Q3 2008 NOVA Chemicals Earnings Conference Call - Final.(Broadcast transcript)

OPERATOR: Good morning, ladies and gentlemen. Welcome to NOVA Chemicals Corporation's third-quarter 2008 earnings release conference call. Please be advised that this call is being recorded. I would now like to turn the meeting over to Mr. Chuck Magro, Vice President of Investor Relations. Please go ahead, Mr. Magro.

CHUCK MAGRO, VP IR, NOVA CHEMICALS: Good morning. Welcome to the conference call for NOVA Chemicals' third-quarter 2008 results. Today, you will hear from Jeff Lipton, our Chief Executive Officer; Chris Pappas, our President and Chief Operating Officer, and Larry MacDonald, our Chief Financial Officer. After these remarks, we will open the phone lines to analysts and investors for a Q&A session, but first a few comments about disclosure.

Be advised that this call is being recorded for replay through our conference call provider and is being broadcast live through an Internet webcast system. The audio replay will be available in the Investor Relations section of our Company Web site for the next 90 days. A transcript of the recording will be a remain available at our company Web site as will as all posted materials related to the earnings release, including a set of slides that will be referenced during the comments.

The comments and answers to your questions will contain forward-looking information. This information, by its nature, is subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from those suggested today. Certain material facts and assumptions were applied in drawing the conclusions and in making the forecast or projections contained in these forward-looking statements. Please refer to the forward-looking information panel and Page 23 of our third-quarter earnings release for more information.

Now I will turn the call over to Jeff.

JEFF LIPTON, CEO, NOVA CHEMICALS: Thanks, Chuck. Good morning, everyone. I assume many of you have read Dow's earnings release this morning, saw Andrew Liveris on TV and/or heard their conference call. I can't argue with anything my friend Andrew said about the broad economy or his company. Dow does a great job in many of its diverse product lines. Sometimes though, it pays to be highly focused and concentrated and different than other companies in your industry. I agree with Andrew that our industry will see an inventory consolidation in the fourth quarter that will lead to a reduction of orders for many products, but I also believe we are already starting to see clear signs that credit market solutioning and that conditions will allow our customers to rebuild inventories relatively soon. In the case of polyethylene in North America, they will need to do just that.

But the most important thing for investors to understand is that NOVA Chemicals is in a unique position in our industry, and fortunately that position looks to be relatively strong wine. We are highly focused on polyethylene that mainly goes into consumer-staple products like the packaging and food production. As a consequence, we expect fundamental demand for polyethylene to continue its historical growth pattern even in a global slowdown, and we will show you why.

The core of our company is in Alberta, Canada, where natural gas costs and therefore our feedstock give us sustainable structural cost advantage in generally benign weather. In addition, with the bulk of our operations in Canada, the sharp more than 25% decline of the Canadian dollar from its recent peaks will give us very significant operating cost reductions. Chris Pappas will explain the impact to you.

We also have new and modernized ethylene and polyethylene facilities, proprietary technology and high-performance products that make us very different than most ethylene and polyethylene producers in our industry.

Our objective today is to explain all of this to you so you will understand our differences and to convince you that not only our track record but also our fundamental strengths and great future prospects make NOVA Chemicals a special and outstanding investment choice in today's volatile and uncertain market. This opportunity is expanded because our valuations, whether they are based on EBITDA generation, replacement costs of our assets, or now our exceptional positive cash flow and liquidity, do not reflect our unique position among chemical companies and other basic materials producers.

The third quarter was our sixth excellent quarter in a row with annualized EBITDA rates exceeding $1 billion per year in each of those quarters. Our results were driven by a record Alberta Advantage, lower operating costs and record polyethylene sales volume in September despite several scheduled ethylene and polyethylene plant outages over the summer that limited our ability to ship polyethylene.

Hurricanes Ike and Gustav severely disrupted US Gulf Coast ethylene and polyethylene production, which certainly helped our sales in September. However, the most significant impact of these storms could be felt in the fourth quarter. Producer polyethylene inventories ended the third quarter at record lows, and we will show you that polyethylene consumption remains strong. The storms and steady consumption of polyethylene, combined with financial pressures and the uncertainty felt by some of our customers, has led to inventory reductions throughout the supply chain.

