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Haynes International Inc  (NASDAQ:HAYN)
Q4 2018 Earnings Conference Call
Nov. 16, 2018, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings and welcome to the Haynes International Inc Fourth Quarter Fiscal 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded. I would now like to turn the conference over to Dave Van Bibber, Controller and CAO, please begin.

David Van Bibber -- Controller and Chief Accounting Officer

Thank you very much for joining us today. With me today are Mike Shor, Chairman, President and CEO of Haynes International; and Dan Maudlin, Vice President and Chief Financial Officer. Before we get started, I would like to read a brief cautionary note regarding forward-looking statements. This conference call contains statements that are forward-looking within the meaning of the Private Securities Litigation and Reform Act of 1995 and Section 21E of the Securities and Exchange Act of 1934. The words believe, anticipate, plan and similar expressions are intended to identify forward-looking statements. Although we believe our plans, intentions and expectations regarding or suggested by such forward-looking statements are reasonable, such statements are subject to a number of risks and uncertainties and we could provide no assurance that such plans, intentions or expectations will be achieved. Many of these risks are discussed in detail in the Company's filings with the Securities and Exchange Commission, in particular, Form 10-K for the fiscal year ended September 30, 2018. The Company undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise. With that, let me turn the call over to Mike.

Michael L. Shor -- President and Chief Executive Officer; Director

Thank you, Dave. Good morning, everyone and thanks for joining us on the call. Now that I've had almost six months in this role, I think it's important to provide my thoughts and perspectives on the business including where we've been and what we are doing to change our performance and improve significantly. I moved permanently into this role of President and CEO as of September 1st. When I agreed to fill in on an interim basis in late May, I honestly had no intention of making this permanent. What changed for me? The answer is that after looking at our recent past and understanding the issues we've encountered, some market-related and some more under our control and then looking forward, seeing the potential of our people, our unique equipment, our increasing capacities and constrained areas, and our ability to technically market our alloys, I became intrigued and enthused with the Company's potential and with what I believe our team can build.

Briefly looking backward at our recent financial performance, we are a company that has lost money or been slightly above breakeven for seven consecutive quarters before today's reported earnings. I see a company that has lagged our comparator group for too long. I believe there are five factors that have caused this performance. I have reviewed these five factors in detail with our team with the goal of addressing the issues and then focusing our team on improvement, which should lead to continuing gross margin growth. The five factors that have had the largest impact in our past performance are: first, the rapid and significant drop in our power generation business for industrial gas turbines where the lowest quarter this year was nearly 800,000 pounds below the highest quarter last year. Next, the impact of low volumes on fixed cost absorption in our plant. Third, the lower than expected return on investment to date from the $120 million in CapEx spent over the last five years. Fourth, lower volumes of specialty application projects that tend to come into us in a lumpy manner based solely on the fact that these projects are typically unique and not steady or consistently repeatable; and finally number five, costs that we continue to work to improve.

As I've said since I arrived at Haynes, I believe that we have the opportunity to improve our processes, performance, and cost in everything that we do. I thought it was important to explain our past issues on this call so as we look forward with optimism, you understand the base that we will build from. Obviously, gross margin will determine our level of success as we move forward. We started from a low base, but I believe it's important to note that we've made steady improvement. Over the past six quarters, starting when we bottomed out in gross margin, our sequential quarters gross margins were 3.7% followed by 5.7%, 7.8%, 10.4%, 11.7% and today's report of 13%. I'd like to point out that the gross margin for the month of September was 14.3%. This is not the level we strive for, but given a very low starting point, it's a trend which is clearly noteworthy.

Now, a very important point to note, as mentioned on our last call, we have a planned significant outage on the final piece of the puzzle in our cold-finish flat expansion, which is a 292-foot long bright anneal furnace which was initially installed in 1980, but now requires extensive downtime for a rebuild and upgrade. When the planned outage is complete, we will finally have put the last piece of the cold-finish flat expansion in place which is expected to generate incremental capacity in our high value cold-finish flat business from our base of 13 million produced pounds up to 18 million produced pounds. The majority of product processed through this equipment is focused on the aerospace market. Because of that, it's a very difficult time to take this equipment down. However, if we don't, we will never consistently be over the 13 million pound mark that we've talked about for years. In our current capacity-constrained state in cold-finished flats, we have demand that consistently outstrips our capacity, we have late orders that obviously do not make our customers happy, we have unreliable equipment, we are not taking advantage of the $22 million investment in this area, and we have no ability to participate in the short lead time and therefore very profitable spot buys that occur in this product form.

