Business Context and Reporting Period
Albany International Corp. filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2014. The company operates through Machine Clothing (MC), its primary cash-generating business serving paper and paperboard manufacturers, and Albany Engineered Composites (AEC), focused on aerospace and defense applications, including LEAP engine components. Segment reporting was recast effective January 1, 2014, and prior-period results were adjusted accordingly.
Financial Performance and Liquidity
| Metric | Q2 2014 | Q2 2013 | Six Months 2014 | Six Months 2013 |
|---|---|---|---|---|
| Net sales | $193.5 million | $198.0 million | $373.8 million | $384.6 million |
| Gross profit | $75.3 million | $77.4 million | $150.2 million | $150.2 million |
| Gross margin | 38.9% | 39.1% | 40.2% | 39.1% |
| Operating income | $19.0 million | $(3.5) million | $39.6 million | $19.0 million |
| Net income attributable to the Company | $11.2 million | $(7.4) million | $21.8 million | $4.1 million |
| Diluted EPS | $0.35 | $(0.23) | $0.68 | $0.13 |
| Net cash from operating activities | $32.7 million | $28.1 million | $41.5 million | $32.3 million |
Q2 sales declined 2.3% year over year, while six-month sales declined 2.8%. Operating income improved substantially, primarily because restructuring expense fell to $2.0 million in Q2 2014 from $24.3 million in Q2 2013. Adjusted EBITDA was $37.3 million in Q2 and $75.0 million for the first six months, compared with $36.1 million and $69.9 million, respectively, in the comparable 2013 periods.
- Machine Clothing: Q2 sales declined 2.7% to $172.8 million and six-month sales declined 2.3% to $336.9 million. Q2 operating income increased to $33.9 million from $14.8 million, despite lower sales and a $1.6 million inventory valuation charge.
- AEC: Q2 sales increased 1.3% to $20.7 million, while six-month sales declined 6.9% to $36.9 million because of the first-quarter transition to larger-scale LEAP production and revised invoicing terms. AEC gross margin improved to 11.4% in Q2 from 3.3%, but the segment remained loss-making at the operating level.
- Cash and debt: Cash and cash equivalents were $206.8 million at June 30, 2014, compared with $222.7 million at December 31, 2013. Total debt was $285.1 million and net debt was $78.2 million. The company had $147 million of additional borrowing capacity under its revolving credit facility, subject to conditions.
- Capital allocation: Six-month capital spending was $27.7 million, including $12.6 million for AEC. Full-year capital expenditures were expected to be $60 million to $70 million. Dividends paid during the first six months totaled $9.5 million, and the quarterly dividend was $0.16 per share.
Material Changes Versus the Prior Comparable Period
- Operating income increased by $22.5 million in Q2 and $20.6 million for the first six months, primarily due to substantially lower restructuring charges.
- MC restructuring related to French manufacturing facilities was substantially completed; approximately 190 of the targeted 200 positions had been eliminated, and management stated that substantially all of the expected $10 million of annual savings was being realized.
- AEC profitability improved, particularly at the Boerne, Texas facility, although AEC continued to report operating losses of $3.5 million in Q2 and $7.0 million year to date.
- The company recorded a $1.6 million charge in cost of goods sold to correct an error in the valuation of MC inventories related to intercompany transfers and prior ERP-system implementations.
- Other income included a $1.0 million insurance recovery related to a weather-damaged German facility and favorable foreign-currency revaluation gains, compared with losses in the 2013 periods.
- Interest expense declined because the company used its revolving credit facility for the first $50 million payment under the Prudential Agreement.
- Cash flow from operations improved to $41.5 million year to date from $32.3 million, primarily due to stronger collections and lower income-tax payments, partly offset by higher restructuring payments and working-capital uses.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management characterized MC as having flat growth potential but continuing to generate significant cash. Growth in paper and paperboard is expected to be concentrated in packaging, tissue, Asia, and South America, while mature markets face overcapacity and capacity reductions.
- Management identified AEC as the company’s greatest growth opportunity, with LEAP engine production and other aerospace programs expected to support longer-term growth. The filing does not provide a formal revenue or earnings forecast.
- Remaining costs for the French restructuring program were estimated at $1 million to $3 million, mostly expected in 2014. Additional pension curtailment gains were also expected as employees terminated employment.
- The company was in compliance with all debt covenants. Its leverage ratio was 1.56 to 1.00 against a maximum of 3.50 to 1.00, and its interest coverage ratio was 10.64 to 1.00 against a minimum of 3.00 to 1.00.
- Approximately $177.9 million of cash was held by non-U.S. subsidiaries and was generally intended for indefinite foreign reinvestment. Repatriation could create additional U.S. tax obligations.
- Tax authorities are auditing the company in several jurisdictions. A German tax matter involved $24.0 million of challenged tax benefits, of which $18.4 million could directly affect income if resolved unfavorably. The company had paid approximately $16.3 million of tax and interest while pursuing the position but had not accrued the potential expense.
- Albany and its subsidiary Brandon were defending 4,217 and 7,732 asbestos-related claims, respectively. Management stated that insurance coverage and available defenses were expected to prevent a material adverse effect, but the filing says a meaningful range of possible loss cannot be estimated.
- Interest-rate swaps hedge portions of the revolving debt, but the company remains exposed to foreign-currency movements, interest rates, customer credit, contract profitability estimates, and aerospace-program execution.
Important Facts for Investors to Verify
- Whether MC sales stabilize and whether restructuring savings offset market declines and the inventory valuation correction.
- Whether AEC achieves sustained profitability as LEAP production scales and invoicing transitions normalize.
- The outcome and timing of the German tax dispute and other tax audits.
- Cash availability in the United States versus foreign subsidiaries, including any tax cost of repatriation.
- Remaining French restructuring costs, pension curtailment gains, and their effect on reported earnings.
- Future asbestos claim volumes, insurance coverage, and any change in management’s assessment of potential liability.
- Capital spending requirements, debt repayments, covenant headroom, and the company’s ability to maintain dividends while funding AEC expansion.