CABOT CORP annual report, FY2017

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Cabot Corporation — FY2017 Form 10-K

Business and reporting period. Cabot is a global specialty chemicals and performance materials company. Its four segments are Reinforcement Materials, Performance Chemicals, Purification Solutions and Specialty Fluids. This annual report covers the fiscal year ended September 30, 2017; the filing also reports fourth-quarter results.

Financial results and liquidity

  • Revenue: $2.717 billion, up 13% from $2.411 billion in FY2016. Higher prices and product mix added $248 million and volume added $77 million; foreign currency translation reduced revenue by $24 million.
  • Profit and margins: Gross profit was $652 million, a 24.0% margin, versus $578 million and 24.0% in FY2016. Operating income was $336 million, up from $250 million. Net income attributable to Cabot was $241 million, or $3.80 diluted EPS, compared with $149 million, or $2.36, a year earlier. FY2017 effective tax rate was 10%, including $25 million in net discrete tax benefits; the operating tax rate was 19%.
  • Segment EBIT: Reinforcement Materials $193 million (up $56 million); Performance Chemicals $201 million (down $24 million); Purification Solutions $6 million (versus a $5 million loss); Specialty Fluids $9 million (down $4 million). Total segment EBIT was $409 million, up from $370 million.
  • Cash flow and investment: Operating cash flow was $340 million, down from $392 million. Capital expenditures were $147 million, implying approximate free cash flow of $193 million before other investing items. Cash and cash equivalents were $280 million, versus $200 million.
  • Debt and liquidity: Total debt was approximately $917 million, including $256 million current; net debt was approximately $637 million. The reported net debt-to-capitalization ratio improved to 29% from 35%. Cabot had $1 billion of revolver availability and no commercial paper outstanding at year-end. A $250 million note matured January 15, 2018; management said it intended to refinance it. The revolver maturity was extended to October 2022 after year-end.
  • Other financial measures: Current assets were $1.262 billion and current liabilities $742 million. Annual common dividends were $1.23 per share, up from $1.04; Cabot repurchased approximately 1.1 million shares for $59 million.

Material changes versus FY2016

  • Revenue growth reflected higher feedstock-linked selling prices and favorable mix, alongside increased volumes. Gross profit rose $74 million, with the improvement led by Reinforcement Materials.
  • Reinforcement Materials benefited from higher unit margins, contract pricing gains, spot pricing and a more favorable regional mix. Performance Chemicals’ EBIT declined as raw-material costs and fixed costs increased despite volume growth.
  • Purification Solutions returned to modestly positive EBIT, helped by inventory effects and higher mercury-removal and specialty volumes, while pricing remained pressured. Specialty Fluids weakened with lower drilling-project activity.
  • Operating cash flow declined despite higher earnings, primarily as receivables and inventories increased. Capital expenditures rose from $112 million to $147 million.
  • FY2017 had no Purification Solutions impairment charge. FY2015’s $562 million combined goodwill and long-lived-asset impairment had driven a substantial reported loss in that year.

Outlook, risks and unusual items

  • Management outlook: For FY2018, Cabot expected favorable Reinforcement Materials markets, robust Performance Chemicals end markets and continued momentum in Purification Solutions specialty applications, but intense North American competition in mercury removal. It planned $225 million to $250 million of capital spending, including expansion projects, and anticipated effective and operating tax rates of 22%. These are management expectations, not guaranteed results.
  • Growth investments: Cabot was building fumed silica plants in Wuhai, China and Carrollton, Kentucky, both expected to be completed in calendar 2019. In November 2017 it acquired Tech Blend for approximately $64 million in cash. It also began a Manitoba mine infrastructure and mining project expected to finish in late FY2018.
  • Environmental commitments: A consent decree requires emissions-control technology at certain U.S. carbon-black plants. Expected capital costs are $100 million to $150 million through 2021. Environmental-related capital expenditures were approximately $41 million in FY2017; approximately $54 million was expected in FY2018.
  • Contingencies: Reserves were $12 million for environmental remediation and $18 million for respirator claims. Approximately 37,000 claimants had pending cases against American Optical relating to respirator products; actual liability could differ from the reserve. Cabot also disclosed ongoing remediation and other legal matters.
  • Key risks: Raw-material and energy price volatility, customer concentration and pricing negotiations, operational or supply disruptions, foreign exchange and country risks, and regulatory changes. Purification Solutions’ fair value exceeded carrying value by only 13% in the latest impairment test; that valuation depends on growth assumptions and continued demand for mercury-removal products under MATS, which the EPA was reviewing.
  • Other items: The filing identifies carbon black as classified by IARC as a possible human carcinogen and discusses related regulatory and litigation exposure. Cabot reported no material off-balance-sheet arrangements. Independent auditors issued unqualified opinions on the financial statements and internal control over financial reporting.

Important facts for investors to verify

  • Whether the $250 million note due January 2018 was refinanced on acceptable terms and how debt and liquidity changed afterward.
  • Whether FY2018 capital spending, the two fumed silica projects and the Manitoba mine project remain on schedule and within budget.
  • Whether the projected FY2018 tax rates reflect subsequent U.S. tax-law changes, audit resolutions or changes in deferred-tax-asset recoverability.
  • Whether EPA decisions concerning MATS, and competition in activated carbon, affect Purification Solutions’ performance or impairment cushion.
  • Whether raw-material pass-through pricing, segment margins and operating cash conversion support the reported earnings improvement.
  • Whether environmental spending, remediation costs and respirator claims remain consistent with recorded reserves and disclosed estimates.