ATI INC quarterly report, Q3 FY2013

ATI Inc. Form 10-Q Summary

Business context and reporting period

Allegheny Technologies Incorporated (ATI) filed an unaudited Form 10-Q for the quarter and nine months ended September 30, 2013. ATI produces specialty metals and operates through High Performance Metals and Flat-Rolled Products. The company serves aerospace and defense, oil and gas, chemical processing, electrical energy, medical, automotive, construction and mining, and other markets. Key markets represented 69% of nine-month sales.

Metric	Three months ended September 30		Nine months ended September 30
	2013	2012	2013	2012
Sales	$972.4 million	$1,131.5 million	$3,128.2 million	$3,645.5 million
Income before interest, other income and taxes	$(17.5) million	$65.1 million	$31.2 million	$262.6 million
Income (loss) from continuing operations attributable to ATI	$(28.4) million	$31.3 million	$(15.0) million	$134.5 million
Net income (loss) attributable to ATI	$(33.8) million	$35.3 million	$(19.4) million	$147.9 million
Diluted EPS attributable to ATI	$(0.32)	$0.32	$(0.18)	$1.32

Financial condition and key metrics

Segment operating profit was $27.6 million, or 2.8% of sales, in the third quarter, compared with $113.5 million, or 10.0%, in the prior-year quarter. Nine-month segment operating profit was $175.3 million, or 5.6% of sales, compared with $422.2 million, or 11.6%.
High Performance Metals sales declined 19% to $463.9 million in the quarter; operating profit declined to $48.0 million, or 10.3% of sales, from $87.4 million, or 15.3%.
Flat-Rolled Products sales declined 9% to $508.5 million; the segment reported a $20.4 million operating loss, or negative 4.0% of sales, versus $26.1 million of operating profit, or 4.7%, in the prior-year quarter.
Cash provided by operating activities was $227.4 million for the first nine months, compared with $245.8 million in 2012. Capital expenditures were $395.5 million, primarily for the Hot-Rolling and Processing Facility.
Cash and cash equivalents were $535.7 million at September 30, 2013, up from $304.6 million at December 31, 2012. Cash held by foreign subsidiaries was $109.2 million.
Total debt increased to $1,962.1 million from $1,480.1 million, primarily because of the July issuance of $500 million of 5.875% senior notes due 2023. Net debt to ATI total capital was 36.6%, versus 32.2% at year-end; total debt to total ATI capital was 44.3%, versus 37.4%.
The $400 million domestic revolving credit facility had no borrowings outstanding, although approximately $4 million supported letters of credit. ATI was in compliance with its leverage ratio of 4.18 and interest coverage ratio of 2.71 at quarter-end.
Net inventory declined to $1,344.9 million from $1,536.6 million at year-end. Managed working capital declined by $86.2 million to $1.7 billion, but increased to 44.5% of annualized sales from 41.1%.
ATI stockholders’ equity was $2,466.7 million, compared with $2,479.6 million at December 31, 2012. Pension liabilities were $702.4 million and postretirement benefit liabilities were $475.0 million.

Material changes versus the prior comparable period

Third-quarter sales fell 14% year over year, while nine-month sales fell 14%. Management cited sluggish demand, jet-engine OEM destocking, lower raw-material surcharges and base prices, excess supply, and weaker project-related demand.
Continuing operations moved from attributable income of $31.3 million in the third quarter of 2012 to a loss of $28.4 million in 2013. Nine-month continuing operations moved from income of $134.5 million to a loss of $15.0 million.
Operating performance weakened in both segments. Cost reductions of $46.4 million in the quarter and $124.0 million through nine months partially offset lower volumes, pricing pressure and raw-material cost mismatches.
ATI entered into an agreement to sell its tungsten materials business to Kennametal for $605 million. The business, along with the iron castings and fabricated components businesses, was classified as discontinued operations.
Discontinued operations generated a third-quarter loss of $5.4 million, compared with income of $4.0 million in the prior-year quarter. ATI recorded $9.5 million of pretax charges related primarily to the iron castings and fabricated components exits.
The fabricated components business was closed, and the iron castings business was held for sale. The company recorded $6.4 million of pretax exit costs for fabricated components and a $3.1 million impairment charge for iron castings.
Retirement benefit expense increased to $34.5 million in the third quarter and $99.5 million for the nine months, compared with $30.6 million and $91.8 million, respectively.

Guidance, outlook, commentary, risks and unusual items

Management did not see significant improvement in market conditions entering the fourth quarter and said fiscal-policy uncertainty could pressure shorter-cycle end markets through year-end 2013 and possibly into 2014.
ATI planned to remain aggressive on restructuring, cost reduction, lean manufacturing, production alignment and inventory management.
The tungsten sale was expected to close in the fourth quarter, subject to customary conditions and regulatory approvals. Management expected a significant fourth-quarter gain and approximately $1.4 billion of cash and available liquidity at year-end, assuming the transaction closes.
2013 capital expenditures were expected to be approximately $600 million, with about 80% related to the approximately $1.2 billion HRPF project. The project was on schedule and budget, with assets expected to be ready for service by year-end 2013 and formal commissioning expected in the first half of 2014.
ATI expected the HRPF to be its peak capital-expenditure year and intended to fund spending with cash, operating cash flow, tungsten-sale proceeds and, if necessary, its revolving facility.
The Rowley, Utah titanium sponge facility was operating below capacity during premium-quality qualification. The qualification process was expected to take 18 to 24 months from October 2013 and could continue to pressure results.
Management noted potential additional impairment risk in the fourth-quarter review for idled assets with approximately $50 million of carrying value, primarily related to the Albany, Oregon standard-quality titanium sponge facility.
Environmental remediation reserves were approximately $15 million. Management stated that future environmental adjustments could materially affect results, although the timing and amount were uncertain.
Recorded legal matters could be exceeded by as much as $8 million based on currently available information. ATI also agreed to indemnify the tungsten buyer for certain asset-retirement obligations for five years, up to $13 million.
Key exposures include aerospace destocking, global economic conditions, specialty-metals pricing, raw-material and energy volatility, foreign exchange, pension funding and asset performance, environmental obligations, litigation, and credit-rating changes. A $1 per pound change in nickel prices was estimated to affect annual costs by approximately $100 million based on 2012 usage.

Most important facts for an investor to verify

Whether the $605 million tungsten materials divestiture closed as expected and the amount and timing of the resulting gain and cash proceeds.
Progress, final cost and commissioning of the HRPF, including whether the approximately $600 million 2013 capital-spending outlook was achieved.
Fourth-quarter impairment testing for the approximately $50 million of potentially exposed idled assets.
Compliance with increasingly restrictive leverage and interest-coverage covenants, particularly as the maximum leverage ratio declines after September 30, 2013.
Whether demand, pricing and margins recover in aerospace, oil and gas, electrical energy and industrial markets, and whether cost reductions offset continued volume and surcharge pressure.
The impact of pension assumptions, environmental obligations, litigation, discontinued-operation indemnities and raw-material hedges on future cash flow and earnings.