NL Industries, Inc. — Q2 2014 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2014. NL is primarily a holding company: it consolidates CompX International, its majority-owned components business, and accounts for its 30% interest in Kronos Worldwide by the equity method. Dollar amounts below are in millions unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net sales | $26.8 | $24.0 | $52.6 | $45.5 |
| Gross margin | $8.6 | $7.6 | $16.4 | $13.6 |
| Loss from operations | $(4.7) | $(12.4) | $(4.7) | $(15.3) |
| Equity in Kronos earnings (loss) | $10.1 | $(10.3) | $14.4 | $(22.8) |
| Net income (loss) attributable to NL stockholders | $5.5 | $(14.3) | $9.2 | $(16.4) |
| Basic and diluted earnings (loss) per share | $0.11 | $(0.29) | $0.19 | $(0.34) |
- Consolidated sales reflect CompX; Kronos results are included through equity earnings, not consolidated sales. CompX operating income was $3.9 million in Q2 and $7.2 million for the first half, up 33% and 64%, respectively. CompX gross margin was 32% in Q2 and 31% in the first half.
- At June 30, cash and cash equivalents were $57.9 million, restricted cash was $4.8 million, current assets were $94.2 million, and current liabilities were $27.0 million. NL and CompX had no outstanding debt. NL had access to a $40 million Valhi revolving facility, subject to Valhi’s discretion.
- Operating cash flow was $6.9 million for the first half, versus $2.6 million a year earlier; capital expenditures were $1.7 million. Cash increased by $5.3 million from year-end.
- NL held Valhi shares valued at $92.3 million and a 30% Kronos investment carried at $283.4 million (Kronos shares’ quoted market value was $551.9 million). Kronos reported $345.8 million of long-term debt at June 30 and was in compliance with its debt covenants.
Material changes versus prior periods
- NL returned to profitability, mainly because Kronos moved from losses to earnings, CompX operating results improved, and environmental remediation and related costs were lower. Corporate expense was $9.0 million in Q2, down $7.2 million year over year; first-half expense was $13.3 million, down $7.9 million.
- CompX sales rose on stronger Security Products demand, including new products for an existing government customer, electronic locks and transportation markets; Marine Components also benefited from market-share gains. Increased volumes improved fixed-cost absorption, partly offset by higher medical and personnel costs.
- Kronos’ first-half sales fell 9% to $863.6 million as TiO₂ sales volumes declined 8% and average selling prices declined 5%. Lower feedstock and other production costs helped Kronos move from a $94.6 million operating loss to $70.3 million operating income.
- Other comprehensive loss attributable to NL stockholders was $98.3 million for the first half, principally reflecting a $106.9 million after-tax loss on Valhi marketable securities. The Valhi share price fell from $17.58 at year-end to $6.42 at June 30; the carrying value of those securities declined from $252.7 million to $92.3 million.
Outlook, risks and unusual items
- CompX management said first-half demand was robust but not representative of expected full-year sales, given seasonality and one-time customer projects. It described demand trends in many markets as positive and cited continued cost and efficiency initiatives. Commodity-cost volatility may pressure margins; zinc, brass and stainless steel together represented about 11% of cost of sales.
- NL expected 2014 general corporate expense to be below 2013, primarily due to lower expected environmental costs. It expected sufficient liquidity for obligations through June 30, 2015 and did not expect to borrow under the Valhi facility in the remainder of 2014.
- NL suspended its regular quarterly dividend in May 2014; no NL dividend was paid in the first half. Future dividends remain discretionary. Valhi also reduced its quarterly dividend from $0.05 to $0.02 per share.
- Environmental remediation liabilities totaled $118.2 million, including $12.5 million current. The company estimated a possible range up to approximately $158 million, including amounts accrued, for estimable sites; it could not estimate a range for approximately five other sites.
- In the Santa Clara lead-pigment case, a January 2014 judgment found NL and two other defendants jointly and severally liable and ordered $1.15 billion in aggregate abatement funding. NL appealed and did not accrue a loss, stating that loss was not probable and could not be reasonably estimated. The filing cautions that an adverse appeal outcome could materially affect results, financial position and liquidity.
- NL disclosed 1,130 pending asbestos-related personal-injury cases involving approximately 1,643 plaintiffs; no accrual was recorded because liability was uncertain and not reasonably estimable. Insurance recovery for litigation defense costs is also uncertain.
- CompX’s new ERP system had a material weakness in controls over user access and segregation of duties. Management said it had not caused a financial-statement misstatement; remediation procedures began in July 2014. Disclosure controls were therefore concluded to be ineffective as of June 30.
- Kronos expected 2014 operating income to exceed 2013, citing lower feedstock costs and higher production volumes, while noting continued pricing and market uncertainty. NL provided no specific consolidated earnings guidance. The new revenue-recognition standard was scheduled to become effective for NL in 2017; its impact was still under evaluation.
Most important facts for investors to verify
- Progress and outcome of NL’s appeal in the Santa Clara lead-pigment case, and whether any loss accrual becomes necessary.
- Environmental remediation estimates, including the unestimable sites and the potential range above the $118.2 million accrued balance.
- Whether CompX’s ERP access-control weakness is remediated and tested effectively.
- Kronos’ TiO₂ pricing, sales volumes, feedstock costs, debt-covenant compliance and ability to deliver the stated 2014 operating outlook.
- NL’s cash requirements, dependence on distributions from affiliates, the discretionary Valhi credit facility, and any future dividend decisions.