Koppers Holdings Inc. — 2016 Second-Quarter Form 10-Q Summary
Business context and reporting period
Koppers is a global provider of treated wood products, wood-treatment chemicals and carbon compounds. Its reportable segments are Railroad and Utility Products and Services (RUPS), Carbon Materials and Chemicals (CMC), and Performance Chemicals (PC). This unaudited Form 10-Q covers the three and six months ended June 30, 2016, compared with the corresponding 2015 periods. Results are seasonal and interim results may not indicate full-year performance.
Key financial metrics
| Metric | Three months ended June 30, 2016 | Three months ended June 30, 2015 | Six months ended June 30, 2016 | Six months ended June 30, 2015 |
|---|---|---|---|---|
| Net sales | $385.1 million | $431.6 million | $731.9 million | $829.4 million |
| Operating profit | $32.0 million | $26.0 million | $39.8 million | $34.0 million |
| Operating margin | 8.3% | 6.0% | 5.4% | 4.1% |
| Net income attributable to Koppers | $12.1 million | $9.0 million | $10.8 million | $5.6 million |
| Diluted EPS | $0.57 | $0.44 | $0.52 | $0.27 |
| Operating cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $34.3 million | $78.1 million |
Second-quarter cost of sales declined to 79% of sales from 83% in the prior-year quarter. Six-month cost of sales declined to 81% from 84%. Income tax provisions were $6.8 million for the quarter and $6.3 million year to date; reported effective tax rates were 37.6% and 41.4%, respectively.
At June 30, 2016, cash and cash equivalents were $16.4 million, total debt was $720.9 million, current maturities were $40.1 million, and long-term debt was $670.6 million. Estimated liquidity was $143.9 million, comprising cash of $16.4 million, $126.2 million of available revolving credit and $1.3 million under other credit facilities. Total equity was $8.0 million, compared with a $12.4 million deficit at December 31, 2015.
Material changes versus the prior comparable periods
- Second-quarter sales decreased 11%; six-month sales decreased 12%, primarily because of CMC weakness and lower RUPS demand.
- CMC sales declined 29% in the quarter and 31% year to date. CMC operating losses widened to $8.3 million from $2.9 million in the quarter and to $25.9 million from $13.8 million year to date, reflecting lower carbon pitch, carbon black feedstock and naphthalene volumes and prices.
- RUPS sales declined 4% in both comparison periods, but operating profit increased 23% in the quarter to $18.5 million and 5% year to date to $32.0 million. Higher-margin product mix, increased crosstie treatment and bridge services supported profitability.
- PC sales increased 6% in the quarter and 7% year to date. Operating profit increased 45% in the quarter to $22.4 million and 60% year to date to $35.0 million, driven by higher preservative volumes, favorable repair-and-remodeling trends and increased sales of higher-retention treated wood products.
- Operating profit benefited from lower depreciation and SG&A, but impairment and restructuring charges increased to $6.0 million for the quarter and $11.1 million year to date, versus $2.1 million and $5.7 million, respectively.
- Operating cash flow fell $43.8 million year to date, primarily because of higher accounts receivable usage and the absence of a $30.0 million customer advance received in 2015. Capital expenditures increased to $21.3 million from $17.3 million.
- The company paid no dividends in the first six months of 2016 and stated that it does not expect to declare dividends for the foreseeable future. The dividend was suspended in February 2015.
Guidance, outlook, commentary and unusual items
- Management expects 2016 RUPS revenue and profitability to decline slightly year over year because of lower rail-industry spending, weaker Australian utility-pole demand, discontinued U.S. toll-treating and foreign-exchange effects. Three-year and five-year rail-joint agreements with two major customers are expected to increase rail-joint sales.
- Management does not expect a meaningful near-term improvement in CMC markets, citing reduced aluminum production, lower oil-linked pricing, global steel and coal-tar constraints, excess capacity and competitive imports. The restructuring plan targets a reduction from 11 facilities at the end of 2013 to four by the end of 2016.
- Additional CMC restructuring and related charges are estimated at $10 million to $18 million through 2020, including approximately $1 million to $8 million of non-cash charges. Expected cash requirements for listed plant closures are approximately $40 million through 2020.
- In July 2016, the company sold substantially all U.K. CMC tar-distillation properties and assets, with the buyer assuming historical environmental and asset-retirement obligations. Coal-tar distillation at Clairton was substantially discontinued at the end of July 2016.
- PC benefited from favorable repair-and-remodeling and housing trends and higher-retention product demand, although management stated that the duration and financial impact of these trends remain difficult to predict.
- The company expects 2016 capital expenditures, excluding acquisitions, of approximately $42 million to $47 million.
- Second-quarter unusual items included a $3.7 million accrual for future real-estate lease obligations at the closed Uithoorn site, additional closure-related charges, and a $2.0 million write-off of debt issuance costs following the reduction of revolving-credit capacity.
- The company remained in compliance with its debt covenants. At June 30, 2016, the fixed-charge coverage ratio was 1.54 versus a 1.10 minimum, and the leverage ratio was 4.32 versus a 5.25 maximum.
Risks, contingencies and other considerations
- Debt maturities are concentrated in 2019, including the term loan, revolving facility and $300.0 million principal amount of senior notes. Variable-rate borrowings expose the company to interest-rate risk.
- Material risks include commodity prices and availability, particularly coal tar, copper, oil and hardwood lumber; aluminum and steel production; rail-industry spending; foreign-exchange movements; customer demand; debt refinancing and covenant compliance; and potential impairment of goodwill or long-lived assets.
- The company reported $44.8 million of asset-retirement obligations, $18.5 million of environmental reserves and $32.2 million of restructuring reserves at June 30, 2016.
- Pending legal matters include 56 coal-tar-pitch cases involving 110 plaintiffs, the Gainesville environmental class action, and the Virgin Islands wood-preservative litigation. No reserve was recorded for matters where loss probability and amount could not reasonably be estimated.
- The company is a potentially responsible party at the Portland Harbor and Newark Bay CERCLA sites. The proposed Portland Harbor remedy was estimated at approximately $800 million net present value, or $1.2 billion undiscounted, before allocation among potentially responsible parties. The company had recorded only $0.9 million for estimated participation costs at these sites.
- A related-party loan of $9.5 million to a 30%-owned Chinese entity was in default; management concluded that the principal remained fully collectible and recorded no provision.
- Controls and procedures were reported effective, with no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether CMC restructuring achieves the targeted facility reductions, cost savings and expected cash-flow benefits without additional material charges.
- Whether CMC volumes, pricing and margins stabilize amid weak aluminum demand, lower oil prices and constrained coal-tar availability.
- Whether PC and RUPS growth offsets CMC weakness and whether higher-retention product demand persists.
- Liquidity, covenant headroom and refinancing options as 2019 debt maturities approach.
- Actual cash requirements for plant closures, environmental remediation and asset-retirement obligations.
- Developments in coal-tar-pitch, Gainesville, Portland Harbor, Newark Bay and other environmental or toxic-tort matters.
- Collectibility of the $9.5 million related-party loan and the potential sale of the company’s 30% TKK interest.