Welcome to the Third Quarter 2020 Kaiser Aluminum Earnings Conference Call. My name is John, I'll be your operator here for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] And I will now turn the call over to Melinda Ellsworth.

Good afternoon, everyone, and welcome to Kaiser Aluminum's third quarter and first nine months 2020 earnings conference call. If you have not seen a copy of our earnings release, please visit the Investor Relations page on our website at kaiseraluminum.com. We have also posted a PDF version of the slide presentation for this call. Joining me on the call today are President and Chief Executive Officer, Keith Harvey; Senior Vice President and Chief Financial Officer, Neal West; and Vice President and Chief Accounting Officer, Jennifer Huey. Before we begin, I'd like to refer you to the first three slides of our presentation and remind you that the statements made by management and the information contained in this presentation that constitute forward-looking statements are based on management's current expectations. For a summary of specific risk factors that could cause results to differ materially from those expressed in the forward-looking statements, please refer to the company's earnings release and reports filed with the Securities and Exchange Commission, including the company's annual report on Form 10-K for the full year ended December 31, 2019, and Form 10-Qs for the quarters ended March 31, 2020 and June 30, 2020. The company undertakes no duty to update any forward-looking statements to conform the statement to actual results or changes in the company's expectations. In addition, we've included non-GAAP financial information in our discussion. Reconciliations to the most comparable GAAP financial measures are included in the earnings release and in the appendix of the presentation. Any reference to our discussion today to EBITDA means adjusted EBITDA, which excludes non-run-rate items for which we've provided reconciliations in the appendix. At the conclusion of the company's presentation, we will open the call for questions. I would now like to turn the call over to Keith Harvey. Keith?

Thanks, Melinda, and good morning, everyone. We delivered solid third quarter results driven by a rebound in automotive demand and continued strength and demand for our defense and general engineering applications. Following the onset of COVID, we have continued to aggressively flex costs to align with changes in market conditions. Although demand for our commercial aerospace applications in the third quarter dropped sharply from the strong first half of the year, we continue to reiterate the outlook for the second half of 2020 given in our second quarter earnings call. Strong execution by our employees enabled us to deliver solid third quarter results in very challenging conditions as we continue to deal with varying market dynamics influenced heavily by the impact of COVID. Total liquidity remained strong at $1 billion. Our capital allocation priorities and our financial guidelines remain unchanged and we continue to sustain our quarterly dividend. Let me comment briefly on the end markets. As we noted on our second quarter earnings call, we anticipated the full year decline in demand for our commercial aerospace applications would be reflected in our second half results as the large commercial aircraft manufacturers continue to deal with production interruptions and slowing deliveries as a result of significantly reduced domestic and international air travel. During the quarter, we quickly moved to lower cost in our aerospace and high-strength focused facilities and pivot available capacity to other markets where possible. In addition, we continued working with our customers on modifications to existing declarations. As we have previously noted, we have long-term strategic relationships with our customers, many with multi-year agreements in place that allow both parties to mitigate the short-term impact of changing market conditions and meet agreed-upon commitments. The continued strength in demand for our defense applications has partially offset the decline…

Thanks, Keith, and good morning, everyone. Value-added revenue of $154 million in the third quarter 2020 declined approximately $60 million or 28% compared to prior year quarter on 30% lower shipments, primarily driven by a decline in aerospace demand. Aerospace high-strength value-added revenue of $73 million decreased 43% on a 59% decline in shipments compared to the strong demand levels experienced in the prior year quarter. While demand for defense related applications remain strong, the impact of COVID-19 on commercial aerospace demand drove the significant decline in shipments. Value-added revenue in the third quarter 2020 reflected the impact of lower volumes, a favorable product mix and approximately $15 million of additional revenue recognition related to modifications to 2020 customers' annual declarations under multi-year contracts. Automotive value-added revenue of $24 million increased approximately 2% compared to the third quarter 2019 on a 5% increase in shipments, reflecting new program launches that began to ramp up as the auto supply chain returned to production following the second quarter 2020 COVID-related shutdown. General engineering value-added revenue of $55 million declined approximately 4% on a 5% reduction in shipments, reflecting seasonal demand weaknesses normally experienced in the second half, while pricing continue to remain stable. For the first 9 months of 2020, total value-added revenue of $546 million decreased $97 million or 15% on 19% lower shipments. Following a record 2019 and first quarter 2020, the impact of the pandemic in our aerospace high-strength applications drove the majority of the decline compared to prior year period. In addition, the second quarter impact of our automotive applications and our other planned exits of other non-strategic applications further impacted value-added revenue and shipments year-over-year. Turning to Slide 13. Adjusted EBITDA of $30 million in the third quarter of 2020 decreased $27 million compared to prior year…

