Business context and reporting period
This is Arconic Inc.’s Form 10-K for the fiscal year ended December 31, 2018, filed February 21, 2019; quarterly figures are unaudited. The filing is for Arconic Inc., not a registrant named Howmet Aerospace Inc. Arconic made lightweight-metal products across aerospace, automotive, transportation, construction, industrial, defense and packaging markets. Its three reportable segments were Engineered Products and Solutions (EP&S), Global Rolled Products (GRP), and Transportation and Construction Solutions (TCS).
Financial results and liquidity
Amounts are in U.S. dollars; financial statement figures are in millions unless stated otherwise.
| Metric | 2018 | 2017 |
|---|---|---|
| Sales | $14,014 | $12,960 |
| Operating income | $1,325 | $480 |
| Income (loss) from continuing operations | $642 | $(74) |
| Diluted EPS | $1.30 | $(0.28) |
| Cash provided from (used for) operations | $217 | $(39) |
| Capital expenditures | $768 | $596 |
| Cash and cash equivalents at year-end | $2,277 | $2,150 |
| Total debt | $6,330 | $6,844 |
- Sales increased 8%, driven by volume growth across segments, higher aluminum prices and favorable product mix and foreign exchange. COGS rose to 81.3% of sales from 78.9%, implying gross margin of 18.7% versus 21.1%.
- Operating income included no goodwill impairment in 2018, compared with a $719 million impairment in 2017. Net income also benefited from lower SG&A and interest costs, but segment operating profit fell 6% to $1,581 million.
- Segment operating profit by segment: EP&S $891 million (down 8%); GRP $386 million (down 9%); TCS $304 million (up 5%). These are management-defined measures and may not be comparable across companies.
- Operating cash flow improved by $256 million year over year, principally reflecting working-capital movements and lower noncurrent-liability outflows. Capital spending exceeded operating cash flow by $551 million. Investing cash flow was positive $565 million, including $1,016 million in cash receipts from sold receivables and $302 million from the Texarkana sale.
- Current assets were $6,581 million and current liabilities $3,520 million (current ratio approximately 1.9). Cash less total debt was approximately negative $4,053 million. The company stated cash and operating and financing resources should cover business needs over the next 12 months.
- Interest expense was $378 million, down from $496 million. A $3 billion revolving credit facility was undrawn at year-end; the company reported compliance with its covenants. Total debt maturities included $405 million in 2019 and $1 billion in 2020.
Material changes versus prior period
- Sales rose 8%, but segment operating profit declined $97 million. EP&S faced disk-operation shortfalls, Engineered Structures inefficiencies and unfavorable aerospace mix; GRP faced mix, aluminum-price and transportation-cost headwinds.
- Cash from operations moved from a $39 million use in 2017 to $217 million provided in 2018; debt declined $514 million. Capital expenditures increased $172 million.
- Income from continuing operations improved by $716 million, substantially reflecting the absence of 2017’s $719 million goodwill impairment and gains on the Alcoa Corporation share sale and debt-for-equity exchange. Those 2017 gains totaled $518 million pre-tax and did not recur.
- 2018 included a $154 million pre-tax gain on the Texarkana rolling-mill sale, a $43 million loss on the Eger, Hungary forgings sale, $96 million of pension settlement charges, and a $23 million inventory adjustment. Fourth-quarter net income was $218 million, versus a $727 million loss in fourth-quarter 2017, which included the goodwill impairment and tax charge.
Outlook, risks and unusual items
- Management projected 2019 sales growth of approximately 2%–4%, EPS growth and full-year cash flows broadly keeping pace with 2018. Expected supports included volume, cost savings, aerospace pricing and lower aluminum prices; pressures included aerospace product introductions, transportation costs and aluminum scrap spreads. First-quarter cash use was expected to reflect working capital and interest-payment timing.
- Following its portfolio review, the company planned a separation into Engineered Products and Forgings and GRP, with one business to be spun off; it was also considering sales of businesses that did not fit those portfolios. Management targeted approximately $200 million of annualized operating-cost reductions, intended to reduce the quarterly dividend from $0.06 to $0.02 per share, and announced an additional $500 million repurchase authorization. A $700 million accelerated repurchase agreement was entered into in February 2019.
- John C. Plant became Chairman and CEO on February 6, 2019, succeeding Chip Blankenship. These post-year-end actions and projections are not 2018 operating results and remain subject to execution and other risks.
- Credit risk warrants attention: S&P placed its outlook on negative credit watch in February 2019; Moody’s rated the debt Ba2 (non-investment grade), and Fitch rated it BB+ (non-investment grade), with a positive outlook.
- Grenfell Tower-related investigations and securities and derivative litigation remained unresolved; the company said it could not estimate the likelihood or range of possible losses. Arconic said it would no longer sell Reynobond PE for architectural use on buildings.
- A Spanish tax dispute involved an estimated revised assessment of $174 million; the company recorded a $60 million reserve and a $29 million indemnification receivable from Alcoa Corporation. Environmental remediation reserves totaled $266 million, including $198 million for the Grasse River project; most project spending was expected during 2019–2022.
- Other material sensitivities include cyclical aerospace and other end markets, competition and customer concentration, execution and product-quality risks, raw-material and currency exposure, pension obligations, restructuring/separation costs, and environmental and legal contingencies.
Important facts for investors to verify
- Confirm the issuer and security being analyzed: this filing is Arconic Inc.’s 2018 10-K, despite the request metadata naming Howmet Aerospace.
- Assess the sustainability and cash conversion of earnings: operating cash flow was $217 million against $768 million of capital expenditures, and investing cash flow included substantial receivable-sale proceeds.
- Review segment recovery prospects, particularly EP&S disk operations and GRP margins, and whether cost savings and 2019 guidance were achieved.
- Track debt maturities, ratings, revolver availability, and the effect of the planned dividend reduction and share repurchases on liquidity and leverage.
- Monitor the proposed portfolio separation and divestitures, including BCS, and their costs, timing, tax treatment and impact on the remaining businesses.
- Follow outcomes of the Grenfell-related proceedings, the Spanish tax appeal, and Grasse River remediation; disclosed potential litigation losses were not reliably estimable.