Cornerstone Building Brands, Inc.
Q3 2008 Earnings Call Transcript

Published: 3 Sep 2008

[Operator:]

Welcome to the NCI Building Systems third quarter 2008 earnings conference call. (Operator Instructions) At this time I would like to turn the conference over to Todd Moore, Executive Vice President and General Counsel.

[Todd Moore:]

This call is being recorded and a telephonic replay may be accessed through September 10, 2008 by dialing 412-317-0088 and entering the access code 419727 and then the pound symbol. The replay will also be available on NCI's website at NCILP.com. The company's third quarter results were issued yesterday in a press release that was covered by the financial media. A release has also been issued advising of the accessibility of this conference call on a listen-only basis over the Internet. Some statements made in this conference call may be forward-looking statements as defined in the Private Litigation Reform Act of 1995. Forward-looking statements are statements that include projections, expectations or beliefs about future events or results or otherwise are not statements of historical fact. Actual performance of the company may differ from that projected in such statements. Investors should refer to statements filed by the company with the Securities and Exchange Commission and in yesterday's news release for a discussion of factors that could affect NCI's operation and as well any forward-looking statements made on this call. To the extent any non-GAAP financial measures are discussed on today's call, you may also find a reconciliation of that measure to the most directly comparable financial measure calculated according to GAAP on the company's website by following the News link to see yesterday's news release. Information being provided today is as of this date only and NCI expressly disclaims any obligation to release publicly any updates or revisions to these forward-looking statements to reflect any changes in expectations. At this time I will turn the call over to NCI Chairman, President and Chief Executive Officer, Norman C. Chambers.

[Norman C. Chambers:]

I'm pleased to have with me this morning Mark Johnson, our CFO, Mark Dobbins, our Chief Operating Officer, and Todd Moore, our General Counsel. I'll provide an overview and Mark Dobbins will review our operations following by Mark Johnson, who'll review our financial results. Then I will return with some closing comments before we take your questions. This is another quarter of very strong operating results for NCI, achieved under tough business conditions dominated by a weak economy and extraordinary steel price increases. Our guidance for the second half of fiscal 2008 was for earnings per diluted share of $2.04 to $2.29, which we had originally expected to be split about 45-55 between Q3 and Q4. As you've seen, third quarter earnings came in significantly above our expectations at $1.63 per diluted share, sequentially beating Q2 by 114% and Q3 of 2007 by 60%. Our trailing 12-month EBITDA at the end of the third quarter grew to $200 million. There were six major reasons for these record results. First, our Components Group and Coaters Group significantly outperformed their operating profit targets, benefiting from higher revenues and order pull through from customers moving up their orders from Q4 to Q3 in order to lock in pricing. Second, NCI has succeeded in capturing an increasing amount of business from those markets where demand remains good and where the intrinsic benefits of steel are important and recognized, namely energy, mining, manufacturing, schools and government buildings, and agricultural end markets. This has been a good counterbalance to the continued low levels of demand in commercial and retail. Coating activities in these stronger markets continues to be fairly good, and we are seeing very little further erosion in the commercial and retail end markets. Third, we are utilizing the engineering technology we acquired in the Robertson Ceco acquisition to work with our customers to design buildings that more efficiently utilize steel, reducing the total weight and cost of the buildings we manufacture. Fourth, our three business units - Coaters, Components and Buildings - effectively communicated steel prices, which enabled our customers for the most part to pass on the 40% increase in steel prices that we experienced during our third quarter. Also, higher steel prices caused the pull through of work into our third quarter from our fourth quarter and caused us to draw down our backlog at the end of the quarter to $424 million. Fifth, although volume was down 6% on a year-over-year quarterly basis, sequential volume increases in tons of steel we processed leveraged our manufacturing performance across our business units. Sixth, as the largest independent company in our sector, we have developed and continue to maintain purchasing relationships with steel producers which benefit us during tight supply periods. As many of you know, the extraordinary steel price increases we have faced in 2008 are very similar to the steel price increases of 2004. We have stated before that our short-term goal for 2008 has been for our three business units to perform better than they did in 2004. On operating income percentage basis for the first three fiscal quarters, Coaters outperformed 2004 by 21%, Components by 10%, and Buildings by an outstanding 88%. Our performance is even more noteworthy when you consider that the low-rise non-residential new construction starts measured in square feet was down 15.8% for the fiscal year through July compared to the same period in 2007. Additionally, steel prices increased by 40% during our third quarter, which required our business units to perform with the right balance of commercial discipline and consideration for the long relationships we have with our customers. While quoting activity remained quite good through the quarter, we would expect to see some slowing in demand due to record high costs of steel. If this slowing occurs, it would be similar to that which we experienced in late 2004 and early 2005, therefore we need to remain cautious, conservative and flexible as we have been so far this year and through the remainder of 2008 and 2009. Our expectations are consistent with McGraw-Hill's forecast that non-residential markets will not start to grow until 2010. We will see new domestic U.S. steel production start to come online in 2010, which should ease some of the tightness in supply we have experienced this year and bring steel prices back to more competitive levels. Now Mark Dobbins will update you on our strategic initiatives to enhance our operational performance.