Therefore, we've made the decision to address this issue now, take this equipment down for 10 weeks to 12 weeks starting in mid-October and come out of the first fiscal quarter with an expected significant increase in our capacity. This downtime means short-term earnings pain for long-term gain. Given this 10-week to 12-week outage, we are expecting to be below breakeven for fiscal Q1 due to the reduced cold-finish flat volume, then come back and continue the trend of gross margin improvement previously mentioned. Wrapping up this section, I am optimistic about the future of Haynes. My reasons are as follows: First, improved cold-finish production capability as previously noted. Once this furnace upgrade is complete, it is expected to expand capacity significantly in our high-value differentiated products. This represents a significant opportunity to drive profitability. We want to stop talking about this capacity increase and begin to perform, which is the reason for taking the current 10-week to 12-week outage. Second reason for optimism, higher volume of plate products. We expanded our plate capacity by 50% or 3 million pounds a few years ago, but have yet to take advantage of this investment and this capacity expansion. While it's true that the plate products involved are at the lower-end of our product profitability, it's an easier to produce product that turns quickly and most importantly, allows us to have a steady base of business that creates favorable asset utilization and absorption. We've initiated an effort to meaningfully increase plate volumes. We are in the early stages of this effort, but feel incremental volume is possible. Our goal here is simple, get that long talked about overall volume level of at least 5 million pounds a quarter, even if one of our markets is not doing well as is currently the case today with industrial gas turbines.

Third reason for optimism, tubing. We're beginning to see a meaningful increase in capacity in our tubing facility. More improvement is in our sites as we move forward. Fourth, special projects are improving and the outlook looks positive for the next 18 months. We will not be at record volume, but we anticipate that we will at least be above the prior two-year average. Next, relentlessly focusing on costs. The opportunity is there. We brought in new people and therefore new perspectives to our largest manufacturing locations including the addition of Dave Strobel as our VP of Operations. Dave's extensive experience and track record of success in this industry will be of great benefit to Haynes. Cost reduction and yield improvement in our Company is a must-do and is very realistic and will make a difference in our Company.

Continuing on number six, improved pricing, we are raising pricing within the aerospace market and are capturing bottom line increases without any significant loss of business to date (ph). Seventh, promoting proprietary alloys. This as discussed in the past is our main competitive advantage. We continue to work with the end users to solve problems related to heat, corrosion, creep strength, coefficient of thermal expansion, all to help customers solve their design and operational issues. In aerospace, we now have a proprietary alloy specified into both the Pratt & Whitney 1100 series and 1500 series engines. We also have two proprietary alloys specked into the GE9X.

And finally, eighth reason, a renewed and energized focus on safety. We are committed to improving our safety performance as we believe that everyone has the right to go home at the end of their day in the same condition as they reported to work. We do believe that a zero-injury workplace is achievable and that remains our ultimate goal. Our team is now taking the appropriate steps to strengthen our safety culture.

Moving on to the results of the fourth quarter, we were pleased to meet our initial goal of 5 million pounds shipped for the quarter. This level of volume drove a stronger top line revenue and expanded our gross margin and profitability. Fourth quarter net revenue was $122.3 million, up 21.4% from last year's $100.8 million. Volume in the quarter was 5 million pounds, up 6% from last year's 4.7 million pounds. Average selling prices in the quarter were $24.46 per pound inclusive of our other revenue, up about 14.5% from last year's $21.36 per pound.

