Air Products & Chemicals, Inc. — Fiscal Q3 2023 Form 10-Q
Reporting period: Quarter and nine months ended 30 June 2023; comparisons are with the corresponding periods of fiscal 2022. The interim financial statements are unaudited and presented under U.S. GAAP.
Business context
Air Products operates through the Americas, Asia, Europe, Middle East and India, and Corporate and other segments. Its principal activities include industrial gases, on-site and merchant supply, equipment sales, and large-scale projects, including the NEOM green hydrogen project and Jazan gasification and power investments.
Key financial metrics
| Metric | Q3 2023 | Q3 2022 | Change |
|---|---|---|---|
| Sales | $3,033.9 million | $3,189.3 million | Down 5% |
| Operating income | $644.2 million | $627.4 million | Up 3% |
| Operating margin | 21.2% | 19.7% | Up 150 bp |
| Net income | $610.5 million | $587.1 million | Up 4% |
| Net income margin | 20.1% | 18.4% | Up 170 bp |
| Net income attributable to Air Products | $595.6 million | $582.1 million | Up 2% |
| Diluted EPS | $2.67 | $2.62 | Up $0.05 |
| Adjusted EBITDA | $1,208.1 million | $1,080.7 million | Up 12% |
| Adjusted EBITDA margin | 39.8% | 33.9% | Up 590 bp |
For the first nine months, sales increased 3% to $9,408.7 million, operating income increased 3% to $1,756.0 million, and net income declined 2% to $1,644.2 million. Diluted EPS declined 4% to $7.22, while adjusted diluted EPS increased 13% to $8.36. Adjusted EBITDA rose 11% to $3,442.5 million, with a 36.6% margin versus 34.0% in the prior-year period.
Cash flow, capital investment, debt and liquidity
- Operating cash flow was $2,203.4 million for the first nine months, broadly comparable with $2,213.2 million in the prior-year period.
- Cash used in investing activities was $4,399.8 million, including $3,163.5 million for plant and equipment, $912.0 million invested in or advanced to unconsolidated affiliates, and $665.0 million invested in financing receivables.
- Reported capital expenditures were $4,084.5 million, compared with $3,855.1 million in the prior-year period. Fiscal 2023 capital expenditures are expected to be approximately $5.0 billion to $5.5 billion.
- Cash provided by financing activities was $1,098.9 million, primarily reflecting $2,116.3 million of long-term debt proceeds and a $567.3 million increase in commercial paper and short-term borrowings, partly offset by $1,107.9 million of shareholder dividends.
- Cash and cash items totaled $1,637.7 million at 30 June 2023, compared with $2,711.0 million at 30 September 2022. Short-term investments were $268.7 million.
- Total debt was $9,391.9 million at 30 June 2023, up from $7,644.8 million at 30 September 2022. Total debt as a percentage of total capitalization was 37.9%, versus 35.8% at fiscal year-end.
- Long-term debt included $1,363.6 million of green bonds issued in March 2023. No borrowings were outstanding under the $2.75 billion revolving credit agreement, and the company reported compliance with its debt covenants.
- Foreign subsidiary credit facilities totaled $1,621.8 million, of which $1,031.1 million was borrowed at quarter-end.
Material changes versus the prior comparable period
- Pricing increased 4% in the quarter and 6% for the first nine months; higher volumes increased sales 3% and 4%, respectively.
- Lower energy cost pass-through reduced quarterly sales by 11% and nine-month sales by 3%, but also supported gross-margin expansion. Currency reduced sales by 1% in the quarter and 4% year to date.
- Operating performance improved across the Americas, Asia, and Europe. Corporate and other results weakened because of lower equipment project activity and higher corporate and growth-support costs.
- Equity affiliates’ income increased 42% in the quarter and 15% year to date, primarily from the Jazan Integrated Gasification and Power Company joint venture.
- Interest expense increased to $47.4 million in the quarter and $129.5 million year to date, driven by higher rates and increased debt.
- Non-service pension expense increased materially, contributing to other non-operating expense of $11.7 million in the quarter and $26.2 million year to date, compared with income in the prior-year periods.
Unusual items, outlook and risks
- The company recorded business and asset action charges of $59.0 million in Q3 and $244.6 million for the first nine months. These included asset write-offs, project exits, restructuring, and $27.0 million of severance and related benefits for approximately 450 employees. The nine-month after-tax impact attributable to Air Products was $204.9 million, or $0.92 per diluted share.
- Management also recorded unfavorable project cost-estimate changes affecting operating income by approximately $45 million in Q3 and $105 million year to date.
- NEOM Green Hydrogen Company secured approximately $6.1 billion of non-recourse project financing in May 2023, expected to fund about 73% of project construction. No borrowings were outstanding at 30 June; the joint venture made a $1.3 billion initial drawdown in July 2023. Air Products’ maximum performance-guarantee exposure was estimated at approximately $1.2 billion, declining over time and expiring in November 2028.
- The NEOM project is expected to be on-stream in 2026. Air Products consolidated the joint venture as a variable interest entity and reported $1,621.2 million of related assets at quarter-end, with limited creditor recourse to Air Products.
- Air Products agreed to invest $1.0 billion to acquire and operate a natural gas-to-syngas facility in Uzbekistan under a 15-year on-site contract. Approximately $800 million of progress payments had been made by 30 June, including $600 million during Q3; the facility is expected to be on-stream in 2024.
- Remaining performance obligations were approximately $24 billion at 30 June 2023, with about half expected to be recognized over the next five years and the balance thereafter.
- Key risks include inflation, energy and raw-material costs, interest rates, foreign exchange, supply-chain disruption, project delays or cost escalation, execution of complex projects, geopolitical events, regulatory and environmental matters, cybersecurity, legal proceedings, and climate-related policy changes.
- Environmental liabilities were accrued at $66.9 million, with reasonably possible exposure estimated at $66 million to $80 million. The company stated that material legal proceedings are not currently expected to have a material financial impact; a Brazilian antitrust matter remains pending, with a potential fine of approximately $37 million plus interest if the company ultimately loses.
Important facts for investors to verify
- Whether pricing and volume gains remain sufficient to offset inflation, higher interest expense, project-development costs, and weaker equipment activity.
- The cash-flow impact and funding requirements of the NEOM, JIGPC, and Uzbekistan projects, including Air Products’ guarantees and remaining investment commitments.
- Progress toward the fiscal 2023 capital-expenditure outlook of $5.0 billion to $5.5 billion and the effect on leverage and liquidity.
- The sustainability of the reported margin expansion after adjusting for lower energy cost pass-through and the exclusion of business actions and pension costs from non-GAAP measures.
- The outcome of the Brazilian antitrust proceeding, environmental remediation obligations, project cost estimates, and other disclosed contingencies.
- Future dividend capacity, given the higher debt balance, substantial project spending, and $1.75 quarterly dividend.