Steven J. Delahunt - Cabot Corp. Sean D. Keohane - Cabot Corp. Eduardo E. Cordeiro - Cabot Corp. Daniel Rizzo - Jefferies LLC.

Kevin Hocevar - Northcoast Research Partners LLC Ivan M. Marcuse - KeyBanc Capital Markets, Inc. Jeffrey J. Zekauskas - JPMorgan Securities LLC Christopher J. Kapsch - Aegis Capital Corp. James M. Sheehan - SunTrust Robinson Humphrey, Inc..

Good day, ladies and gentlemen, and welcome to the Cabot's Q4 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. As a reminder, this conference is being recorded.

I would like to introduce your host for today's conference, Steve Delahunt. You may begin..

Thank you, Lianne. Good afternoon. I'd like to welcome you to the Cabot Corporation Earnings Teleconference. Last night, we released results for our fourth quarter and full fiscal year 2016, copies of which are posted in the Investor Relations section of our website. For those on our mailing list, you received a press release by email.

If you are not on our mailing list and are interested in receiving this information in the future, please contact Investor Relations. The slide deck that accompanies this call is also available in the Investor Relations portion of our website and will be available in conjunction with the replay of the call.

During this conference call, we will make forward-looking statements about our expected future operational and financial performance. Each forward-looking statement is subject to risks and uncertainties that could cause actual results to differ materially from those projected in such statement.

Additional information regarding these factors appears under the heading Forward-Looking Statements in the press release we issued last night and in our annual report on Form 10-K for our fiscal year ended September 30, 2015 and is filed with the Securities and Exchange Commission and available at www.sec.gov and in our website at www.cabotcorp.com as well as subsequent filings with the SEC.

In order to provide greater transparency regarding our operational performance, we refer to certain non-GAAP financial measures that involve adjustments to GAAP results. Any non-GAAP financial measures presented should not be considered to be an alternative to financial measures required by GAAP.

Any non-GAAP financial measures referenced on this call are reconciled to the most directly comparable GAAP financial measure in the table of the end of our earnings release issued last night and available in the Investors Section of our website at www.cabotcorp.com.

Also, as we typically do each year, I'd like to remind you that over the next several weeks, in connection with the vesting of restricted stock awards issued under our long-term incentive equity program, officers of the company may sell shares to pay tax and other obligations related to their awards.

I will now turn the call over to Sean Keohane who will discuss the key highlights of the company's performance. Eddie Cordeiro will review the business segment and corporate financial details. Following this, Sean will provide closing comments and open the floor to questions.

Sean?.

Thank you, Steve. Good afternoon, ladies and gentlemen. I'm pleased to share with you our results for the fourth quarter and full-year fiscal 2016. As a company, we feel very good about our fourth quarter performance as we delivered strong results driven by higher margins and lower fixed costs.

The Reinforcement Materials segment delivered its strongest EBIT quarter since the first quarter of 2015 while the Performance Chemicals segment had another strong quarter, delivering EBITDA margins in excess of 30%.

The Purification Solutions segment realized significant year-over-year growth, resulting from the full implementation of MATS and the Specialty Fluids segment continues to see the benefits of diversifying its customer base. Now moving to the full year 2016.

On a consolidated basis, for fiscal 2016, we generated adjusted EPS growth of 16% as compared to the fiscal 2015. The Performance Chemicals segment delivered a third consecutive year of record EBIT based on improved margins, lower fixed costs and solid volume growth in both Specialty Carbons and Formulations and Metal Oxides.

After a challenging first quarter, the Reinforcement Materials segment demonstrated improvement throughout the balance of the year as we realized the benefit from the calendar year 2016 customer contracts.

The Purification Solutions segment had significant volume growth in fiscal 2016 compared to fiscal 2015 largely from the MATS implementation, while the Specialty Fluids segment saw a year-over-year increase in project activity despite a low oil price environment.

We exceeded our cost savings target of $50 million and generated strong cash flows which we used to return over $100 million to shareholders. On the strategic front this quarter, we announced the intention to do the new fumed silica plant and the groundbreaking of our Asia Technology Center in China.

In 2016, we introduced a new vision, corporate strategy and financial framework. Our vision defines our aspiration for the company and guides our strategy. Our vision is that we will be the most innovative, respected and responsible leader in our markets, delivering performance that makes a difference.