[Mark W. Dobbins:]

I'll just provide a quick update on several of the operating initiatives that we've talked about an important action items for 2008. First, on the efficiency side we have engineered process improvements at certain of our Coaters facilities. These improvements have resulted in higher prime yield and runtime efficiency, which has increased our ability to capture short lead time business and contributed to the growth in hot roll package sales. We're also beginning to see the benefits of our new web-based customer service center, which was rolled out in our Components Group earlier this year. Known as [NBCI] Online, this system gives our customers 24/7 access to order components, get real-time quotes, check shipping status and review any order they have placed. Now while this is not intended to replace the personal interaction between our sales coordinators and customers, it does streamline the process and increases staff productivity. The Buildings Group is benefiting from the continuing development of our common engineering and drafting systems. While the end-to-end solution is not yet complete, we have significant phases implemented which are allowing better utilization of our Components Group manufacturing and shipping facilities and allowing the entire Buildings Group to take advantage of all of NCI's frame fabrication facilities. This is what we generally refer to as our hub-and-spoke manufacturing and distribution system, which sets us apart from our competition and allows us to produce projects in the most cost-effective location. As an organization, we are implementing supply chain management efficiencies across all divisions. Additionally, we have significantly improved our safety record. Now while NCI has historically outperformed our SIC code peers in the industry, we continue to make important year-over-year progress against our own benchmarks. Year-to-date, we have reduced recordable incidents by 23% from 2007 levels. On the marketing side, we will be formally launching our green building initiative this month. Because of the recycled content of our steel products, the recyclability of a steel structure, and the energy savings that our insulated panels offer, we can provide a compelling value proposition to customers seeking to take advantage of the incentives available for incorporating green building requirements into new construction and building retrofit. That's about all I have for today, Norm.

[Norman C. Chambers:]

Mark Johnson will now take us through the financial results.

[Mark Johnson:]

