Capital Spending Plans:
Prudence Tempers Prosperity

Generally, service centers expect to spend more on capital projects this year. Thanks to last year’s record-breaking revenues and income, most are able to finance from cash flow.

By Corinna C. Petry,
Managing Editor

Sidebars and Tables:

• Some Take Wait-and-See Apprach to Spending

Many metals distributors and processors find themselves with an unusually large bank balance, as a result of the industry’s record profitability in 2004. Most plan to reinvest some of those funds in new facilities and equipment, to position their companies for the inevitable competition ahead.

Two of the big spenders in 2005 will be Reliance Steel & Aluminum Co., Los Angeles, and Chicago Tube and Iron Company, Chicago.
Los Angeles

Dave Hannah, chief executive officer of Reliance, says the company was more fiscally conservative during 2001, 2002 and 2003 when business conditions were tough. “That doesn’t mean we didn’t spend money. We probably spent on average at least $20 million” on capital improvements.

Excluding acquisitions, Reliance spent about $18.7 million in 2002, $20.9 million in 2003 and $36.0 million in 2004.

“This year, our budget is about $57 million,” Hannah says. “The bulk of it is machinery and equipment. It’s scattered all over the country. We are buying saws, slitters, levelers, blanking lines, burning machines and material handling equipment.”

The purpose is to both replace obsolete equipment and to increase productive capacity. “In some places, we need to add some capacity. In other places, we need to update technology. We want to be as efficient as we can,” he explains.

The next largest piece of the spending pie is for facilities—either building a new warehouse or expanding an existing one. For example, Reliance might add a shipping bay to a warehouse, expanding from 80,000 to 100,000 square feet.
“We do have some money in the plan for buildings and plants that we lease, and are exercising our right to buy them. We like to own our properties,” he continues.

In a couple instances, “we plan to build newer, more state-of-the-art facilities and move our existing operations into a new location.” Hannah says this will occur primarily in the Southeast, “where there are a couple opportunities to build facilities that are bigger and more efficient than our existing facilities.”
Reliance plans to spend a little more than 10 percent of the budget on information technology: hardware and software for computer systems. “We have a number of systems out there, but this is mostly to upgrade our main system, Invera’s Stelplan.”

The last piece of the pie is for trucks and trailers. “We like to own those, too.”

Many companies use their annual depreciation and amortization expenses as a guide to budgeting for expenditures. Reliance’s D&A expenses were $45 million in 2004, $37 million in 2003 and $28.5 million in 2002. “We have been under-spending our depreciation and amortization, but we will overspend it—by a reasonably good margin—in 2005,” Hannah says, noting that the improving state of the economy suggests the time is right to boost capital spending.

Reliance has ample resources available through its revolving line of bank facilities. “To the extent we need money for capital expenditures or working capital, or acquisitions for that matter, we just use our bank lines.”

Credit terms and availability are favorable today, Hannah notes, “much more open than it was over the past four or five years. The banks are more willing to lend money. The spreads—the margin the bank makes—have tightened up a little bit. It’s a pretty good environment for borrowing money.”

Chicago
Chicago Tube and Iron Company, which is privately held, is in the midst of its largest-ever capital outlay in order to relocate corporate headquarters from the South Side of Chicago—where it has operated for 90 years—to a new facility about 30 miles away in Romeoville, Ill. It’s a $22.5 million project that is on time and on budget, says Don McNeeley, president and chief operating officer.

The financing arises from cash flow, although McNeeley says the company was deluged with calls from bankers eager to be part of the project.

“We are looking for a building completion date of Aug. 31. We are going to be relocating between September and the end of the year. So we’ll totally vacate [the old plant] by Jan. 1. That means relocating 450 truckloads of inventory without interrupting customer service,” McNeeley says. In addition to the new building and relocation costs, CTI is purchasing 29 new cranes, new racks, stacker systems and forklifts.

Based on interviews, he believes that over 90 percent of employees will stay with the company at its new location, and many are looking for houses in the Romeoville area. The company will recruit from local colleges, especially those offering technical training, to fill any labor gaps.

