AdvanSix Inc. Q1 FY2020 Earnings Call

Good day and welcome to the AdvanSix First Quarter 2020 Earnings Conference Call. Today's conference is being recorded. After the presentation, there will be an opportunity to ask questions. I would now like to turn the conference over to Mr. Adam Kressel, Director of Investor Relations. Please go ahead, sir.

Thank you, Chantel. Good morning, and welcome to AdvanSix's First Quarter 2020 Earnings Conference Call. With me here today are President and CEO, Erin Kane; and Senior Vice President and CFO, Michael Preston. This call and webcast, including any non-GAAP reconciliations, are available on our website at investors.advansix.com. Note that elements of this presentation contain forward-looking statements that are based on our best view of the world and of our business as we see it today. Those elements can change and the actual results could differ materially from those projected, and we ask that you consider them in that light. We refer you to the forward-looking statements included in our press release and earnings presentation. In addition, we identify the principal risks and uncertainties that affect our performance in our SEC filings including our annual report on Form 10-K as further updated in subsequent filings with the SEC. This morning, we'll review our financial results for the first quarter and share our thoughts on the COVID-19 pandemic, and outlook for our key product lines and end markets. Finally, we'll leave time for your questions at the end. So with that, I'll turn the call over to AdvanSix's President and CEO, Erin Kane.

Thanks, Adam, and good morning, everyone. Thank you for joining us and for your continued interest in AdvanSix. First, I'd like to start off the call by offering our condolences to all who have been affected by the COVID-19 pandemic. I hope that everyone listening today as well as their families and coworkers are healthy and staying safe. We are clearly in unprecedented times, and I also want to send my heartfelt thanks and appreciation to our 1,500 teammates at AdvanSix. This crisis has impacted all of our professional and personal lives in many ways. We have adapted our routines, work schedules, and even how we work. With the challenge, there will come many opportunities. It has forced our collective organization to be even more agile, efficient, and creative with our processes while innovating on our strengths along the way. As we highlighted in our March 31 press release, the business of chemistry in our specific industry was designated as essential during the response to COVID-19 for both public health and safety as well as community well-being. We take our obligation seriously to produce materials that support the broader population, while maintaining a relentless focus on health and safety. At the onset of the crisis, my leadership team began to meet daily as part of our organization's broader tiered accountability meeting structure to ensure we stay aligned on key priorities, identify potential risks and opportunities, and maintain a continuous communication feedback loop throughout the company. Daily communications to the organization highlight areas of focus as well as the great work being done by our employees each day. I continue to be inspired by the teamwork, collaboration, and nimble decision-making that is happening across the board. Above all, health and safety remain our top priority and core to who we are as we navigate through this environment. Significant efforts and actions have been taken to protect our employees, customers, suppliers, shareholders, and surrounding communities, including derisking our previously scheduled second quarter planned plant turnaround and shifting a majority of the work into the third quarter. We are very pleased with the results our practices and protocols are delivering. With the significant challenges the world is facing from the COVID-19 pandemic, we have restructured our call today to focus on the key information we believe is most important to our shareholders. Mike will briefly review our first quarter results, and then we'll spend most of the call highlighting our response to COVID-19 from a health, safety, and operations perspective as well as actions we're taking to support a financial position. We'll also dive in what we're seeing from an industry and end market perspective. While we do expect nylon demand weakness to continue, particularly in carbon engineered plastics applications tied to consumer demand, we do see resilience across various other product lines, including our acetone for hand sanitizer and acrylic screens, nylon for food packaging, and granular ammonium sulfate into the heart of the domestic planting season. Our integrated asset base, global low-cost position, and diverse co-product portfolio served us well in the first quarter. As we progress through the second quarter, we are executing our business continuity plans to ensure we remain a trusted partner for reliable supply to our customers. There is considerable uncertainty regarding the duration of this crisis, the pace of recovery, and the impact it potentially will have on the global economy. The good thing is that AdvanSix is starting from a strong foundation. The assets we have, our business model, global cost advantage, and resilience across the organization, give us a great base to build upon and navigate through these dynamics. With that, I'll turn it over to Mike to discuss the details of the quarter.

