HXL

Business Context and Reporting Period

Company: Hexcel Corporation
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 1999
Business Overview: Hexcel manufactures composite materials, reinforcement products, and engineered products for aerospace, electronics, and industrial markets. The quarter includes the full impact of the September 1998 acquisition of the Clark-Schwebel industrial fabrics business.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue: Reported net sales increased 23% year-over-year due to the Clark-Schwebel acquisition. On a pro forma basis, sales were flat ($316.2M vs. $317.2M).
• Profitability: Net income declined significantly to $5.2 million from $17.1 million. Gross margin compressed to 22.4% from 25.7% due to pricing pressures in the electronics market and lower carbon fiber production volumes.
• Consolidation Costs: The company incurred $2.8 million in business acquisition and consolidation expenses, primarily related to the closure of the Cleveland, Georgia facility and integration of the acquired business.
• Debt Structure: In January 1999, Hexcel issued $240 million in Senior Subordinated Notes (9.75% interest) to repay borrowings under its Senior Credit Facility. Total debt remained relatively stable at approximately $859 million.
• Segment Performance:
  • Commercial Aerospace: Sales increased 4% pro forma, driven by Boeing and Airbus build rates.
  • Electronics: Sales decreased 19% pro forma due to intense competition from Asian producers and price reductions.
  • Space & Defense: Sales increased 16% pro forma, though carbon fiber demand softened as customers reduced inventories.

Guidance, Outlook, and Risks

• Outlook: Management expects commercial aerospace build rates to peak in 1999 before declining in 2000, which will impact Hexcel's orders in the second half of 1999. The company anticipates continued pricing pressure in the electronics market.
• Cost Reduction: The "1998/1999 Program" aims to eliminate redundancies and close the Cleveland, Georgia facility by August 1999. Estimated annual savings are approximately $10 million. Additional consolidation charges of slightly over $1 million are expected in Q2/Q3 1999.
• Liquidity: The company expects its financial resources, including the Senior Credit Facility, to be sufficient for foreseeable operations. A primary goal is generating operating cash flow to reduce debt.
• Year 2000 Readiness: Remediation is approximately 70% complete for repairs/replacements and 55% complete for testing. Total estimated costs are $5 million. Risks include potential supply chain disruptions if suppliers/customers fail to become compliant.
• Joint Ventures: Hexcel holds options to increase its stake in CS-Interglas (Germany) to 84%, but management does not currently anticipate exercising these options at the stated price before expiration in December 1999.

Investor Verification Checklist

• Debt Covenants: Verify compliance with financial covenants under the Senior Credit Facility, particularly given the reduction in operating income and high interest expense ($19.1M).
• Electronics Pricing: Monitor the sustainability of gross margins in the electronics segment amidst ongoing competition from Asian manufacturers.
• Aerospace Backlog: Confirm the impact of the expected peak in Boeing/Airbus deliveries in 1999 and the subsequent projected decline in 2000 on future revenue visibility.
• Consolidation Savings: Track the realization of the projected $10 million in annual savings from the 1998/1999 consolidation program and facility closures.
• Year 2000 Costs: Assess whether the $5 million estimated cost for Y2K compliance remains accurate and if any operational disruptions occur due to supplier non-compliance.