascal Flores – Trident Capital [Jim Fong – Carbelli & Company] Robert Smith – Center Performance Investments

Operator: Ladies and gentlemen thank you for standing by. Welcome to the GenCorp 2008 first quarter earnings conference call. At the request of Ms. Linda Cutler all participants are in a listen only mode. (Operator Instructions) As a reminder, this conference is being recorded. I’d now like to turn the conference over to your host Ms. Linda Cutler. Please go ahead.

Linda Cutler: Good morning everyone and welcome to GenCorp’s first quarter 2008 conference call. Before we start I’d like to remind you that during this conference call GenCorp’s management team may make forward-looking statements as defined by the Private Litigation Reform Act of 1995. All statements in this conference call and in subsequent discussions other than historical information are forward-looking statements. These statements represent management’s current judgment on expectations for future operations. We encourage you to review the cautionary language regarding forward-looking statements and the factors contained in the earnings release issued today as well as management’s discussion and analysis and elsewhere in our most recent Form 10K and other filings with the SEC. These statements and factors could cause business conditions and actual results to differ materially from those expected by the company or expressed in our forward-looking statements. Now, I’d like to turn the call over to Scott Neish.

J. Scott Neish : Good morning. It’s my pleasure to join you this morning to share our results for the first quarter of this year. Here with me this morning is Yasmin Seyal, our Chief Financial Officer. As most of you know Terry Hall resigned as GenCorp’s CEO in early March and I’ve been asked by the board to assume the position of interim CEO while a search is undertaken for Terry’s replacement. I’d like to take this opportunity to thank Terry for his many contributions to the business and we wish him well in his future endeavors. And, I want you to know that we are continuing our efforts to maintain and accelerate the progress that our company has made in the last several years and increase the value to our shareholders. To that end I’m pleased to report that the first quarter was marked by a number of successes. Aerojet’s revenues remained strong and Real Estate completed a key milestone towards realizing the value of the Rio del Oro portion of our real estate plans. At Aerojet we were able to replace sharply declining sales from the Titan program now nearing completion; revenue increases on the NASA Orion program as our scope on that program increases and the program ramps up into full scale development. Additionally, strong performance on the Atlas-5 contract helped to partially offset the absence of Titan profits that we enjoyed in the first quarter of 2007. On the defense side of our business, we benefitted from higher sales volume on a number of programs including TOW and standard missile and new work in production contracts in our specialty metals product division in Tennessee. Real Estate segment received notification from the California Department of Toxic Substances Control that they had released from environmental order 2,300 acres designated as Rio del Oro clearing an important hurdle to our monetizing a significant portion of the land in the planned Easton Development. Now, I’m going to turn this over to Yasmin Seyal to share with you our financial highlights for the quarter.

