Business context and reporting period
This is Arconic Inc.’s unaudited Form 10-Q for the quarter ended March 31, 2018, compared primarily with the first quarter of 2017. The filing identifies the registrant as Arconic Inc.; it does not identify Howmet Aerospace Inc. as the reporting entity. Arconic reported three segments: Engineered Products and Solutions (EP&S), Global Rolled Products (GRP), and Transportation and Construction Solutions (TCS).
Key financial results
| Metric | Q1 2018 | Q1 2017 |
|---|---|---|
| Sales | $3,445 million | $3,192 million |
| Operating income | $333 million | $283 million |
| Net income | $143 million | $322 million |
| Net income attributable to Arconic common shareholders | $142 million | $305 million |
| Diluted EPS | $0.29 | $0.65 |
| Cash used for operations | $436 million | $395 million |
| Capital expenditures | $117 million | $103 million |
- Sales rose 8%, driven by volume growth across segments, higher aluminum prices, and favorable foreign exchange, partly offset by the absence of Fusina rolling-mill sales and softness in aerospace airframes mix and industrial gas turbines.
- Operating income increased 18%; operating margin was approximately 9.7%, versus 8.9%. Cost of goods sold rose to 80.3% of sales from 77.0%, reflecting higher aluminum and input costs and unfavorable mix.
- Net income declined 56%, mainly because Q1 2017 included a $351 million gain on a partial sale of Alcoa Corporation shares. Higher aluminum prices also weighed on the comparison. Lower restructuring and SG&A costs and lower taxes partly offset these effects.
- Cash and cash equivalents were $1,205 million at quarter-end, down from $2,150 million at December 31, 2017. Current assets were $5,895 million and current liabilities $2,802 million.
- Long-term debt, less amounts due within one year, was $6,309 million; short-term debt was $45 million. The company redeemed $500 million principal of 5.72% notes due 2019 for $518 million, recording a $19 million interest charge, primarily for the redemption premium.
Material changes and segment performance
- EP&S sales increased 4% to $1,541 million, while segment operating profit fell 11% to $221 million. The company cited operating shortfalls in rings and disks, higher input costs, increased depreciation, and unfavorable mix.
- GRP third-party sales increased 9% to $1,366 million, while segment operating profit declined 18% to $112 million, principally due to unfavorable aerospace mix and higher aluminum prices.
- TCS sales increased 18% to $537 million; segment operating profit was $67 million, down 1%. Higher volumes and cost savings were largely offset by pricing, mix, and aluminum-cost pressures.
- Restructuring and other charges were $7 million versus $73 million in Q1 2017, which included the $60 million loss on the Fusina sale. SG&A fell 21% to $172 million, in part because prior-year separation and governance-related costs did not recur.
- Operating cash outflow increased to $436 million, reflecting higher pension contributions and working capital needs. Financing cash outflow was $542 million, largely related to the debt redemption. Q1 2017 investing cash inflow included proceeds from asset and investment sales, including $888 million from the Alcoa Corporation share sale.
Outlook, risks, and unusual items
- No consolidated numerical earnings or revenue guidance is provided in the supplied filing text. Management expected strong commercial aerospace demand, supported by new engine-platform ramps, and growth in defense, automotive, commercial transportation, and building and construction markets. It also expected continued industrial gas turbine weakness, ongoing pricing and rings-and-disks challenges, and higher aluminum costs to pressure GRP in Q2.
- U.S. sanctions announced in April 2018 covered UC Rusal, a supplier of primary aluminum to Arconic. Arconic said it expected to comply, was seeking guidance or licenses, and anticipated that U.S. and European plants could obtain metal from alternative suppliers; aluminum prices were expected to remain volatile.
- Arconic recorded $7 million of restructuring charges in Q1. It also reported a $13 million negative earnings impact from the adoption of pension-cost accounting guidance. The company ceased future-service pension accruals for U.S. salaried and non-bargaining hourly employees effective April 1, 2018; a separate approximately $10 million curtailment charge was expected in Q2 following ratification of a labor agreement.
- Contingencies include environmental remediation reserves of $292 million, including $213 million for the Massena West, New York, project. The filing describes litigation related to Reynobond PE and the Grenfell Tower fire; management said it could not reasonably estimate the likelihood of an unfavorable outcome or any loss range. A Spanish tax assessment of $161 million was being litigated, with the ultimate outcome not reasonably predictable.
- Arconic had substantial guarantees connected to Alcoa Corporation, including a guarantee with an estimated present value of approximately $1.188 billion related to an energy supply agreement. The company viewed the risk of Alcoa Corporation default as remote.
- On April 2, 2018, Arconic completed the sale of its Latin America extrusions business for $5 million, subject to post-closing adjustments. Management also described risks from market conditions, execution and cost savings, aluminum and currency movements, pensions, litigation, environmental matters, and global regulation.
Important facts for investors to verify
- Confirm the intended issuer: this filing is for Arconic Inc., not an entity identified in the filing as Howmet Aerospace Inc.
- Assess whether cash conversion and working-capital demands are sustainable given the $436 million operating cash outflow and quarter-end cash decline.
- Review debt maturities, refinancing needs, and credit access; the filing reports different credit ratings across agencies, including speculative-grade ratings from Moody’s and Fitch.
- Track aluminum sourcing and cost exposure arising from the Rusal sanctions, along with the expected availability and pricing of replacement supply.
- Monitor the Grenfell-related litigation, Spanish tax dispute, environmental remediation costs, and guarantees, for which potential outcomes or exposures may change.
- Evaluate segment profit trends, especially EP&S and GRP, against management’s demand, pricing, mix, and cost outlook.