ATI Inc. Form 10-Q Summary
Business Context and Reporting Period
Allegheny Technologies Incorporated (ATI) is a global manufacturer of specialty materials and complex components, with approximately half of sales generated from aerospace and defense and approximately 70% from aerospace, defense and energy markets. This unaudited Form 10-Q covers the quarter ended March 31, 2020, filed May 5, 2020.
Effective January 1, 2020, ATI reorganized its reporting structure into High Performance Materials & Components (HPMC) and Advanced Alloys & Solutions (AA&S). Prior-period segment information was restated accordingly.
Key Financial Metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Sales | $955.5 million | $1,004.8 million | Down 5% |
| Gross profit | $134.8 million | $131.1 million | Up $3.7 million |
| Gross margin | 14.1% | 13.0% | Up 110 bps |
| Operating income | $68.4 million | $63.1 million | Up $5.3 million |
| Income before taxes | $34.4 million | $17.1 million | Up $17.3 million |
| Net income attributable to ATI | $21.1 million | $15.0 million | Up $6.1 million |
| Diluted EPS | $0.16 | $0.12 | Up $0.04 |
| Adjusted EBITDA | $101.6 million | $80.6 million | Up $21.0 million |
| Adjusted EBITDA margin | 10.6% | 8.0% | Up 260 bps |
HPMC external sales were $420.3 million, down 15%, while segment operating profit increased to $57.1 million from $51.7 million. AA&S external sales were $535.2 million, up 5%, and segment operating profit increased to $24.1 million from $10.0 million. Consolidated segment operating profit increased to $81.2 million, or 8.5% of sales, from $61.7 million, or 6.1%.
Cash used in operating activities was $115.4 million, compared with $130.0 million in the prior-year quarter. Capital expenditures were $29.1 million, producing cash used in investing activities of $25.2 million. Financing activities provided $288.8 million, primarily from $300.0 million of ABL revolving-credit borrowings. Cash increased to $639.0 million from $490.8 million at December 31, 2019.
Total debt was $1.70 billion, excluding the effect of debt issuance costs in management’s debt measures, compared with approximately $1.40 billion at year-end 2019. Net debt was $1.07 billion. Debt to adjusted EBITDA was 3.11x, compared with 2.67x at December 31, 2019; net debt to adjusted EBITDA was 1.95x versus 1.74x.
At March 31, 2020, ATI had approximately $260 million of additional ABL availability and was in compliance with its applicable fixed-charge coverage covenant. The $300 million of ABL revolving borrowings outstanding at quarter-end were repaid in April 2020. The company had no significant U.S. federal or state cash tax expectations for the next several years because of net operating loss carryforwards.
Material Changes Versus the Prior Comparable Period
- Sales declined primarily because of previously divested titanium investment castings and industrial forgings businesses, while AA&S benefited from higher conversion-service billings and stronger aerospace and energy sales.
- Gross margin and segment margins improved as Q1 2019 included supply disruption, cobalt-price volatility and operational inefficiencies.
- Corporate expenses declined to $12.8 million from $16.6 million, primarily due to lower expected incentive compensation.
- Interest expense declined to $21.9 million from $24.8 million, although quarter-end debt increased because of temporary ABL borrowings.
- The effective tax rate rose to 31.4% from 4.7% in Q1 2019, reducing Q1 2020 net income by approximately $10 million relative to the prior-year comparison.
- Other comprehensive loss attributable to ATI was $14.9 million, compared with income of $38.3 million in Q1 2019, driven mainly by currency translation and derivative losses.
- Managed working capital increased by $134.7 million from year-end 2019, and managed working capital rose to 35.5% of annualized sales from 30.0%. Accounts receivable collection timing and inventory turns worsened.
Guidance, Outlook, Risks and Unusual Items
Management stated that HPMC and AA&S results were expected to weaken significantly in the second quarter and that lower utilization, cost inefficiencies, weaker margins and demand disruptions related to COVID-19 could continue for at least the remainder of 2020. ATI expanded cost reductions to include temporary idling of operations, salary reductions, reduced 401(k) benefits, furloughs and significant reductions in capital expenditures and corporate expenses.
ATI recorded an $8.0 million restructuring charge for a voluntary retirement program covering approximately 90 salaried positions. Combined with the prior restructuring program, annualized benefits are expected to be approximately $14 million once fully implemented. The company also recognized a $2.5 million gain on the sale of oil and gas rights and benefited from approximately $7 million of lower retirement-benefit expense.
A&T Stainless, a 50%-owned joint venture, remained unprofitable due partly to a 25% tariff on imported stainless slab products. ATI recognized a $3.9 million share of its loss in Q1 2020. A&T Stainless announced that it would idle its Midland, Pennsylvania, DRAP facility at the end of June 2020. ATI’s receivables from the joint venture totaled $28.8 million, net of a previously recorded $4.3 million reserve.
ATI expects approximately $130 million of U.S. qualified pension contributions for 2020, of which $28 million had been contributed by March 31. The company deferred a scheduled April contribution under the CARES Act. A deterioration in pension asset performance or funded status could increase future funding requirements.
Environmental remediation reserves totaled approximately $15 million, with reasonably possible costs exceeding recorded reserves by as much as $16 million. ATI also faces various litigation matters, including the US Magnesium lawsuit concerning a suspended supply agreement; outcomes cannot presently be predicted.
Other principal risks include the duration and severity of COVID-19, aerospace and energy demand, raw-material and energy-price volatility, international trade duties, supply-chain disruptions, labor disputes, equipment outages, pension obligations, potential goodwill impairment and the company’s ability to achieve planned cost savings. Management noted that an interim goodwill impairment test for the Forged Products reporting unit may be required during 2020.
Important Facts for Investors to Verify
- Whether COVID-19-related aerospace, energy and industrial demand reductions produce the expected Q2 and full-year margin deterioration.
- The pace and cash impact of workforce reductions, temporary idlings and other cost-reduction actions.
- ABL availability, repayment status and covenant compliance after the April 2020 repayment of the $300 million revolving borrowing.
- Progress on working-capital reduction, inventory normalization and operating cash-flow recovery.
- Whether pension funding requirements change following 2020 asset-market performance and CARES Act deferrals.
- Potential impairment of HPMC goodwill and other long-lived assets as aerospace conditions deteriorate.
- The financial effect of the A&T Stainless facility idling, tariff exposure and collectability of ATI’s joint-venture receivables.
- Environmental reserves, litigation developments and any resulting material charges.
- The reported tax rate, deferred tax asset realizability and the effect of CARES Act-related tax changes.