This vision provides clarity of purpose and our strategy called "Advancing the Core" lays out the roadmap for extending our leadership in Performance Materials by driving three key themes. First, investing for growth in our core. Second, driving application innovation with our customers.

And third, generating strong cash flows through efficiency and optimization. In 2016, we have successfully begun to implement this new strategy across a number of our businesses.

For instance, our commitment to growing our core is exemplified through the agreement that we signed with Hengyecheng Silicone Company to form a fumed silica joint venture in China. This agreement will allow us to meet growing demand for our high-quality, high-performance fumed silica enabled by a long-term reliable source of feedstock.

In addition, we also recently announced our plan to open a new Asia Technology Center in Shanghai. The new facility is evidence of our commitment to developing deeper application understanding and delivering innovative formulation solutions to our customers.

As China transitions to a period of more moderate growth, innovating and collaborating more closely with our customers is an essential element of our growth strategy. Our work to improve the efficiency of our operations and optimize our performance is evidenced by our 2016 cost reduction initiative.

We reduced costs by over $60 million in fiscal 2016 compared to the prior year. This performance exceeded our $50 million target and has improved the competitiveness of our operations and contributed to our strong earnings growth year-over-year.

We also introduced our capital allocation framework which targets returning 50% of discretionary free cash flow to shareholders. In the fourth quarter, we generated $66 million of discretionary free cash flow and returned $33 million in the form of dividends and share repurchases.

In fiscal 2016, we generated $252 million of discretionary free cash flow and returned $104 million to shareholders. Overall, I'm very pleased with the progress we are making and I'm confident in our ability to deliver attractive and sustained total shareholder return based on the combination of EPS growth and cash return to shareholders.

I'll now turn the call over to Eddie to discuss the financial results of the quarter in more detail.

Eddie?.

Okay. Thanks, Sean. So, during the fourth quarter of fiscal 2016, the company delivered strong year-over-year results driven by higher margins and lower fixed costs. As compared to the prior year, we delivered EBIT improvement in our Performance Chemicals, Reinforcement Materials and Specialty Fluids segments.

Purification Solutions EBIT was flat year-over-year as significant growth in MATS volumes was offset by the negative impact from inventory reductions. We also generated strong cash flows from operations and repurchased 300,000 shares for $15 million.

During the fourth quarter of 2016, EBIT for Reinforcement Materials increased by $11 million as compared to the fourth quarter of 2015. The increase in EBIT was principally due to higher unit margins driven by improved pricing and mix.

The benefits were partially offset by lower volumes in EMEA and Asia primarily due to our plant closure in Merak, Indonesia.

Sequentially, Reinforcement Materials EBIT increased by $7 million compared to the third quarter of fiscal 2016 driven by higher unit margins from improved spot pricing in China and Europe, as well as favorable feedstock sourcing in Asia South and South America.

In addition, the segment benefited from inventory builds in advance of plant turnarounds that will occur in the next quarter. Higher unit margins were partially offset by seasonally lower volumes in the Americas and in EMEA. Full-year fiscal 2016 EBIT in Reinforcement Materials was down $6 million primarily due to a difficult first quarter.

Beginning in January, the business benefited from improved calendar-year contracts, spot pricing and cost savings initiatives as the segment delivered progressively stronger quarters throughout the year. Now turning to Performance Chemicals. EBIT in the fourth quarter of 2016 increased by $9 million compared to the fourth quarter fiscal 2015.

The increase in EBIT was primarily due to better price and product mix and lower feedstock costs in the Specialty Carbons and Formulations business and lower fixed costs across the segment.

Sequentially, Performance Chemicals EBIT decreased by $1 million compared to the third quarter of fiscal 2016 primarily due to seasonally weaker volumes, partially offset by lower fixed costs and favorable mix. Sequentially, volumes decreased by 7% in Specialty Carbons and Formulations and by 3% in Metal Oxides.

For the full fiscal year, Performance Chemicals EBIT improved by $47 million over fiscal 2015, which was the third consecutive year of record results for this segment. The improvement was driven by higher margins, strong cost management and a 3% increase in volumes year-over-year in both Specialty Carbons and Formulations and Metal Oxides.

EBITDA margin for the segment was 32%. EBIT in the fourth quarter of 2016 in Purification Solutions was flat compared to the same period last year.

The segment benefited from significantly higher MATS volumes and lower fixed costs from our cost savings initiatives, which were offset by a $5 million unfavorable inventory impact and less favorable price and product mix compared to the prior year.