With that, let me move to our key markets. Net revenue in the aerospace market for the quarter was solid at $61.4 million, representing approximately 50.2% of our total revenue. Sales were up about 22% from last year's $50.3 million. Volumes shipped into this market was 2.6 million pounds, up 12.9% over last year's 2.3 million pounds. Looking at volume for the full fiscal year, I am happy to report that this was a record year in our volumes shipped into the aerospace market at 9.8 million pounds, beating the prior record level in fiscal 2015 of 9.2 million pounds. Average selling price in the fourth quarter was up 8.1% to $23.63 per pound from last year's $21.86 per pound. We saw backlog in aerospace increase sequentially from Q3 to Q4 by 0.3% during the quarter. We continue to see strength in this market primarily driven by new generation engine sales combined with the beginning stages of our enhanced capacity from all of our capital investments. I was just in Arcadia, Louisiana at our tubular manufacturing facility and I was pleased with their plan to increase volumes, especially in aerospace tubing. Also, our recently expanded La Porte, Indiana distribution and value-add finishing operation provides additional volume upside possibilities in aerospace. In addition, we expect improved volumes after the cold-finish upgrade is complete at the end of this quarter as we've already discussed in much detail. We remain optimistic regarding demand in aerospace.

Net revenue in the chemical processing market for the quarter was $23.3 million, up 27.7% from last year's $18.2 million. CPI accounted for 19.1% of our revenue. Volume was 1.15 million pounds, up 23.8% from last year's 929,000 pounds. The volume this quarter is the highest quarterly volume in 3.5 years in the chemical processing market. Average selling price was $20.26 per pound, up 3.2% from last year's $19.64 per pound. Backlog in CPI decreased 5.5% sequentially. We continue to see better levels of specialty application project shipments that utilize our proprietary and specialty materials compared to last year. The base business side of chemical processing has improved, but we have more opportunity to improve volumes from this base level. As I mentioned earlier, we have initiated strategies intending to meaningfully increase our plate volumes, much of which relate to the CPI market. This effort is still in its early stages, but was successful in improving October order entry in our backlog, which Dan will quantify in a minute. Overall, demand in the chemical processing market has continued to improve.

Moving to the industrial gas turbine market, our sales in the quarter totaled $15.3 million, up 6.5% from last year's $14.4 million. IGT accounted for roughly 12.5% of sales during the quarter. Volume shipped into this market was down 28.3% to 728,000 pounds from last year's 1.02 million pounds. Average selling price per pound in the quarter was $21.03 per pound, up 48.5% from last year's $14.16 per pound. Backlog in industrial gas turbines decreased 17.4% in the quarter. As was discussed on previous calls, the large OEMs continue to highlight the weak demand in the large and medium frame turbine markets. We clearly see this weakness in our shipping levels and it will likely continue for at least the next few quarters. Regarding smaller frame applications, our customers have reported solid demand in part due to oil prices rising. They are starting to see oil companies investing in buying equipment for both onshore and offshore oil applications. Smaller frame engines are also used in large campus applications such as factory, hospital or university, which use their turbines for their own power generation. It was good to see volumes in this market pickup sequentially from last quarter. We still believe in the long-term demand in this market. However, patience will be required in the short run.

Finally, our other markets and other revenue accounted for $22.3 million during the quarter, up 25.1% from last year's $17.9 million. This area was roughly 18.3% of our revenue. Other markets increased $6.1 million with higher levels of specialty application projects hitting this market and higher demand in the flue gas desulfurization market, but partially offset by $1.6 million decline in other revenue related to a decrease in total processing. With that, let me turn it over to Dan for more details on our financials.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Thank you, Mike. This quarter represents continued progress of improving financial performance including strength in our top line net sales of $122 million, which represents a sequential improvement of 8.1% compared to the third quarter and a year-over-year fourth quarter improvement of 21.4%. This strength is driven by both improving pricing and improving volume as we see our focused initiatives producing results. Pricing has been a key focus initiative especially in areas of capacity constraints with longer lead times. Increasing volumes has also been a major focus initiative, especially in areas of open capacity where we can increase our asset effectiveness. We achieved the 5 million pound quarterly shipment goal, thus beginning to alleviate the margin headwind from poor fixed cost absorption. Gross margin this quarter was 13% expanding 130 basis points, equating to $2.7 million higher gross margin dollars in the fourth quarter versus the third quarter of fiscal 2018.

