ATI Inc. (Allegheny Technologies Incorporated) — Q3 2015 Form 10-Q Summary
Business context and reporting period
Quarterly report for the period ended September 30, 2015. ATI produces specialty materials and components, including titanium, nickel-based and specialty alloys, zirconium, stainless and specialty steels, forgings, castings and engineered components. Operations are reported in two segments: High Performance Materials & Components and Flat Rolled Products.
Key financial metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Sales | $832.7 million | $1,069.6 million | $2,980.7 million | $3,175.9 million |
| Income (loss) before tax | $(117.9) million | $4.1 million | $(118.9) million | $(25.3) million |
| Net loss attributable to ATI | $(144.6) million | $(0.7) million | $(151.0) million | $(24.7) million |
| Net loss per diluted share | $(1.35) | $(0.01) | $(1.41) | $(0.23) |
| Operating cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $108.9 million | $(38.2) million |
| Capital expenditures | Not separately provided for the quarter | Not separately provided for the quarter | $99.5 million | $157.5 million |
Q3 sales declined approximately 22% year over year, while the pretax margin fell to approximately (14.2)% from 0.4%. For the first nine months, sales declined approximately 6%, and the pretax margin was approximately (4.0)% versus (0.8)% in the prior-year period.
- Q3 segment operating loss was $73.0 million, or (8.8)% of sales, versus operating profit of $59.9 million, or 5.6%, in Q3 2014.
- High Performance Materials & Components Q3 sales were $474.7 million and operating profit was $18.8 million, compared with $507.7 million and $53.8 million, respectively, in Q3 2014.
- Flat Rolled Products Q3 sales were $358.0 million and operating loss was $91.8 million, compared with $561.9 million and operating profit of $6.1 million, respectively, in Q3 2014.
- Cash and cash equivalents were $197.5 million at September 30, 2015, down from $269.5 million at December 31, 2014. Current assets were $2.10 billion and current liabilities were $737.1 million.
- Total debt was $1.506 billion, versus $1.527 billion at year-end 2014. Net debt was $1.308 billion, and net debt to ATI total capital increased to 35.2% from 32.6%.
- Shareholders’ equity was $2.406 billion, down from $2.598 billion, primarily reflecting year-to-date losses and dividends.
Material changes versus the prior comparable period
- Flat Rolled Products was materially affected by commodity stainless market weakness, lower prices and surcharges, reduced shipments, low-priced imports and a United Steelworkers lockout beginning August 15, 2015. Standard-product shipments fell 36% in Q3 and 19% for the first nine months.
- High Performance Materials & Components experienced weaker oil and gas demand and weak forged-product demand from construction and mining. Aerospace demand was comparatively stronger, with Q3 aerospace sales increasing 1% in the segment.
- Q3 2015 included a $75.8 million pretax LIFO valuation benefit substantially offset by a $76.0 million non-cash net realizable value inventory reserve charge. The combined Q3 effect was approximately $0.2 million of expense.
- The company recorded a $63.9 million non-cash deferred tax valuation allowance after reporting a three-year cumulative loss from U.S. operations. The Q3 tax provision was $23.4 million, compared with $0.5 million in Q3 2014.
- Operating cash flow improved to $108.9 million from an outflow of $38.2 million, aided by a $59.9 million federal tax refund, derivative settlements and working-capital reductions. Cash flow benefited from working-capital releases despite lower profitability.
- ATI entered into a new $400 million asset-based revolving credit facility maturing in September 2020. There were no borrowings outstanding at September 30, although $4.6 million supported letters of credit.
- Standard & Poor’s and Moody’s downgraded ATI during 2015. A subsequent October 23, 2015 S&P downgrade to BB- is expected to increase the 2023 Notes’ rate to 7.125% and add approximately $2.5 million of annual interest expense.
Guidance, outlook, risks and unusual items
Management did not provide formal quantitative earnings guidance. It stated that no significant improvement in major end markets was expected through the end of 2015, but remained confident that High Performance Materials & Components performance would significantly improve in 2016 based on aerospace production schedules and expected demand for next-generation alloys and components.
- ATI expected approximately $190 million of 2015 capital expenditures, with approximately 40% related to the Hot-Rolling and Processing Facility project.
- A workforce reduction announced October 15, 2015 is expected to reduce annual costs by approximately $23 million beginning in 2016. Approximately $6 million of severance and related charges will be recorded in Q4 2015, with cash payments over up to 12 months.
- Liquidity was described as adequate for foreseeable needs, including remaining HRPF expenditures, through internally generated funds, cash and available credit facilities. The ABL agreement requires at least $500 million of liquidity beginning 91 days before the June 2019 maturity of the 9.375% Senior Notes and until those notes are refinanced or repaid.
- Key risks include continued weakness in aerospace, oil and gas, commodity stainless, construction and mining markets; raw-material and energy price volatility; labor disputes and work stoppages; credit-rating-related interest increases; pension funding and asset performance; environmental liabilities; litigation; and potential goodwill impairment.
- Environmental remediation reserves were approximately $16 million, with reasonably possible additional costs of up to $18 million above recorded reserves. The company stated that future developments could materially affect results or financial condition.
- Outstanding derivative positions exposed ATI to raw-material, natural-gas and foreign-currency volatility. The filing reported an expected $13.2 million loss to be recognized over the following 12 months, assuming market prices remained unchanged.
Important facts for investors to verify
- Whether Flat Rolled Products volumes, pricing, utilization and labor negotiations recover, including the status of the USW lockout and the Midland melt shop.
- Whether aerospace demand and the High Performance Materials & Components cost-reduction program deliver the anticipated 2016 improvement.
- The sustainability of operating cash flow after excluding the $59.9 million tax refund and derivative settlement proceeds.
- Compliance with the ABL liquidity requirements and the ability to refinance or repay the $350 million of 9.375% Senior Notes due June 2019.
- The effect of additional credit-rating downgrades on interest expense and liquidity.
- Potential changes to inventory NRV reserves, goodwill valuation, deferred tax asset realizability, environmental reserves and pension liabilities.
- The timing and amount of the announced workforce-reduction charges and expected annual savings.