Sequentially, Purification Solutions EBIT increased by $2 million compared to the third quarter of fiscal 2016, driven primarily by higher volumes related to both MATS and non-MATS demand.

The segment also benefited from a $2 million favorable impact from inventory levels which decreased at a slower rate in the fourth quarter of 2016 compared to the third quarter of 2016. These effects were partially offset by a less favorable price and product mix.

For the full year, EBIT in the Purification Solutions segment decreased by $10 million compared to the fiscal 2015 due to a $29 million unfavorable impact from reducing inventory levels versus last year's inventory build in anticipation of the mass implementation, lower prices and a less favorable product mix.

These effects were partially offset by significantly higher MATS volumes and lower fixed costs. In the fourth quarter of 2016, EBIT in Specialty Fluids increased by $7 million compared to the fourth quarter of 2015 as we benefited from an increased level of project activity in both the North Sea and Asia.

Sequentially, Specialty Fluids EBIT decreased $5 million compared to the third quarter of 2016 as we saw reduced rental activity due to the timing of North Sea projects. For the full year, Specialty Fluids EBIT increased by $7 million compared to the fiscal 2015.

Higher project activity levels resulted in higher rental and sales volumes for our drilling fluids in both the North Sea and Asia. In addition, the segment was successful in reducing costs as part of our company-wide cost reduction initiative. I will now turn to corporate items.

We ended the quarter with a cash balance of $200 million and our liquidity position remained strong at $1.2 billion. During the fourth quarter of fiscal 2016, cash flows from operating activities were $91 million including an increase in net working capital of $4 million. Capital expenditures for the fourth quarter of fiscal 2016 were $32 million.

Additional uses of cash during the fourth quarter included $18 million for dividends and $15 million for share repurchases. During fiscal 2016, we generated $386 million of cash flow from operations including a decrease in net working capital of $43 million. Capital expenditures for fiscal year 2016 were $112 million.

Additional uses of cash during the fiscal year included $65 million for dividends and $39 million for share repurchases. During the fourth quarter of fiscal 2016, the company recorded a net tax provision of $13 million for an effective GAAP tax rate of 19%. This included a tax benefit from certain items of $7 million.

The operating tax rate for the fiscal year ended September 30, 2016 was 24%. As we look towards 2017, we expect capital expenditures of approximately $150 million to $175 million. And we anticipate an operating tax rate of 24% and are not currently anticipating a significant impact from LIFO accounting through 2017.

And I'll now turn the call back over to Sean..

Thanks, Eddie. Looking ahead to 2017, we remain intensely focused on driving our "Advancing the Core" strategy. After three years of record EBIT growth in Performance Chemicals, we believe earnings growth in 2017 will likely moderate.

In the year, volume growth in fumed silica will likely be more challenging as the electronics industry continues to migrate away from the use of fumed silica in the CMP application. However, for most application areas, growth prospects are robust and we continue to see success in new product development across the segment.

Furthermore, we continue to strengthen our foundation for the future as evidenced by our recent capacity announcements in fumed silica and specialty compounds. The market for Reinforcement Materials remains mixed. We continue to see strength in Europe driven by solid demand and the recent plant closure announcements by competition.

In North America, the long-term fundamentals for tire growth remain solid although there may be some increased tire inventories to work through following new Chinese antidumping duties in the U.S. In terms of emerging markets, South America remains weak while we are optimistic that we're seeing early signs of improved market conditions in China.

Our annual contract negotiations are progressing well and we'll be able to give you a much clearer view at the end of the calendar year.

In the Purification Solutions segment, we anticipate solid performance based on the continued strong growth in the MATS-related business combined with an improvement in variable costs and the negative impact of inventory reduction subsiding, all of which keep us on track to deliver the seasonally adjusted $4 million to $5 million of EBIT per quarter that we mentioned on last quarter's call.

The first quarter is typically our weakest due to the seasonality of MATS volumes and water purification market and we expect the first quarter of 2017 to follow that trend.

For the Specialty Fluids segment, we continue to pursue opportunities outside of the North Sea with a number of projects in the pipeline that support our outlook of continued solid performance in 2017.

As always, the performance of this business is sensitive to the timing of large projects which we expect to be more heavily weighted to the back half of 2017. Overall, in 2017, we remain confident that our strategy will deliver top-line growth consistent with our end market exposures.

