ATI Inc. (Allegheny Technologies Incorporated) — Form 10-Q Summary
Business context and reporting period
Quarterly report for the period ended June 30, 2011, covering the three and six months ended June 30, 2011, with comparisons to 2010. ATI is a diversified specialty-metals producer operating through High Performance Metals, Flat-Rolled Products, and Engineered Products. The May 9, 2011 acquisition of Ladish Co., Inc. added aerospace and industrial forging, casting, and finishing capabilities and was included in High Performance Metals from the acquisition date.
Key financial metrics
| Metric | Q2 2011 | Q2 2010 | Change |
|---|---|---|---|
| Sales | $1,351.6 million | $1,052.0 million | +28% |
| Income before taxes | $100.3 million | $60.6 million | +65% |
| Net income attributable to ATI | $64.0 million | $36.4 million | +76% |
| Diluted EPS | $0.59 | $0.36 | +$0.23 |
| Segment operating profit | $173.4 million | $117.3 million | +48% |
| Segment operating margin | 12.8% | 11.2% | +160 basis points |
| Metric | Six months 2011 | Six months 2010 | Change |
|---|---|---|---|
| Sales | $2,579.0 million | $1,951.4 million | +32% |
| Income before taxes | $194.1 million | $93.6 million | +107% |
| Net income attributable to ATI | $120.3 million | $54.6 million | +120% |
| Diluted EPS | $1.13 | $0.54 | +$0.59 |
| Segment operating profit | $335.8 million | $205.5 million | +63% |
| Segment operating margin | 13.0% | 10.5% | +250 basis points |
Q2 net income attributable to ATI included approximately $12.7 million, or $0.11 per share, of after-tax Ladish acquisition-related expenses. First-half 2011 results included $5.8 million, or $0.05 per share, of special charges related primarily to executive retirements and a discrete foreign tax charge. Excluding these items, management reported first-half adjusted net income of $138.8 million, or $1.29 per share.
Cash flow, liquidity, debt, and balance sheet
- Cash used in operating activities was $72.0 million in the first six months of 2011, compared with $193.4 million used in the prior-year period.
- Operating cash flow was constrained by a $455.1 million investment in managed working capital, driven by higher business activity, raw-material costs, receivables, and inventory.
- Cash used in investing activities was $444.3 million, including $349.2 million for acquisitions and investments and $97.7 million of capital expenditures.
- Cash provided by financing activities was $451.8 million, primarily reflecting the $500 million issuance of 5.95% senior notes due 2021.
- Cash and cash equivalents were $367.8 million at June 30, 2011, down from $432.3 million at December 31, 2010.
- Total debt was $1,650.7 million, up from $1,063.3 million at year-end 2010. Net debt was $1,282.9 million.
- Net debt to total capitalization increased to 32.3% from 23.6%; total debt to total capitalization increased to 38.0% from 34.3%.
- ATI had not borrowed under its $400 million domestic revolving credit facility; approximately $7 million supported letters of credit. The company reported a leverage ratio of 2.66 versus a 3.25 maximum and interest coverage of 4.56 versus a 2.0 minimum.
- Net inventory increased to $1,465.4 million from $1,024.5 million, while accounts receivable increased to $808.1 million from $545.4 million.
Material changes versus the prior comparable period
- Sales growth reflected higher shipments, raw-material surcharges, and higher average base selling prices. Q2 sales increased 45% in High Performance Metals, 18% in Flat-Rolled Products, and 34% in Engineered Products.
- High Performance Metals benefited from aerospace demand, higher pricing, cost reductions, and the Ladish acquisition. Its Q2 operating margin was 18.7%, compared with 19.7% in 2010; excluding Ladish purchase-accounting inventory charges, the margin was 21.3%.
- Flat-Rolled Products margin improved to 10.1% from 6.8%, supported by higher-value product shipments and pricing. Standard stainless shipments declined 16% in Q2, while high-value shipments increased 15%.
- Engineered Products sales rose 34%, but Q2 operating profit fell to $6.8 million from $7.9 million, partly because of higher LIFO inventory charges.
- Interest expense increased to $23.7 million in Q2 from $15.4 million, primarily because of the 2021 notes, Ladish debt, and lower capitalized interest.
- Corporate expenses rose to $25.8 million from $15.0 million, primarily because of Ladish transaction costs and higher incentive compensation.
- Retirement benefit expense declined to $19.4 million from $22.4 million, benefiting from pension asset returns and prior voluntary contributions.
Guidance, outlook, risks, contingencies, and unusual items
- Management increased expected 2011 revenue to $5.4–$5.5 billion from prior guidance of $4.6–$4.8 billion following the Ladish acquisition.
- Expected 2011 segment operating profit was 13%–14% of revenue, excluding Ladish inventory fair-value adjustments.
- Management expected approximately $8–$9 million of additional Ladish inventory fair-value charges in Q3 2011, with no significant similar charges expected thereafter.
- Q3 Flat-Rolled Products results were expected to face seasonal weakness, soft demand for standard stainless products, and approximately $6 million of major maintenance charges.
- ATI expected 2011 capital expenditures of $275–$300 million, including $97.6 million spent in the first half, and depreciation expense of approximately $175 million.
- The company continued its approximately $1.1 billion Brackenridge, Pennsylvania advanced specialty-metals hot-rolling facility, targeted for completion by the end of 2013.
- High Performance Metals backlog exceeded $1.38 billion at June 30, 2011. Management cited strong demand and growth opportunities in aerospace, oil and gas, chemical processing, electrical energy, and medical markets.
- Key risks include specialty-metals demand and pricing volatility, raw-material and energy costs, limits or delays in surcharges, acquisition integration and expected synergies, project cost overruns, pension funding and asset performance, litigation, environmental remediation, and labor disruptions.
- Environmental remediation reserves totaled approximately $15 million. Management did not believe currently identified environmental matters presented a reasonable possibility of a material loss beyond accrued amounts, but future developments could materially affect results.
- Tentative four-year labor agreements covering approximately 3,000 employees were not ratified in July 2011. New tentative agreements were reached August 1, 2011, with existing contracts extended through August 8, 2011; a strike or work stoppage remained a material risk.
- Natural-gas, electricity, raw-material, and foreign-exchange hedges exposed ATI to mark-to-market losses and future earnings volatility. The filing stated that approximately $14 million of derivative losses could be recognized over the following 12 months assuming market prices remained constant.
Important facts for investors to verify
- Whether the higher 2011 revenue and 13%–14% segment-margin outlook were achieved after incorporating Ladish and excluding purchase-accounting charges.
- The pace of Ladish integration, realization of anticipated synergies, and final purchase-price allocation, including goodwill and intangible assets.
- Conversion of substantial inventory and receivables into operating cash flow and the sustainability of working-capital levels.
- Debt reduction, refinancing requirements, covenant compliance, and interest-cost effects following the acquisition and 2021 note issuance.
- Demand, pricing, and backlog trends in aerospace, oil and gas, chemical processing, and standard stainless products.
- Progress, cost, timing, and expected returns of the Brackenridge facility and titanium sponge operations.
- Resolution of collective-bargaining agreements and any related production interruptions.
- Potential effects of raw-material, energy, foreign-exchange, environmental, pension, litigation, and derivative exposures on future earnings and liquidity.