Thanks, Neal. Summarizing our remarks on slide number 16. We delivered solid third quarter results driven by a strong rebound in automotive demand and continued strength in demand for our defense and general engineering applications despite the impact of the ongoing pandemic, and we have aggressively flexed cost and reallocated capacity to align with the changes in market conditions. We continue to anticipate total value-added revenue for the second half of 2020 will be down approximately 10% to 15% compared to the second quarter run rate with EBITDA margin in the mid-teens. Total liquidity remains strong at $1 billion. Our capital allocation priorities and our financial guidelines remain unchanged. We are well-positioned to continue to navigate challenging market conditions and capitalize on opportunities to further strengthen our prospects for long-term profitable growth. We will provide more color on our 2021 outlook during our fourth quarter earnings call next February, but we believe that 2020 will be the trough for earnings. Our philosophy has always been to prepare ourselves to navigate through the highly cyclical nature of the end markets we serve. We're confident that we have the levers in place to navigate through this period with our strong customer relations, our broad product offering, solid multi-year agreements, which provide a safety net through challenging market conditions, and a very strong balance sheet that allows us to manage our business and capitalize on additional opportunities, which may come our way. With that, I'll now open the call for questions.

[Operator Instructions] Our first question is from Curt Woodworth from Credit Suisse.

With respect to the aerospace guidance, not totally surprising, but can you comment a little bit more on kind of what drove the change? Is it a function of just continued destocking? Did -- were there further cuts in the build rate? I know you said the MAX certification was delayed. And maybe it's a little bit too early to think about next year in terms of customer nominations, but do you have any sense of view on how the market could look into the early part of next year or the cadence of the inventory destock, which arguably will take at least another 2 quarters to work itself out?

Sure. In looking at the market, we saw the large air framers begin to sort of reduce orders rapidly after the end of the second quarter. And so from a destocking perspective, they stopped early on. And so we think that, that will shorten the length of a typical destocking period that we experienced. As that relates -- we're still looking at the return -- and we're measuring return as to the strength that we saw in the 2019 time period. We continue to believe, as well as our end customers at this time that, that's going to take about 2 to 4 years to get back to that 2019 record level. Now that doesn't mean that we won't see a gradual recovery start happening over the next hopefully sooner than later but perhaps a couple of years or 1 year or so forth. So we're monitoring that very closely. The discussions continue with all involved. These things that I mentioned in our discussion points earlier are the things that we're waiting on. We're waiting for recertification of the MAX. We think that's going to be one little hurdle that we're going to get past that will start to give us more visibility as to how fast this will come back. And then I think as things progress, obviously, we're looking for public to be comfortable with returning to travel. That's going to continue to drive demand. And we think ultimately will recover. When those things start to happen is how fast we'll get back on this. Now with regard to how we're looking at how the world looks over those next few years, as we mentioned, we're very pleased with the strong multi-year agreements we have in place. And we think that those are going to give us a safety net with which to navigate until that time period when destocking has ended, and we're back on recovery with more sales with the large airframes.

Okay. That makes sense. And then with respect to general [drill], clearly, some pretty strong success, at least in the common alloy market on the anti-dumping outcome for the 18 countries. Have you seen any shift in buying behavior or with respect to that? We had heard that some service centers had engaged in a little bit of a prebuy to get ahead of it. And is pricing now starting to recover more? Or how would you kind of characterize the broader industrial market right now?

Yes. I think that what we're seeing with the stronger activity in general engineering and some of the other markets that I specifically outlined there, I think that's helping overall the conditions with pricing that we're seeing. That strong demand and with other markets starting to come up and really with the industry managing with their capacity availability, that tends to raise all boats. And so typically, if you go back to the '08, '09 period, in more of the -- that typical recession, we saw price degradation begin to happen. And hopefully, with this strong occurrence other than some of the challenges in some of the key markets, hopefully, we're going to see some stability continue to reign here on the pricing on all fronts. So add activity is raising all boats, Curt.

Okay, great. And then just one final one. And maybe it's a little bit difficult to kind of talk about this now. But in terms of like the future for Kaiser, you have the incredible balance sheet. You have a lot of optionality with respect to some of the interesting secular things going on in the market. From an M&A perspective, are you looking to become more active? I mean there's a couple of assets that are pretty decent quality assets available in the market now, I believe, for sale. Do you have any kind of vision for how the portfolio could look maybe not next year but in the next 3 to 4 years?

Well, you mentioned it. What we have is the ability to be able to react if something comes along that matches our filter and our capital allocation strategy. We've always focused on organic growth first. But inorganic as long as it fits certain guidelines and conditions, as we've stated many times, we're always first on the call list as a preferred buyer. That should continue with the current environment. And as we've stated, if we find something that's additive to our business that we understand, it's got a defensible, good, strong position. We understand the culture. If it's something that can provide that long-term shareholder value and we can stay within our leverage and liability guidelines, we're in a position to be able to pull the trigger. And -- but we're going to remain disciplined in that approach. So as long as we can check the boxes on those filters, we're in a good place to be able to do one of those if they come along.

