Business context and reporting period
Materion Corporation filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2017. The company makes advanced engineered materials for markets including consumer electronics, industrial components, defense, medical, automotive electronics, and aerospace. Comparisons are with the second quarter and first six months of 2016.
Key financial metrics
Dollar amounts below are in millions, except per-share data and percentages.
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net sales | $295.8 | $249.8 | $536.5 | $485.3 |
| Value-added sales | $176.1 | $153.9 | $325.1 | $297.8 |
| Gross margin | $54.6 | $45.3 | $97.6 | $88.7 |
| Operating profit | $9.7 | $5.8 | $13.2 | $13.3 |
| Net income | $7.3 | $5.5 | $10.4 | $10.9 |
| Diluted EPS | $0.36 | $0.27 | $0.51 | $0.54 |
- Gross margin was 31% of value-added sales in Q2, up from 29%; first-half gross margin was 30% in both years. SG&A was 22% of value-added sales in the first half, versus 21% a year earlier.
- Interest expense was $0.7 million in Q2 and $1.2 million in the first half, up 36% and 28%, respectively, primarily due to higher average debt.
- First-half operating cash flow was $0.3 million, versus $9.9 million in 2016. Investing used $28.2 million, including $16.5 million for the Heraeus target materials business acquisition; financing provided $14.1 million. Cash fell to $18.5 million from $31.5 million at year-end 2016.
- At June 30, total debt was $26.6 million, cash was $18.5 million, and net debt was $8.1 million, compared with net cash of $26.8 million at year-end. Available borrowing capacity was $235.6 million; debt-to-debt-plus-equity was 5%. The company reported compliance with debt covenants.
- Current assets were $390.3 million and current liabilities $109.6 million. Inventory was $216.0 million. These balances include working-capital changes and the acquisition.
Material changes versus prior periods
- Q2 sales rose 18% and value-added sales rose 14%; first-half sales increased 11% and value-added sales 9%. Higher volume, the February acquisition, and metal-price pass-throughs contributed to sales growth.
- Q2 operating profit rose 68%, but first-half operating profit was essentially flat and first-half net income declined 5%. First-half diluted EPS fell 6% to $0.51.
- Advanced Materials benefited from the acquired business and stronger consumer-electronics demand. Performance Alloys and Composites improved on volume, mix, and productivity. Precision Coatings weakened: first-half value-added sales fell 8% and operating profit fell 29%, mainly due to lower medical-market volume and the absence of a prior-year equipment-sale gain.
- The Heraeus target materials business was acquired for $16.5 million and added $32.3 million of Q2 sales and $10.6 million of Q2 value-added sales. First-half integration expenses were about $3.4 million. Purchase-price allocation remained preliminary.
- First-half working capital used $21.9 million of cash. Receivables and inventory increased, reflecting higher sales, the acquisition, and preparation for expected orders.
Outlook, commentary, risks, and unusual items
- Management expects 2017 property, plant, and equipment spending of $25 million to $30 million and mine-development spending below $3 million. The filing provides no specific earnings or sales guidance.
- Management said cash flow, cash on hand, and borrowing capacity are adequate for operating needs, capital spending, pension contributions, dividends, repurchases, environmental remediation, and strategic acquisitions.
- Risks highlighted include market and end-market demand, product mix, acquisition integration, raw-material and metal-price pass-throughs, customer financial condition, foreign exchange, pension costs, credit availability and interest rates, regulatory matters, and litigation. Precious-metal and copper consignment arrangements had a notional value of $307.2 million at June 30; unused metal-financing capacity was approximately $142.8 million.
- Environmental remediation reserves were $6.2 million, undiscounted; actual costs may differ. The company also disclosed ongoing litigation, including beryllium-related claims, without providing a clear quantified exposure in this filing.
- Q2 tax expense was $1.7 million, versus a tax benefit of $0.3 million in Q2 2016; effective tax rates were 19.1% and negative 5.4%, respectively. First-half 2017 included discrete tax benefits, including benefits associated with share-based payment accounting and officer compensation.
- First-half corporate costs included accelerated stock compensation related to the CEO transition. The company recorded $1.25 million of restructuring costs in the first half and said it did not expect additional costs for those initiatives.
Important facts for investors to verify
- Whether the near-zero first-half operating cash flow and working-capital investment reverse as receivables are collected and inventory is converted to sales.
- Whether the Heraeus business integrates as planned and delivers returns that justify its purchase price and integration costs.
- Whether Precision Coatings’ volume and profitability recover, and whether strength in consumer electronics and industrial components persists.
- How debt, borrowing capacity, and covenant headroom evolve alongside capital spending, dividends, repurchases, and metal-financing needs.
- Updates to the preliminary acquisition accounting, environmental remediation estimates, and beryllium-related and other legal contingencies.