Yasmin R. Seyal : Good morning to everyone. My comments this morning will focus on the financial results of our continuing operations, Aerojet and Real Estate. I will comment on the company’s first quarter sales, income, cash flows and net debt results and also on the financial implications associated with the recent restated shareholder agreement the company entered into with Steel Partners. Today, the company reported income from continuing operations of $3.3 million or $0.06 per share for the first quarter compared to a loss from continuing operations of $2.1 million or $0.04 per share in the first quarter of 2007. The improvement reflects decreased retirement benefit plan expenses and lower costs associated with our environmental cleanup and related activities partially offset by the favorable performance recognized last year on the Titan closeout effort. Let me comment first on sales which for the first quarter of 2008 were $177 million compared to $150 million in 2007 reflecting a year-over-year increase but, the first quarter of 2008 does include an extra week as compared to 2007 as we noted in the release that we issued this morning. However, we did have some growth most notably on standard missiles, TOW and our Orion program as Scott commented on a few minutes ago. This was offset by a decrease in the Titan program as we completed the closeout activities of this program last year. As I noted on the January call, our goal in 2008 is to replace the Titan business which in 2007 accounted for approximately $30 million of sales and we intend to replace this business with the missile defense program and the continued development of our Orion related effort. From a sales standpoint we are encouraged with the good start to the year. Commenting next on segment performance which is a non-GAAP financial measure and is defined in the operating segment information table included in our release that we issued this morning. Segment performance for the first quarter was $11.7 million up $3.7 million from the first quarter of 2007. Aerojet’s segment performance for the first quarter excluding environmental remediation provision adjustments and retirement benefit plan expense was $14.9 million representing an 8.5% return on its sales. This compares to $14.3 million and a 9.6% return on sales for the same period in 2007. Needless to say we are somewhat disappointed by this percentage decline. However, we were certainly pleased with the recognition of favorable performance on the Atlas contract but it was offset by certain issues that we encountered on some other programs which we are working very hard to mitigate as we go through the rest of the year and we still hope our goal is to achieve double digit margins in 2008. As we noted in our earnings release margins in 2007 were helped by our Titan closeout contract which completed last year. Looking next at our real estate segment sales for the first quarter 2008 were $2.1 million compared to $1.7 million in 2007. Both periods reflect our normal ongoing lease activities. The 2008 also included some additional one-time revenue and income associated with the final negotiated adjustments to the property usage agreement with the Sacramento Regional Transit that was initially recognized back in 2004. Segment performance for Real Estate was $1.3 million compared to $.8 million in 2007. Commenting briefly on the other components of continuing operations income, our combined interest expense and interest income was unchanged at $5.9 million in both first quarters of 2008 and 2007. First quarter 2008 corporate and other expenses were also comparable to 2007 period. 2008 retirement benefit plan expense which I’ve noted on a number of calls is mostly non-cash, is $1.9 million for the quarter compared to $5.3 million in 2007. As I noted in the year end call the decrease reflects the impact of higher discount rate functions and favorable market performance. We still project the 2008 full year expense to be in the $7 million range with no cash contributions required to our major pension plans in 2008. Now turning my comments to debt and cash flow. Net debt which is total debt less cash as of February 29, 2008 was $373 million a $19 million increase from $354 million as of November 30, 2007. The increase reflects cash usage by Aerojet in the quarter as well as costs related to corporate interest, retiree medical and legacy matters. Areojet has historically been a user of cash in the first quarter as many of you know and a cash generator over the remainder of the year and we certainly expect this trend to continue in 2008. Some key cash metrics for the first quarter, net cash used by operating activities was $14.9 million and depreciation and amortization was $6.5 million and cap expenditures were $4 million for the quarter. Our liquidity position at quarter end was strong with cash balances of $72.5 million and an undrawn revolver of $80 million. However, this position was weakened somewhat as a result of the recently negotiated agreement with Steel Partners which I will briefly comment upon next. We entered into an amended and restated agreement with Steel Partners on March 5th with respect to the election of directors for the 2008 annual meeting and certain other matters. As a result of this agreement and in accordance with the company’s benefit restoration plan and existing executive severance agreement the company expects to incur a charge in the range of approximately $11 to $15 million in the second quarter. The charge includes severance costs for Terry Hall, increases in pension benefits for certain of the company’s officers and accelerated investing of outstanding stock-based performance awards. The company also funded approximately $35 million into a grantor trust from our cash balances on hand on March 12th to cover liabilities associated with the benefits plan and the executive severance agreement. Needless to say, the funding of the trust did reduce the company’s available liquidity. As I finish my comments here I would like to thank our directors who did not stand for reelection for their contribution, Mr. Bolden, Mr. Didion and Mr. Osterhoff, from the finance perspective Mr. Osterhoff for his tremendous and invaluable leadership of the audit committee over the years. I would also like to thank Terry for his leadership and dedication in strengthening the company to what it is today. Finally, I’d like to say and reiterate that the GenCorp management team has and still remains fully committed and dedicated to growing the business, unlocking the full value of the company’s excess real estate assets and doing our level best to enhance shareholder value. With that, I’d like to turn the call back to Scott.

J. Scott Neish : Just a few comments about both the Aerojet and the Real Estate segment. The growth Aerojet is seeing both organic and inorganic over the last five years indicate that our technology investments have been sound and our merger and acquisition decisions have paid off. We have worked through an intensive period of industry consolidation and top line budget growth over the last several years to improve our overall competitive position. The result is that we now believe we are well positioned in our primary market, have successfully aligned our portfolio with current and emerging government priorities particularly space exploration, missile defense and tactical missiles. We will continue to weigh those priorities and make adjustments to ensure we can anticipate and fulfill our customers’ needs. We will also continue to pursue opportunities to strengthen the business including ways to reduce operating costs and grow our revenue base. Particularly pleased with the excellent progress we have made over the last few years in adding strength to our customers’ value proposition. We received affirmation of this, this last quarter when Boeing announced for the second time in three years Aerojet has been selected as their supplier of the year in propulsion category. Aerojet was selected after an extensive review process where Boeing evaluated thousands of suppliers in more than 66 countries around the world. The winning supplier was selected based on overall performance and product quality, on time delivery, post delivery product support and costs during the cold month period ending in September. Among the Areojet programs evaluated were F22 high fly GPS and the Delta-2 program. Speaking of Delta, since we spoke to you last time Aerojet’s stage II propulsion supported the successful launch of an Italian commercial satellite and another global positioning satellite marketing our 261st and 262nd consecutive successful Delta launching. We also received good news in the quarter from NASA when we learned that our customer Orbital Sciences and their new Taurus II launch vehicle were selected for COTS, the Commercial Orbital Transportation System. Thus will supply an unmanned payload to international space station for resupply and each Taurus II launch vehicle will be powered by two of our Aerojet AJ26 first stage booster engine. In the real estate are the significant development there is the release by the California Department of Toxic Substance control from the environmental order of the 2,300 acres at Rio del Oro. We will continue to strengthen our position by seeking additional entitlements in the real estate area and position ourselves for recovery in that market. So, we’re pleased with the progress that was made in the first quarter and we look forward to working with our new board as we continue to focus on the performance and growth of the business. With that, I’ll open it up for questions.