The operating results for our third quarter were very strong, due in large part to the exceptional performance in both our Coaters and Components segments. Our consolidated revenue for the third quarter increased to $478 million, up 10% year-over-year and up 15% sequentially. The increase over the prior year is due in large part to increasing transaction prices, driven by passing on increasing steel costs, partially offset by somewhat lower volumes. On a year-to-date basis, our tons shipped are just short of the tons we shipped in 2007. Our total selling, general and administrative expenses of $72.8 million were 15.2% of sales compared to $67.8 million or 15.6% of sales in last year's third quarter. For the fiscal year we anticipate our total operating expenses, including the retirement charges taken in the first half of the year, will range between $284 and $286 million, which is up from our previous indication due primarily to increased incentive compensation on increased operating income expectations. Our operating margins grew to 11.7% compared to 9.7% in the prior year and 7.1% in the prior quarter. The increased margins occurred in both our Coaters and Components segments, which I will discuss in a few moments. Now I will cover some of the working capital and balance sheet matters, beginning with our accounts receivable. Our days sales outstanding, calculated on a trailing 3-month basis, was 33.2 days compared to 32.9 days in the prior quarter and 31.5 days in last year's third quarter. The total value of our accounts receivable grew by 8.7% compared to our prior quarter end, due in large part to the 15% sequential revenue growth as well as the higher transactional prices. We have maintained our high level of credit discipline and have not seen any significant increases in our bad debt write-offs of aging of accounts. Inventory increased by $68 million or 43% from the end of the prior quarter. This increase occurred as we ramped up for the seasonally strong part of our fiscal year similar to our historical pattern and also was due to the significant increase in steel costs. Our annualized inventory turnover for the quarter was 6.6 times compared to 8 turns last quarter and 7.3 turns for the 2007 third quarter. However, the current year turn calculations tend to be understated due to the velocity of rising steel prices. During the quarter we generated $7.6 million in operating cash flow, which is net of investing $34.8 million in our working capital, primarily in inventory and accounts receivable as a result of the higher transaction prices driven by increasing steel costs. Looking forward, as is our normal seasonal pattern, we expect to recoup some of the incremental working capital investment incurred so far this year as we reduce our inventory levels for the seasonally slower periods. However, we continue to expect that the increased transaction values will result in a net increase in our working capital investment over fiscal 2007 in the range of $50 million by the end of fiscal 2008. Capital spending. During our third quarter we invested $4.6 million in our property and equipment, bringing our year-to-date investment to $17.9 million. We expect to spend approximately $12 million in the last quarter of our fiscal year, bringing our total fiscal year spending to about $30 million. Our more significant capital projects include the initial phases of a new insulated panel plant and automation and software development costs. With regard to our capital structure, we are currently in discussions with various banks to refinance our existing debt agreements, which have maturities in 2009 and 2010. Our intention is to complete our refinancing transaction in a prudently timely manner based on market conditions. Now I will cover the segment financial performance, beginning with the Coaters. The Coaters Group operating results for the third quarter grew both sequentially and compared to the prior year. Third-party revenue increased 20% year-over-year, primarily resulting from both rising steel prices and a shift in product mix from toll coating services to package sales, which was partially offset by lower third-party tonnage processed. Year-to-date, package sales were 54% of Coaters revenue compared to 38% for the same period in 2007. Plant capacity utilization was 75% for the quarter compared to 79% last year and 75% in the second quarter. Operating income in the quarter was up 39% year-over-year and by about 69% sequentially. The earnings improvement resulted primarily from the mix shift from tolling to package sales, the exercise of commercial discipline in response to rising steel prices and limited availability of steel, and increased intercompany sales with the further integration of RCC. The Coaters operating margin as a percentage of third-party sales was 41% for the quarter compared to 35% in the same period of the prior year. We expect that our fiscal 2008 Coaters operating margin will be in the 28% range, which is slightly higher than previously indicated due in large part to the superior performance in our third quarter. The Components Group operating performance for the third quarter was exceptionally strong. Third-party revenue increased 8% year-over-year and 20% sequentially. The year-over-year revenue increase resulted primarily from transaction price increases spurred by the rising cost of steel, offset somewhat by decreased volumes. Year-to-date, Components tons shipped are flat compared with the same period of last year. The Components operating margin on external sales increased to 19%, up from 10% in the same period last year and 12% last quarter. Plant utilization was approximately 68% compared to 72% last year and 65% last quarter. Operating income improvements resulted from commercial discipline in passing on rising steel costs, higher intercompany sales on the increasing integration of RCC, cost reductions implemented earlier in the year, and a $1 million out-of-period favorable adjustment to cost of goods sold. The effect of the cost reductions are evident in the fact that despite the increasing revenue, our Components operating expenses have decreased by 6% compared to the same quarter last year. For the fiscal year, we now expect operating income margins to be around 12%, still short of the 13% to 16% we have reported in recent years but continuing to make forward progress. Our Buildings Group revenue increased 10% year-over-year and 13% sequentially. Similar to our Components business, these revenue increases are due in large part to increasing transaction prices required by the increasing cost of steel. Measured in tons, we shipped slightly less product this quarter than the same period last year. On a year-to-date basis, tons shipped are flat with the same period of 2007. We continue to experience increasing benefits from integrating RCC into our hubandspoke delivery system. Plant utilization for the quarter increased sequentially from 71% last quarter to approximately 76%, which was approximately the same level in 2007. In contrast to the Components and Coaters Group, the rapidly rising steel costs are resulting in some margin compression at the Buildings Group. While we are effectively passing on steel price increases, in the short run we generally do not capture the incremental margins on increased revenue. Accordingly, our operating margin in the Buildings Group decreased from 13% of third-party revenue in the third quarter of 2007 to 10% in 2008. As steel prices stabilize, we expect our Buildings margins will return to historic levels. We continue to expect the Buildings Group operating income margins to be around 10% for fiscal 2008. As Norm mentioned, our Buildings backlog was $424 million at the end of the quarter. During the quarter we saw cancellations of approximately $22 million, which were less than the $30 million experienced last quarter and which we believe were primarily the result of price increases, forcing some projects to be cancelled. We saw similar levels of cancellations in 2004, the last period of significant steel price inflation. In general, announced price increases tend to cause mixed results, with certain customers adhering or advancing shipping schedules to avoid higher costs from delays and other reevaluating their project economics.