In addition, we'll continue to invest in new product and process technology, seek to capture the operating leverage from improving utilization and pursue growth investments including bolt-on M&A in our existing businesses.

We will continue to target 7% to 10% EPS growth annually over time, which when combined with returning 50% of our discretionary free cash flow, will deliver sustained and attractive total shareholder return for our owners. Thank you very much for joining us today. And I will now turn the call back over for our question-and-answer session..

. And our first question comes from Kevin Hocevar with Northeast (sic) [Northcoast] (18:35) Research. Your line is open..

Hey. Good afternoon, everybody....

Hey Kevin..

Wondering if you could help – you called out Reinforcement Materials sequentially, pricing helping out. Wondering if – I think you have pricing actions in a lot of areas of the world, in Europe, in China, in North America.

Could you elaborate on where – which areas are having the most success? And remind us – I think only really spot business was being impacted.

What percent of the business was being impacted by those pricing actions?.

Sure. So, Kevin, maybe I'll start with Europe. So, in Europe, the spot market represents about 15% of our business. And as you called out, we have had pricing actions in the spot market over the last number of months.

And I would say that those have gone well and are consistent with our view of how this market is developing as we are in the contracting season here. Demand remains solid and there have been some supply side plant closures that have been announced. And so, I would say that story is developing largely as we've discussed with you on previous calls.

In North America, it's basically a contract market and so there's not really much to say there about spot. The largest single spot market that we have is China and we are pleased to see that we're seeing at least some early signs of market conditions firming up a bit there which is positive and hope that that continues as we progress into 2017..

Okay. And you mentioned – I'm not sure what you can say at this point with contracts. I think they typically wrap up over the next month or so.

Is there anything – any directional indicators? Maybe you can't give us too many specifics, but do you expect positive pricing a net result of those contract negotiations in 2017 or what are you able to tell us about – at this point about that?.

Yes. So, a bit difficult to get into any detail here, Kevin, as we are in the midst of contract negotiations and obviously this information is competitively sensitive. So, I can't say much in terms of specifics, but perhaps I can help a little bit in terms of what we're seeing in each of our regional markets.

And I'll remind you that our annual contracts are largely North America and EMEA. We have some contracts in South America and Japan, but largely North America and EMEA. And as I commented on the spot situation in Europe, we continue to see strength in Europe driven by solid demand as well as the impact from some recent plant closures.

So, that remains, I think, positive and consistent with what we've laid out. In North America, the long-term fundamentals for tire growth, I think, remain solid. We've seen announcements over the last several years of a number of new tire plants and certainly seeing those coming on line and further ones under construction.

We are watching carefully, however, the near-term impacts from some softness in the OTR market as well as overall tire inventory levels given the apparent channel stuffing by Chinese TBR producers in advance of the anti-dumping duties that recently went into place, so something that we are watching here.

South America is continuing to experience a fairly tough macroeconomic environment, but we are hopeful to see some improvement starting in 2017. And then in Japan, where we also have some business under contract, I would say, while market growth is fairly flat, the situation is largely balanced.

So, hopefully, that gives a little bit of context about the environment..

Yep, very helpful. And then last one and then I'll jump back in the queue. You mentioned in your guidance a weaker sequential earnings outlook due to normal seasonality and some higher costs from the plant turnarounds.

Wondering if you could elaborate that on a little bit more because I look back and – if I look sequentially from 4Q to 1Q the last couple years, one year, it was down 35%; one year, it was down 6%. In terms of EPS, one year, it was up 10%.

So, wondering if you can elaborate what is normal seasonality here and what type of impacts should we expect from the plant maintenance..

Yeah. So, I'll try to help a bit here. I mean, certainly Q1 is our lowest quarter in terms of just underlying activity and I think a couple of things drive that. Number one is a lot of our customers, most of our customers are on calendar year fiscals.

And so we always see a certain amount of inventory management which, in combination with the holiday season, causes the quarter to be slower.

And then in Purification Solutions now, as this business after a few years is fully in the portfolio and we've seen a ramp up of MATS, we definitely see that Q1 is their weakest quarter and that's really because it's a shoulder season in terms of electricity demand.

And so, the combination of that as well as the seasonally slower water market which is driven more by overall temperatures, that's why at a sort of a fundamental level, you see this sort of a weaker Q1 from a seasonal perspective. So nothing fundamental, but really just the seasonality that goes along with these businesses.

