Arconic Inc. 2016 Form 10-K
Filing and period: Annual report for the fiscal year ended December 31, 2016, filed February 28, 2017. The supplied filing is for Arconic Inc. (formerly Alcoa Inc.), not a standalone Howmet Aerospace filing. It reports full-year results; fourth-quarter figures are also provided.
Business context and reporting period
Arconic engineered and manufactured lightweight aluminum, titanium, and nickel products for aerospace, automotive, transportation, construction, and other markets. Its three reportable segments were Global Rolled Products (GRP), Engineered Products and Solutions (EPS), and Transportation and Construction Solutions (TCS). The U.S. and Europe represented 63% and 26% of 2016 sales, respectively.
On November 1, 2016, Arconic separated Alcoa Corporation, distributing 80.1% of its shares and retaining 19.9% immediately after the distribution. Alumina and Primary Metals, the Warrick rolling operations, and the Ma’aden rolling-company stake moved to Alcoa Corporation. Alcoa Corporation’s results are presented as discontinued operations in the income statement, but cash flows were not segregated and include both businesses through the separation date. Accordingly, cash-flow comparisons and some year-end balance-sheet comparisons are affected by the transaction.
Financial performance and position
| Metric | 2016 | 2015 |
|---|---|---|
| Sales | $12.394 billion | $12.413 billion |
| Income before tax from continuing operations | $414 million | $183 million |
| Loss from continuing operations attributable to Arconic | $1.062 billion; $2.58 diluted loss per share | $157 million; $0.54 diluted loss per share |
| Net loss attributable to Arconic | $941 million | $322 million |
| Cash provided by operations | $870 million | $1.582 billion |
| Capital expenditures | $1.125 billion, including $298 million for discontinued operations | $1.180 billion, including $391 million for discontinued operations |
| Cash and cash equivalents at year-end | $1.863 billion | $1.362 billion |
| Total debt, as reported in selected financial data | $8.084 billion | $8.827 billion |
COGS declined to 79.2% of sales from 81.4%, reflecting productivity gains and higher EPS volume, partly offset by cost increases, mix, and pricing pressure. SG&A increased to $942 million from $765 million, principally because of $193 million of separation costs. Interest expense was $499 million versus $473 million. The effective tax rate was 356.5%, largely due to a $1.267 billion discrete tax charge for valuation allowances associated with the separation and deferred tax assets.
Total segment after-tax operating income (ATOI) rose 10% to $1.087 billion. GRP ATOI was $269 million (up from $225 million), EPS was $642 million (up from $595 million), and TCS was $176 million (up from $166 million). Segment ATOI is a management measure and excludes items including interest, corporate expense, restructuring, and certain tax and metal-accounting effects.
Fourth-quarter 2016 sales were $2.967 billion and net loss attributable to Arconic was $1.258 billion; continuing-operations diluted loss per share was $2.98. The quarter included the $1.267 billion tax valuation-allowance charge. The 2016 balance sheet showed $5.892 billion of current assets and $2.749 billion of current liabilities. Long-term debt was $8.044 billion, with $36 million of short-term borrowings. The $3 billion revolving credit facility had no borrowings outstanding at year-end; Arconic reported compliance with its covenants.
Material changes, outlook, risks, and unusual items
- Changes versus 2015: Sales were essentially flat. Segment ATOI improved in all three segments, while the consolidated loss widened substantially, driven chiefly by separation-related tax valuation allowances and costs. Operating cash flow fell 45%, reflecting lower operating results and working-capital effects, partly offset by lower pension contributions.
- 2017 outlook: Management projected sales stable to down 5%, with an approximately $400 million sales reduction from the North American packaging ramp-down. Excluding that effect, each segment was expected to grow sales. Goals included a 15% adjusted EBITDA margin, approximately 130 basis points higher excluding separation costs; approximately 9% RONA; capital spending no higher than $650 million; debt reduction of $1 billion; and operating cash flow exceeding capital expenditures by at least $350 million. These are management targets, not guarantees.
- Market commentary: Management expected aerospace growth from new platforms and engines to be partly offset by customer destocking, airframe build-rate changes, supply-chain risks, and engine ramp-up challenges. Automotive sheet and building and construction were expected to grow. Heavy-duty truck demand was expected to remain weak; management did not expect mining and oil and gas markets to recover in 2017. Competitive pricing pressure was expected to persist.
- Restructuring and portfolio actions: 2016 restructuring and other charges were $155 million, including asset impairments, facility exits, and layoffs. Actions included exiting certain legacy Firth Rixson U.K. operations, shutting down a Tennessee can-sheet facility after the tolling agreement ends, and closing five facilities. About 1,800 employee separations were associated with 2016 programs; approximately 880 were completed by year-end.
- Debt and credit risk: Moody’s rated long-term debt Ba2 and Fitch rated it BB+, both below investment grade; S&P rated it BBB-, the lowest investment-grade level. The revolving-credit leverage covenant was set at 5.50-to-1, tightening to 3.50-to-1 by December 31, 2019.
- Separation exposures: Arconic provided guarantees tied to Alcoa Corporation obligations, including $354 million related to project financing and guarantees of up to an estimated present value of $1.6 billion for energy supply agreements. Arconic said it would be liable for the energy guarantees only in the event of Alcoa Corporation default. Review the agreements, indemnities, and any subsequent release or replacement of guarantees.
- Contingencies: Environmental remediation reserves were $308 million, including $228 million for the Grasse River project. Spanish tax assessments totaled $258 million; a January 2017 court decision favored Arconic on one assessment, while a decision on the other remained pending. The filing also describes other litigation and environmental exposures whose ultimate outcomes could not be determined.
- Subsequent event: On February 14, 2017, Arconic sold 23.353 million Alcoa Corporation shares for $888 million cash proceeds and expected to record an approximately $350 million pretax gain in first-quarter 2017.
Important facts for investors to verify
- How the separation affects comparability of sales, cash flows, debt, pension obligations, and the company’s continuing operations; in particular, cash-flow figures include Alcoa Corporation through October 31, 2016.
- The assumptions and future realizability of deferred tax assets and foreign tax credits underlying the $1.267 billion valuation allowance, and the potential for further tax charges or releases.
- Progress against 2017 sales, adjusted EBITDA margin, RONA, capital-spending, cash-generation, and debt-reduction targets, including the packaging wind-down impact.
- Debt maturities, interest costs, credit ratings, covenant headroom, and the ability to execute the targeted $1 billion debt reduction.
- Exposure under separation-related guarantees and indemnities, the status of Alcoa Corporation’s replacement collateral, and any remaining responsibility for legacy claims.
- The outcomes of the remaining Spanish tax assessment and material environmental and legal matters, including Grasse River remediation costs and timing.