Okay. Thanks, Erin, and good morning, everyone. Now I'm on Slide 4, where I'll review the first quarter financial results. And keep in mind the first quarter results were largely unaffected by COVID-19. Sales in the quarter were $303 million, that's down about 4% compared to last year. Pricing overall was down about 10%, primarily due to an 11.5% unfavorable impact from market-based pricing, reflecting challenging end market conditions in our nylon and caprolactam product lines, as well as a higher standard export sales mix in ammonium sulfate. Raw material pass-through pricing was favorable by about 1%. Volume overall was up about 7%, primarily due to higher standard ammonium sulfate export sales and improved industry dynamics in chemical intermediates, particularly acetone and oximes. EBITDA was $29 million in the quarter, down about $13 million versus the prior year. I'll walk through the key variances on the next slide, but the decrease primarily reflects the unfavorable impact of low market-based pricing. Earnings per share of $0.31 decreased $0.37 compared to last year. You'll notice the effective tax rate of 29.9% in the quarter was higher compared to last year and expectations, and that was driven by a few factors, including reduced benefits from equity vesting and expected deduction loss as a result of our plan to pursue a federal net operating loss carryback claim allowed through the CARES Act, which is expected to improve cash taxes by approximately $8 million this year. Despite the tax rate in the first quarter being above expectations, we continue to expect the full year tax rate to be approximately 25%. In terms of share count, the first quarter came in at $28.1 million compared to $29.8 million in the prior year period. Lastly, cash flow from operations reached $20 million in the quarter that's down about $22 million compared to last year, primarily due to lower net income and the unfavorable impact of changes in working capital. CapEx of $34 million was down roughly $5 million year-over-year. Now let's turn to Slide 5. We thought it would be helpful to highlight a few of the key drivers of our EBITDA performance year-over-year. Market-based pricing represented a significant headwind, roughly $37 million as a result of the continued challenging conditions in nylon as well as lower ammonium sulfate prices year-over-year in part due to the unfavorable mix impact of higher export sales of standard grade products. Lower input costs, namely natural gas and sulfur, partially offset the overall pricing decline. Planned plant turnarounds had an approximately $2 million impact in the quarter this year versus no impact in the first quarter of 2019. The cumene impact following the shutdown of Philadelphia Energy Solutions in 2019 represented only an approximately $1 million impact in the quarter that's well below the runway we had seen in the second half of last year. We are further optimizing our supply chain as we have aligned our cumene supply. We now expect the full year 2020 impact to pretax income as a result of the 2019 PES supplier disruption and shutdown of $5 million to $10 million. That's about $5 million favorable versus our previous estimate and is approximately flat compared to 2019. In addition, we have submitted a business interruption insurance claim, and we'll provide updates on that progress as appropriate. SG&A expenses represented an approximately $3 million benefit year-over-year, reflecting a decrease in stock-based compensation and IT costs, and continued disciplined cost management across the organization. Lastly, we saw an approximately $10 million net tailwind from higher volume, operational performance, and other factors. This includes productivity benefits from our natural gas boilers at Hopewell, which have continued to exceed our return expectations. In the first quarter of 2019, we had two one-time considerations which largely offset each other: a roughly $6.6 million of insurance proceeds related to the first quarter of 2018 weather event and the approximately $8 million impact of the phenol force majeure.