Now, on the cost side, in the quarter, the timing of our maintenance turnarounds are always moving around a bit depending on specific situations and we do have a bit of a heavier turnaround load in the quarter versus the past quarter. And so, that will have some impact on the quarter.

But again, the timing of maintenance turnarounds can be somewhat lumpy and really depend on specific situations at different plants..

Understood (25:23). Thank you..

And our next question comes from Laurence Alexander with Jefferies. Your line is open..

Good afternoon, it's actually Dan Rizzo on for Laurence. There's a lot of moving parts, (25:37) $0.10 gain from the debt refinancing should (25:42) $0.25 and about $0.20 from cost cutting and $0.25 from (25:48).

So does that suggest that 2017 could be higher than 7% to 10% EPS growth or is this some sort of offset that I'm not really thinking about?.

Hi, Dan.

How are you?.

Good.

How are you?.

Good. Good. Well, I think in terms of 2017, we continue to see that the Reinforcement Materials business is progressing well and we've seen improvement throughout each of the quarters in 2017. And so, we're pleased with that, but a significant amount of the outcomes here will depend on how contract negotiations go, number one.

I think number two, in terms of Purification Solutions, not sure I followed your numbers there, but I think the best way to think about Purification Solutions as we see the impact of inventory effects abating, we are looking at our run rate on a quarterly basis in the sort of $4 million to $5 million range EBIT and there'll be some seasonality to that, but that's a reasonable way to think about things.

And then, in Performance Chemicals, we are expecting that despite having had three strong years of record earnings growth, that the growth rate will moderate a little bit, as I called out earlier. So, those are sort of what's happening.

And as it relates to our targets, while we haven't committed to achieving the 7% to 10% EPS growth rate every single year, it's a more of a longer term target, we believe it's something that is within our reach in 2017..

All right. Thank you very much..

And our next question comes from Ivan Marcuse with KeyBanc Capital Markets. Your line is open..

Hi. Thanks for taking my question..

Hey, Ivan..

Hey, how you're doing? Real quick.

So, in terms of the turnaround or the turnarounds for plants, is that all in the Reinforcement business? And sequentially, I guess fourth quarter to first quarter, how much more I guess is plant cost would (28:17) impact the quarter?.

Well, the maintenance turnarounds will cut across both Performance Chemicals and Reinforcement Materials. But there will be a noticeable step up in maintenance activity in Q1 for Reinforcement Materials. And as I've said earlier, I think the timing of these – moves around a little bit and this is how the sequence of it kind of flows in 2017.

The other thing that's happening in Q1 is in anticipation of these turnarounds, you typically build inventory which is what we did in Q4. We built some inventory. And then while we are down for the turnarounds in Q1, we will be drawing inventory which will have a short-term impact on EBIT.

So, the combination of higher maintenance spending as well as the draw of inventory in the quarter will have some impact. So, that's what we're getting at when we call this out..

Got you.

How much of a benefit was the inventory build?.

I'm sorry?.

How much of the benefit was the inventory build in the fourth quarter?.

A few million dollars. Few million dollars is the way to think about I think, Ivan..

Okay. Great.

And then the Indonesia plant that you're closing, I thought it was going to close at the end of January of 2016, is this a sort of a slow ramp down that we saw in that quarter? And how much of a drag should it be in volumes looking on 2017?.

Yeah, no, you're correct, Ivan. This closed in January of 2016. So, I think that reference earlier was on a full-year basis, talking about the volume. So, that plant is closed as we have communicated January of 2016..

Got it. And then in the Performance Chemicals, it looks like our math is right in the fourth quarter. Pricing sort of or the price mix sort of de-accelerated down quite sharply than it had in the previous three quarters.

Is that more mix or is that just the pricing get a little bit more aggressive in that business? And it looks like you had a pretty strong benefit from price of raw materials throughout the year.

Should that reverse out as we go into 2017 or should that maintain?.

So, I think a couple of things on Performance Chemicals in terms of overall pricing. First of all, I think as you know, the amount of feedstock-linked business that we have is much smaller here than it is in Reinforcement Materials. So, it ends up – while there is some of that, it ends up, it's more of a spot type of a business.

So, as we look at the past quarter here, we definitely saw some benefit from – in unit margins from the difference between raw material costs and pricing. And that is something that did help us on a full-year basis, as well as overall, would improve product mix.

