Reliance Steel & Aluminum Co. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017; comparisons are with the corresponding 2016 periods. Amounts are in U.S. dollars. The filing describes Reliance as a diversified metals distributor and processor. Results are unaudited.
Financial performance
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net sales | $2,475.2 million | $2,203.9 million | $4,894.5 million | $4,366.6 million |
| Gross profit | $702.1 million | $685.1 million | $1,423.7 million | $1,321.8 million |
| Gross margin | 28.4% | 31.1% | 29.1% | 30.3% |
| Operating income | $171.2 million | $174.4 million | $361.4 million | $305.5 million |
| Net income attributable to Reliance | $103.0 million | $100.9 million | $214.7 million | $193.1 million |
| Diluted EPS | $1.40 | $1.38 | $2.92 | $2.65 |
Q2 sales rose 12.3%; first-half sales rose 12.1%. Same-store tons sold increased 1.1% in Q2 and 1.6% for the half, while same-store average selling price per ton increased 11.3% and 10.5%, respectively. Higher selling prices and modestly higher volumes supported revenue and gross-profit dollars, but Q2 gross margin contracted as competitive pricing and less favorable mill-price movement pressured margins. The company reported gross profit of $702.1 million in Q2, its second-highest quarterly result, after $721.6 million in Q1.
Operating income declined 1.8% in Q2, as lower gross margin outweighed lower selling, general and administrative expense (SG&A) as a percentage of sales. First-half operating income increased 18.3%. Q2 net income attributable to Reliance increased 2.1%; first-half net income increased 11.2%. First-half interest expense fell to $35.8 million from $43.4 million, principally following repayment of $350 million of 6.20% notes in November 2016. The first-half effective tax rate was 32.0%, versus 25.0% in 2016; the prior-year rate benefited from a $17.6 million favorable resolution of an uncertain tax position.
Cash flow, liquidity and debt
- First-half operating cash flow was $15.2 million, versus $205.2 million in 2016. Higher metal prices and demand increased accounts receivable and inventory, using cash; receivables rose $215.4 million and inventory rose $216.5 million in the cash-flow reconciliation.
- Capital expenditures were $72.8 million, compared with $71.7 million. Investing cash use was $66.9 million, versus $395.4 million, which included $322.4 million of acquisition spending in 2016.
- Cash increased to $146.5 million from $122.8 million at year-end 2016. Cash provided by financing was $70.6 million; dividends and dividend equivalents paid were $66.5 million.
- Total debt was $2.08 billion at June 30, up from $1.95 billion at December 31, 2016. The reported net debt-to-total-capital ratio was 30.7%, compared with 30.3% at year-end. Long-term debt was $1.99 billion, with $78.9 million classified as current maturities and short-term borrowings.
- The $1.5 billion revolving credit facility had $697.0 million drawn, $62.5 million in letters of credit, and $740.5 million available. The company reported compliance with its debt covenants; the interest coverage ratio was approximately 8.5 times against a 3.0-times minimum, and the covenant leverage ratio was 33.0% against a 60% maximum.
Changes, outlook and risks
Management cited slightly improved demand across several markets, including energy, while noting that energy demand remained well below its 2014 peak. Automotive toll processing and aerospace performed well; heavy industry remained weak, and non-residential construction was improving slowly. Steel imports increased in Q2 2017 and put downward pressure on pricing. Carbon and stainless steel price increases had supported first-half sales, while alloy prices declined year over year for the first half.
Management said it would focus on working-capital management, profitability and growth strategies. It described Q1 and Q2 gross margins of 29.8% and 28.4% as within or above its recently increased 27%–29% range. The filing provides no specific revenue or earnings guidance. Management expected sufficient liquidity to meet operating needs and debt maturities and anticipated continuing acquisition and growth activity.
Risks and contingencies include metal-price, demand, interest-rate, currency and competitive exposures; management reported no significant change in market-risk exposures since year-end 2016. Environmental remediation tied to former EMJ manufacturing operations could involve significant cleanup costs, though insurance had covered costs to date and was expected to cover most related costs; the company did not expect a material adverse effect. Routine litigation was not expected to have a material adverse effect. Goodwill and intangible assets were substantial—$1.83 billion and $1.13 billion, respectively—and are subject to impairment assessment. No material change to previously disclosed risk factors was reported.
Unusual or notable items include a $20 million first-half LIFO inventory expense, versus no LIFO expense or income in the comparable 2016 period, and a first-half pension settlement loss and foreign-exchange losses included in other expense. The company adopted pension-cost presentation changes retrospectively, with no material impact on its financial statements. It expected the new lease standard to materially increase reported assets and liabilities, but not materially affect net income or equity.
Important facts for investors to verify
- Working-capital needs sharply reduced operating cash flow; assess whether cash conversion improves as metal prices and inventory levels change.
- Track gross-margin performance and the effects of steel imports, mill pricing, LIFO adjustments, and pass-through timing.
- Monitor debt growth, variable-rate borrowings, refinancing needs, and covenant headroom alongside the stated $740.5 million of revolver availability.
- Assess exposure to the large goodwill and intangible-asset balances and any changes in impairment assumptions or indicators.
- The MD&A overview states first-half 2016 pretax income as $230.8 million, while the income statement reports $260.8 million; the reported 2017 amount is $320.9 million. Verify this apparent filing-text inconsistency.