Thanks Mike. Let's turn to Slide 7 to discuss some of the actions we've taken in the wake of the COVID-19 pandemic. For the last two months or so, we've been executing our business continuity plans with dedicated teams proactively implementing measures to mitigate the COVID-19 impact while continuing to operate all our manufacturing facilities to meet customer demand. The health and safety of our employees remains our top priority throughout all of this. We have protocols in place, including on-site medical personnel to actively monitor employees and contractors. We have also adapted the way we work to mitigate risk, including implementing 100% thermal screening processes at all manufacturing facilities with restrictions on nonessential visitors. We've established social distancing while limiting the number of employees in control rooms, labs, and meetings. We're maintaining policies and practices consistent with CDC and government guidelines, including upgraded personal protective equipment and face coverings at all manufacturing facilities. We moved to telecommuting across all sites where possible and prohibited all nonessential domestic and international business travel. In addition, we've proactively trained a contingent workforce to operate the plants as part of our business continuity planning. As I highlighted earlier, the previously scheduled second-quarter 2020 planned plant turnaround was derisked with the majority of the work shifted to the third quarter in order to limit the number of contractors on-site and ensure operational continuity in the current environment. We also remain confident in our financial position. At the end of the first quarter, we had approximately $31 million of cash on hand with approximately $87 million of additional capacity available under our revolving credit facility. Our $425 million revolving credit facility provides a base source of liquidity for the business in addition to our operating cash flows and matures in 2023. As a precautionary measure in the current environment, we are currently maintaining higher cash balances of approximately $75 million. As a reminder, the leverage ratio covenants of our facility allow us to net debt with up to $75 million of cash. Our previously announced amendment to the facility executed in the first quarter also provides us with leverage ratio covenant flexibility in 2020. In addition, we're actively assessing potential incremental borrowing capacity under the facility's uncommitted accordion feature. Now we're also driving a disciplined approach to cost management, including all discretionary spending, and are planning a further reduction of capital expenditures. We now expect CapEx for the full year 2020 to be in the range of $80 million to $90 million, which represents a reduction of $10 million from our previously announced estimates and a decrease of $60 million to $70 million versus 2019. We're continuing to evaluate the potential impact of the CARES Act and other government stimulus programs to optimize cash flow, including provisions for taxes, employment-related costs, deferral of pension funding obligations and options for liquidity, which Mike will elaborate on in a moment. On the left-hand side of this page, we provided a framework of potential impact by key end market. The chart represents an estimated percentage of our total sales, ranging from low-to-moderate to high exposure from COVID-19 impacts. On average, 75% to 80% of our sales are concentrated in moderately exposed segments. But I must say visibility remains mixed across many end markets. Our highest demand risk in the near term is linked to more consumer-oriented end markets. Global auto production shutdowns and demand weakness in consumer durables are expected to impact our nylon and chemical intermediate product lines. Textile demand declines in Asia are also impacting the nylon industry's supply and demand conditions. Although textiles are not a significant end-use for AdvanSix sales directly, they do represent the largest nylon end-use globally and are affected by the greater consuming U.S. and Europe markets, which are all facing significant lockdowns and declines in economic activity. We're also keeping a close eye on building construction trends as well as carpet demand, which are expected to remain weak as a result of COVID-19. Conversely, food packaging demand for nylon, which is preferred for its toughness and strength has been robust, with inventories at grocery stores seeing rapid turnover. Through this period, we've continued to see strong demand signals from the ag side of the business as we sell our ammonium sulfate fertilizer into the heart of the spring planting season. The second quarter is historically our strongest quarter domestically for higher value granular ammonium sulfate sales. We've seen an earlier start to the planting season this year compared to last year, which, as you'll recall, was delayed by wet weather across regions of the U.S. We've also seen improved acetone industry supply/demand balances following final affirmative antidumping duties imposed in March. Demand has improved for several central applications, including isopropyl alcohol or IPA, used for hand sanitizer and other disinfectants, methyl methacrylate or MMA, which among other things, have seen increased demand for our acrylic screen uses protective equipment at stores as well as other solvents using coatings. Visibility across the portfolio is only a few weeks out, which in many cases is not too different than how our orders typically come in. Our customer base is very steady with long-tenured top customer relationships, and we've been in even greater lockstep with them these last several weeks. We've increased the frequency of our pulse checks and decision points through our sales, inventory, and operations planning teams to respond quickly to demand signals. We've seen a roughly 20% to 30% reduction in nylon industry demand in April, which we addressed proactively by proceeding with our planned plant turnaround at Chesterfield. There has been some demand pickup in Asia as economies reopen in the region, and we're leveraging our core strengths in global low-cost positions to optimize our sales mix across the portfolio for this environment. Despite some reduction in utilization in April, we're still running disproportionately higher, which is at a minimum 10% to 15% above the industry average. Now more than ever, we are flexing our ability to remain agile on product mix and plant utilization. We're also driving improvements through our differentiated products with recent commercial wins for our coupon offerings into the packaging space, ongoing field trials in soybeans to continue growing underlying ammonium sulfate demand and investments in high-purity applications across our intermediates portfolio to improve quality and yields. As a reference, we've included our typical pricing and spreads across our product lines altogether here on Slide 6. Consistent with our results, global caprolactam spreads over benzene continued to decline sharply on a year-over-year basis in the first quarter, reflecting a weak demand environment across most major end users in what is already an oversupplied industry globally. We are also tracking the significant drop in benzene costs seen in March, which the caprolactam price follows more closely. Downstream resin spreads in the industry did show an expansion over the falling raws in caprolactam; however, transaction volume in the industry at these levels was very low, and we've already begun to see it correct back to roughly the $200 to $300 range per ton as we entered the second quarter. Asia, benzene and capro spreads averaged roughly $600 per ton in the quarter and that remains at levels below cash costs for more than half of the caprolactam cost curve, approximating the trough levels we saw in 2016. Overall, nitrogen industry pricing has also declined on a year-over-year basis, tracking lower global energy prices. Based on third-party data, we've seen more modest ammonium sulfate industry movement as compared to recent urea pricing, which, as you recall, is the largest nitrogen fertilizer by total consumption. Lastly, industry realized acetone prices over refinery grade propylene costs stabilized in the first quarter tracking an improved supply and demand balance in the U.S. following final affirmative antidumping duties and increased downstream demand. The month of March saw a significant drop in propylene input costs and expansion in small medium to medium buyer acetone prices back to a premium to the large biomarker. As a reminder, the small medium buyer price is reflective of roughly one-third of the domestic industry where pricing is predominantly freely negotiated. Now let me turn the call back to Erin. Thanks Mike. Let's discuss the actions we've taken following the COVID-19 pandemic. For the past two months, we've been implementing our business continuity plans with dedicated teams proactively working to minimize the impact of COVID-19 while ensuring all our manufacturing facilities remain operational to meet customer demand. The health and safety of our employees continue to be our top priority. We have protocols in place, including on-site medical personnel to monitor employees and contractors. We've adapted our working methods to reduce risk, including 100% thermal screening at all manufacturing sites and restrictions on nonessential visitors. We have established social distancing and limited the number of employees in control rooms, labs, and meetings. Our policies align with CDC and government guidelines, including upgraded personal protective equipment and face coverings at all facilities. We've transitioned to telecommuting wherever possible and prohibited all nonessential domestic and international travel. Additionally, we've trained a contingent workforce to operate the plants as part of our continuity planning. The second quarter plant turnaround has been rescheduled to minimize the number of contractors on-site and maintain operational continuity. We're confident in our financial position, ending the first quarter with approximately $31 million in cash and an additional $87 million available under our revolving credit facility, which provides a base source of liquidity and matures in 2023. As a precaution, we are maintaining higher cash balances of about $75 million. Our facility's leverage ratio covenants allow us to net debt with up to $75 million in cash. The amendment to our facility executed in the first quarter offers covenant flexibility this year. We're also evaluating potential borrowing capacity under the uncommitted accordion feature of the facility. We are focused on disciplined cost management, including all discretionary spending, and planning further reductions in capital expenditures. We now expect capital expenditures for 2020 to be $80 million to $90 million, a $10 million reduction from previous estimates and down $60 million to $70 million from 2019. We are assessing the impact of the CARES Act and other government stimulus programs to optimize cash flow, which Mike will elaborate on shortly. On the left side of Slide 8, we have outlined the potential impact by key end market, estimating the percentage of our total sales affected by COVID-19. Approximately 75% to 80% of our sales fall within the moderate exposure range, though visibility remains mixed across end markets. The greatest demand risk in the near term is tied to consumer-oriented markets. Global auto production shutdowns and demand softening in consumer durables are expected to affect our nylon and chemical intermediate products. Declining textile demand in Asia is also impacting the nylon supply-demand situation. While textiles are not a significant direct end-use for AdvanSix, they represent a major nylon end use globally and are influenced by economic activity in the U.S. and Europe, which are experiencing significant lockdowns and declines. We are also monitoring building construction trends and carpet demand, which are anticipated to remain weak due to COVID-19. On a positive note, demand for nylon in food packaging has remained strong, with inventories at grocery stores turning over rapidly. Throughout this time, we have continued to see strong demand signals from the agriculture sector, especially as we sell our ammonium sulfate fertilizer during the critical spring planting season. Historically, the second quarter is our strongest for these higher value sales. We are seeing an earlier planting season this year compared to last year, which was delayed by wet weather. Demand for acetone has improved following the antidumping duties imposed in March, particularly for applications such as isopropyl alcohol used in hand sanitizers, methyl methacrylate, and protective equipment. Visibility across our portfolio is short-term, similar to how our orders typically arrive. Our customer relationships remain steady, and we have been closely engaged with them recently. We are increasing frequent pulse checks and decision points with our sales, inventory, and operations planning teams to respond swiftly to demand signals. We've experienced a 20% to 30% decline in nylon industry demand in April, which we proactively addressed by proceeding with our planned plant turnaround at Chesterfield. There has been some demand recovery in Asia as economies start to reopen, and we are leveraging our competitive position to optimize our sales mix. Despite reduced utilization in April, we are still operating significantly above the industry average. We are flexible in our product mix and plant utilization and are also making improvements through differentiated products, recent commercial wins in the packaging sector, ongoing field trials to boost ammonium sulfate demand, and investments in high-purity applications to enhance quality and yield. Moving to Slide 9, another area of concern due to COVID-19 is the implications for refinery utilization in the U.S. Most of the population not traveling has led to a decline in transportation fuel demand. Some refineries are reducing output by 30% to 50% and managing inventory. We are monitoring how this may impact our key raw materials, particularly cumene, benzene, propylene, and sulfur. Our team is focused on ensuring supply security, having added two new cumene suppliers this year and diversified our sulfur sources. We've also noticed a significant drop in oil prices recently. While historically we've used oil prices as a proxy for raw material cost changes, our business is primarily driven by benzene and propylene, which have their own supply-demand dynamics. For example, in Q1, benzene prices rose by 8% while refinery grade propylene fell about 20%, despite a decrease in WTI crude prices. To manage raw material price risks, we primarily use formulary index-based price agreements for around 50% of our revenue. We expect slightly more exposure to spot sales in the near future due to the demand environment and reduced customer contract volumes. Our nylon business typically employs these agreements, particularly with caprolactam, some resin sales, and parts of our chemical intermediates. Our selling prices are indexed to the prices of raw materials, which will cause fluctuations in our revenue while protecting our variable margins. The other 50% of our revenue follows market-based pricing, affected by supply-demand dynamics and the economics of marginal producers. Raw material prices also influence this pricing, which can lag changes by up to 60 days. With the recent drop in oil prices, we are also monitoring the potential effects on industry cost curves, which could lead to pricing pressure, especially for nitrogen fertilizer. We believe our strengths will continue to support us, and our resilient operating model will allow us to thrive under any energy environment. Let me hand the call back to Mike to conclude before we move into Q&A.