In any given quarter, you can see some movements in the mix, which you could think about as both a regional mix as well as mix across a diversity of applications. But I would say, overall, the fundamentals of the business remain really strong here.

We're really pleased with the long-term performance of this business and so we're happy with where things stand..

Okay. And then, I may have missed it in your prepared remarks and I know I misunderstood what Dan just said.

But if you look at the refinancing they're doing in your debt – for the debt, what should your interest expense be for – or what are you expecting it to be – or for your fiscal 2017 and what sort of, I guess, how to think about it, through your fiscal 2017 versus what it was in 2016?.

Yeah. Ivan, maybe I'd ask Eddie to help with that question..

Yeah. Hey, Ivan. Yeah. I think based on the lower rate we're able to achieve on the long-term debt, offset by maybe some slight increases we're seeing in some of our shorter term debt, you'll probably see something in the $3 million to $5 million less as we – of interest for the year as we sit here today.

Obviously, that will depend on if rates change on the short-term stuff..

Okay. Great. Thank you. I'll jump back in the queue..

And our next question comes from Jeffrey Zekauskas from JPMorgan. Your line is open..

Hi. Thanks very much..

Hi, Jeff..

Hi.

How much did Specialty Carbons grow in volume this year? And how much did Reinforcement Materials grow in volume for the full year?.

Yes, Specialty Carbons and Formulations grew 3% on a full-year basis. And we feel that that's consistent with where market was. And Reinforcement Materials was, on a full year basis, down 2%..

Down 2%.

Do you have a sense of how much the overall carbon black market will grow, if it grows at all in 2016?.

You're talking in 2017, Jeff?.

2016. And then if you can forecast 2017 for the market as a whole and why the growth rate might be a little different in 2017, that would be great..

Yeah. So, I think it's useful to look at this in terms of Specialty Carbons as separated from Reinforcement Materials. And so, I think in 2016, market growth in that 3% to 4% range is probably about what's happening when you look at the composite of different applications in Specialty Carbons. So, I think that's a reasonable way to think about it.

And as we go forward into 2017, it's difficult to project with great specificity. But if you look at the applications, auto builds, the trends on polymers since a lot of this goes into plastic applications, I think something in that range is a reasonable thing for 2017.

In Reinforcement Materials, I think it's important to first, when you look at the overall number, reflect on the fact that for most of the year, we had the closure of our Merak, Indonesia facility, impacting our numbers. So, this is largely explaining the negative down.

As we think about growth in this business over the longer term, we do see the fundamentals are intact there and it's something that does typically trend towards a GDP-type of a number.

And so, I think that remains the case here because you're seeing that miles driven and the level of industrial activity would be what would be kind of underpinning that. So, that remains our long-term outlook and I don't see any change there.

But quarter-to-quarter, you can see some movements as regional flows and depending on how inventory chains fill and empty, you can see some movement there..

And in Purification Solutions, how much did volumes grow in 2016 and is your expectation for improved profits next year based more on our cost structure or on volume gains?.

Say it again, Jeff.

In terms of – I didn't catch the second part around costs or something?.

Sure.

So, I was wondering how fast in volume terms did Purification Solutions grow this year? And in terms of your optimism about profit growth in that area next year, does that depend more on additional volume growth or cost reduction or what's behind your belief that it will improve?.

Yeah. Sure. So, with respect to the volume profile for the business on a full-year basis, it increased 6% on a full-year basis in fiscal year 2016.

As we go forward, I think I realize we have a lot moving parts here in this business if you step back and look over at the last couple of years with the uncertainty around MATS and then the implementation of it, as well as the strategic inventory build that we did to support that ramp up, there are a lot of moving parts here.

And I think the best way to think about it is that this business should be, looking forward here, delivering in the sort of $4 million to 5 million EBIT a quarter. There'll be some movements seasonally depending on volume; so some quarters a little lower, some quarters a little higher.

And that's going to come from a few different components that give us confidence there on a year-over-year basis. One is that we'll see a full year of MATS volumes whereas we didn't have a full year this year. We also are expecting, based on the operation of our raw material mine that we'll see some improvements in the variable costs coming through.

We're seeing that today. But as we started up a mine some time ago, the initial costs were a little higher and those will roll in through the numbers. So, we'll some improvement there.

And then on an absolute basis, in 2017, we are not expecting any impact from inventory, but on a comparable year-over-year basis, we would see a tailwind of about $10 million. So that would be comparing 2017 versus 2016.

