F. Quinn Stepan Jr - CEO Scott Beamer - CFO.

Eugene Fedotoff - KeyBanc David Stratton - Great Lakes Review Mike Harrison - Seaport Global Securities.

Ladies and gentlemen, thank you for standing by. Welcome to the Stepan Company’s Second Quarter 2016 Earnings Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this conference is being recorded today Wednesday, July 20, 2016.

And now it’s my pleasure to turn the conference over to Scott Beamer, Chief Financial Officer. Please go ahead..

Hello and thank you for joining Stepan Company's second quarter 2016 financial review. Before we begin, please note that information in this conference call contains forward-looking statements, which are not historical facts.

These statements involve risks and uncertainties that could cause actual results to differ materially, including but not limited to prospects for our foreign operations, global and regional economic conditions, and factors detailed in our Securities and Exchange Commission filings.

Whether you're joining us online or over the phone, we encourage you to review the investor slide presentation, which we have made available at www.stepan.com, under the Investor Relations section of our Web site.

We make these slides available at approximately the same time as when the earnings release is issued and we hope that you find the information and prospectus helpful. Now with that said, I'd like to turn the call over to F. Quinn Stepan Jr., our President and Chief Executive Officer..

Thank you, Scott, good morning and thank you all for joining us on our call today. The company had a strong second quarter and delivered record quarterly and first half results.

Our second quarter record results reflect continued higher sales volumes for both surfactants and polymers increased asset utilization, reduced raw material cost and enhanced internal efficiencies.

Reported net income increased 65% to a record $27.9 million or $1.21 per diluted share compared to $16.9 million or $0.74 per diluted share in the same quarter last year. Adjusted net income was a record $30.1 million or $1.31 per diluted share a 44% increase compared to the $20.9 million or $0.91 per diluted share in the second quarter of 2015.

Net sales increased slightly to $455 million as higher volumes were offset by lower selling prices related to lower raw material cost and the negative impact of foreign currency translation. Surfactant operating income was a $27.2 million, up $3 million, or 12%, versus the prior year.

This morning we have announced an agreement to acquire two related companies in Brazil. One, a commercial focused entity Tebras and a second PBC, a production and warehouse company. Combined these companies have 25,000 metric tons of sulfonation capacity and have annual sales of approximately $32 million.

The acquisition expands and diversifies our customer base in Brazil and provides an opportunity to sell our broader Surfactant portfolio to over 1,200 customers. This transaction will have minimal impact on 2016 results, but should be slightly accretive to earnings during the first full year of ownership.

Polymer operating income was a record $31 million, an increase of $7.6 million or 32% compared to the second quarter of 2015. Our Board of Directors declared a quarterly cash dividend on Stepan's common stock of $0.19 per share payable on September 15th, 2016.

At this point I'd like Scott to walk through a few more details about our second quarter results..

Thank you Quinn. My comments will generally follow the slide presentation. Let's start with Slide 3 to recap the quarter. Adjusted net income for the second quarter was $30.1 million or $1.31 per diluted share for just 44% increase compared to $20.9 million or $0.91 per diluted shares in the second quarter last year.

This was our highest ever earnings for any quarter. Both our largest segments Surfactant and Polymers delivered solid operating income growth due to higher sales volumes and lower raw material costs. Specifically for polymers the operating income of $31 million is an all-time record for any quarter for that business.

Since adjusted net income is a non-GAAP measure we provide full reconciliations to the reported figures and these can be found in Appendix 2 of the presentation and Table 2 of the press release.

Specifically, regarding adjustments to reported net income this quarter included deferred compensation expense of $1.4 million or $0.06 per diluted share compared to $4 million or $0.17 per diluted share of income in the same period of the prior year. Naturally all employee compensation expenses reflected in our normal operating net income.

However we also allow employees the opportunity to defer their payouts until some future date and the future payment changes based on the company's share price. When the stock price increases expense is generated.