Okay. Thanks, Erin. I'm now on Slide 10 to summarize our outlook for the rest of the year. We've also highlighted some key considerations that can impact our outlook as we move forward here. From a product line perspective, Erin highlighted many of the impacts we're seeing on our businesses from COVID-19. Nylon demand weakness and reduced global industry operating rates are expected to continue. We'll also be closely watching for any demand signals around both residential and non-residential construction, auto production, and textile growth out of Asia. So while we're navigating challenges in nylon, we do remain cautiously optimistic about our view on ammonium sulfate and chemical intermediates, particularly acetone. We will be closely monitoring the impact of lower energy prices on nitrogen pricing in the second half. Now operationally, we're continuing to support safe and stable operations while adjusting our production output to changes in mix and demand. While we're working to mitigate near-term impacts on absorption and volume as a result of COVID-19, we are maintaining utilization rates above industry output by leveraging our global cost advantage. Erin highlighted the changes to our plan and turnaround schedule for 2020, which is now expected to be a pretax income impact of $30 million to $35 million, down about $3 million from our prior estimate. The heaviest impact is expected to be in the third quarter of this year. From a cash perspective, we've highlighted our expectations for further reduction of CapEx spend in 2020, as we continue to assess opportunities to maximize free cash flow in light of current and anticipated economic conditions. We have a number of tailwinds from a cash flow perspective, particularly as we progress through the year and continue to expect stronger cash flow generation in the second half compared to the first half. This primarily reflects the significantly lower CapEx run rate and other working capital timing considerations. Our annual ammonium sulfate prebuy cash advances program is another consideration for cash flow linearity. This occurs in the fourth quarter typically for spring sales in the following year. We're driving disciplined cost management across the organization, including all discretionary spending. As a result of our actions, we're targeting an approximately $10 million to $15 million full year cost reduction versus the prior year, including indirect cost savings, managing people costs and other plant spend and logistics benefits. While we continue to evaluate benefits of the CARES Act, we do anticipate approximately $8 million of cash tax savings in 2020 and an approximately $6 million cash benefit in 2020 from the deferral of social security taxes. Given the puts and takes across the portfolio, we expect free cash flow to remain negative through the first half of the year. However, second half free cash flow is expected to be positive with lower CapEx spend and working capital timing impacts more than offsetting the headwinds in the early part of this year. We're continuing to leverage our strengths and are committed to driving best possible outcomes, which will require us to remain agile as we navigate through the near-term environment. Now with that, Adam, let's move to Q&A.

