Hexcel Corporation — Q2 2011 Form 10-Q
Business context and period: Hexcel develops and manufactures advanced composite materials and structures for commercial aerospace, space and defense, and industrial markets. This unaudited filing covers the quarter and six months ended June 30, 2011, compared with the corresponding 2010 periods.
Financial performance
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Net sales | $353.7 million | $305.1 million | $685.3 million | $568.1 million |
| Gross margin | $87.0 million; 24.6% | $78.4 million; 25.7% | $170.0 million; 24.8% | $144.5 million; 25.4% |
| Operating income | $49.4 million; 14.0% margin | $40.5 million; 13.3% margin | $96.6 million; 14.1% margin | $64.3 million; 11.3% margin |
| Net income | $37.4 million | $23.1 million | $63.8 million | $38.9 million |
| Diluted EPS | $0.37 | $0.23 | $0.63 | $0.39 |
- Q2 sales rose 15.9% reported and 11.9% in constant currency; six-month sales increased 20.6% reported and 18.4% in constant currency.
- Q2 commercial aerospace sales increased 29.1%; space and defense rose 2.9%; industrial sales were down 0.8%. New aircraft programs (A380, A350, B787 and B747-8) represented more than 25% of commercial aerospace sales.
- For the first six months, operating cash flow was $77.3 million, versus $31.7 million; capital expenditures were $67.8 million, versus $20.1 million. Free cash flow, defined by Hexcel as operating cash flow less capital expenditures, was $9.5 million, versus $11.6 million.
- At June 30, cash was $55.9 million and total debt was $251.4 million, compared with $117.2 million and $332.2 million at December 31, 2010. Net debt was $195.5 million, down $19.5 million from year-end. The company reported $208 million of undrawn facility availability and compliance with debt covenants.
- Current ratio was approximately 2.3x, based on current assets of $522.4 million and current liabilities of $227.1 million. Inventory was $207.9 million, up from $169.9 million at year-end.
Changes and notable items
- Revenue growth was led by commercial aerospace production and new-program ramp-ups. Management cited higher sales volume and cost control as drivers of improved operating margins.
- Gross margin percentage declined year over year, reflecting new-line start-up, staffing and training costs, higher acrylonitrile input costs, and disruption from the April tornado in Decatur, Alabama.
- Six-month adjusted operating income was $90.9 million, compared with $67.8 million; adjusted net income was $57.2 million, compared with $37.6 million. These non-GAAP figures exclude specified special items.
- Six-month results included a $5.7 million pretax gain from freezing credited service in the U.K. pension plan, a $4.9 million pretax charge related to redeeming $150 million of 6.75% notes, and a $5.5 million tax benefit from an audit settlement. The tax benefit lowered the reported Q2 effective tax rate to 20.0%; excluding it, management said the rate would have been 31.8%.
- Hexcel redeemed $150 million of senior subordinated notes in February, funded primarily through its secured credit facility; it also repaid $60 million of facility borrowings during the first half. Net interest expense fell to $2.9 million in Q2 from $7.1 million a year earlier.
Outlook, risks and contingencies
- Management raised 2011 sales guidance to $1.325–$1.375 billion from $1.275–$1.350 billion, and adjusted diluted EPS guidance to $1.05–$1.12 from $0.95–$1.05.
- Expected 2011 capital additions were $150–$175 million, primarily for capacity expansion to support anticipated aerospace demand. Management expected short-term liquidity needs, including capital spending, to be met through operating cash flow, cash on hand and the revolving facility.
- Key risks identified include changes in aircraft production and delivery rates, dependence on major customers such as Airbus, Boeing and Vestas, program delays or cancellations, defense-budget changes, commodity and foreign-exchange volatility, limited-source supply disruptions, manufacturing capacity constraints, competition, and the ability to ramp capacity while maintaining margins.
- Environmental accruals totaled $4.7 million. Hexcel described unresolved or not-yet-quantifiable exposure related to several sites, including the Lower Passaic River and Omega Chemical site; it said ultimate liability for the Lower Passaic River could not be determined. The filing stated that currently estimated contingent liabilities, net of insurance and accrued amounts, were not expected to materially adversely affect results, financial position or cash flows.
- The Seemann Composites litigation was settled with no material impact. The filing reported no material change in market-risk disclosures from the 2010 Form 10-K and stated that disclosure controls were effective.
Important facts for investors to verify
- Whether commercial aerospace growth and new-program demand continue at the rates underlying raised guidance, and whether aircraft delivery schedules change.
- Whether capacity expansion and planned capital spending convert into expected sales and margins, given start-up costs, raw-material prices and the Decatur disruption.
- Cash conversion and working-capital trends, particularly receivables and inventory, as capital expenditures rise.
- Debt-facility availability, covenant compliance and refinancing or repayment terms, including the timing of future debt maturities.
- Potential changes in environmental exposure, especially Lower Passaic River and Omega-related costs, for which ultimate liability is not clear from the filing.