GOODYEAR TIRE & RUBBER CO quarterly report, Q2 FY2017

Goodyear Tire & Rubber Co. — Q2 2017 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2017. Unaudited results; comparisons are with the same periods in 2016. Goodyear operates tire businesses in the Americas, Europe, Middle East and Africa (EMEA), and Asia Pacific.

Key financial results

Metric	Q2 2017	Q2 2016	Six months 2017	Six months 2016
Net sales	$3.686bn	$3.879bn	$7.385bn	$7.570bn
Goodyear net income	$147m	$202m	$313m	$386m
Diluted EPS	$0.58	$0.75	$1.23	$1.43
Total segment operating income	$361m	$531m	$746m	$950m
Segment operating margin	9.8%	13.7%	10.1%	12.5%

Q2 gross margin was approximately 24.3%, versus 27.5% a year earlier; cost of goods sold was 75.7% of sales versus 72.5%.
Q2 tire shipments fell 10.2% to 37.4 million units. Replacement volume declined 10.9%; original-equipment volume fell 8.3%.
Q2 operating income declined in each region: Americas $213m (down 26.8%), EMEA $77m (down 48.0%), and Asia Pacific $71m (down 22.8%). EMEA’s sales fell 11.7%.
Cash and cash equivalents were $903m at June 30, 2017, down from $1.132bn at year-end 2016. Unused credit availability was $2.440bn, down from $2.970bn. Current assets were $6.632bn and current liabilities $5.069bn.
Six-month operating cash flow was negative $185m, versus negative $67m in 2016. Capital expenditures were $497m; operating cash flow less capital expenditures was negative $682m, versus negative $533m.
Balance-sheet debt, capital leases, and notes payable/overdrafts totaled approximately $6.076bn at June 30, compared with $5.479bn at December 31, 2016. The filing reports 38% of debt at variable rates, averaging 4.78%.

Material changes and management commentary

Management attributed weaker earnings primarily to higher raw-material costs and lower tire volumes. Q2 raw-material costs rose $166m year over year, partly offset by $127m of price and product-mix improvement; lower volume reduced segment income by $98m. Six-month comparisons show a $178m raw-material headwind, partly offset by $174m from price and mix, with lower volume reducing income by $132m.
Management cited challenging industry conditions: raw-material volatility, increased price competition, and weaker demand, particularly for OE and consumer replacement tires in the United States and Europe. Cost savings were approximately $59m in Q2, including $23m from raw-material measures.
Operating cash flow was pressured by $762m of working-capital use in the first half, including increased accounts receivable and inventories. Net financing cash inflow of $426m included $538m of net borrowings.
In March, Goodyear issued $700m of 4.875% senior notes due 2027; in May it used the proceeds plus cash to redeem $700m of 7% notes due 2022, paying a $25m premium. Interest expense declined year over year, partly reflecting lower average debt and interest rates.

Outlook, contingencies and risks

For 2017, management expected tire unit volume to decline approximately 3.5% versus 2016 and under-absorbed fixed overhead costs to be approximately $155m higher. Cost savings were expected to more than offset general inflation; foreign-currency translation was expected to be essentially neutral at then-current spot rates.
Management expected full-year raw-material costs to be approximately 20% above 2016, excluding savings, and expected the increase to exceed price-and-mix improvement by approximately $175m. This estimate was subject to significant commodity-price volatility.
Expected 2017 cash needs included $800m–$900m of capital expenditures, $340m–$365m of interest, approximately $225m of restructuring payments, approximately $100m of common dividends, and $50m–$75m of non-U.S. pension contributions. Working capital was expected to use approximately $150m. Management considered liquidity adequate for 2017 needs and debt maturities.
Goodyear recorded $235m of rationalization liabilities at June 30, including $128m related to the Philippsburg, Germany plant closure; approximately $120m of that closure accrual was expected to be paid in the second half of 2017. The closure involved approximately 890 job reductions; about 600 associates were released in July.
Approximately 850 former Amiens, France employees asserted wrongful-termination or other claims totaling €118m ($135m); Goodyear intends to defend the claims and said it could not estimate any eventual payment.
Asbestos liabilities were recorded at $175m gross, with a $126m related insurance receivable; approximately 61,400 claims remained pending. The filing notes potential for material costs above reserves, with excess amounts not reasonably estimable. Workers’ compensation liabilities were $249m, and the reasonably possible excess over recorded amounts was estimated at approximately $30m.
Other risks include variable-rate debt and borrowing-base availability, commodity and foreign-exchange exposures, access to capital, and restrictions on transfers of subsidiary funds. Goodyear reported compliance with applicable material covenants at June 30.

Most important facts for investors to verify

Whether tire volumes and demand stabilize, particularly in EMEA and the Americas, and whether price and mix can offset raw-material inflation.
Whether the 2017 raw-material, unit-volume, overhead, cash-flow, and capital-spending outlook remains achievable as commodity prices and market conditions change.
How working-capital investment, debt levels, and available borrowing capacity evolve; also monitor the first-lien facility’s borrowing base and the October 2017 renewal of European securitization back-up liquidity commitments.
Actual costs and timing of the Philippsburg closure and other restructuring actions, along with developments in Amiens labor claims, asbestos matters, and insurance recoveries.
Whether the reported liquidity and covenant headroom remain adequate, including the availability of cash held in jurisdictions subject to transfer restrictions.