[Norman C. Chambers:]

As a management team, we are proud of the way we operated within this period of very tough market conditions. As we came into the recent down cycle, which started for us in 2007, our objective was to perform not only better than we did during the recession of 2001 to 2003, but also better than we did during the extraordinary steel price increases of 2004. And as I've said earlier, we clearly have. We are a company of seasoned managers that continuously improves our internal systems and our understanding of the importance of commercial discipline, and we are committed to our 2008 strategy to double the 2007 EBITDA that we generated within five years' time. In the downturn, we have grown earnings in large part because of our operating structure, which is comprised of a balance portfolio of products and services that not only create value across the Coating, Components and Buildings Group, but also support growth through economic cycles. We are performing at record levels in the most challenging market conditions that we have faced in decades. As we move forward in 2009, we will execute our 2008 strategy, focusing on organic growth from technology advancements, engineering improvements and new products. It is clear to us that we will achieve an EPS not only over 2007, but also over our very best results, achieved in 2006. Therefore, our revised guidance for fiscal year 2008 is $3.85 to $4.00 per diluted share, before giving any effect to dilution from our convertible notes, if any. In closing, I'd like to thank all of my colleagues for an extraordinary effort so far this year and now we'll be happy to take your questions.

[Operator:]

(Operator Instructions) Your first question comes from Tom Hayes - Piper Jaffray.

[Tom Hayes:]

I was wondering if it's possible to provide a little color on the impact that pull through on the back orders had. You mentioned that people were maybe accelerating their anticipated delivery date. I was wondering if you could provide a little color on that impact?

[Norman C. Chambers:]

You know, it's a very difficult thing to calculate precisely, but we clearly saw some movement. We would guess that it's maybe something on the order of $20 million, but it's a real rough guess. But it kind of looked to us anecdotally that it's on the order of $20 million.

[Tom Hayes:]

There didn't appear to be any debt paydown in the quarter. Do you expect that there will be some further paydown in 4Q, where you typically have a strong cash flow position?

[Norman C. Chambers:]

We would like to accumulate cash to have that flexibility, that's for sure. As Mark said, very similar to 2004 when the steel prices increased, we've had to invest more in our steel inventory, so that sucked up a little bit of cash. But we'd expect to start to see that come back in the fourth quarter. So we'll accumulate some cash and then decide on what we need to do as we go into the banking period.

[Tom Hayes:]

And then I guess just lastly, if you look at the great margin performance in the Components segment, excluding the $1 million impact, could you just give a little more color as to what may have also driven that positive growth in the margins?

[Norman C. Chambers:]

I've got to tell that it's clearly the case that this 6% drop in our operating expenses really drove some efficiencies. They were able to do a whole lot of things on improvement of scrap, as Mark Dobbins had mentioned, but commercial discipline and the quick-turn nature of their business enables them in the Coaters Group to perform well in rising steel price environments. And what we find is that as steel prices begin to flatten or come down a little bit, that we'll see some stabilization in our Coating and our Components Group, and we'll see improvement in the Buildings Group as their backlog catches up with the pricing. But commercial discipline's a hugely important thing to us.

[Operator:]

Your next question comes from Arnold Ursaner - CJS Securities.

[Arnold Ursaner:]

The first question I have is obviously the concern people have is on the shift in seasonality that you're highlighting, and I guess I'm trying to get a better feel. If it's kind of August, September, October that we're dealing with, I would assume August normally is not your most critical month and that typically it would be the activity you see in September and October that really drive Q4 in utilization. Are you seeing something specific that's causing you to be much more cautious about the next few months?

[Norman C. Chambers:]

That's a great question, Arnie, and you're absolutely right. Our September and October is where we normally get the deal done in the fourth quarter. But I've got to tell you that August was pretty much - we haven't got the final numbers, but pretty much in line with what we'd hoped to see. So, again, all year long we've intended to be cautious and very conservative. We really need to watch now to see if there is further demand erosion - or if there is demand erosion from steel prices. And my memory just keeps blaring at me from 2004. We saw steel prices increase just like they did now and then there was demand erosion, and it took a little while for that to improve. So we're trying to be cautious. We're not saying that that is what will occur in terms of the demand erosion, but I think it's much better for us to be cautious.

[Arnold Ursaner:]

And my second quarter relates to the backlog. Obviously people are focusing on the fact that it's down a little bit sequentially, but wouldn't you also look at it as a pretty strong number relative to the past at this stage if you had worked down that much order book in the third quarter?

[Norman C. Chambers:]

Yes, very much so. If you look at it on a tons basis, we're down, I don't know, 4% or 5%, which is not bad at all in the market that we're in. We're actually very pleased with the backlog. And as I've said, quoting activity is still pretty good in the good parts of the market. And it defies kind of the media hype, but the retail and the commercial stuff really hasn't gotten any worse. It's pretty steady as she goes there. So we have our fingers crossed that we'll continue to be in an economy that shows some resilience.