So, when you add all that up, those would be the components that give us confidence in that kind of $4 million to 5 million a quarter number, again with seasonal variation in it..

Okay. And in the prepared remarks, there was talk about capital distribute, I think 50% of it's just discretionary cash flow back to the shareholders.

What happens to the other 50%? Where does that go?.

Yeah. So, as we had outlined on Investor Day, Jeff, I think our strategy here called "Advancing the Core" is about growing and growing from our core areas of strength.

And so, when we laid out our capital allocation framework, we said 50% will be invested in ourselves for growth and 50% will – of the discretionary free cash flow will be returned to shareholders in the form of dividends and share repurchases. So, that's our capital allocation framework.

The 50% that we are investing in ourselves is things like driving growth in our businesses in terms of the underlying market growth, making investments in things like the new fumed silica investment that we just announced, continuing to drive investment in efficiency gains, yield, energy recovery, things like that, as well as new products.

So, all of those things we will continue to invest half of our DFCF to grow our core and about half to return to shareholders. And we feel that that combination, that balance of driving EPS growth and cash return to shareholders is going to put us in a very good spot in terms of being a very attractive TSR package for our shareholders..

And then lastly – thank you very much for that.

And lastly, can you comment on the longer-term outlook for Specialty Fluids? That is – how long do you have sufficient inventory or sufficient production or can you frame the, I guess, the three-year to five-year picture for that business?.

Yeah. Sure. So, I think – well, first of all, with respect to inventory and reserves to drive growth in the future, we are in a good position here and have outlined that we've got a pretty substantial reserve here. We've done some projects to access additional cesium in our mine and feel comfortable about that.

So, I think while that's much more clear, I think the challenge is trying to project the demand side in this business. We've certainly come off of, with high oil prices, there was a much higher level of activity and the oil shock has certainly had some impact on this business. That being said, a couple of things, I think, are worth noting.

Even in today's sort of relatively low oil environment and we seem to be kind of range-bound in the $40 to $50, we are seeing improvements in the activity level on the financials. So, that says something about even in today's oil environment the value proposition here.

The other thing we're trying to do is diversify outside of the North Sea and have had intensive market development efforts focused in Asia-Pacific, India, Middle East and we're seeing progress on those starting to show in our numbers.

So, I think the longer term fundamentals in terms of the demand side are there and we see plenty of evidence of that in terms of the value proposition, the inventory on the supply side, I think we're in good shape on. The difficulty here will be, quarter to quarter, trying to project the project activity is just very difficult in this business..

Okay. Great. Thank you so much..

And our next question comes from Chris Kapsch with Aegis Capital. Your line is open..

Yeah. Hi. Good afternoon. I had a couple of questions surrounding primarily the feedstock differential subject. And I was actually knocked off the call for a few minutes, so if you addressed this already, I apologize.

But the question really is how those feedstock differentials and the recent trends may influence the ongoing contract negotiations in the RM segment and your ability to, I guess, manage price, as you put it, which is, I think consistent with the core strategy you've laid out, "Advancing the Core".

So, I guess in the last couple quarters, you talked about differential as being still sort of the headwind in Europe, more benign in North America. I think it's mixed elsewhere, but typically more benign than maybe it was a year ago. I'm just wondering if that's still the backdrop as you go into these annual contract negotiations.

And if so, how does that affect your ability to go after price? Can you only get pricing if there is a scenario where the feedstock differentials are working against you? And if that's not the case, what is the conversation like for your ability to get pricing and that value proposition with customers?.

Sure. So, let me try to tie off a little bit on the feedstock situation. So, I think you've got it largely right, Chris. As we've commented in the last few quarters, we have seen that the differentials in North America have kind of largely reverted back to the long-term historical norms.

We certainly saw some favorable peak differentials a couple of years ago. But if we look at where they are today, we see that back in line with the long-term historical norms.

And all of that makes sense because what you see today is that more Chinese – sorry, Asian carbon wire producers are buying their feedstock out of the Gulf Coast which is putting a little more demand side pressure on things; and therefore, favorable differentials disappear a little bit. So, that (45:54) largely to long-term historical norms.

In Europe, we have called out in recent quarters that we felt there was a little more of a structural issue here as the formulas that we have with our customers were no longer approximating our feedstock costs and we discussed our intention to address this in the contract negotiations and we are in fact doing that.