As I've mentioned in prior calls, this is moving in the right direction and we anticipate this continuing to further expand as we move past the annealing line outage and upgrade in the first (ph) quarter. We are seeing some inflationary pressure in things like wages, fuel cost, graphite electrodes, and mill rolls. However, these are expected to be offset by increasing pricing combined with cost reductions and efficiency improvements in other categories. Our specialty application project sales in Q4 were $8.7 million. This compares sequentially to Q3 of $8.2 million, Q2 of $6.7 million and Q1 of $1.1 million. This fourth quarter is a significant increase from last year's Q4 which was only $1.3 million. For the full year fiscal 2018, we had $24.7 million of specialty application projects compared to fiscal 2017 of $14.8 million. Mike provided detail on the planned outage and upgrade of the bright annealing line in our first quarter. We are expecting the impact of this to be a reduction of produced pounds and thus shipped pounds and revenue in our first quarter of fiscal 2019 ending in December. In addition, this will have an impact on gross margins from less fixed cost absorption. Thus we are expecting a lower gross margin percentage than we attained in our fourth quarter and we are expecting to be below breakeven. However, once this planned outage is complete, we expect to gain capacity after (ph) the total of 18 million produced pounds in cold-finish allowing for further sales growth of sheet and coil products for the balance of this fiscal year primarily in the aerospace market.

SG&A costs including research and technical costs were $11.3 million or 9.2% of net sales in the fourth quarter of fiscal 2018. This is $0.7 million lower than the same period of last year. The full year SG&A amount was higher than normal due to the two events that took place in this third quarter related to the attempted strategic acquisition and the CEO transition, both of which were discussed last quarter. We expect fiscal 2019 SG&A including research and technical costs to be approximately $48 million to $50 million.

This quarter included further tax charges related to the new Tax Reform Act. Tax reform impacted net income significantly primarily in the first (ph) quarter with the reduced rate devaluing our deferred tax assets. In the fourth quarter, there were further adjustments to the deferred tax asset primarily due to the impact of the transition tax related to foreign-sourced income. Beyond fiscal 2018, assuming normalized market conditions and a solid income environment, our effective tax rate for fiscal 2019 is expected to be 26% to 27%, The quarter and full year impact of tax reform and the two special events in Q3 earlier noted in SG&A had an after-tax impact of $1 million for the quarter and $20.9 million for the full year. That is an earnings per share impact of an $0.08 charge for the fourth quarter and $1.68 charge for the full year. These are detailed in Schedule 4 of our earnings press release.

Net income for the fourth quarter was $2.1 million or $0.17 per diluted share. However, excluding the unusual charges noted above, fourth quarter net income was $3.1 million or $0.25 per diluted share. As we progress beyond the planned outage in bright annealing and we further implement the initiatives Mike outlined in his comments, further growth and profitability is expected. The pension and retiree healthcare valuation at 9/30/2018 resulted in a favorable reduction in our combined liability of $38.3 million compared to last year. The reduction was driven by the discount rate increasing, better than expected return on pension assets, and to a lesser degree favorable demographic and mortality table changes. The US pension plan funding level improved to 76.7%.

A few notable smaller actions that we've taken to manage the net liability includes three projects: first, annuitizing small balance pensioners to reduce future volatility and reduce PBGC premiums. This action reduced the liability by $13.6 million and removed 397 participants from the plan, which is approximately 40% of the pensioners or a bit more than 25% of the total plan participants. Second, offered a buyout to vested participants that are no longer employees of the Company, but not yet in retirement age. This terminated vested project, reduced the liability by approximately $9 million and removed roughly 145 participants from the plan. And third, accelerated the US pension funding in fiscal 2018 to take advantage of the higher tax rate generating a higher tax deduction. We were on a monthly funding pattern of $500,000 per month or $6 million per year, but during the year, made an accelerated payment and temporarily discontinued the monthly payment, set to resume sometime in fiscal 2019. As a result, the US pension funding in fiscal 2018 was $8 million.

Turning to backlog, backlog at September 30, 2018 was $216 million, a decrease of 2.1% over the quarter, but a significant increase over fiscal 2018, increasing $38.7 million or 21.8% from $177.3 million at September 30, 2017. Beyond the quarter-end, backlog significantly increased with October 31, 2018 backlog at $231.2 million, a solid increase of $15.2 million for the month of October driven by high order entry.