Since the future liability of this employee compensation only changes consistently with changes in the share price we exclude this item from our operational discussion. The second quarter results also included a restructuring charge of $800,000 or $0.04 per diluted share for a severance reserve related to the full closure of our Canadian plant.

Surfactant operating income increased $3 million to 27.2 million or up 12% compared to the prior year quarter primarily from improved performance in North America.

Polymer operating income increased by 32% or $7.6 million to the record $31 million compared to the second quarter of last year as a result of volume growth in Global Rigid Polyol business and improved Phthalic Anhydride results.

Specialty products operating income increased by 17% to $1.8 million due to improved lipid nutrition results partially offset by timing of orders in our flavor business.

Let's move to Slide 4, which shows the total company’s earnings bridge for the second quarter compared to last year’s second quarter, and breaks down the $9.2 million increase in adjusted net income, since this is net income the figures noted here will be after the effect of taxes.

We will cover each segment in more detail, but all three segments delivered operating income growth compared to prior year. In the fourth quarter, we announced that we exited our TIORCO joint venture with Nalco which was focused on the enhanced oil recovery market. As a result, we no longer recognize losses from equity in that joint venture.

We remain committed to that market over the short and longer term, but we’ll serve it through a smaller more focused set of resources. This item was previously presented below operating income on our consolidated income statement.

Going forward, all commercial benefits and the related costs will be reported entirely within the Surfactants segment operating income. The all Other category primarily represents the favorable impact of not having external consulting fees, related to ongoing global efficiency initiative which is called DRIVE.

This efficiency initiative is now internally managed and the related benefits are captured within the business segment operating results. Our discussion on Slide 5 focuses solely on the results of our Surfactant business for the quarter. Surfactant sales were $298.6 million, down less than 1%.

Prices were down 9% primarily due to lower selling prices that contractually followed lower raw material cost. Surfactant volumes were up 12% in total excluding the new Laundry contract global volumes were up slightly. The negative impact of foreign currency translation reduced sales by about 3%.

The segment delivered $27.2 million of operating income, an increase of $3 million over the second quarter of 2015. We show North America and Asia in the same category because our Surfactant business in Asia is relatively small and much of our surfactant production in the region is used to support business in the U.S.

North America benefited from higher sales volumes, the impact of earnings leverage associated with those volumes, lower material cost, drive contributions and a more favorable mix specifically related to the sales through our distributor partners.

Accelerated depreciation related to the previously mentioned full shutdown of our Canadian plant negatively impacted operating income by $800,000. Latin America continues to perform well and we continue to make progress implementing our strategy to diversify our customer base and product portfolio.

As Quinn mentioned, we announced an agreement to acquire a manufacturing and a commercial entity in Brazil. Looking forward we expect to grow earnings in Latin America for the full year despite the negative impact of foreign currency translation. Following a record year in 2015, Europe results were down due to unfavorable product mix.

With regards to functional surfactant end markets, strong demand and favorable mix for Ag chemicals in North America and Latin America helped to offset lower performance in our oilfield business which has again impacted negatively by lower crude oil prices and reduced industry activity.

Now turning to the polymer discussion on Slide 6, sales were up $900,000 or 1%. Prices were down 11% partially because of lower pricing related to the lower raw material cost. The negative impact of foreign currency translation lowered sales by 2% while volumes were up 14%.

Operating income was a record $31 million or $7.6 million higher compared to the same quarter last year. North America Rigid volumes were 14% higher primarily due to strong market demand from increased installation standards and increased construction activities.

Europe results increased on higher Rigid Polyol volumes due to increased installation demand as well and increased volume of metal panel applications. Global Rigid Polyol margins benefitted from falling raw material costs.

Although export shipments and lower operating costs reduced the losses in China during the second quarter, plant depreciation expense and weak construction related to demand in China could negatively impact the balance of the year. Phthalic Anhydride of PA results increased primarily due to higher sales volume during the quarter.

