Axalta Coating Systems Ltd. — 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017. The filing is an annual report; quarterly figures below identify the fourth quarter where relevant. Unless stated otherwise, amounts are in millions of U.S. dollars.
Business context
Axalta manufactures and distributes coatings globally through Performance Coatings (refinish and industrial) and Transportation Coatings (light and commercial vehicle). It reported operations in more than 130 countries and approximately 13,300 employees. Eight businesses were acquired in 2017, including North American Industrial Wood Coatings.
Financial performance
| Metric | 2017 | 2016 |
|---|---|---|
| Net sales | $4,352.9 | $4,068.8 |
| Total revenue | $4,377.0 | $4,092.7 |
| Income from operations | $362.3 | $403.6 |
| Net income | $47.7 | $44.6 |
| Net income attributable to controlling interests | $36.7 | $38.8 |
| Operating cash flow | $540.0 | $559.3 |
| Capital expenditures | $125.0 | $136.2 |
| Adjusted EBITDA | $885.2 | $902.4 |
- Net sales rose 7.0%; acquisitions contributed 7.4 percentage points, while organic volume growth was 0.2%, lower average selling prices reduced sales 1.0%, and currency translation added 0.4%.
- Cost of sales rose 10.0%; as a share of net sales it increased to 63.9% from 62.1%, reflecting raw-material inflation and lower selling prices. The resulting gross margin was approximately 36.1%, versus 37.9%.
- Operating margin was approximately 8.3%, down from 9.9%. Interest expense declined 17.5% to $147.0, while income-tax provision rose to $141.9 from $38.1. The 2017 effective tax rate was 74.8%.
- Adjusted EBITDA margin was approximately 20.3%, versus 22.2%. These are non-GAAP measures; the company cautions that its definitions may differ from those used by other companies.
- Performance Coatings sales rose 11.5% to $2,675.1 and segment Adjusted EBITDA increased 2.6% to $564.2. Transportation Coatings sales increased 0.4% to $1,677.8, but segment Adjusted EBITDA fell 9.0% to $321.0.
- Fourth-quarter revenue was $1,172.4, compared with $1,032.6 in Q4 2016. Q4 net loss was $55.6, versus a $35.1 loss; the 2017 quarter included the provisional $107.8 tax-reform charge and $28.7 of restructuring costs.
Cash, debt and liquidity
- Cash and cash equivalents were $769.8 at year-end, up from $535.4. Operating activities provided $540.0; investing activities used $689.6, including $564.4 for acquisitions net of cash acquired; financing activities provided $367.3.
- Year-end indebtedness was $3,915.6, up from $3,263.9. Long-term borrowings were $3,877.9. The company reported $364.5 of unused revolving-credit availability, net of letters of credit, and said it complied with debt covenants.
- Working capital was $1,233.4, compared with $977.9. Management expected cash, operating cash flow and available borrowing capacity to meet operating needs, debt service and planned capital expenditures over the next 12 months.
- The 2017 refinancing increased Dollar Term Loans to $2.0 billion, extended their maturity to 2024 and reduced interest rates; the company estimated annual cash-interest savings of approximately $7.7.
Material changes, outlook and risks
- Growth was substantially acquisition-driven. Axalta spent $564.4 on acquisitions during 2017; the acquisitions contributed $299.3 to year-over-year net sales. The Industrial Wood acquisition’s adjusted purchase price was $430.3.
- Axalta deconsolidated its Venezuelan subsidiary in 2017 after concluding that currency exchange restrictions, political instability and expected losses meant it no longer had accounting control. It recorded a $70.9 loss; its results are no longer consolidated.
- The Tax Cuts and Jobs Act produced a provisional, non-cash $107.8 tax charge, primarily from remeasuring deferred tax assets and establishing a valuation allowance. Axalta said the accounting remained subject to refinement and further guidance.
- Management discussed continued manufacturing-footprint realignment and growth initiatives, but the filing provides no specific consolidated revenue or earnings guidance.
- Key risks include raw-material cost and supply volatility, pricing pressure, cyclical vehicle and industrial demand, foreign-exchange exposure, customer and distributor concentration, acquisition integration, environmental and litigation contingencies, and substantial leverage. Raw materials represented 45%–55% of cost of sales; approximately 67% of 2017 sales were outside the United States.
- The filing disclosed corrections of immaterial prior-period revenue errors: certain refinish rebates and concessions were recognized in the wrong period. The company revised historical financial-statement presentations; it said the corrections did not affect reported operating cash flows.
- The independent auditor gave unqualified opinions on the financial statements and internal control over financial reporting. Eight 2017 acquisitions were excluded from the internal-control assessment under the first-year acquisition guidance.
Most important facts for investors to verify
- How much future growth and profitability depend on acquired businesses versus organic demand, particularly given the gap between sales growth and Adjusted EBITDA performance.
- Whether selling prices can recover raw-material inflation, especially in Transportation Coatings, where 2017 segment Adjusted EBITDA declined.
- The final tax effects of the U.S. tax legislation and the realizability of deferred tax assets and tax carryforwards.
- Debt-service capacity, variable-rate exposure, covenant headroom and the availability of cash held outside the United States.
- Integration progress and final purchase accounting for the 2017 acquisitions, and the financial effects of Venezuela’s deconsolidation.
- Potential changes to environmental, legal, customer-incentive and pension obligations, including matters for which ultimate costs or timing remain uncertain.