Operator: (Operator Instructions) The first question comes from Mr. Joe Nadol from JP Morgan. Please go ahead sir.

Joseph B. Nadol, III – JP Morgan: A few questions, to start out on the margins in Aerojet, I understand there was a favorable performance on Atlas offset by some other declines. I guess I’d like if possible some more detail on what other programs saw margin degradation and what was – if you could quantify the plus from Atlas and the minus from the other programs collectively that will be helpful.

Yasmin R. Seyal : Joe, we experienced some issues on some of our armament programs and I’d say they were probably more of a technical nature combined with some operational issues that the team has been working very, very hard to fix and I’d like to think that most of those issues are now behind us. Scott and the rest of the management team are certainly focused on those issues and I think it’s fair to say that the Atlas results were offset by these issues that were incurred on the other programs and net-net they’re probably less than five fingers on one hand.

Joseph B. Nadol, III – JP Morgan: Okay. Meaning that – were these profit reductions or were these forward losses taken on the armament programs?

Yasmin R. Seyal : They’re a combination of both.

Joseph B. Nadol, III – JP Morgan: Okay. Secondly, on the cash outlook you had it was -$19 million of free cash flow in Q1 and you’ve discussed the $35 million payment that you made as a result of the Steel Partners change of control. What’s the outlook I guess more broadly for cash flow aside from that in Q2 and the rest of the year? Do you have a grasp for sort of how working capital might play out?

Yasmin R. Seyal : I think overall on the full year basis excluding the $35 million we certainly hope to be in a breakeven cash flow position and if all goes well then in a slight cash generation position where essentially the cash coming in from Aerojet is covering interest expenses, legacy expenses, corporate expenses and the retiree medical costs.

Joseph B. Nadol, III – JP Morgan: So since we were -$19 in Q1 do you expect that to flip over and to start to go positive in Q2 or is that going to be more towards the end of the year?

Yasmin R. Seyal : I think we’ll see the trend reversing in Q2, Q3 and Q4.

Joseph B. Nadol, III – JP Morgan: Okay. Then finally, on the real estate I know Terry played a very active role in day-to-day sort of managing the entitlement process and I’m wondering in terms of people what’s going on? You had a major milestone in the quarter but who is running things day-to-day there? And, I guess stepping back, what’s the timeframe for settling the change in the CEO position [inaudible]?

Yasmin R. Seyal : Joe, I think as Terry was spending time on the real estate organization certainly I’m spending a fair amount of time with him on that real estate organization too and I’m going to continue to do that. We have a very, very strong team in place at the real estate organization and Terry spent a fair amount of time strengthening that team over the last year. So, the team is strong at real estate and certainly as the board meets today I’m sure it’s going to be an item of discussion as to say what are the resources needed in the short term and in the long term. If need, they will take the appropriate action that needs to be taken to resolve that. I think from a CEO perspective, I know from my discussions with the board that that is a high item on their priority and they will certainly be very, very focused on that. There’s going to be a national firm retained to do the search and it’s going to be done quickly and efficiently and very proactively.

Operator: (Operator Instructions) Pascal Flores of Trident Capital. Please go ahead with your question.

Pascal Flores – Trident Capital: Could you give us some color of why your DSOs has been shooting up a little bit this quarter from I believe 44 days a year ago and quarter ago and to about roughly about 55 days this quarter. Is there anything in particular, anything that could explain that?

Yasmin R. Seyal : No, there isn’t anything other than the cash usage that we’ve talked about. There isn’t anything in particular.

Operator: The next question comes from Mr. [Jim Fong] from [Carbelli & Company]. Please go ahead.

[Jim Fong – Carbelli & Company]: I guess you have some capital loss carry forward that expires in 2009. Could you talk about how you might utilize this? And, is this a priority in terms of focusing on trying to use it before it expires?

Yasmin R. Seyal : Jim, this is again going to be an item certainly for discussion with the new board. I can’t specifically go into all of the items we have discussed over the last year or so at this call but it’s safe to say this is an item that will be discussed with the new board and the board is certainly focused on the dollar magnitude associated with that and the timeframe too.

[Jim Fong – Carbelli & Company]: Okay. So your intention is to try and do something with that before it expires in 2009.