Related to Brexit, we currently earn only 5% of our sales in the UK, so our exposure is small. Additionally, we are mostly naturally hedged as we produce in the country and sell locally whereas our competitors generally ship from other countries into the UK.

The vote occurred late in the month, but the weakening British pound lowered our operating income in June by on $10,000 due to foreign currency translation. Now Quinn will cover Slide 8 to address the expectations for the remainder of 2016. .

Thank you Scott, now I will provide an update on key initiatives as well as items we know with some level of certainty, each amount stated will be before the effect of taxes. As previously communicated 2016 should benefit from restructure activities taken in 2015.

Although our resources maybe more limited, our enhanced or recovery efforts are now better aligned with opportunities in the current low petroleum price environment. We are still on track to deliver $3 million of improvement related to our EOR activities.

The actions taken in the fourth quarter of 2015 to lower cost and enhanced supply chain efficiencies combined with greater demand within the Lipid Nutrition portion of specialty products delivered growth.

The improvements related to our Lipid Nutrition business should increase throughout the remainder of the year and will likely deliver more than $3 million. In May, we announced plans to fully shut down our Canadian facility by the end of 2016. This decision will result in a workforce reduction of approximately 30 employees.

The decision to close Longford Mills and reduce our workforce was difficult given the skills and commitment of the employees at the site. However the plant closure will allow us to improve our asset utilization in North America and further reduce our fixed cost.

We're working closely with our customers to seamlessly transition our supply chain to other company sites in North America. The total costs associated with the plant shutdown in 2016 are expected to be $8.6 million, approximately $4.5 million of that total expected costs are related to accelerated depreciation, reducing Surfactant operating income.

$1.9 million of accelerated depreciation expense was recorded in the first half of 2016 and an additional $2.6 million is expected during the second half.

We also recorded a restructuring charge of $1.1 million in the second quarter of 2016 for severance related to the workforce reduction and expect an additional $3 million of decommissioning expense in the second half.

Excluding these charges, the company expects to recognize net pretax manufacturing savings of less than $1 million in 2016 increasing to $3 million in 2018, these figures reflects our best estimate today, this could change overtime. Our DRIVE program delivered expected benefits in the second quarter and the first half of 2016.

For the full year we now expect drive to deliver at least an additional $12 million from carry over projects initiated in 2015, new 2016 projects and the elimination of consulting fees.

Although the new Laundry business will anniversary at the beginning of the third quarter, we expect the second half of 2016 will continue to benefit from the additional Laundry volumes that began in July of 2015. We expect higher volumes in the second half of 2016 as compared to the second half of 2015.

And our plants should continue to benefit from higher utilization rates associated with the business. In Germany, we should incur an additional $3 million to $4 million in costs because of an expected every five year government mandated shutdown of our site. The shutdown typically lasts 30 days.

This action will impact our Surfactant and Polymer businesses in the second half of this year. Our plants in China began operations in March, ahead of schedule and below budget costs. However, due to the startup cost and lower construction activity China will likely represent a headwind of $3 million in 2016.

The specialty Polyol business had a good second quarter and first half of 2016 and we expect earnings momentum to continue through the rest of the year. The Coatings, Adhesives, Sealants and Elastomers or CASE business, is an important adjacency for Polymers. The new specialty Polyol reactor in Poland is expected to begin in the third quarter of 2016.

After a strong first half we still expect our Rigid insulation foam business to continue to grow benefitting from energy conservation efforts globally. As far as Surfactants in Latin America, following a record year in Brazil and Colombia in 2015 we are making progress expanding and diversifying our customer base and product portfolio.

The pending acquisition of Tebras and PBC should accelerate our results. Overall, we believe earnings per share should grow in 2016. After a record first half we remain optimistic about our core business for the balance of the year. And expect continued benefits from our internal efficiency program.

However, slightly reduced margins and higher raw material costs and the headwinds mentioned previously potentially could make the second half more difficult. Net debt without further acquisitions should improve, and we would like to continue to increase our dividends annually.

