ATI Inc. (Allegheny Technologies Incorporated) — Q1 2012 Form 10-Q Summary
Business context and reporting period
Unaudited results for the three months ended March 31, 2012, compared with the three months ended March 31, 2011. ATI is a diversified specialty-metals producer serving aerospace and defense, oil and gas, chemical processing, electrical energy, medical, automotive, construction, mining, and other markets. Operations comprise High Performance Metals, Flat-Rolled Products, and Engineered Products.
First-quarter sales benefited from the May 2011 Ladish acquisition and improving demand in key global markets. Aerospace and defense represented 32% of sales, while key markets collectively represented 68% of sales.
Financial performance and liquidity
| Metric | Q1 2012 | Q1 2011 | Change |
|---|---|---|---|
| Sales | $1,352.5 million | $1,227.4 million | +10.2% |
| Income before interest, other income and taxes | $103.6 million | $116.7 million | Down |
| Income before taxes | $84.1 million | $93.8 million | Down |
| Net income attributable to ATI | $56.2 million | $56.3 million | Essentially flat |
| Diluted EPS | $0.50 | $0.54 | Down |
| Operating cash flow | $(18.2) million | $(50.3) million | Improved |
| Capital expenditures | $69.9 million | $42.2 million | Higher |
| Cash and equivalents at period-end | $250.3 million | $816.3 million | Prior-year comparison affected by 2011 debt issuance |
Segment operating profit was $163.2 million, or 12.1% of sales, versus $162.4 million, or 13.2% of sales, in the prior-year quarter. Consolidated income before tax margin declined to 6.2% from 7.6%. The reported tax rate was 30.7%, including a $3.7 million discrete tax benefit; excluding discrete items, the effective rate was 35%.
At March 31, 2012, total assets were $6.08 billion, total liabilities were $3.46 billion, and total equity was $2.61 billion. Net inventory was $1.51 billion, up from $1.38 billion at year-end 2011. Managed working capital increased $155.0 million to $1.98 billion, principally from higher receivables and inventories.
Total debt was $1.51 billion, including $1.48 billion of long-term debt. Net debt was $1.26 billion. Net debt to total capitalization was 33.4%, compared with 31.3% at year-end 2011; total debt to total capitalization was 37.5%, compared with 37.9%. The company had no borrowings under its $400 million domestic credit facility, although approximately $7 million supported letters of credit. An additional letters-of-credit facility had $31 million outstanding.
The quarterly dividend was $0.18 per share. ATI repurchased 497,695 shares at an average price of $46.90 per share to satisfy employee tax obligations on share-based compensation; there was no public repurchase program.
Material changes versus the prior comparable period
- High Performance Metals: Sales increased 46% to $581.3 million and operating profit increased to $104.1 million from $85.6 million, primarily due to Ladish, higher shipments, improved base prices, and cost reductions. Margin declined to 17.9% from 21.4%, partly because approximately $6 million of higher raw-material costs did not align with customer surcharges.
- Flat-Rolled Products: Sales decreased 10% to $636.0 million and operating profit decreased to $46.8 million from $63.4 million. Lower shipments, lower standard-stainless base prices, and lower raw-material surcharges pressured results.
- Engineered Products: Sales increased 15% to approximately $135.2 million, while operating profit declined to $12.3 million from $13.4 million, partly due to $1.5 million of start-up costs for ATI Fabricated Components.
- Retirement benefit expense increased to $30.6 million from $19.3 million, primarily because of a lower discount rate and lower-than-expected plan-asset returns. Management identified a $7.3 million after-tax adverse impact, or approximately $0.06 per share.
- Interest expense declined to $19.9 million from $23.0 million, while closed-company and other expenses increased to $6.9 million from $0.5 million, driven largely by higher environmental and legal expenses and other charges.
- Average diluted shares increased by 7.45 million, primarily because of shares issued in the Ladish acquisition, contributing to lower diluted EPS despite essentially unchanged net income attributable to ATI.
- First-quarter 2011 included a $3.1 million after-tax charge related to accelerated equity-compensation recognition for executive retirements. Excluding that charge, Q1 2011 net income was $59.4 million, or $0.57 per share.
Guidance, outlook, risks, and unusual items
Management expected 2012 revenue growth of at least 10% versus 2011 and segment operating profit of 13% to 14% of sales. The company cited expected benefits from aerospace demand, ATI Ladish synergies, titanium-sponge cost reductions and qualification, additional titanium melting capacity, high-value flat-rolled products, and growth in tungsten products and industrial forgings and castings.
Several large oil and gas and chemical-process projects, including desalination, were expected to begin contributing in the third quarter of 2012, approximately one quarter later than previously anticipated. Management remained cautiously optimistic about standard stainless demand but identified uncertainty from the euro-zone debt crisis and U.S. and Chinese GDP growth.
ATI expected approximately $485 million of 2012 capital expenditures, funded from operating cash flow and available cash. The approximately $1.1 billion Brackenridge, Pennsylvania hot-rolling and processing facility was reported on schedule and on budget, with completion expected by the end of 2013 and commissioning in the first half of 2014.
- Key risks include volatility in nickel, ferrous scrap, natural gas, electricity, and other raw-material prices; customer surcharge timing; global economic and industry conditions; demand in aerospace, energy, chemical processing, medical, and other markets; project cost overruns; integration and synergy execution; pension asset performance and funding requirements; foreign exchange; litigation; and environmental liabilities.
- Environmental remediation reserves totaled approximately $16 million at March 31, 2012. Management did not believe reasonably possible losses exceeding accrued amounts would be material in aggregate based on currently available information, but future developments could materially affect a reporting period.
- The U.S. qualified pension plan was approximately 84% funded at December 31, 2011. No cash contribution was required for 2012 under current regulations and actuarial studies, although voluntary contributions remained possible.
- Derivative positions created net liability exposures, including approximately $16.4 million for natural gas hedges, $2.5 million for electricity hedges, and $2.5 million for raw-material hedges. Foreign-currency forwards had a net mark-to-market asset of approximately $7.8 million.
- The company reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether the expected 2012 revenue growth of at least 10% and 13%–14% segment operating-profit margin remain achievable.
- Execution, cost, timing, and funding of the approximately $1.1 billion Brackenridge facility and the broader $485 million 2012 capital-spending plan.
- Working-capital conversion, inventory growth, and the company’s ability to return to positive operating cash flow while funding expansion.
- Exposure to nickel, ferrous scrap, energy prices, surcharge recovery, and the timing of customer projects delayed into the third quarter.
- ATI Ladish integration, expected synergies, and the effect of acquisition-related share issuance on per-share results.
- Pension funding status, retirement-benefit expense sensitivity, environmental reserves, and pending litigation or remediation obligations.
- Debt covenant compliance and liquidity after the April 4, 2012 amendment extending the domestic credit facility to April 4, 2017.