Outlook for next quarter, due to the planned outage associated with the upgrade of the bright annealing line combined with the historical weakness of the first quarter due to holidays and customers delaying deliveries past calendar year-end, we expect revenues in the first quarter of fiscal 2019 to be lower than the fourth quarter of fiscal '18 and earnings are expected to be a net loss for the quarter. However, we expect revenue and earnings in the first quarter fiscal '19 to be higher than the same period of fiscal '18. After the completion of this planned outage in the first quarter, we expect the impact of these issues to be alleviated.

Liquidity, cash was $9.8 million at September 30, 2018, representing a $36.5 million decrease during fiscal 2018. This decrease was driven by working capital, primarily inventory increasing $32.5 million or 12.5%. This has increased in conjunction with backlog pounds also increasing 12.5% over the fiscal year. Due to the long production cycle for high performance alloys, when backlog increases, we increase inventory into production and cash is typically consumed. During the quarter, we did borrow from our credit facility, but paid it back down by quarter-end. Our revolver had a zero balance at September 30, 2018. With the size of the untapped credit facility at $120 million with an accordion feature to $170 million. Capital spending was $11.1 million in fiscal 2018 compared to $15 million last fiscal year. The forecast for capital spending in fiscal 2019 is approximately $16 million, which includes the completion of the bright annealing upgrades of $2 million.

In conclusion, the improvement in financial performance is encouraging. As we continue to focus on execution and implementing the focus initiatives Mike has described, we believe volume increases and pricing strength are possible to drive a growing top line revenue. We also believe expansion of margins is possible with these actions as well as focus on cost reductions and improving efficiency and production yields. Our goal is to move to meaningful growth and profitability with a corresponding meaningful growth in shareholder value. Mike, I will now turn the discussion back over to you.

Michael L. Shor -- President and Chief Executive Officer; Director

Thank you, Dan. The fourth quarter volume, revenue, and margins increased sequentially and increased above last year's fourth quarter. As we mentioned last quarter, while these trends are pointed in the right direction, continued focus on accelerating improvement is our priority. The improvement initiatives that have been launched are just beginning to gain traction. We expect this positive trend to continue after the planned outage this quarter. With that, Sherry, let's open the call to questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) Our first question is from Edward Marshall with Sidoti & Company. Please proceed.

Edward Marshall -- Sidoti & Company -- Analyst

Good morning gentlemen, how are you?

Michael L. Shor -- President and Chief Executive Officer; Director

Good, Ed, how are you?

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Great, thank you, Ed.

Edward Marshall -- Sidoti & Company -- Analyst

I'm OK, Mike. Hi, Dan. I'm curious, can you quantify maybe the impact either to margin or EPS of the furnace that you have on the cold-finishing line now? I understand it's kind of been shaky at best as far as uptime this past quarter. Maybe you can give us some digits around kind of what that might cost you from an efficiency perspective?

Michael L. Shor -- President and Chief Executive Officer; Director

We have been in the -- looking backwards, struggling to get above 1 million pounds produced maybe (ph) a little more per month. Our demand is greater than that. We've got late orders because of that as I said in my comments. So it's been fairly significant for us and Ed, most importantly, we've disappointed customers, but beyond that, there's always in this market especially with aerospace a significant opportunity to go after transactional business, short lead time, where delivery time is more important than price. And we've not been able to go after that business and that's something we should be doing. Moving forward, since we're on the furnace, when you look at what we were able to build as far as inventory ahead, but offset that with what we will not be able to manufacture in the quarter, just looking at top line in Q1, I'd say somewhere in the $9 million to $10 million range of revenue is what we will miss in that quarter. Last point I want to make on that, we've gone to extreme lengths to make sure we protect our long-term agreement customers. So what that will mainly impact is the transactional side of the business.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

And I can quantify just a bit more on the cold-finished production. Mike had mentioned a little over 1 million a month, in the quarter of Q4, we produced 3.1 million pounds in cold-finish and to give you an idea in Q3, we produced 3.7 million pounds. So it's kind of been up and down and we have had some trouble keeping that line running smoothly and that's another reason why we really needed to take it down. Once the cap line, the new line that was put in, is running strong, which it is, it's time to take that down and take the outage.

