Koppers Holdings Inc. quarterly report, Q1 FY2011

Koppers Holdings Inc. — Q1 2011 Form 10-Q Summary

Business context and reporting period

Koppers is an integrated global provider of carbon compounds and commercial wood-treatment products and services. It operates through Carbon Materials & Chemicals (CM&C) and Railroad & Utility Products (R&UP). The filing covers the three months ended March 31, 2011, compared with the three months ended March 31, 2010. Results are seasonal, with the first and fourth quarters historically weaker than the second and third quarters.

Financial performance and liquidity

Metric	Q1 2011	Q1 2010	Change
Net sales	$359.1 million	$274.3 million	+31%
Operating profit	$20.8 million	$16.8 million	+24%
Operating margin	5.8%	6.1%	Down 0.3 percentage points
Income before taxes	$14.0 million	$11.6 million	+21%
Net income attributable to Koppers	$8.9 million	$7.3 million	+22%
Diluted EPS	$0.43	$0.36	+19%
Operating cash flow	$(9.5) million	$16.2 million	Decrease of $25.7 million

CM&C revenue increased 36% to $236.2 million, while operating profit increased 27% to $13.6 million. R&UP revenue increased 22% to $122.9 million, while operating profit increased 12% to $7.5 million.
Cost of sales increased to 87% of sales from 85%, primarily because raw-material cost increases exceeded price increases, inventories were built for anticipated demand, and Q1 2010 benefited from a $2.9 million environmental liability accrual reduction.
Cash and cash equivalents were $40.5 million at March 31, 2011, compared with $35.3 million at December 31, 2010.
Total debt was $320.0 million, including $295.4 million of 7 7/8% senior notes due 2019 and $24.5 million drawn under the revolving credit facility, compared with $296.4 million at year-end 2010.
Estimated liquidity was $304.0 million, consisting of cash of $40.5 million, $247.9 million of available revolver capacity and $15.6 million under other credit facilities. Letters of credit utilized $11.3 million.
The company was in compliance with its debt covenants. The fixed-charge coverage ratio was 2.1 versus a minimum of 1.10, and the leverage ratio was 2.34 versus a maximum of 4.50.
Total assets increased to $722.0 million from $669.2 million, and total equity increased to $113.0 million from $99.9 million.

Material changes versus the prior comparable period

Revenue growth reflected higher volumes, acquisitions, pricing and foreign exchange. CM&C carbon-material volumes increased in all geographic regions, supported by the Netherlands acquisition and increased Chinese production for Middle Eastern smelters.
R&UP benefited from improved railroad crosstie demand, higher pricing and incremental rail joint-bar sales following the December 2010 Portec acquisition.
Operating margin declined despite higher operating profit because input costs rose faster than selling prices and Q1 2010 included favorable nonrecurring items.
Operating cash flow turned negative because accounts receivable increased by $39.8 million and inventories increased by $5.6 million. The company borrowed $24.5 million under its revolver to fund working-capital requirements.
Other income declined to $0.1 million from $1.7 million because Q1 2010 included a $1.6 million gain on the sale of an Australian property.
The March 2010 Cindu Chemicals acquisition affected comparability; Q1 2010 included $1.6 million of acquisition expenses.

Guidance, outlook, risks and unusual items

Management expected capital expenditures, excluding acquisitions, of approximately $32 million for 2011 and believed operating cash flow plus available borrowings would fund requirements for at least the next twelve months.
Carbon-pitch margins were pressured by higher coal-tar costs and oil prices. Management expected margin recovery as price increases were implemented, but noted that timing and recovery were uncertain.
Australian carbon-black profitability could weaken further because of the strong Australian dollar, U.S.-dollar-denominated exports and increased import competition.
Railroad crosstie volumes improved materially in Q1 2011, and management expected the trend to continue at least through the following quarter as customers normalized inventories and the U.S. economy improved.
Key operating risks include global economic conditions, coal-tar availability and pricing, oil-price volatility, competitive carbon-pitch markets, foreign-exchange movements, seasonality and weather.
The company is involved in coal-tar-pitch, Somerville, Grenada and Gainesville litigation, as well as environmental proceedings. Several matters have no reserve because the probability and amount of loss cannot reasonably be estimated. An unfavorable resolution could materially affect financial condition, cash flows or results.
Environmental reserves were $5.3 million at March 31, 2011. Additional disclosed reserves included $0.8 million for the Stickney investigation, $0.6 million for the Clairton sewer line and fine, and $1.9 million for an Australian remediation matter.
A 60%-owned Chinese subsidiary guaranteed $18.5 million of debt supporting the company’s investment in TKK; the debt matured in August 2011 and was expected to be refinanced.
The board declared a quarterly dividend of $0.22 per share on May 4, 2011, payable July 6, 2011.

Important facts for investors to verify

Whether higher raw-material costs can be recovered through pricing without further erosion of operating margins.
The sustainability of improved railroad crosstie volumes and the contribution from the Portec and Cindu acquisitions.
Working-capital conversion, particularly the sharp increase in accounts receivable and the resulting negative operating cash flow.
Debt levels, revolver usage, covenant headroom and the company’s ability to fund the planned $32 million of 2011 capital expenditures.
Potential exposure from unresolved litigation, environmental remediation and reliance on indemnification from former owners, particularly Beazer East.
The effect of currency movements on Australian and other international operations and the potential for seasonal weakness in subsequent quarters.