Materion Corporation — Q2 2016 Form 10-Q
Business context and reporting period. Materion produces engineered materials for electronics, industrial, medical, automotive, defense, energy, aerospace and other markets. This unaudited filing covers the second quarter and six months ended July 1, 2016; comparatives are the periods ended July 3, 2015. Amounts below are in millions of dollars unless stated otherwise. “Value-added sales” is a company-defined non-GAAP measure that excludes pass-through metal costs.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $249.8 | $276.9 | $485.3 | $566.9 |
| Value-added sales | $153.9 | $162.4 | $297.8 | $325.0 |
| Gross margin | $45.3 | $51.3 | $88.7 | $103.7 |
| Gross margin / value-added sales | 29% | 32% | 30% | 32% |
| Operating profit | $5.8 | $13.1 | $13.3 | $26.3 |
| Net income | $5.5 | $9.1 | $10.9 | $18.1 |
| Diluted EPS | $0.27 | $0.44 | $0.54 | $0.88 |
- Quarterly net sales declined 10%, while value-added sales fell 5%; first-half net sales fell 14% and value-added sales fell 8%. Lower volume was the main pressure, with metal-price pass-throughs also affecting reported sales.
- Management attributed weaker volume to reduced beryllium hydroxide shipments, soft oil and gas demand, and weakness in automotive electronics; first-half results also reflected lower demand in consumer electronics and industrial components. Lower volume and unfavorable product mix reduced gross margin.
- Quarterly operating profit fell 56% and first-half operating profit fell 49%. Lower SG&A partially offset the pressure, including reduced incentive and stock-based compensation expense.
- First-half interest expense was $0.9 million, down from $1.3 million. The first-half effective tax rate was 11.8%, compared with 27.9%; Q2 included a $0.3 million tax benefit and a $0.9 million discrete benefit tied to international tax planning.
Segments
- Performance Alloys and Composites: Q2 operating profit was $0.2 million versus $9.3 million; first-half operating profit was $1.7 million versus $16.1 million. Lower beryllium hydroxide shipments, volume and mix were key factors; foreign exchange also hurt results.
- Advanced Materials: Q2 operating profit was $7.3 million, roughly level with the prior year; first-half profit declined to $12.5 million from $16.3 million, primarily with lower volume.
- Other: Q2 operating loss, including corporate costs, was $1.8 million versus $3.7 million. First-half loss was $0.9 million versus $6.1 million. Precision Coatings improved, supported by product mix and cost reductions; prior-year comparisons included insurance and legal settlement gains.
Cash flow, debt and liquidity
- First-half operating cash flow was $9.0 million, down from $21.0 million. Investing cash outflow was $21.3 million, including $14.3 million of capital spending and $7.8 million of mine development. Financing provided $8.6 million. Cash declined $3.3 million to $21.0 million.
- Cash and equivalents were $21.0 million at July 1, 2016, versus $24.2 million at year-end 2015. Total debt was $28.7 million, up from $13.3 million; net debt was $7.7 million versus net cash of $11.0 million. Debt-to-debt-plus-equity increased to 6% from 3%.
- Available borrowing capacity was $188.6 million, down from $221.8 million, primarily due to the credit agreement’s trailing-earnings covenant. Materion reported compliance with debt covenants. Unused precious-metal financing capacity was approximately $182 million.
- The company paid $3.7 million in first-half dividends and repurchased 106,255 shares for $2.7 million. It had $17.9 million remaining under its $50 million repurchase authorization.
- First-half pension contributions were $8.0 million, compared with $4.0 million in the prior-year period. Management said cash, operating cash flow and borrowing capacity were adequate for operating needs, capital spending, pension contributions, dividends, repurchases, remediation and strategic acquisitions.
Outlook, risks and unusual items
- Management expected sequential growth in the second half of 2016, supported by the anticipated return of beryllium hydroxide sales after customer destocking and progress on organic and inorganic growth initiatives. It cautioned that consumer electronics demand was not expected to be as strong as previously forecast; defense remained strong. No specific full-year revenue or earnings guidance was provided.
- Expected 2016 spending: $25–30 million for property, plant and equipment, and $8–10 million for mine development.
- Other-net expense was $3.9 million in Q2 and $5.8 million for the first half, versus near-zero expense and $2.1 million of income, respectively, in 2015. Comparisons were affected by foreign-exchange losses in 2016 versus gains in 2015, and prior-year insurance/legal settlement gains. Q2 2016 included a $0.7 million foreign-exchange loss; first-half 2015 included $5.1 million of insurance and legal settlement gains.
- The company reported one outstanding beryllium case involving three plaintiffs and one appellate matter involving four plaintiffs being remanded. Management did not expect currently pending matters to materially affect the consolidated financial statements, but noted litigation outcomes could exceed reserves and future results could be materially affected. Environmental remediation reserves were $6.1 million, undiscounted; actual costs may differ.
- Other cited risks include negotiations with the largest customer regarding beryllium hydroxide, end-market conditions, product mix, raw-material and metal-price exposure, foreign exchange, new-product execution, acquisitions, capital-project execution, credit availability, pension costs, regulation and litigation. Precious-metal and copper consignment balances were $267.9 million, compared with $214.7 million at year-end.
Most important facts for investors to verify
- Whether beryllium hydroxide shipments resumed as expected and the outcome of negotiations with the largest customer.
- Whether second-half sequential growth materialized, particularly given the softer consumer-electronics outlook and mixed end markets.
- Whether segment margins recover from lower volume and unfavorable mix, especially in Performance Alloys and Composites.
- Whether operating cash flow improves and borrowing capacity remains adequate under the credit agreement’s earnings-based covenant.
- Developments in beryllium litigation and environmental remediation costs, and the effect of foreign exchange, metal financing and other unusual items on reported earnings.