Now, even with those facts, it's harder than usual to make a call on the fourth quarter because it is difficult to pinpoint exactly when our customers will no longer be able to or want to continue consuming their inventory. Like all companies today, our direct customers, converters and distributors would like to tie up as little cash as possible in their inventories and would also, like they did in the third quarter, try to put pressure on polyethylene producers to lower their prices. But unlike the third quarter, we entered the fourth quarter with extremely low producer inventories.

We know that polyethylene consumption has remained strong in October. We believe that is because polyethylene is used extensively to manufacture consumer staples. It is clear our customers will have to order heavily to maintain production and at some point replenish depleted inventories. It is hard to say exactly when that will the. But if you recall, after the hurricanes in 2005, we faced the same sort of issues and saw strong and expanding margins in the months following those storms. We will just have to wait to see what this quarter brings. Chris Pappas will cover our operating performance and current market conditions and provide you with some important data on polyethylene inventory and consumption.

In the third quarter, not only did we generate EBITDA at an annualized rate of more than $1 billion, we also generated $123 million in cash from operations. It is the first of what I expect will be a series of quarters where lower feedstock costs and a group of well constructed actions will allow us to significantly reduce our working capital investment and generate very strong cash flow.

Larry MacDonald will tell you about our cash flow in the third quarter and our expectations for the fourth quarter, and will describe our very healthy liquidity and plans for additional cash generation and debt reduction. Then I will come back and provide what I believe are some very compelling data points that I believe cement our case for global polyethylene demand strength and strong industry supply demand fundamentals. You will be able to see the basis for NOVA Chemicals' exceptional potential for strong earnings and cash generation for the coming months and years.

Now, let's go to Chris.

CHRIS PAPPAS, PRESIDENT, COO, NOVA CHEMICALS: Thanks, Jeff. Let me start with olefins and polyolefins, a business that continues to deliver excellent performance.

Third-quarter EBITDA of $282 million was higher than the $258 million earned in the second quarter and the $280 million this business delivered in the third quarter of 2007.

As you can see in Panel 1, the results here today are equally impressive. We have delivered EBITDA of $786 million so far in 2008, a step-change improvement compared to 2007, which was by far the best year in our history. You can see that we are on track to have another outstanding year.

The main driver of this outstanding performance is our Alberta-based ethylene/polyethylene business which delivered third-quarter EBITDA of $274 million. This strong performance is a direct result of the record $0.28 per pound Alberta Advantage and continuing improvement in our polyethylene product offering.

Take a look at Panel 2, which shows US Gulf Coast margins for both ethane and naphtha-based polyethylene production and our Alberta-based margins. You can see Alberta is truly a special place.

In polyethylene, I would like to but the three basic points. First, polyethylene consumption remains strong. Second, producer inventories are at very low levels. Third, producer chain margins are solid today and can remain solid in the near-term.

Panel 3 shows that year-to-date domestic consumption of polyethylene, as measured by NOVA Chemicals' hopper car releases by customers, is 7% higher than 2007. We have consistently seen this consumption pattern all here. Industry order patterns, on the other hand, have been quite variable, which caused large inventory builds in the beginning of the third quarter and record inventory depletion at the end of the quarter.

It is worthwhile stating that, so far in October, consumption by NOVA customers is up 9% versus October 2007 month to date. As we reported in our supplemental call on October 6, hurricanes Ike and Gustav caused a tremendous supply disruption for US Gulf Coast producers in September and the effects have carried over into the fourth quarter. We estimate that almost 40% of ethylene capacity was off-line in September and about 15% was off-line in October. Some of this capacity is still off-line and could be down for quite some time.

Another important story for the third quarter and likely looking forward is polyethylene industry inventories. Panel 4 shows American Chemistry Council data for producer inventory. You can see how volatile the pattern is, especially in the last few months.

The industry ended the third quarter with 36 days of sales in inventory, which is far below the 44 day historical average and low considering that sales in September were constrained by the hurricanes. If September industry …