Great. Thanks, Mike, and Chantel, if you can open up the line for Q&A.

Thank you. Our first question will come from Vincent Anderson, Stifel.

Belated congratulations on the acetone win. I wanted to go through kind of the commercial plan for maintaining high utilization rates in the second and potentially into the third quarter when it comes to placing capro. With your cost position, you'd like to move every time you can, but if we were to see something like a 30% drop in nylon demand, is the physical capacity in the global capro trade channels for you to move that much incremental capro if we're down at these levels for more than a couple of months?

Great, Vincent. Thanks for the question, and glad you're well and joining us here this morning. As we mentioned, we saw that in April, certainly, if that continues to be extended. As we indicated, we do see the opportunity, right, provided there our demand signals around the globe to continue to run well across our integrated asset base. The export markets, as you can imagine, certainly, given the way that pandemic kind of came across the globe and if the expectation is that it reopens in the same construct, that the Asian demand signal we saw at the end of April, continuing here into early May, is important, obviously, for us here. And then recognizing that as markets continue to reopen, that optimization, right, of where our mix is placed will happen in a post-recovery world. So we've been focused on making sure we've got the right quality, the right product mix to meet basically where the demand signal is, right, in this environment. So that is the plan. And again, we did see some turn down in April. We proactively took the outage in Chesterfield that helped us mitigate that here in the near term. And then we'll look to leverage, like you say, our competitive strength. We do believe that we're roughly about 5% of the world's capacity, and with the strength that we have, believe that, again, that will serve us well and be disciplined in that fashion.

