ATI Inc. 2010 Third-Quarter Form 10-Q Summary
Business Context and Reporting Period
Allegheny Technologies Incorporated (ATI) is a diversified specialty-metals producer serving aerospace and defense, electrical energy, oil and gas, chemical processing, medical, automotive and other markets. The filing covers the quarter and nine months ended September 30, 2010. Results are unaudited and should be read with ATI’s 2009 Form 10-K.
ATI operates through High Performance Metals, Flat-Rolled Products and Engineered Products. Aerospace and defense, oil and gas and chemical processing, and electrical energy markets represented approximately 68% of nine-month 2010 sales.
Key Financial Metrics
| Metric | Q3 2010 | Q3 2009 | 9M 2010 | 9M 2009 |
|---|---|---|---|---|
| Sales | $1,058.8 million | $697.6 million | $3,010.2 million | $2,239.2 million |
| Income before interest, other income and taxes | $23.9 million | $10.4 million | $146.9 million | $21.1 million |
| Income before income taxes | $9.5 million | $2.6 million | $103.1 million | $2.9 million |
| Net income attributable to ATI | $1.0 million | $1.4 million | $55.6 million | $(6.1) million |
| Diluted EPS attributable to ATI | $0.01 | $0.01 | $0.56 | $(0.06) |
| Segment operating profit | $63.0 million | $54.0 million | $268.5 million | $163.8 million |
| Segment operating margin | 6.0% | 7.7% | 8.9% | 7.3% |
Gross margin calculated from reported sales less cost of sales was approximately 8.5% in Q3 2010 versus 13.5% in Q3 2009, and approximately 12.1% for the first nine months of 2010 versus 11.2% in the prior-year period. Selling and administrative expenses were $65.9 million in the quarter and $216.1 million year to date.
- Segment performance: Q3 sales increased 23% in High Performance Metals, 70% in Flat-Rolled Products and 75% in Engineered Products. Q3 segment operating profit was $72.0 million, a loss of $11.8 million and profit of $2.8 million, respectively.
- Cash flow: Operating activities used $63.9 million in the first nine months, compared with $149.4 million provided in the prior-year period. Investing activities used $132.4 million, including $133.2 million of capital expenditures. Financing activities used $69.2 million, including $53.0 million of dividends.
- Liquidity: Cash and cash equivalents were $443.3 million at September 30, 2010, down from $708.8 million at December 31, 2009. Current assets were $2.16 billion versus current liabilities of $710.4 million.
- Debt: Total debt was $1.061 billion, including $21.9 million of current debt and $1.039 billion of long-term debt. Net debt was $617.8 million. Net debt to total capitalization was 23.2%, compared with 15.3% at year-end 2009; total debt to total capitalization was 34.1%.
- Debt capacity: ATI had no borrowings under its $400 million domestic unsecured credit facility, although approximately $7 million supported letters of credit. The facility’s leverage ratio was 1.67 versus a maximum of 3.25, and interest coverage was 4.85 versus a minimum of 2.0.
- Working capital: Managed working capital increased $345.2 million to $1.406 billion, primarily from higher receivables and inventories. Inventory was $1.012 billion and accounts receivable were $623.0 million at quarter-end.
Material Changes Versus the Prior Comparable Period
- Sales rose 52% in Q3 and 34% for the first nine months, reflecting higher shipments, improved demand and higher transaction prices, particularly in Flat-Rolled Products.
- Nine-month net income attributable to ATI improved from a $6.1 million loss to $55.6 million of income. The comparison is affected by $9.2 million of 2009 debt-extinguishment costs and related tax effects.
- Q3 earnings were pressured by a $35.2 million LIFO inventory valuation charge, including approximately $33 million of cumulative adjustments related primarily to higher nickel costs. The comparable 2009 quarter included a $4.5 million LIFO benefit.
- Nine-month 2010 included $40.7 million of LIFO expense versus a $59.0 million benefit in 2009. Rising raw-material costs, especially nickel, materially affected reported margins.
- Idle-facility, start-up and additional maintenance costs were $27.0 million in Q3 and $47.0 million for the first nine months, primarily associated with titanium sponge operations and other High Performance Metals facilities.
- Interest expense increased to $16.4 million in Q3 and $46.4 million for the first nine months, primarily due to debt issued in 2009 and lower capitalized interest.
- Retirement benefit expense declined to $22.5 million in Q3 and $67.4 million for the first nine months, compared with $25.5 million and $96.2 million, respectively, in the prior-year periods.
- Q3 included a $3.9 million tax charge related primarily to the Small Business Jobs and Credit Act. Management expected an approximately $30 million cash tax refund in the first half of 2011. Nine-month 2010 also included a $5.3 million charge related to health-care legislation.
Guidance, Outlook, Risks and Unusual Items
- Management was cautiously optimistic that demand would continue recovering and expected 2011 to be significantly improved, supported by aerospace, oil and gas, chemical processing, electrical energy and new product opportunities.
- ATI announced price increases of approximately 4% to 7% for certain nickel-based and specialty alloys and 6% to 9% for certain CP titanium products. Because of customer lead times, management expected these increases to affect 2011 performance.
- 2010 capital expenditures were expected to be approximately $250 million; $133.2 million had been spent through September 30. The planned Brackenridge advanced specialty-metals facility was estimated to cost approximately $1.16 billion over at least four years.
- Management expected approximately $30 million of annual savings beginning in 2011 from integrating the Natrona grain-oriented electrical steel melt shop into the Brackenridge melt shop.
- Key risks include volatile nickel, ferrous scrap, energy and other raw-material prices; delays or cost overruns in strategic projects; demand weakness in served markets; pension-asset performance and funding requirements; litigation; environmental remediation; foreign currency exposure; and execution of cost-reduction initiatives.
- Environmental remediation reserves were approximately $17 million at September 30, 2010. ATI stated that no currently identified environmental matter was reasonably expected to exceed accrued amounts by a material amount, but future adjustments could materially affect a reporting period.
- Natural gas hedges covered approximately 75% of forecast domestic requirements through 2011 and 15% for 2012; electricity hedges covered approximately 45% of 2011 and 30% of 2012 Western Pennsylvania requirements. Derivative positions remained exposed to market-value changes.
- ATI stated that it had no off-balance-sheet arrangements as defined by SEC Regulation S-K and that disclosure controls were effective.
Most Important Facts for Investors to Verify
- Whether demand recovery and announced price increases offset raw-material inflation and LIFO-related earnings volatility.
- The sustainability of positive operating cash flow after the $345.2 million working-capital investment and continued strategic capital spending.
- Progress, cost and funding requirements for the approximately $1.16 billion Brackenridge facility and titanium and zirconium capacity projects.
- Whether the expected $30 million tax refund was received in the first half of 2011 and how recurring tax rates compare with reported rates.
- Future obligations and cash requirements related to $1.061 billion of debt, pension and postretirement benefits, environmental remediation and litigation.
- Whether management achieves the projected $30 million annual savings from the Natrona facility integration and maintains stated credit-agreement covenant compliance.