Michael L. Shor -- President and Chief Executive Officer; Director

Got it and you have three equivalent lines just about. Is it right to assume that each can produce roughly 6 million pounds annually. Is that the right way to think about it?

There is three lines. They're not exactly the same. Some are bright annealing, some are continuous annealing and pickling. So you can't quite do everything on every line, but generally, yes, you're correct.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

In rough numbers, we're reducing by taking this down by about a third. So you are correct.

Edward Marshall -- Sidoti & Company -- Analyst

Got it. So if I think about -- switching gears over to Arcadia, I know you've spent some time there and that it wasn't -- previously wasn't reaching some of the production thresholds that you anticipated it would, it sounds improved. Can you talk about maybe some of the changes that are going on there and kind of maybe what inning we are in that and maybe that increased productivity out of that business?

Michael L. Shor -- President and Chief Executive Officer; Director

Yes and I'll talk specifically about aerospace tubing. We had an initial goal when we put this in place. We've talked in the past about how we've for a variety of reasons hit other constraints and been off to a slow start. Dan and I just spent some time down there as I mentioned in my comments and we actually had a six-hour business meeting with them when we were down there and to answer your question, I'd say we're about the fifth inning. We have about half of the expansion that we expected out of aerospace tubing and we've gotten rough numbers, another half of that increase to go. They are making significant progress. They have eliminated constraints. They understand what they have to do next and honestly, I'm proud of the performance over the last couple of months.

Edward Marshall -- Sidoti & Company -- Analyst

Got it. Just a final question from me on the pension, Dan, you gave us great detail there. I'm just curious, could you talk about maybe the pension expense on a year-over-year basis. What I'm assuming it goes lower but could you talk about maybe fiscal '19 versus fiscal '18?

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Yes, the valuation as I mentioned was favorable. So that was great to see. If you remember a few years ago, we had quite an increase in our pension expense and it kind of, just to give you a brief history back in 2014, pension and post-retirement together was about $10 million in expense. That grew to $12.5 million in '15. It grew to $19 million in '16. '17 was $23.4 million. So that's when it peaked. So that was a significant increase in the combination of those two. It backed off a bit in '18. So it was $14.2 million this year in '18. Now '19, it's going to be about $9 million. So a nice step down as well. And I will mention this, keep in mind that the accounting rules have changed and we will be adopting these accounting rules going forward in FY '19. So we'll be pulling out some of that pension expense that would have been in cost of goods sold will be pulled out and be on a special line item on the face of the P&L, kind of in the interest expense category. So you'll see a bit of a different view there, no impact on net income for this accounting change, but just moving it around on the face of the P&L. So you can expect that in the next quarter. Just wanted to mention that, but overall the expense will be going down nicely.

Edward Marshall -- Sidoti & Company -- Analyst

Perfect, thanks for your comments, guys. I appreciate it.

Michael L. Shor -- President and Chief Executive Officer; Director

Thank you, Ed.

Operator

(Operator Instructions) Our next question is from Phil Gibbs with KeyBanc Capital Markets. Please proceed with your question.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

Hey, good morning.

Michael L. Shor -- President and Chief Executive Officer; Director

Hi, Phil. How are you?

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Good morning, Phil.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

Doing well. In terms of the cold-finished capacity that you'll have access to in another few months here. Where is that going exactly? I know you've talked about aerospace predominantly, but where are the types of applications that, that capacity will be going in and why do you think or see such a need for that demand or capacity right now? I'm just trying to get a higher level understanding on this.

Michael L. Shor -- President and Chief Executive Officer; Director

It goes pretty much across the board. Our products are used in obviously for aerospace and high temp applications such as combustors casings, ducting, transition liners, heat shields and our demand is pretty much across the board and with the increase that we've all seen in the demand in these markets in aerospace and with our capacity being relatively flat, we've just not been able to go after this business and Phil, as I said before, what we're losing out on is the transactional side of the business and in these times, truly that's business we want to be able to get in with short lead times to be able to have a real impact on our performance.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

And one further point I'd make is, this is cold-finishing, so it's the center gauge sheet and coil products. So you hear us talking about plate and having available capacity in place. This is the center gauge stuff that we're selling and we're seeing quite a strong demand on that side of the business especially with some rerollers and some of the other applications Mike just mentioned.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

So Mike, this is largely going to be the business on the transaction side you think you pick up, it's not going to be incremental contract business?