And you led right into my next two. Just quickly, you mentioned the outage and Chesterfield. How much do you depend on external contractors for your turnarounds? And is there any risk to labor availability this year from a timing perspective?

It's a great question and certainly influenced our decision to reduce risk regarding our Q2 outage. As you may remember, the Q2 outage was planned to be a multi-flight outage, and we are integrated across our Frankfurt, Hopewell, and Chesterfield locations. This integration helps us maintain rates during previous outages and achieve efficiencies. When the National Emergency was declared and stay-at-home orders were implemented, we realized that conducting the planned outage in Q2 would have required nearly 1,000 contractors on site. Considering the health and safety of our teammates and contractors, as well as their availability, we decided it was wise to reduce risk and postpone most of the work. The Chesterfield outage was completed successfully, following great protocols, including two feet social distancing, improved personal protective equipment, and facial coverings. We are now ramping the plants back up successfully, maintaining a strong focus on health, safety, and environmental standards while getting the work done in a timely manner. Looking ahead to Q3, we plan to make informed decisions based on our experiences, with careful consideration of the pandemic's duration and transmission spread. We believe we will be well prepared to execute our plans in Q3, even with contractors returning to our site.

Yes. And Vincent, the only thing I'll add there is that the contracts as well as our employees will be subject to the same screening and the same protocols that we have in place to protect our operations. So we talked about thermal screening of anyone who's visiting our site, and that would include contractors as well, as well as protocols around on-site medical personnel to actively monitor employees as well as contractors. So we feel very good about all of the actions and the mitigations we put in place not only to protect our operations from infection through an employee but also contractors. We feel we're in a very good position to manage that going forward.

That's great. And then just to go quickly back to the market. Erin, you touched on Asia being kind of pivotal to watch for in the near-term for export opportunity, and you mentioned textile weakness earlier in your comments. But from an outsider perspective, it looks like Chinese textile manufacturers have been much slower to recover than kind of the rest of its manufacturing base. One, is that your impression? And two, are you seeing any impact on the Asian capro trade as a result of that? Or just anything else you'd want to note there.

It's certainly the largest application for nylon globally, and it is linked to consumer confidence and demand. Your observations align with what we've experienced. Overall, there's been a slower start across the board. However, we still see it positively that there is a start-up in the region. Operating rates are likely around 60%, which is among the best in China currently. The pace and shape of the recovery will be unique. We'll need to be nimble and agile to meet demand where it exists and remain flexible with our product mix. We'll also closely monitor the situation in May and June as some domestic markets begin to reopen. Retail stores in certain states may reopen, and this situation will likely unfold differently than in the past. However, we have demonstrated our ability to navigate through other cycles, and we remain focused on proving that we can do it again now.

Just you had referenced the kind of cumene sourcing. It looks like the incremental cost expectation for fiscal '20 is a little bit lower than previously plot. Maybe can you talk a little bit what's behind that?

Yes. Sure. So if you recall, when we talked about this previously, we had a range of $10 million to $15 million of an impact for 2020, and that's compared to a $10 million impact last year. So the initial thinking was we would see flat or possibly a $5 million unfavorable impact. If you recall, in the discussions we've had inherently by expanding your supply outside the region where PES was a very local supplier to our plant just outside of Philly. Inherently, you have a lot more logistics costs as you perhaps source more material down from the Gulf, which will require spot vessels or other regions of the world. We've been able to optimize the logistics spend to get more, I'll say, more material per vessel. The vessel that we currently charter up from the Gulf will significantly reduce the cost, and we're thinking at this point that we could be flat or even $5 million favorable compared to last year. But it really came down to the logistics spend, and we're going to continue to optimize to see if we can get it any lower as we go forward here.

And maybe, Erin, can you just talk a little bit further about the ammonium sulfate outlook heading into the second half? Just more thoughts there.