J. Scott Neish : There’s a lot of focus on that.

[Jim Fong – Carbelli & Company]: Okay. I guess just getting back to the entitlement on the real estate could you just give us an update in terms of Rio del Oro, has any of the time table changed from the last time we had the call on this?

Yasmin R. Seyal : No. I think the time table remains fairly steady on this. Rio del Oro they’ve been working on comments in order to recirculate the draft [ERI/ERF] and our estimate is some time in the next couple of months that we will see a research [inaudible] after that the 60 day comment period opens up again and our object is to move forward with entitlement on Rio this year and then also Glenborough seems to be progressing well with the county two with a time table that you could seen entitlement happening this year. But, as you know, it can slip from month-to-month depending on what comes up or how quickly the authorities want to progress on that. But, that’s certainly our objective. I think the greater issue here is when is the real estate marketing going to recover?

J. Scott Neish : Yeah. This release was in our plan in and about this timeframe and does not really change the plan.

[Jim Fong – Carbelli & Company]: Okay. So, as far as you know things are still on track for that?

J. Scott Neish : Yes.

[Jim Fong – Carbelli & Company]: Then in terms of the Aerojet business is there anything with the Orion or the Atlas program in the first quarter that might suggest it will be better than what you expect for the year or lower than what you expect for the year?

J. Scott Neish : Yeah there is. As I alluded to earlier we do see our scope increasing on the Orion program. We have more value than we can offer to our customer and to NASA so we’re optimistic that we’ll have increase scope on that program over what we had in our plan.

[Jim Fong – Carbelli & Company]: Okay. Then, you had once kind of estimated about $50 million of business from Orion, potentially $50 million this year, so you expect that to widen a bit?

J. Scott Neish : It will be at least that and we hope that it will grow.

[Jim Fong – Carbelli & Company]: Okay. Can you kind of give us a sense as to what you think that may grow to?

J. Scott Neish : That’s limited by what NASA has in the way of funding and that’s not something we have a lot of control over so it’s hard for us to quantify that at this point.

Operator: We now have Mr. Robert Smith back on line. Mr. Robert Smith from Center Performance Investments, please go ahead with your question

Robert Smith – Center Performance Investments: I have two questions, first could you give me an idea of what finger you have on the pulse of the position of the three candidates for the presidency in 2008 and their attitude towards the missile defense field?

Yasmin R. Seyal : I think that if you’re looking at it from the candidates it’s going to depend on what the views are and where we’re going to see the defense budgets affected by it.

Robert Smith – Center Performance Investments: Do you know their views at the present moment? I mean have they expressed it? I’m just trying to –

J. Scott Neish : Obviously, it’s a big concern to us and we’re trying to keep a close finger on that pulse but we don’t see any negative signs. We’re actually encouraged by what we see in congress in terms of support for missile defense and we don’t see any strong negative messages being sent by any of the candidates. So, we don’t think there’s going to be any significant impact.

Robert Smith – Center Performance Investments: But there’s been no position papers from either of them?

J. Scott Neish : No.

Robert Smith – Center Performance Investments: Okay. Secondly, can you give us some color on the Sacramento real estate market? I mean as far as its place and what’s been happening in the nation and California?

Yasmin R. Seyal : You know, as you’ve been reading I’m sure in every newspaper that the real estate market is in a decline.

Robert Smith – Center Performance Investments: Sure.

Yasmin R. Seyal : Sacramento is no different. We saw compared to 2005 values we’ve seen a dramatic decline in values.

Robert Smith – Center Performance Investments: Could you quantify that at all? What is an approximate decrease?

Yasmin R. Seyal : The decrease you hear numbers quoted somewhere between 30 to 40% declines in values.

Robert Smith – Center Performance Investments: And that’s true in Sacramento area?

Yasmin R. Seyal : Yes.

J. Scott Neish : It depends on what segment of the market you’re talking about too. That number is pretty variable.

Robert Smith – Center Performance Investments: Do you know how many properties so to speak are being offered? Statistics like that?

Yasmin R. Seyal : There’s a lot of inventory in the Sacramento area and I think the holding period for the inventory has been growing too. I don’t have the exact numbers.

Robert Smith – Center Performance Investments: So it’s very similar to the statewide numbers?

Yasmin R. Seyal : Yeah.

J. Scott Neish : Yeah it is. Our real estate folks they continually analyze those numbers but we don’t have them at our finger tips.

Operator: (Operator Instructions) There appear to be no further questions at this time.

Yasmin R. Seyal : I’d like to thank everybody for joining the call here and appreciate your questions. We look forward to talking to you at the end of our second quarter in June.

J. Scott Neish : Thank you all.

Operator: Ladies and gentlemen this conference will be available for replay after 12 o’clock eastern standard time today through to April 2, 2008 at 12