Michael L. Shor -- President and Chief Executive Officer; Director

I think it's a combination Phil of both. I've been in this industry for a while and what we like to attempt to do is capture transactional business in these times because we get to the point where demand is -- the need for the material is greater than the need for whatever price is out there, but as we expand from the 13 million plus produced pounds to 18 million plus produced pounds, it would be both. We're talking to customers on both the long-term agreement side and transactional side about what we believe is coming.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

Okay and then just a couple more questions from me, I kind of did a back of the envelope given you provided some data on your raw material costs in your 10-K, but I think the non-raw material cost of goods sold was up at least on my math close to $15 (ph) million year-over-year in '18. Just trying to point to where you've seen the greatest cost of goods sold pressure or is it a combination of inflation and mix. Just maybe some help there.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Yes, I would say it's certainly a combination of inflation and mix and what moves our margin more than anything is alloy mix, but if you're looking outside of raw materials, I mentioned in my comments, we're certainly seeing fuel charges, fuel costs being higher. We're seeing things like graphite electrodes being higher. Those are used in our melting and mill rolls and some other things with inflationary pressure as well as obviously wages. So I think that's a majority of those higher costs. And as I mentioned, I think we're doing all we can to offset those with other cost reductions or price increases. Thus, our margins are improving even over that time frame that you're mentioning. And just looking at the fourth quarter, we talk about the cost of goods sold and average selling price. The average selling price in the fourth quarter was $24.46 a share or per pound, which is up $0.81 from the quarter before. So if you look at cost of goods sold per pound, that is up as well, but only $0.40 per pound. So, our gross margin per pound increased $0.41 a pound, which is the reason for the expansion from 11.7% gross margin up to 13% gross margin in the fourth quarter, so moving in the right direction.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

Okay and then last question for me is just on net working capital management. I think we looked at your numbers just on an inventory to sales ratio and Mike that number relative to history is pretty high. I know you're going to have some revenue growth moving forward, but probably still in that vein a little bit high versus historical levels. How do you think about managing that working capital bucket moving forward and should we expect improvements in the absolute levels moving forward or should we still expect the net working capital momentum to grow as the year goes on? Thanks.

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Let me start with that real quick, Phil. As I mentioned in my notes, inventory being up with backlog being higher. So that's got a lot more going through the production as we start driving higher top line sales you need that inventory in there, but also with this outage, the driver (ph) outage. We did all we could to build some inventory in the right places to help us manage through this pretty long outage and upgrade that we have. So that's a portion of it as well, but certainly I believe we have some improvements we can make to it.

Michael L. Shor -- President and Chief Executive Officer; Director

Phil, let me jump in. It's been a topic of a lot of discussion in my five months or six months here and one of the big influencers to how much inventory we have to carry is our on-time delivery and is our lead time and in particular in the cold-finished flat area for all the reasons talked about previously and even for the small diameter bar area, our lead times are significant and too long and that's what we're looking to address with capital on the cold-finished flat side and looking at other alternatives on the bar side. So as we pull those in and as we focus everyone on improved on-time delivery, you get a combination of those two and we'll be able to do that, but what I want to do first is get the lead time down, on-time delivery up and then we can -- I don't (ph) want to put customers at risk in the middle.

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

Thank you.

Operator

You we have reached the end of our question-and-answer session. I would like to turn the conference back over to Mike Shor for closing remarks.

Michael L. Shor -- President and Chief Executive Officer; Director

Thank you. Thanks, everybody, thanks for your time today and thank you for your interest and support in our Company. We look forward to updating you again next quarter. Have a good day.

Operator

This concludes today's conference. You may disconnect your lines at this time and thank you for your participation.

Duration: 41 minutes

Call participants:

David Van Bibber -- Controller and Chief Accounting Officer

Michael L. Shor -- President and Chief Executive Officer; Director

Daniel W. Maudlin -- Vice President-Finance; Chief Financial Officer; Treasurer

Edward Marshall -- Sidoti & Company -- Analyst

Philip Gibbs -- KeyBanc Capital Markets -- Analyst

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