Titan International, Inc. — 2017 Q3 Form 10-Q Summary
Business context and reporting period
Titan manufactures wheels, tires, wheel and tire assemblies, and undercarriage systems for off-highway vehicles. Its reportable segments are agricultural, earthmoving/construction, and consumer. The filing covers the three and nine months ended September 30, 2017, compared with the corresponding 2016 periods. The interim financial statements are unaudited.
Key financial metrics
| Metric | Q3 2017 | Q3 2016 | 9M 2017 | 9M 2016 |
|---|---|---|---|---|
| Net sales | $371.0 million | $306.2 million | $1,092.9 million | $958.2 million |
| Gross profit | $39.7 million | $34.9 million | $123.0 million | $106.9 million |
| Gross margin | 10.7% | 11.4% | 11.3% | 11.2% |
| Loss from operations | $(5.1) million | $(6.3) million | $(8.2) million | $(15.3) million |
| Net loss | $(11.2) million | $(9.0) million | $(28.3) million | $(25.1) million |
| Net loss applicable to common shareholders | $(12.9) million | $(9.4) million | $(33.7) million | $(32.5) million |
| Basic and diluted loss per share | $(0.22) | $(0.17) | $(0.57) | $(0.60) |
| Operating cash flow | Not separately provided | Not separately provided | $(15.2) million | $54.0 million |
- Q3 sales increased 21%; nine-month sales increased 14%. Management attributed the growth primarily to higher volumes, supplemented by favorable price/mix and currency translation.
- Q3 gross profit increased 14%, but gross margin declined 70 basis points because of pricing initiatives, particularly in agriculture. Nine-month gross margin improved slightly as cost-reduction and efficiency initiatives benefited results.
- All segments reported higher sales and operating income for the nine-month period. Nine-month segment sales were $524.3 million in agricultural, $443.0 million in earthmoving/construction, and $125.5 million in consumer.
- Interest expense declined to $7.5 million in Q3 and $22.6 million for nine months, principally because most of the convertible notes were converted in January 2017.
- Cash and cash equivalents were $155.7 million at September 30, 2017, compared with $147.8 million at December 31, 2016. However, operating activities consumed $15.2 million during the first nine months, largely because accounts receivable and inventories increased by $46.7 million and $46.1 million, respectively.
- Capital expenditures were $23.6 million for the first nine months, compared with $30.8 million in the prior-year period.
Debt, liquidity, and capital structure
- Total debt had a principal balance of $450.8 million and a net carrying amount of $447.4 million at September 30, 2017. Long-term debt was $411.2 million and current debt was $36.2 million.
- The $400 million, 6.875% senior secured notes mature in October 2020. Principal maturities totaled $402.3 million in 2020, including these notes.
- In January 2017, holders converted $58.5 million, or 97.1%, of the convertible notes due 2017 into 5.46 million common shares. The remaining $1.7 million was paid at maturity.
- Titan entered a new $75 million revolving credit facility in February 2017. There were no borrowings at September 30; availability was $62.5 million after a $12.5 million letter of credit and borrowing-base limitations.
- The redeemable noncontrolling interest related to Voltyre-Prom was $111.0 million. A settlement put option exercisable from July through December 2018 could require payment in cash or common stock; management estimated the obligation at approximately $117 million if exercised in July 2018.
Material changes versus the prior comparable period
- Sales growth was broad-based, with Q3 volume up 14% and nine-month volume up 10%. Agricultural sales rose 23% in Q3 and 20% for nine months; earthmoving/construction sales rose 21% and 10%, respectively; consumer sales rose 13% and 6%.
- Operating losses narrowed despite higher sales. Consumer and earthmoving/construction operating results improved materially, while agricultural operating income increased modestly.
- Net losses worsened in Q3 and for the nine-month period, notwithstanding improved operating losses. The principal factors included income tax expense, higher corporate costs, and other below-operating-line items.
- Q3 SG&A included a $6.5 million accrual related to an environmental legal judgment. Excluding that accrual, management stated Q3 SG&A would have been approximately 9.0% of sales rather than 10.7%.
- The company changed one subsidiary’s inventory method from LIFO to FIFO effective January 1, 2017, with retrospective adjustment. The cumulative effect increased retained earnings by $6.6 million as of January 1, 2016.
- Foreign currency translation generated a $33.0 million favorable adjustment to comprehensive income for the first nine months, while the prior-year period included a $21.5 million favorable adjustment.
Guidance, outlook, risks, contingencies, and unusual items
- Management reported that the cyclical new-equipment market was beginning to recover, with higher demand particularly for agricultural replacement equipment. Agricultural, earthmoving/construction, and consumer markets remained subject to macroeconomic, commodity, weather, currency, interest-rate, and government-policy factors.
- Raw material, energy, and petroleum-based costs were volatile and negatively affected margins during the first and second quarters. Management also noted that fixed overhead can create unfavorable margin fluctuations during seasonal downturns.
- Fourth-quarter 2017 capital expenditures were estimated at approximately $10 million to $12 million, and fourth-quarter cash interest payments were forecast at approximately $15 million.
- The company accrued $6.5 million for an environmental litigation judgment involving Titan Tire and Dico. The judgment included $5.45 million of response costs and additional costs; Titan Tire and Dico planned to appeal. Titan Tire was not subject to the separate $5.45 million punitive damages award against Dico.
- A September 2017 fire damaged a building containing three of six thermal vacuum recovery units at a Canadian reclamation facility. Three units were unaffected. Insurance coverage was under review, and no loss accrual was recorded because the company lacked sufficient information to determine whether a contingent loss had occurred.
- Revenue recognition under ASC 606 was still under evaluation. Titan planned to adopt using a cumulative-effect adjustment beginning January 1, 2018 and had not identified material differences, although its assessment was incomplete.
- Other key risks include indebtedness and covenant compliance, raw material availability and pricing, foreign exchange, warranty and product liability claims, environmental regulation, litigation, facility disruptions, tax valuation allowances, and integration or execution risks related to acquisitions.
- Management stated that disclosure controls and procedures were effective at September 30, 2017, with no material changes to internal control over financial reporting during the quarter.
Facts investors should verify
- Whether operating cash flow improves as elevated receivables and inventories convert to cash.
- The company’s ability to refinance or repay the approximately $402 million of debt maturing in 2020.
- The outcome and ultimate cost of the CERCLA environmental litigation, including additional response costs and the appeal.
- The timing, valuation, and funding method for the Voltyre-Prom settlement put option exercisable in 2018.
- The financial and operational impact of the Canadian facility fire and the amount of insurance recovery, if any.
- Whether volume growth and cost initiatives offset pricing pressure, raw-material inflation, corporate expenses, and seasonal fixed-cost absorption.
- The final impact of adopting ASC 606 and the company’s continuing valuation allowances for deferred tax assets.