And I think it's something that's pretty important and understood by our customers that this has to be addressed. So, I think that that situation, I think, is moving in a positive direction.

I think the broader question around discussions with customers around contract negotiations really comes down to a basket of different variables in terms of overall products, product performance that they're looking for, things like how is supply and demand in a given region, how do various customers value quality, consistency, supply reliability, all of these factors, what sort of product development activities do we have with certain customers, all of those play into the overall negotiation mix..

Okay.

So, that value proposition which is what you're addressing in, if you think about that in more North America, which is predominantly, I guess, under contract, can that conversation be beneficial from a pricing standpoint without adverse differentials also in your – on the table as part of the discussion?.

Well, I think if there are adverse differentials as we are addressing in Europe, those are things that have to be addressed with customers. And we're doing that now. With North America having largely returned to sort of long-term historical norms, there is – we see that that's not really a structural issue so much as we do see in Europe.

So, but I mean to the extent that those things do diverge, then we absolutely have to have those conversations and help our customers to understand this, that this is important in terms of ensuring long-term viability of their carbon wire supply..

Okay. So, we'll look forward to hearing more on that – on the outcome of those discussions. Could I just follow up one on the PC segment and specifically the Metal Oxide? You mentioned another just shift going on from fumed to colloidal silica and the CMP application.

How big a piece of that overall business is your fumed silica for the CMP application currently? And then, to offset that, you cited that the opportunity at the new plant in China. Just wondering how big an offset is the weakness on the fumed silica side or in the CMP application.

And is that opportunity, is it a typical on-site sort of take-or-pay fixed margin sort of opportunity? How the economics flowed for that new plant? Thanks..

Yeah. So, I think on the CMP application, it's not a huge piece of the overall volume, but it is a good business for us. And if you think about that application and the performance and quality demands in that application, it commands a certain value price as a result. This is going into the semiconductor industry.

And so, things like quality, consistency, management of change, these sorts of things are really paramount here. So, it is something that we are dealing with as that application moves away from fumed. That being said, the segment and the Metal Oxides business in total has a diverse set of applications.

We've continued to have success developing new applications and an example that's underpinning some good momentum in 2016 and into 2017 is fumed silica in gel batteries, which are used in e-bike applications in Asia and China and India, for example. So, this is a relatively new and growing application.

And part of running this business well is dealing with churn and constantly developing new applications. So, this is precisely what we're doing, but the impact in 2017 of this CMP fall off might be a bit of a temporary thing as we combine that with new applications..

Okay. And just order of magnitude on the plant in China. If you can put any parameters around that.

And will they – will that on-site customer take all of your production or will it be just partially loaded upon, I guess, start-up?.

Yeah. So, the way to think about that is we have a long-term agreement with our silicones partner and that partner does a couple of things.

Number one, provides a long-term stable source of feedstock to our fumed silica production and then, to a certain extent, will consume some of the off-take out of that plant for their downstream elastomer compound. But a significant portion of that volume will also be sold by us out in, what we call, the merchant market to third-party customers.

And over the last few years, we've had really strong momentum in the fumed silica business in terms of volume growth and this capacity underpinned by a competitive feedstock structure is important to continue to keep growing this business; that is a great business for us..

Okay. That's helpful. Thank you..

And our next question comes from Jim Sheehan with SunTrust. Your line is open..

Hi, Sean.

Could you tell us what Cabot's rubber black utilization rates are by region?.

Hi, Jim.

How are you?. So overall, our utilization rates are in the low 80%s in Q4, but there are differences by region. And so in certain regions, we're tighter and on certain asset classes, while others we have some available capacity. So, we don't typically comment on the regional picture.

But I think based on my earlier comments, you can probably get a sense for how things kind of shake out regionally..

Great.

And how much pricing would you need in the 2017 contract season to enable you to reach the – maybe the 7% to 10% long-term earnings growth target?.

Well, I'm not going to get into a specific there, Jim, because we're in the middle of negotiations right now. But I think safe to say that we have a lot of activities that are underway right now. And we feel that that long-term target combined with the cash return is the right financial framework for us.

And we feel as it relates to 2017 that that is something that's within our reach here..

All right. Thanks a lot..

Okay..

And I'm showing no further questions at this time. I'd like to turn the call back over to Sean Keohane for closing remarks..

Great. Well, thanks to everyone for joining us and for supporting Cabot. And I look forward to speaking with you next quarter..

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect. Everyone, have a great day..