CTI already sold its Chicago real estate holdings to a developer for multi-family housing and retail. The developer takes over Jan. 1.

Philadelphia
TW Metals, based just west of Philadelphia in Exton, Pa., typically spends between 1 and 1.5 percent of revenues each year on capital needs. “We break it out between information technology; maintenance and repair; replacement, i.e., bandsaws and laser cutting equipment; and expansion of existing locations,” says President and CEO Jack Elrod.

“For the last couple years, IT has been a big chunk of our capital expenditure, upwards of 40 percent of our budget. As I look out in 2005 and 2006, we’ll continue to spend a good amount on that. We are looking for hardware and software; radio frequency technology; things that help us in our warehouse operations; and software that helps our sales force productivity, such as optimization modeling, supply chain and inventory management. Those are all really important.”

In maintenance and repair, TW Metals takes care of necessities. To foster growth, “we are spending money on saws, on expanding existing locations, and possibly purchasing or building new facilities domestically and overseas, which means buying additional equipment,” Elrod says.

The company opened a warehouse and sales complex last June in Rzeszow, Poland, for which it purchased saws and storage and handling equipment. “We are in the second phase of expanding that facility and it’s going very well,” he says.

TW will also look at possibly opening a couple other locations outside the United States this year.

Birmingham
O’Neal Steel, a family-owned chain, has spent cash in the past couple quarters buying up other companies: Aerodyne Ulbrich Alloys Inc. in December, and Leeco Steel Products Inc. in March. Aerodyne has facilities in Connecticut and California, and Leeco is located in Illinois and Wisconsin.

“We are always looking [for acquisitions], but nothing else is imminent,” President Bill Jones reports. “We are very pleased with what we have acquired, and we really enjoy working with them. Those were good strategic fits for us. Each represents products with which we are familiar and had some market presence, but we needed greater strength.”

Although O’Neal has no facility expansions planned, it is buying equipment. “When business was slow, we held our capital expenditures down. So we have the normal amount of replacement to do,” Jones says. “Business is very good, and we are one of the leading service centers for in-depth or multistage processing, so we’re always investing in new equipment.

“The manufacturing sector is looking to outsource a great deal of what they buy and what they do with the material,” he continues. “So we are able to address that. We are also investing in technology, especially automation.”

Over the long term, he says, O’Neal does invest more on capital equipment than it expenses for depreciation. “It is just good business to upgrade and grow.”

Louisville
Steel Technologies Inc.’s 2005 capital budget is $17 million, equal to 2004. Depreciation expenses average $15 million a year for this multi-branch processor.

“Our capital investment strategy—after we evaluate market opportunities—is devoted to capacity and equipment expansions at business units where we see above-normal growth opportunity,” Chief Financial Officer and Treasurer Joseph Bellino says.

“In the last three years, we’ve done $3 million to $5 million capacity expansions at each of three to four facilities. Most of our cap ex goes toward growth-oriented and cost-effective projects,” he says. In addition, “we have $2 million to $3 million per year in annual maintenance requirements. That’s to keep operations running smoothly. It has proven a successful strategy for us.”

In the recent past, Steel Tech has expanded blanking capacity in Eminence, Ky.; added to its equipment array in Berkeley, S.C.; and expanded its operation in Matamoras, Mexico.

Bellino outlines the company’s four-pronged growth strategy: Expansion of existing facilities; greenfield projects “where we perceive a lack of capacity availability in a certain growth market”; strategic acquisitions (five completed since 1997); and further development and reinvestment of earnings into joint ventures (primarily Mi-Tech Steel).

Steel Technologies has a $135 million, five-year unsecured credit facility that matures in 2009. “From time to time, we borrow from that, but our cash flow has funded most capital projects,” Bellino says. Last year, the company sold 2.9 million shares in a secondary stock offering, and used some of those proceeds to finance growth.

Based on these five companies, it appears that distributors and processors are taking a prudent approach to spending the robust profits of 2004.