This concludes our prepared remarks, at this time we will turn the call over for questions, [indiscernible] please review the instructions for the question portion of today’s call..

Thank you. [Operator Instructions] And our first question comes from the line of Eugene Fedotoff, KeyBanc. Please go ahead..

Good morning guys and great quarter..

Thank you, Eugene..

Just couple of questions on polymers, can you talk about sequential volume growth obviously really strong growth in first half, but looking into the second half I understand that you expect volumes to continue to grow, looking at July volumes what are you seeing is it sort of similar growth rate that you saw in the first half?.

I think the July volumes are comparable to what we have experienced in the first half..

Okay, great, and can you talk about CASE business in the quarter, how is the performed in that business during second quarter?.

From the overall perspective, I think the volumes were somewhat flat, versus 2015, in some regions down slightly. The margins have improved as a function of better product mix and lower raw material cost..

Okay and was the volume flat -- volume was it due to lower end market demand, or was it due to not enough capacity in the regions where demand is strong?.

It tailored two cities or two continents. In Europe I would say our sales are capped given our current capacity, and that’s why we are looking forward to the expansion and the startup of our new reactor in Poland, and the United States we have lost one customer that had a negative impact on our volume..

Alright and now switching to Surfactant business, can you talk about acquisition in Brazil? Maybe a little bit color on the draftiness [ph] of the business from the strategic standpoint, customers geographic locations, Surfactants capacity growth potential in the region, et cetera?.

I'll not comment direct to any additional financial measures at this point in time as the acquisition has not closed yet.

So there is 25,000 tons of capacity from one essentially brand new facility located in the Greater São Paulo area, they -- PBC and Tebras currently have a very large I would say Tier 2, Tier 3 customer mix, so relatively small customers that buy a limited product line from Tebras today.

So the opportunity for Stepan is to sell our broader portfolio to them, to those same customers. We have been working closely with Tebras over the last six months and have begun to expand -- help them expand their portfolio by selling some of our products and we're very encouraged by the initial activities that we have demonstrated with them..

Great, thanks for this color and I guess on the North American Surfactants business, I understand it might be too early to tell right now, but how do you think the acquisition of Sun by Henkel would impact your business in North America long term?.

So Henkel is you know is a very large capable consumer products company, with the acquisition of Sun they will be the second largest Laundry supplier in the United States.

We have a good relationship with Henkel on a global basis, combined Henkel will be a much larger customer for us and we look forward to continuing to supply them and continuing to work under the existing contract that we have with Sun which is assignable..

And our next question comes from the line of David Stratton, Great Lakes Review, please go ahead..

Good morning, congratulations on the good quarter.

Regarding the Surfactant volume excluding the Sun agreement can you kind of talk about where you see that going, slightly up for the quarter and you expect it to be higher in the second half? Is there a dynamic changing there in the industry or are we seeing more of a pickup return of use of Surfactants or can you just kind of color in the border on that for us..

Think the growth that we're experiencing excluding the new contract is outside of the Laundry space today, so that's more in the through our distribution channel and more into the functional space excluding oil field. So we would anticipate that those segments will continue to grow.

I believe Laundry use on a global basis will continue to be challenged, I don’t see that growing significantly..

Okay, and then regarding the acquisition in Brazil, and the surfactant capacity there which has been limited to date, how much pressure does this take off, are you at a 100% now or is there still more to go or you have excess at this point, once it closes, if it closes?.

The sulfonation capacity that we're acquiring is actually different -- it makes a different type of product than we do with our other assets. So we're adding new products related, but new products to our portfolio that are targeted for the most part for the smaller consumers within that country.

So our base sulfonation capacity utilization today in Brazil we have excess capacity today, we have built capacity or purchased capacity in anticipation of the market continuing to move from powders to liquids which will grow the market for Surfactants.

