Cabot Corporation — Form 10-Q Summary
Business context and reporting period. This unaudited filing covers Cabot’s first quarter of fiscal 2019, the three months ended December 31, 2018, compared primarily with the same period of fiscal 2018. Cabot reports four segments: Reinforcement Materials, Performance Chemicals, Purification Solutions and Specialty Fluids. Amounts below are in U.S. dollars; financial statement figures are in millions except per-share data.
Key financial results
| Metric | Q1 FY2019 | Q1 FY2018 |
|---|---|---|
| Net sales and other operating revenues | $821 | $720 |
| Gross profit | $166 | $176 |
| Income from operations | $77 | $91 |
| Income before tax and equity earnings | $70 | $92 |
| Net income (loss) attributable to Cabot | $69 | $(122) |
| Diluted EPS | $1.14 | $(1.98) |
| Cash from (used in) operating activities | $(39) | $45 |
| Capital expenditures | $54 | $52 |
| Dividends per common share | $0.33 | $0.315 |
Gross margin was approximately 20.2%, down from approximately 24.4% a year earlier. Revenue rose about 14%, while gross profit fell about 6%. The prior-year net loss was largely driven by a $185 million discrete tax expense related to U.S. tax reform; Q1 FY2019 included a $24 million net discrete tax benefit. The reported effective tax rate was negative 10%; the operating tax rate, a non-GAAP measure, was 24%.
Operating cash outflow reflected an $83 million inventory increase and a $75 million decline in accounts payable and accrued liabilities, partly offset by $47 million of collections from receivables. Cash and cash equivalents were $142 million at December 31, versus $175 million at September 30. Cash flow from operations less capital expenditures was approximately negative $93 million, calculated from reported figures.
Balance sheet, liquidity and debt
- Total assets were $3.255 billion and total stockholders’ equity was $1.276 billion at December 31, 2018.
- Short-term borrowings were $515 million, current long-term debt $5 million and long-term debt $671 million. Combined reported debt was approximately $1.191 billion, compared with approximately $1.003 billion at September 30, 2018.
- Commercial paper outstanding was $497 million. Cabot reported $503 million of borrowing availability under its revolving credit agreement and said it was in compliance with facility covenants.
- Management said liquidity decreased by $281 million during the quarter, largely due to higher net working capital, share repurchases, redemption of preferred stock and refinancing long-term debt with commercial paper. It expects available cash, operating cash flow and credit facilities to meet foreseeable needs.
Material changes and segment performance
- Revenue increased by $101 million, including $88 million from more favorable price and product mix and $12 million from higher Specialty Fluids volumes. A $20 million presentation change moved by-product sales from a reduction of cost of sales into revenue; unfavorable foreign currency translation reduced revenue by $17 million.
- Gross profit declined primarily from lower unit margins in Reinforcement Materials and Performance Chemicals and lower Performance Chemicals volumes. Management cited softer automotive demand, customer inventory destocking, weaker conditions in China and rapid raw-material cost declines.
- Segment revenue and EBIT: Reinforcement Materials $457 million and $62 million (prior year $387 million and $62 million); Performance Chemicals $231 million and $36 million (prior year $229 million and $47 million); Purification Solutions $65 million and negative $3 million (prior year $70 million and $6 million); Specialty Fluids $19 million and $10 million (prior year $6 million and negative $2 million). Segment EBIT is a non-GAAP measure.
- Total segment EBIT was $105 million versus $113 million. Lower Performance Chemicals volumes and margins, growth investments, and weaker Purification Solutions results were partly offset by Specialty Fluids’ improvement. Consolidated pretax income also reflected higher restructuring costs and the absence of a prior-year investment-sale gain.
- Cabot repurchased approximately 1.09 million shares for $62 million during the quarter. It repaid $25 million of redeemable preferred stock and paid a final dividend of approximately $1.4 million.
Outlook, commentary and risks
- Management expects challenging conditions in the first half of fiscal 2019, but anticipates second-half EBIT improvement in Reinforcement Materials and Performance Chemicals, based on forecasts for stronger automotive production, easing destocking and more stable raw-material costs. It expects Purification Solutions results to improve as its transformation plan progresses.
- Fiscal 2019 tax-rate outlook: effective tax rate of 17%–19% and operating tax rate of 23%–25%. Planned fiscal 2019 capital expenditures are $250 million–$275 million.
- In December 2018, Cabot began a Purification Solutions transformation plan involving portfolio focus, manufacturing optimization and proposed workforce restructuring. It recorded approximately $8 million of related costs in the quarter and expected about $7 million of further cash payments in the remainder of fiscal 2019 and thereafter, subject to consultation processes.
- After quarter-end, Cabot agreed to sell Specialty Fluids for a transaction value of $135 million: $130 million payable at closing, subject to adjustments, plus up to $5 million of lithium-product royalties over ten years. Closing was expected in Q3 FY2019, subject to conditions. Cabot estimated a non-cash impairment charge of approximately $25 million in Q2 FY2019.
- Management warned that Purification Solutions strategic actions could affect asset values. Other risks include raw-material costs, demand and customer concentration, currency movements, plant or project disruptions, trade policy, litigation, and environmental and respirator liabilities. Cabot reported approximately 35,000 pending claims against American Optical relating to respirator products and a $24 million reserve for its expected share; actual liabilities could exceed the reserve. Environmental reserves were $14 million, with management estimating reasonably possible future costs above recorded amounts would be immaterial.
- Long-term raw-material purchase commitments totaled $3.378 billion, based on market prices at December 31, 2018; actual costs may differ. Management identified no material off-balance-sheet arrangements. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting reported for the quarter.
Important facts for investors to verify
- Whether the anticipated second-half improvement in automotive demand, destocking and margins materializes, especially in China and Europe.
- Purification Solutions’ competitive performance and the execution, costs and expected benefits of its transformation plan.
- Completion terms and timing of the Specialty Fluids sale, and the expected $25 million impairment and contingent royalties.
- Working-capital trends, cash generation, commercial-paper reliance, borrowing availability and compliance with debt covenants.
- Potential changes to the $24 million respirator reserve, environmental reserves, tax audit outcomes and other litigation exposures.
- Comparability of reported revenue and margins given the $20 million by-product-sales reclassification and foreign-currency effects.