[Arnold Ursaner:]

My final question is one that may be either difficult or impossible to answer, but I'm going to take a stab anyway. With Robertson Ceco now hopefully fully integrated, you've spent the time and energy building out the hub-and-spoke system, the engineering capability, can you look back and give us a sense of the cost savings you've had from this initiative and how we should think about margin performance next year given that you now are pretty well completed with this integration process?

[Norman C. Chambers:]

Well, I've got to tell you that we have a pretty good view that we've picked up about $12 million in operating income in 2007. If you look at it from one perspective, Arnie, the big difference between 2004 and now, the Buildings Group for the first three quarters outperformed 2004 by 88%, and that in large part was certainly some discipline but the Robertson Ceco piece is huge in it. The goal is to have the Buildings Group achieve a level of sustainable profitability of 15% by the end of 2010. And that comes from the technical systems - and we're probably something like three-fifths or four-fifths away along getting the technical systems in - and as Mark said, the hub-and-spoke thing is coming along really very well. But we still have a lot to gain there, Arnie. We're really probably only halfway there.

[Arnold Ursaner:]

Well, I mean, you used to see peak margins from you would get above 8% operating rates. In this quarter, several of your operating rates or utilization was lower and yet you had extraordinarily good margins. Is there a change in your business where something has caused your incremental margin to change materially even at lower utilization rates?

[Norman C. Chambers:]

Well, I think it depends on what part of the business. Clearly the commercial discipline that was applied across the Coaters and the Components Group was a big thing, but this cost reduction piece with the Components Group is huge. The intercompany sales, which boosted our Coating Group from 60% utilization based on internal to 63% is a very big thing. And finally, just to kind of give an example with the hub-and-spoke, the company we bought in January of 2007 in Spokane, we've improved the top line of that company by 34% in a year and improved the bottom line by 43% in a year. And that's all to do with what Mark Dobbins had explained with the hub-and-spoke. Mark, do you want to add some color there?

[Mark W. Dobbins:]

Yes, just a good example there of using it - Garco - as an example, that group was awarded a large project for a mining industry in Colorado recently and on that project we actually produced components out of our Salt Lake City plant and additionally produced frames out of two other NCI frame manufacturing facilities to put that job on track and on time. Now in previous years - Garco's a smaller regional manufacturer - those guys would not have been able to take on a project of that size and scope in the timeframe that it was required. Like I said earlier, it's kind of like the description of our hub-and-spoke type process.

[Operator:]

Your next question comes from Timna Tanners - UBS.

[Timna Tanners:]

A couple questions. I wanted to see - you [inaudible] earlier to the fact that steel prices are flattening and maybe rolling over. Are you starting to see any discounts from your suppliers or any change in the way their pricing towards you?

[Norman C. Chambers:]

Well, I never want to give specific insights with regard to relations that we have with suppliers, but we have always done particularly well on the margin, meaning that because of our financial strength we're able to pick up steel at different times, small amounts, at good pricing. But we clearly have seen that the steel producers acknowledge that demand is slow. And I think that their cognizant of the fact that they want our businesses to grow, and they're seeing some reasons why steel prices can't come back down a bit.

[Timna Tanners:]

A lot of what you talked about in the margin benefiting Components and Coatings has been - I'm sorry, on the revenue benefit - has been the higher average selling price, and volumes haven't done as well. Can you tell us how sticky those selling prices are in an environment where the steel price is coming down?

[Norman C. Chambers:]

Well, you know, what we find is that in 2005 we were able to pretty much hang on to our margins at the end of the year in our Components Group and our Coating Group, and that's when we were in the 13% to 16% range. So on the Components Group we're still a point below that, so we haven't yet recovered that level. But one thing we always do see is that phenomena working through the backlog. When steel prices start to slow a little bit, it gives the Buildings Group a chance to kind of catch up. So we normally would expect to see some improvement in the Buildings Group fourth quarter, maybe first and second quarter of next year if steel prices stay flat.

[Timna Tanners:]

I can see that and I can see the margin, but what I was asking about is the selling price. Does the selling price remain as sticky in a declining steel price environment theoretically?

[Norman C. Chambers:]

Well, it stays a little sticker on the Building side and a little less sticky on the Coating side.

[Timna Tanners:]

And then final question, is there a breakout in the revenues - again, you talked about average selling prices and you talked about volumes within the groups, but can you say overall that the percent increase of average selling price and then the direction and percent change in the volumes?