So today we have excess capacity in our traditional falling film SO3 sulfonation and then we’ve acquired some batch sulfonation capabilities that will enable us to sell a new and different product..

[Operator Instructions] Our next question comes from the line of Mike Harrison, Seaport Global Securities. Please go ahead..

Quinn it sounds like you’re a little more comfortable with the raw material environment, or at least your ability to manage through increasing cost going forward.

Can you talk about how the raw material picture has changed since your last call?.

I think what we’ve all seen recently is that the price of crude oil is stabilized and is come back a little bit, so that has taken some relief off the pressure to -- on those derivatives and therefore we don’t see the magnitude of the increases today that we saw in Q2, or beginning of Q2.

So we’re a little bit more comfortable in terms of where we think we may end up the year. We are still seeing some raw material price increases in the natural oil, so palm oil and coconut oil. And we’re projecting that some of those derivatives will be higher at the end of the year.

So as we look at it, we think our margins will not be as challenged as the year continues. I think there is little more risk on the polymer side than there is on the surfactant side.

Having said that, we are anticipating that we’re going to have a greater net LIFO, FIFO impact -- negative impact on our business that movement will probably more impact our surfactants and our polymer business..

And then on the surfactants business you mentioned the sales to distributors were better and that was helping your mix.

Are there some specific actions that you’ve taken to expend Stepan channels through those distributors? So I guess in other words are you expanding share or are you just seeing additional market pull through with distribution?.

Again, there is different answers depending on what continent in the world that we’re in.

In North America I would say that we have a fairly stable distributor partner relationships and we are selling more products, more specialty products through our distribution network than in the past and that’s as a result of Stepan company and our distributors focusing on that and partnership to try to increase our share in those marketplaces.

With regard to activities outside the United States, we continue to develop and grow our distribution business in Latin America and I would say that is a combination of market growth and share growth.

And in Europe I would say that’s more pushing into the functional space and more value added product, so a little bit more shared growth in Europe than in the United States..

Alright, that’s helpful. And then a question on the U.S.

Surfactants market structure, you mentioned you’re about a year since you did the Sun products deal, I think you still have a substantial amount of the Anionic Surfactant market in the hands of your customers, do you see any other opportunities in the near term to purchase any in-house capacity from a customer and set up a supply agreement similar to the Sun products deal?.

Not right now, no. .

Alright, and then moving over to the Polymer side. You referenced weaker Chinese construction demand, how are you managing through that, so that the new plant isn’t such a drag-on margins and do you see any improvements on the horizon in terms of Rigid foam installation demand in China..

Our business in China was actually up a fair amount in the second quarter, it was up 44% versus last year but relative from a very small base, from very small base. So we have seen some improvement in the local market, but again not enough to make a big difference.

We’ve mentioned that we had the EUV which is the German government’s mandatory inspection of all chemical facilities, which occurs for various facilities on a schedule over an every 5 year period. So during that shut down that we’ve had in Germany, we have actually used our Chinese plant to support that shutdown in Germany.

So we are utilizing that plant within our network. We will be looking to expand the export capabilities of that site to other regions in the world, where it makes logistics and economic sense and that will help.

So we have a significant technical effort going on in China trying to work closely with local customers, fundamentally that’s the long-term answer for that site, is to continue to grow the local Chinese market. But in the meantime we’ll use it at other locations as appropriate. .

Alright, my last question is on the Phthalic Anhydride business within polymers, you noted higher volumes, can you comment on whether you’ve seen any improvement in pricing in that market? Thank you..

We have yet to see any price improvement or margin improvement in that marketplace, its still -- I believe it remains an opportunity for the business..

Thank you very much..

Thank you..

And there are no further questions at this time sir..

Okay, thank you all for your interest in and your ownership of Stepan Company. We look forward to reporting continued positive performance to you in our third quarter 2016 call. Have a great day..

Ladies and gentlemen that does conclude our conference call for today. We thank you for your participation. Have a great rest of the day everyone. You may disconnect your line..