Our next question is from Josh Sullivan from The Benchmark Company.

Can you just talk a little bit about the conversations you had with aerospace customers, those modifications you mentioned in the prepared remarks? Can you just help us understand some of the parameters around those conversations? Is pricing part of that conversation and maybe what the timelines you're talking about with some of those modifications?

Sure. Well, listen, without really getting into the vows of our agreements, which we wouldn't do. But many of our contracts have provisions in place for cost recovery. It's margin protection, volume, product mix, a number of things. And when it's determined if those provisions can't be met, it creates a contractual obligation. During the quarter, it was determined that several of those would not meet the provisions in the contract and that triggered the obligation that was recorded, and Neal spoke at detail too. So we -- if you think through that from a Kaiser Aluminum perspective, that's really how we approach. We've always stated we approach things in understanding the markets, because even though it hasn't demonstrated as such, the aerospace market has always been a cyclical market. And so we always plan for those downturns. Our approach to long-term agreements reflects that philosophy, and you can see that those are in place. It happened to trigger in for 2020. And again, those same agreements are in place for multi-years with many of our customers.

I mean is there any reason to think that it could be triggered in 2021 at this point or do you think that '20 was the low point and...

It's a great question, Josh. Not necessarily in a position to answer that at this time. But what gives us comfort in being able to understand what our future looks like is understanding that with these agreements there is a safety net at certain conditions. And so we're able to pull on those. If the market were to get worse, we're able to pull on those heavier and hopefully the markets will return quicker than what has been anticipated or communicated to date.

Got it. And then just switching over to general engineering, can you give us any granular detail on the reshoring impact? What products gives you confidence that reshoring is really driving some of that strength?

Well, we're seeing, obviously, and you heard in our last earnings call, lot of -- there was a lot of disruption in the supply chain with folks that had a supply chain that perhaps spanned over some oceans of water. A lot of disruption there. And then as they come back to really look at the availability and the products that we have, these markets had gotten pretty hot in a lot of the key areas; semiconductor is one, the automotive, we talked about. We don't talk a lot, but munitions, space programs and all that. And we're able to provide a very good product in a very good lead time. These days lead time is pretty key. In a lot of our product lines we're half the lead times that perhaps some of the imports can offer, and that resonates. That resonates for long-term supply positions and we're just seeing a move in that direction. We happen to have more capacity available to meet that demand and help shore those things up. And I think the overall condition is really just supporting this -- our position here with capacity and looking at security of supply chain. So I think that's going to continue strongly into '21. We've had some really good wins to date in that area and we continue to talk to others about long-term agreements.

And then just one on the automotive strength into 2021. I mean, do you think you're going to be more focused on a couple of these large new product launches that are coming through or do you think it's a little more broad-based?

It's pretty broad for us, Josh. We have multiple launches that are executing this year. We have a number of launches planned for -- excuse me, this year and next year. I stated in the last call, we also were recipients of a couple of really nice new contracts, new awards, which are actually being implemented and were implemented, becoming implemented in the third quarter. So we're seeing significant activity right now. We've anticipated this for a long time. We've put millions and millions in place for -- and expectation for these markets to move off. We had a really good recovery, albeit second quarter for the COVID-related. The first and the third quarter has been very strong, as we would have expected. And we just see that just getting hotter for next year. So it's a really good outlook for automotive from our perspective and a lot of opportunities on new programs across the spectrum on all the products we're offering.

And we have a question again from Curt Woodworth from Credit Suisse.

Yes, hi. Just wanted to follow-up on Josh's question. Within the extrusions market in terms of the sort of the secular trend in light-weighting and aluminum taking -- aluminum generally taking share, typically I would think on the new platform, you've got three to four years of visibility ahead of that given redesign and the timing around that. Would you say that you still feel pretty comfortable that that secular trend has momentum into 2022, 2023? Is bidding activity still pretty good for those products or do you think we're getting closer to a point of maturation?

No, I think it's very good. When we quote on programs, we're generally out two or three years, three or four years in some cases on some of these platforms. So the businesses that we're quoting on are out in that timeframe, and we've seen no fall-off in increasing demand for light-weighted aluminum extrusions. So we think that's -- this thing has legs and we're continuing to be very well-positioned to take advantage of it.

And we have no further questions at this time. I will turn it back over to Keith Harvey for closing remarks.

Alright. Well, thank you very much for joining us on the call today. We look forward to updating you during our fourth quarter 2020 conference call in February. Have a good day.

Thank you, ladies and gentlemen. That concludes today's call. Thank you for participating, and you may now disconnect.