Great. Thanks. Glad you're well as well here in joining us today. Let me start maybe by reiterating, Chris, a bit on what we're seeing right now as we're in the heart of the season because demand certainly is robust with fertilizer heading out to the field. The season is earlier than we saw last year with corn plantings in top states, about 7% ahead of our 5-year average and they're almost 15% ahead of 2019. Last week was, from what we hear, rather fast week with things moving rather briskly and about a fifth of the corn crop was actually planted last week. So in the heart of it, seeing that robust demand, which is great for Q2. But as is typical, as we begin to approach sort of the end of spring and planting, we do see and we do typically see global nitrogen fertilizer prices falling. This summer, with fertilizer demand likely contracting, and energy prices flattening those cost curves, as I mentioned, we anticipate and have seen projections that nitrogen prices could likely fall below the last two years, mid-summer lows. They may even approach those 2017 levels, right? So that's what we're going to watch for. However, right, I'll just remind you and everyone that ammonium sulfate does have its own considerations, right? We continue to stay focused on that value of sulfur nutrition. I also believe that the capital action related cutbacks, which we've seen in utilization, which could curtail ammonium sulfate production as well will provide some offset on the impact of that weaker nitrogen. So hopefully, that provides a little bit more color for you. Yes, no, it's a great reflection here. And I think the one we need to watch, right, is that when you look at the caprolactam nylon space, right? It's been an industry with oversupply. We believe we're operating now with more than 50% of the sort of cost curve for caprolactam, operating below cash cost, this isn't necessarily completely COVID related here, but we came into it already in that position, right? And so we're testing the trough levels that we saw back in 2016. Last time, we sat there for about, let's call it, 15, 16 to 18 months. At the end of that, we saw the rationalization of a plant here in the U.S. as well as some capacity in Europe. I think that's the one thing we have to watch here, right, is, does the extension of the downturn here, right, on the cycle for nylon and the additional considerations and extension that COVID could play into that, will it create another round of rationalization. But that's simply no signs yet, but probably the one when you think about an opportunity that would restructure the space.

I have several questions. If you don't mind, I would like to clarify a couple of points from your prepared remarks. I apologize for not writing fast enough. Erin, you mentioned a decline in nylon demand year-over-year during April, and I would appreciate it if you could repeat the percentage of that decline. Also, regarding the $75 million cash balance you referred to in the second quarter, I missed the context. Was that an increase from the $31 million at the end of Q1, due to an additional drawdown, or was it a result of recovering working capital and sales of products? If you could clarify those two points, I would greatly appreciate it. I'll follow up afterward.

Yes, certainly. Let's address those points in order. Regarding what we observed in April, the decline ranged from 20% to 30%. This was influenced by several factors, including the automotive shutdowns affecting engineering plastics. Additionally, some customers experienced operational shutdowns due to health and safety concerns related to COVID. Ultimately, this led to the 20% to 30% impact we noted in April.

Sure. We use the revolver as part of our credit facility as our primary source of liquidity. The balances will vary, which is the advantage of having the revolver because it gives us that flexibility. We finished the quarter with $31 million in cash. As a precautionary measure, we drew down additional funds from the revolver and are maintaining higher cash balances. This is a precaution as we navigate through this challenging environment; that cash balance will fluctuate based on our cash flows and management. We believe the banking industry is in much better shape now in terms of capitalization compared to the 2008 and 2009 period. It is purely a precaution to hold those cash balances higher than usual. We will manage it as we gain better visibility on the impacts to demand and operations, but again, this is strictly precautionary at this point.

Okay. I wanted to ask you about the acetone demand outlook and in particular, this emerging or newer outlet for acetone into IPA that you did highlight in your prepared remarks. So I had to crack open my industrial chemistry book here. It's an interesting alternative or incremental use. I was wondering internally, what do you think that that incremental route or use end market for acetone could amount to maybe in the shorter term, where demand is spiking, but also whether you think that route from a fundamental perspective is going to be a sustainable source of incremental demand longer term?

Great question. Since you offer that you opened up your chemistry block, I'll try to build off of that, right? There are two routes to make isopropyl alcohol. Certainly here in the U.S. as well as globally, both routes I think are employed. One directly from propylene, the second from acetone, and I would say over long stretches, right, the trade-off of which route wins, depends on where acetone sits over propylene. Certainly in a time like we're seeing now and the demand, I think anybody who can make it is certainly making it. We're servicing two large producers here in the U.S. who use that acetone route. I think, certainly, for the foreseeable future, right, the demand strength here is important. In the interim, it's certainly creating further tightness in addition to what we're seeing on the methyl methacrylate side for clear plastic sheeting for protective barriers. I would imagine, I can't call it that we've seen over stretches and over cycles. There always is some IPA made from acetone. But at some point, when the markets are restored and the pandemic passes, I would anticipate sometime in the future that the normal trade-off between the propylene route and the acetone route will fall back into normal balance.

