KAISER ALUMINUM CORP quarterly report, Q1 FY2012

Kaiser Aluminum Corporation — Q1 2012 Form 10-Q

Reporting period: Quarter ended March 31, 2012. Kaiser manufactures semi-fabricated specialty aluminum products and reports one operating segment, Fabricated Products. Unless noted, dollar amounts are in millions.

Financial performance and liquidity

• Sales rose 13%; shipments increased 9% to 156.7 million pounds and average realized selling price increased 4% to $2.33 per pound.
• Fabricated Products operating income was $54.1, versus $27.0. Management attributed the improvement, excluding identified non-run-rate items, primarily to higher sales: volume contributed about one-third and price and mix about two-thirds.
• Calculated operating margin was approximately 12.6%, compared with 6.1%; calculated net margin was approximately 7.3%, compared with 3.3%.
• Cash and cash equivalents were $77.3 at quarter-end, up from $49.8 at December 31, 2011. Net revolving-credit availability was $269.7, with no revolver borrowings; cash plus net availability was approximately $347.
• Net cash used in investing was $1.8, including a $7.2 return of restricted cash; net cash used in financing was $5.7, including $4.9 of dividends. Working capital included a $31.3 cash use from receivables.
• Total liabilities were $453.0. Debt included $175.0 principal of 4.5% cash convertible senior notes due April 2015 (carrying amount $149.8) and $4.7 of other notes payable. The notes’ stated effective interest rate, including discount and financing-cost amortization, is approximately 11%.

Material changes versus the prior-year quarter

• Growth was led by aerospace/high-strength shipments, up 29%, and automotive extrusion shipments, up 6%; general engineering shipments increased 3%. Other-product shipments declined 17%.
• Value-added revenue increased to $194.8 from $156.5, with value-added revenue per pound rising to $1.24 from $1.09. The company reported record quarterly value-added revenue in aerospace/high strength, automotive extrusion, and the Fabricated Products segment overall.
• Cost of products sold, excluding depreciation, amortization and other items, was $295.0 (81% of sales), versus $280.9 (87% of sales). Selling, administrative, research and development, and general expense increased to $17.9 from $15.6, primarily reflecting higher employee incentive compensation.
• Results include differing LIFO effects: a $2.9 non-cash benefit in Q1 2012 versus a $14.9 non-cash charge in Q1 2011. Q1 2012 operating results also included $3.1 of unrealized operational-derivative gains; management identifies these gains as non-run-rate.
• The prior-year interim financial statements were restated for Union VEBA participant-data and benefit-election errors. Management said the restatement was not material to previously issued statements; Q1 2011 net income was reduced by $0.5 to $10.8.

Outlook, risks and unusual matters

• Management expects Q2 2012 performance to show a year-over-year step-up but to be below Q1, primarily because of softer service-center demand and planned Spokane mill outages for capacity expansion. No full-year earnings guidance is provided.
• Management cited long-term aerospace demand drivers and expected automotive growth, and is expanding extrusion capacity in Chandler, Arizona, and heat-treat plate capacity at Spokane. Expected 2012 Fabricated Products capital expenditures and investments: $40–$50.
• General engineering demand was described as a slow, steady recovery; management did not expect service-center restocking to continue without stronger, more sustained industrial growth. It expected 2012 North American automotive build rates to increase about 10% over 2011.
• Environmental accruals were $21.7, including Trentwood remediation. The final approach had not been agreed with Washington State regulators; a consent decree was expected in 2012. Management said costs could reasonably exceed accruals by up to $18.7 over 30 years, and estimates could change within 12 months.
• Disclosure controls were deemed ineffective at quarter-end due to an unremediated material weakness in review of the completeness and accuracy of information used to value Union VEBA postretirement obligations. Corrective actions were underway; remediation was not expected to be considered complete until controls operated and were tested in the 2012 year-end audit.
• Operational and financing derivatives generate non-cash mark-to-market volatility; the company reported a net derivative liability of $20.4 at March 31. It also faces aluminum, energy, foreign-currency, customer-demand and working-capital risks. The company estimated a $1 per MMBtu natural-gas price change could affect annual operating costs by about $4 before hedging and pass-throughs.
• The company reported compliance with credit-facility covenants and stated that available cash, expected operating funds and credit availability should cover requirements for at least 12 months. The $300 revolving facility matures in September 2016.

Key facts for investors to verify

1. Whether aerospace and automotive shipment growth, value-added pricing and margins persist after the expected Q2 sequential decline.
2. Actual capital spending, Spokane outage timing and the capacity ramp at Spokane and Chandler.
3. Progress toward the Trentwood consent decree and whether environmental remediation estimates or accruals change.
4. Remediation and testing of the Union VEBA control weakness, and the reliability of related benefit-obligation estimates.
5. How much reported earnings and cash generation depend on LIFO, derivative mark-to-market movements, and working-capital timing.
6. Debt repayment and any early-conversion conditions for the 2015 notes, alongside revolver availability and dividend capacity.