[Norman C. Chambers:]

Well, I think Mark spoke somewhat to the volumes. We said volumes were the reason we fired - going forward Mark has said we would expect to see the Coating Group kind of finish the year around 28%. That implies that the margins that we saw in the third quarter will come back down a bit, right? But that's still better than I had thought we'd do at 25%, so I'm pleased with that.

[Timna Tanners:]

Okay, but on the revenue side can you just say the direction of volumes for the quarter?

[Norman C. Chambers:]

Volumes in the fourth quarter will probably be off a little bit from the third quarter. But we are expecting that we'll be in the range of what we've said in the guidance, so you can kind of back into the math.

[Operator:]

Your next question comes from Robert Kelly - Sidoti & Co.

[Robert Kelly:]

Just a point of clarification. I think in the prepared remarks you talked about F08 margins in the Component division being 12%. Is that correct?

[Norman C. Chambers:]

Yes, sir.

[Robert Kelly:]

So just to get there for 4Q, you're talking about significant margin deterioration versus 3Q. What's the driver of that or are we just being overly cautious again.

[Norman C. Chambers:]

Well, as I said earlier, we're going to be on the cautious side for sure, right? We've been cautious all year long. We're going to continue to be cautious. And the big part is that we still need to be certain about whether we see the demand erosion that we saw in the tail end of 2004 and 2005. We've seen the preliminaries, in fact, of the August numbers, and they're looking pretty good. They're kind of where we expect them to be. But we're going to stay cautious because the steel price increases, Bob, could really slow things down.

[Robert Kelly:]

I understand the conservatism, but you're implying like a sub double-digit margin for the quarter. It just doesn't seem to add up. And then maybe on the backlog, the demand scenario seems relatively solid and you kind of outlined why that is. Does a decrease in steel prices actually help you there in EBS? Is that actually a positive for you?

[Norman C. Chambers:]

Yes, it is absolutely a positive.

[Operator:]

Your next question comes from David Yuschak - SMH Capital.

[David Yuschak:]

Let me just ask you about the - you know, the hub-and-spoke is really helping you drive the internal sales, which should ultimately longer term, if executed well, give you a very tightly integrated business model. I'm just wondering how much, whether you look at it as a percent or an absolute level, how much of your internal utilization could go to internal sales to make that - as you described with that mining contract - a tremendously efficient operation?

[Norman C. Chambers:]

Well, when we're running at the levels of efficiency that we're running out now, we've still got a lot of headroom, Dave. And as you know, we're investing in plants; we're increasing our automation. And so we expect to continue to increase the efficiency of our plants. We certainly have on the Coating side, and we have on the Buildings side. And in the Components side as we move to the panels business, that's a fully automated line as well. So we're expecting to increase our productivity for sure. So we don't see any major bottlenecks in our ability to support the hub-and-spoke. We see opportunities, really, in terms of our supply chain management, in bringing our costs down.

[David Yuschak:]

So ultimately, though, what achieves a very strong, tightly integrated model would be that your Building Systems ultimately has to become the driver to make this thing really work, with the Components and the Coatings feeding that?

[Norman C. Chambers:]

No. I think it's complementary to be sure, but if you think about the distribution we have on our Components side, they sell to thousands of customers, right?

[David Yuschak:]

Right.

[Norman C. Chambers:]

Their third-party sales we expecting to continue to grow. We think this panels business could be worth $150, $250 million to us over time in terms of growth of that.

[David Yuschak:]

So it's a concentration of new products to help the third party, but ultimately, looking at your internal sales, it's not fair to look at it as a percent [inaudible] at is not so much to look at it as a percentage of the total but the direction of the absolute total of sales being driven?

[Norman C. Chambers:]

Right. And when you think about it, the way to think about it is that the hub-and-spoke, you know, what Mark described, ends up driving our profitability so we can achieve our goal of 15% in the Buildings Group. You know, that's a big increase and could be hugely meaningful to us, doubling our 2007 EBITDA.

[David Yuschak:]

So the hub-and-spoke helps get you to 15% on the Buildings Group?

[Norman C. Chambers:]

Oh, absolutely.

[David Yuschak:]

While you sell to third parties on the Components?

[Norman C. Chambers:]

Absolutely, David. That's the key. That's the key people should take away.

[David Yuschak:]

Now let me just ask you about these cancellations. You said you had $30 million in the last quarter, $22 million in this quarter. And, as you know, I've not been bearish at all about non-residential construction. In fact, I'd probably be surprised if [Dodge] isn't pleasantly surprised how things have come in so far this year given the tough environment. Where's the cancellations and in these cancellations that did occur, are they coming back into the market? We're just getting some sense as to the fact that lease cancellations one, are abating, and two, have they been in the kind of - is that traditional retail space and some of those other places where it has been visible compared to other parts of the non-residential construction market?

