Kaiser Aluminum Corporation — Q3 2012 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2012. The company manufactures semi-fabricated specialty aluminum products; Fabricated Products is its sole reportable segment.
Financial performance and position
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Net sales | $335.5 million | $322.3 million | $1,046.1 million | $983.7 million |
| Operating income | $56.2 million | $4.9 million | $142.0 million | $39.4 million |
| Net income | $29.2 million | $4.1 million | $76.7 million | $19.0 million |
| Diluted EPS | $1.51 | $0.21 | $3.98 | $0.99 |
- Reported operating margins were approximately 16.7% for Q3 and 13.6% for the nine months, compared with 1.5% and 4.0%, respectively, in 2011. These results include significant non-cash derivative mark-to-market gains in 2012 versus losses in 2011.
- Shipments increased 9% in Q3 to 147.5 million pounds and 6% for the nine months to 451.4 million pounds. Q3 average realized price declined to $2.28 per pound from $2.39; nine-month price was $2.32 in both periods.
- Operating cash flow was $106.7 million for the nine months, versus $20.8 million. Investing used $98.9 million and financing provided $198.0 million. Cash and cash equivalents were $255.6 million; short-term investments were $79.9 million.
- Total liquidity was $593.6 million, including $258.1 million of net revolver availability; no revolver borrowings were outstanding. Long-term debt was $378.4 million at carrying value.
- In May 2012, the company issued $225 million of 8.25% senior notes due 2020. It also had $175 million principal amount of 4.5% cash-convertible notes due 2015, carried at $153.4 million net of discount. Q3 interest expense was $9.2 million versus $4.3 million.
- Capital expenditures were $25.7 million for the nine months. The company paid $14.7 million in dividends during that period and declared a further $0.25-per-share dividend after quarter-end.
Changes versus the prior comparable period
- Q3 net sales rose 4%, while operating income and net income increased substantially. Nine-month sales rose 6% and net income more than quadrupled.
- Management attributed higher underlying segment results to favorable pricing, volume and mix, and manufacturing cost improvement. Fabricated Products shipments benefited from aerospace/high-strength and general engineering demand; automotive shipments were slightly lower in Q3.
- Q3 Fabricated Products operating income excluding identified non-run-rate items was $50.0 million, versus $28.5 million. For the nine months, it was $146.5 million, versus $86.7 million. Reported figures included 2012 non-cash derivative gains of $12.3 million for Q3 and $15.3 million year to date, compared with losses of $16.8 million and $22.0 million in 2011.
- Liquidity increased from $301.4 million at year-end 2011, primarily reflecting senior-note proceeds and operating cash generation. Long-term debt increased following the note issuance.
Outlook, risks and unusual items
- Management expected more pronounced seasonal weakness in Q4, including weaker service-center orders, year-end destocking, lower value-added revenue, and higher planned maintenance costs; manufacturing cost improvement was expected to partly offset these factors.
- For 2013, management anticipated growth in value-added revenue and improved operating results, citing aerospace and automotive demand, expanded capacity, and cost improvements. It expected full utilization of the Trentwood Phase 4 heat-treat plate expansion when online in early 2013. The outlook for general engineering remained cautious due to weak North American industrial demand.
- Management forecast 2012 Fabricated Products capital expenditures of $40–$50 million and believed available liquidity and expected operating cash flow would fund requirements for at least 12 months. It anticipated a VEBA contribution near the $20 million annual maximum in early 2013, subject to final year-end results.
- Environmental accruals were $21.9 million, principally for remediation at the Trentwood facility. The company said additional undiscounted costs could reasonably exceed accruals by up to an estimated $18.7 million over 30 years; estimates may change. Approved remediation work was expected to begin in 2013.
- The company disclosed a material weakness in controls over the completeness and accuracy of data used to value Union VEBA postretirement obligations. Corrective actions were underway but were not yet considered remediated pending testing in the 2012 year-end audit. Prior-period financial statements had also been restated for VEBA data errors; management characterized the prior errors as not material.
- Other risks include cyclicality and demand in served end markets, aluminum and energy price exposure, derivative mark-to-market volatility, tax uncertainties, debt obligations, and environmental and legal contingencies. Management reported no material change in risk factors since the prior quarter.
Important facts for investors to verify
- How much of earnings improvement reflects recurring operating performance versus non-cash derivative gains and LIFO effects.
- Whether Q4 seasonality and 2013 demand and capacity expectations develop as management anticipated.
- Progress on Trentwood remediation, potential costs above the recorded accrual, and the expected VEBA contribution.
- Whether corrective controls address the Union VEBA valuation weakness and are validated in the year-end audit.
- Debt service, covenant restrictions, and the availability of liquidity to support planned capital spending and dividends.