Yes. You did notice, I believe, maybe on the last earnings call, you also asked about inventory. We did see a reduction in the first quarter, driven by two areas. When you look at sort of the width and finished goods inventory, that really drove a reduction, and that was down roughly about $8 million in aggregate. We had acetone and ammonium sulfate really the two primary drivers of the inventory reduction. Much of that standard product inventory that we had at the end of the year, we did sell in the first quarter as well. From an oil price perspective, it sounded like you're referencing sort of an accounting consideration around lower cost to market. We evaluate that every single quarter. As we set our standard costs. The values of the inventory are based on our standard cost and the amount of volumes we have in inventory. We'll make adjustments as appropriate. If you see oil prices decline and go below in terms of the actual product cost relative to the sales prices, if the sales prices fell below the product cost, we need to consider how that will impact inventory values. But I would say, again, economically, that is an accounting consideration. Economically, when you look at it, still the considerations around the fact that 50% of our business is passed through. We passed through those raw materials as they go down. We also increase prices as raw materials go up. Our variable margin is largely protected. That economic consideration is still in place. In terms of the accounting considerations on from a lower cost of market, as far as we can tell right now, the risk is relatively low.

So it's a great thesis, David. I think one that we're all collectively watching for. Certainly, whether it's certain durable goods or where supply chains have been impacted to certainly, we're seeing that on a more humanitarian basis relative to PPE and medication and things of that. I would say, to date, we haven't received any indication of that just yet. I think there has been a quite amount of work, I think, for people in the last four to six weeks really to keep their employees healthy and safe and also to quickly adjust to rapidly changing demand signals domestically as well. I would say that we remain focused. Our conversations with customers are daily in touch points. When we think about the portfolio transformation sort of opportunity for us in nylon in a, I would say, steady carpet decline, which we have talked about, and that need to continue to grow in packaging and engineering plastics, I will say that those conversations and that work continues. Again, we just out sort of on a year-over-year, quarter-over-quarter basis. Our sales into the EP space is up 70%. To an industrial application space, it's 20% to 30%. Again, we're very focused on building those relationships, getting products into trials and customer applications. Recognizing that, that has been slowed, right, a lot of that work for those new products and those applications will come. But again, building out the connections is important for us here so that we are seen as that trusted reliable supplier who can bring to bear the products that are needed should that thesis play out. We're doing it just one from the standpoint strategically we need to. But it hopefully is positioning us well to be there should those decisions be made.

I have a quick question about ammonium sulfate. We know there's usually a summer lull, but you typically have strong sales in South America, and with the real's value changing against the dollar, I'm curious about the situation. I've heard that Brazilian farmers are doing quite well. Have you received any early inquiries or insights into what the South American market might look like this year? It seems like it could be a very strong market based on their performance. Have you noticed any early signs on this front?

Yes, I would say it's probably a little early, right, as we focus here on moving certainly the granular out to the fields here in Q2. As you rightly noticed, we typically switch to that Q3 export consideration. I think that we have seen, certainly, what would be our normal pace, I would say, right now, of inquiries for bookings into South America, again, not just Brazil, but Peru, through Latin America and Central America. I think as we proceed over the next couple of weeks and months, we'll get a better sense of where that sits. Obviously, one of the things that like you say, watching the total plantings and what crops I think are going to be key as we think about getting into that second season and certainly into the fall. But good observations. I appreciate that, Charles. Yes, there are definitely several factors influencing the acetone market and the potential for pricing recovery following the antidumping decision. On the supply side, imports in the first quarter were only around 7,000 tons compared to 50,000 tons the same time last year, which has certainly slowed down after the antidumping measures. Additionally, global operating rates for phenol, BPA in polycarbonate, and epoxy resin for auto and construction are weakening. With lower phenol demand, utilization rates decrease, leading to a reduction in acetone supply. However, there remains strong demand for acetone. In the U.S. MMA market, we believe operations are at over 80 percent capacity, and the demand for PMMA in clear sheeting continues to perform well. Architectural coatings also appear to be stable, likely due to ongoing home painting and DIY projects, while industrial and automotive coatings are not as strong. All these factors are contributing to the supply-demand dynamics that are helping to restore price levels and fair value for end applications, aligning with what we were aiming for in the market. Well, great. That was a terrific hour spent with everyone and as we approach here. I just wanted to thank everyone again for their time and interest this morning. It is a unique time, but we remain focused on driving best possible outcomes and optimizing the levers in our control to create value. I'm very proud of the way our entire team has come together to keep our business moving forward during this dynamic and unprecedented time. Lastly, I'd love to call out that, as you saw in our press release this morning, we recently published our third annual sustainability report, which can be found on our website and highlights many of the ongoing initiatives happening around the organization. I really encourage all of you to take a read through it. With that, we look forward to speaking with you again next quarter. Please stay safe and please be well. Thank you.

Thank you very much. Ladies and gentlemen, this now concludes today's conference. You may disconnect your phone lines, and have a great rest of the week. Thank you.