[Norman C. Chambers:]

Probably retail, probably a little bit on the warehousing side. Institutional is finding steel price increases difficult but I'm not sure we've seen any meaningful decline there. Mark, have we?

[Mark W. Dobbins:]

No, I'd say it's mainly on that retail and commercial side of that piece.

[Norman C. Chambers:]

Yes. So it's really the commercial and retail piece, Dave.

[David Yuschak:]

Well, that's been where it's been consistently been for the last 12 months anyway.

[Norman C. Chambers:]

Yes.

[David Yuschak:]

Because the rest of the market's been relatively buoyant.

[Norman C. Chambers:]

We've been blessed by strong markets that buy steel buildings, even in - I mean, not ours, in our components, you know? It's good stuff.

[David Yuschak:]

Well, and from what I'm seeing I don't see where there's any excess developing in the rest of that non-residential market to suggest that there is going to be some serious problems maybe, as Dodge suggests. But that's just my opinion.

[Norman C. Chambers:]

Well, I mean, they're forecasting a year in 2009 of 7% decline in square footage on top of this year, which they're expecting will be down 13%. So in many respects 2009 is not expected to be as bad as 2008.

[David Yuschak:]

Now as far as your - and finally, with the steel prices abating here - did you guys give us an idea what your EBIT assumptions are for steel, the systems, for the year? If you did, I missed it. Could you give it to me?

[Norman C. Chambers:]

Let's just see if - Mark's going to dig that up. We generated EBITDA of $200 million in the quarter. Mark's just flipping there right now, Dave.

[Mark Johnson:]

You want the Building Systems operating income projections?

[David Yuschak:]

Yes, right, for the full year. What's your assumptions on the margin now?

[Norman C. Chambers:]

How about 10%?

[David Yuschak:]

10%?

[Norman C. Chambers:]

Yes. And again I keep stressing - because that's down - but boy, when I look back at 2008 and see them performing at 88% better than they did then, I'm tickled. It really speaks to the strength of that group.

[David Yuschak:]

One last question on the bidding side of it. You said that bidding still looks pretty good here. Is that bidding still coming from the same sources or are you seeing some new people coming back who weren't there before?

[Norman C. Chambers:]

No, pretty much the same stuff. Mark?

[Mark W. Dobbins:]

Yes, it's the quotes and that's pretty much the same group of customers and users.

[Operator:]

Thank you. (Operator Instructions) Your next question comes from Dennis Delafield - Delafield Asset Management.

[Dennis Delafield:]

Norm, on your balance sheet you pointed out that inventories were up, and they were up very substantially. And you sometimes have in the past gotten special deals on steel. Did you buy some excess steel in the quarter? Your payables aren't up a lot, receivables aren't up a lot, but inventories are up enormously. I wondered, even though steel prices are up, why the inventory levels were up so high.

[Norman C. Chambers:]

Well, it is directly related to the steel price increases, number one. Our actual inventory levels, I'm pleased to say, at the end of the third quarter are down 10% in tons. So that means we're turning the inventory right quickly. We of course take advantage of being able to buy on the margin 3,500 tons here, 5,000 tons there, when mills have some extra steel. And they tend to offer that to us at good pricing because we buy so much. So we try not to go too long. We order steel one quarter in advance, right? And we try to true-up what our demand is going to be and our inventory, and that's kind of how we tackle it.

[Dennis Delafield:]

And you turn your inventory how many times a year?

[Norman C. Chambers:]

We only turn it 6.2 times or something like that?

[Mark Johnson:]

We typically turn it from 8 to 10 times a year.

[Dennis Delafield:]

Typically 8 to 10 times a year for the steel?

[Norman C. Chambers:]

Yes.

[Dennis Delafield:]

So you should wash out a lot of this $226 million in the fourth quarter?

[Norman C. Chambers:]

Right, we will.

[Mark Johnson:]

Yes, we would expect to see a pretty significant decline in inventories, similar to last year's patterns.

[Norman C. Chambers:]

What we do, for those that have been with us awhile, we go into our seasonally slow periods of our fiscal Q1 and Q2, so we really try to work our inventories back down.

[Operator:]

Your next question comes from [John Grogan] - Goodnow Investment Group.

[John Grogan:]

I was just wondering if you could estimate what the gross profit margin would have been in the quarter had you used a LIFO accounting treatment?

[Norman C. Chambers:]

Oh, God, we couldn't. But, you know, we probably picked up a little benefit on FIFO, a small amount. It's really tough to calculate because you've got the commercial discipline in there as well on the pricing side. But I'm afraid it's difficult for us to get a LIFO count.

