KRONOS WORLDWIDE INC quarterly report, Q2 FY2016

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Kronos Worldwide, Inc. — Q2 2016 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2016. Unaudited consolidated results. Kronos produces and markets titanium dioxide (TiO₂) pigments; about half of first-half sales volumes were in Europe.

Financial performance

  • Second quarter: Sales were $356.1 million, down 1% from $360.2 million. Operating income was $10.5 million versus an operating loss of $10.4 million. Net income was $1.7 million, or $0.01 per share, compared with a net loss of $159.8 million, or $1.38 per share.
  • First half: Sales were $674.5 million, down 7% from $725.3 million. Operating income was $10.2 million versus $21.8 million. Net loss was $2.1 million, or $0.02 per share, compared with a $141.4 million loss, or $1.22 per share.
  • Margins: Second-quarter gross margin was $55.5 million (16% of sales), versus $46.5 million (13%). First-half gross margin was $95.9 million (14%), versus $123.9 million (17%).
  • Sales drivers: TiO₂ selling prices fell 7% year over year in Q2 and 11% in the first half; volumes rose 7% and 6%, respectively. Lower feedstock and other production costs supported margins.
  • Cash flow: First-half operating cash flow was $16.6 million, versus $8.3 million. Capital expenditures were $23.7 million; dividends paid were $34.8 million. Cash and cash equivalents declined to $79.2 million from $92.5 million at year-end; restricted cash was $1.4 million.
  • Debt and liquidity: Total debt was $370.1 million, including $337.0 million carrying value of the term loan and $30.0 million drawn on the North American revolver. Cash, cash equivalents and restricted cash totaled $80.6 million. Additional availability was about $52.2 million on the North American facility and $15.2 million on the European facility. The company reported compliance with debt covenants.
  • Other balance-sheet items: Total assets were $1.234 billion and stockholders’ equity was $436.6 million at June 30. Accrued pension cost was $201.5 million.

Changes versus prior periods and unusual items

  • Q2 2015 included a $150.3 million noncash deferred-tax valuation allowance and $21.1 million of workforce-reduction charges. These items principally explain the very large year-over-year improvement in reported Q2 and first-half net losses.
  • Q2 2016 included a $2.9 million noncash tax valuation allowance related to German and Belgian operations. The total valuation allowance for those operations was $168.9 million at December 31, 2015; management said it did not expect sufficient evidence in 2016 to reverse it in full.
  • First-half 2016 operating results included a $3.4 million business-interruption insurance settlement gain ($1.4 million in Q2); the company expected no further material recovery on that claim.
  • The 2015 workforce reductions affected about 160 employees and were expected to produce approximately $19 million in annual savings; $9.4 million was realized in the first half of 2016.
  • First-half dividends were $0.30 per share. The board-authorized repurchase program had 1.951 million shares remaining for repurchase at June 30.

Outlook, risks and contingencies

  • Management expected 2016 sales and production volumes to exceed 2015 levels, assuming global economic conditions did not deteriorate, and expected full-year operating income to be higher than 2015. It cited anticipated volume growth, lower feedstock costs, cost savings and price increases. These are expectations, not guarantees.
  • Average selling prices began rising in Q2: 4% above Q1-end and 2% above 2015 year-end. Management said further price increases depended on market conditions. It expected lower cost per ton for the rest of 2016 than in comparable 2015 periods.
  • Management expected approximately $63 million of 2016 capital expenditures, including $23.7 million spent through June 30. It anticipated sufficient liquidity for near- and longer-term obligations, but noted that results could differ from expectations. The North American and European revolvers mature in June and September 2017, respectively; management expected to obtain extensions.
  • Principal business risks include TiO₂ pricing, cyclicality, supply and demand, customer inventories, raw-material and energy costs, currency movements, production interruptions, competition, refinancing and liquidity, tax matters, environmental regulation and litigation.
  • The company faces a pending U.S. antitrust class action alleging TiO₂ price-fixing. It denied the allegations, intended to defend the case, and said a material loss was not reasonably possible; no amount was accrued. Tax authorities are examining returns; management said it had adequate accruals and did not expect the ultimate outcome to materially affect financial condition, results or liquidity.
  • The company had substantial German and Belgian tax-loss carryforwards, but their accounting benefit remains subject to valuation allowances and evidence of future profitability. Tax examinations and the eventual usability of tax attributes remain uncertain.

Important facts for investors to verify

  • Whether TiO₂ price increases continue and offset lower year-to-date selling prices, and whether sales-volume growth is sustained.
  • Whether lower feedstock costs and workforce savings translate into improved operating margins and the expected full-year operating income growth.
  • Cash conversion, working-capital needs, capital spending, dividend affordability and remaining borrowing availability.
  • Progress on extending the 2017 revolving credit facilities and continued compliance with financial covenants.
  • Developments in the German and Belgian tax valuation allowance, tax examinations and the TiO₂ antitrust litigation.