Hexcel Corporation (10-Q): Quarter ended September 30, 2017
Business context: Hexcel develops and manufactures advanced composite materials and engineered products for commercial aerospace, space and defense, and industrial markets. Results cover the third quarter and first nine months of 2017, compared with the same 2016 periods. Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $491.5 | $500.5 | $1,461.6 | $1,520.8 |
| Gross margin | $135.6; 27.6% | $135.7; 27.1% | $409.6; 28.0% | $429.0; 28.2% |
| Operating income | $89.1; 18.1% of sales | $89.1; 17.8% | $257.4; 17.6% | $273.1; 18.0% |
| Net income | $69.7 | $68.2 | $195.9 | $190.3 |
| Diluted EPS | $0.76 | $0.72 | $2.13 | $2.01 |
| Interest expense, net | $7.0 | $5.5 | $20.0 | $16.8 |
- Q3 sales declined 1.8% reported and 2.4% in constant currency; nine-month sales fell 3.9% reported and 3.5% in constant currency. Nine-month operating income decreased 5.7%, while net income increased 2.9% and diluted EPS rose 6.0%.
- Q3 gross margin rate improved year over year, but the nine-month rate eased. Management cited strong operating performance and approximately $8 million of nine-month startup and training costs for new France and Morocco sites.
- Q3 sales by market: Commercial Aerospace $352.6 million, down 2.2%; Space & Defense $82.7 million, up 1.5%; Industrial $56.2 million, down 3.8%. Nine-month Industrial sales fell 16.7% reported, with wind energy particularly weak.
- Cash from operations was $308.5 million for nine months, versus $286.8 million. Capital expenditures paid were $221.3 million, compared with $231.8 million; reported free cash flow was $87.2 million, versus $55.0 million.
Financial position and liquidity
- At September 30, cash was $119.1 million, total debt $833.8 million, and net debt $714.7 million. Net debt was $653.5 million at December 31, 2016. Total assets were $2,737.2 million and stockholders’ equity was $1,426.7 million.
- The company had $625 million of undrawn availability on its $700 million revolving credit facility. It reported compliance with debt covenants and expected to remain in compliance. Facility covenants require minimum interest coverage and maximum leverage ratios of 3.50.
- In February, Hexcel issued $400 million of 3.95% senior notes due 2027; proceeds were used in part to repay revolving borrowings, with the remainder available for general purposes including repurchases. Long-term debt also included $300 million of 4.7% notes due 2025 and $75 million drawn on the revolving facility. Management said there were no significant required debt repayments before the facility matures in 2021.
- Operating cash flow, cash on hand, and the credit facility were expected to meet short-term liquidity needs, including capital expenditures. Nine-month share repurchases were $122 million and dividends paid were $31.3 million. The 2017 repurchase authorization had $270.7 million remaining at quarter-end.
Outlook, commentary, and notable items
- Management expected 2017 accrual-basis capital expenditures of $270 million to $290 million to expand capacity. The filing does not provide a clear full-year revenue or earnings forecast.
- Hexcel expected 2018 wind energy sales to exceed 2016 levels as customers transition to longer, higher-efficiency blades with more composite content. This expectation is subject to market and program conditions.
- Commercial aerospace weakness reflected lower rates for legacy widebody aircraft (A380, B777, B747) and lower business-jet sales, partly offset by growth in the A350 and new narrowbody aircraft. Space & Defense growth was supported by U.S. military rotorcraft and the Joint Strike Fighter program.
- Q3 tax expense included a $4.2 million discrete benefit from reversal of uncertain tax provisions; the first nine months also included a $9.1 million benefit from releasing a foreign valuation allowance. The nine-month effective tax rate was 18.6%, or 24.2% excluding the stated discrete benefits. These items helped net income rise despite weaker sales and nine-month operating income.
- On October 2, 2017, Hexcel completed its acquisition of Structil SA; its results were to be consolidated from Q4. The filing describes the acquisition as adding adhesive, prepreg, and pultrusion technologies.
- Environmental accruals totaled $2.8 million. The Lower Passaic River remedy is still subject to uncertainty over Hexcel’s share and insurance recovery; management stated that the accrual could have been $16 million higher if estimated at the high end of certain possible ranges. The company said its environmental and other legal contingencies were not expected to have a material adverse effect, but actual costs could differ.
- Other risks identified include aircraft production-rate changes, customer concentration, defense budgets, industrial and wind demand, foreign exchange and interest rates, supply-chain constraints, capacity execution, regulatory and tax changes, labor disruptions, and cybersecurity or system interruptions.
Most important facts for investors to verify
- Whether commercial aerospace and industrial demand stabilize, particularly legacy aircraft rates, business jets, and wind energy.
- Whether planned capacity expansions and the $270–$290 million 2017 capital-spending program deliver expected customer capacity without further startup costs or margin pressure.
- How much of the increase in reported earnings reflects recurring operations versus discrete tax benefits, and how results compare on an adjusted basis.
- Whether cash generation and capital allocation—including debt, dividends, and the remaining share-repurchase authorization—remain consistent with liquidity and covenant capacity.
- Developments in the Lower Passaic River and other environmental matters, including Hexcel’s eventual allocated liability and insurance coverage.
- Integration and financial contribution of Structil following its October 2017 acquisition.