[Operator:]

(Operator Instructions) We have a follow up question from David Yuschak - SMH Capital.

[David Yuschak:]

[break in audio] just had some optimism going into this fourth quarter about business conditions to support that kind of steel buying, wouldn't it?

[Norman C. Chambers:]

I'm sorry, Dave, can you say that again?

[David Yuschak:]

The level of steel buying that you did go, where inventories did get boosted by that much, would suggest that you had some optimism going into the fourth quarter that business was still in pretty good shape.

[Norman C. Chambers:]

Oh, yes. Again, I want to be consistent with how I've been all year long, right? We need to be cautious. We need to be conservative. We need to not let expectations get ahead of us. We just need to keep performing in what is a challenging market, Dave. So we're going to continue on this conservative bent.

[David Yuschak:]

Then one last question on the cash flow and your debt assumptions for the next 18 months, is it kind of your strategy - help me understand this - that where you can paydown debt you'll pay it down, but otherwise you're going to keep that cash to have better options on how you may ultimately restructure the balance sheet?

[Norman C. Chambers:]

Yes, that's spot on. One of the beauties of our strategy for 2008 is it doesn't require us to take on more debt. So we'll be effectively, as we go through the period and pick out the right time, we'll be replacing our balance sheet, as Mark has said. And we will try to layer on as much of the new debt as we can with pre-payable debt so we can pay that down, because we all know we're going to pay more for the debt than we have in the past. So we're going to go into this in a way that can maximize our advantage and our cash flow.

[Dennis Delafield:]

Because generally you've not kept much cash on the balance sheet historically, right?

[Norman C. Chambers:]

Except when we were back in the acquisition mode.

[Mark W. Dobbins:]

I think it's important that we roll back on this inventory piece for just a minute and just reiterate what you said earlier - that on a year-over-year basis when you look at tons, we're actually going into the quarter slightly less than last year, tons level.

[Norman C. Chambers:]

That's right.

[David Yuschak:]

And that had to be pretty good because last year's fourth quarter was right in the smack of the credit crisis.

[Norman C. Chambers:]

Yes, it was for sure.

[Operator:]

Your next question comes from Michael Corelli - Barry Vogel & Associates.

[Michael Corelli:]

Just a question on the backlog. I'm not sure if you said. What is the decline in tons versus a year ago? I know overall it's down 6.4%.

[Norman C. Chambers:]

Yes, as I said, when we look at our tons in the quarter, we're down about maybe, you know, 5%, something like that, year-on-year. And our tons are a little bit less in our backlog for sure, but pretty good quality of work in there. That's the good news. We've got good backlog with good projects, good margins. So we're pretty pleased with what we see. As we've said, the commercial discipline is something that's important to us.

[Michael Corelli:]

But as far as the percentage decline in tons versus a year ago, if you're down 6.4% overall and the steel cost in there is up a reasonable amount, wouldn't your tons be down more than that on a backlog basis?

[Norman C. Chambers:]

If you back out what was pulled forward, if we had 20 million in pull forward and our fourth quarter's maybe going to be less than our third quarter, then, yes. I mean, yes, tons are down. But as I said, it's more important to us what's actually in the backlog for projects. Mark?

[Mark W. Dobbins:]

I think there's a couple of pieces of color you can add to that as well. Currently, when you look at a backlog in a rising steel condition, some of that backlog is not immediately priced, so it maybe a little bit under priced. Secondly, in a year like this when the steel costs have escalated the way they have, that backlog's very active. It's a lot cleaner backlog, as Norm referred to there. The cancellations that Mr. Johnson referred to earlier, that's proof of activity in that backlog. You don't have any old jobs hanging out there kind of cluttering it up, if you will.

[Norman C. Chambers:]

And Michael, there's another way of looking at this and that's if you look at our backlog at the end of Q2 at $450 million and then once we get through the year, most people would expect that that backlog would be the basis of our revenue in our Buildings Group for Q3 and Q4. I think what you're going to find when we look back on Q4 is that on top of that Q2 backlog we probably had 20% or 25% increase which was reflected with the revenue numbers. And that's, just as Mark has said, as we take work from the backlog, we reprice it to go into production.

[Operator:]

There are no more questions at this time.

[Norman C. Chambers:]

Thank you very much. I thought the questions were great and gave us a chance to clarify some things. I think when you look back on the transcript of the call, there's a ton of information in there which will help you as well. And again, we really appreciate your interest in the company. Thank you very much. I look forward to the fourth quarter call.