NL Industries, Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016; unaudited. The supplied filing is for NL Industries, Inc. (not “NLI Holdings, Inc.”). NL is primarily a holding company: it consolidates majority-owned CompX International and accounts for its approximately 30% interest in Kronos Worldwide under the equity method. Amounts below are U.S. dollars; financial statement amounts are rounded to millions unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales, primarily CompX | $27.1m | $28.9m | $54.2m | $56.8m |
| Gross margin | $8.5m (31%) | $9.2m (32%) | $16.7m (31%) | $17.7m (31%) |
| Income (loss) from operations | $0.6m | $(1.1)m | $(1.6)m | $1.9m |
| Equity in Kronos earnings (losses) | $0.5m | $(48.6)m | $(0.7)m | $(43.0)m |
| Net income (loss) attributable to NL stockholders | $0.8m ($0.02/share) | $(29.3)m ($(0.60)/share) | $(1.6)m ($(0.03)/share) | $(19.2)m ($(0.39)/share) |
| Cash provided by operating activities | Not presented by quarter | $7.5m | $12.7m |
Q2 sales fell 6% year over year, mainly because a government security customer’s 2015 orders did not recur. CompX operating income declined 14% to $3.7m. In the first half, operating cash flow fell $5.2m, reflecting lower insurance receipts, working-capital movements and lower CompX operating income, partly offset by lower cash taxes.
At June 30, NL reported $102.1m of cash and cash equivalents plus $4.7m of restricted cash, $133.8m of current assets and $24.2m of current liabilities (working capital of about $109.6m). NL and CompX had no outstanding debt; $40m was available under Valhi’s discretionary credit facility. NL reported $168.9m of total equity. Environmental remediation liabilities were $115.1m, including $11.4m current. NL’s shareholding in Kronos had a $133.0m carrying value and $184.9m quoted market value; its Valhi shares were carried at $22.6m.
Material changes and business drivers
- NL’s Q2 return to attributable profit chiefly reflects the swing in its equity-method result from Kronos, rather than a recovery in CompX sales. Kronos reported Q2 net income of $1.7m versus a $159.8m loss in Q2 2015; the prior-year loss included a large noncash tax valuation allowance.
- CompX sales declined 6% in Q2 and 5% for the first half. Security Products weakness, including the nonrecurring government project, was partly offset by Marine Components growth in the first half. Gross margin percentage was slightly lower in Q2, amid reduced production and fixed-cost absorption.
- Kronos first-half sales decreased 7% to $674.5m: TiO₂ selling prices fell 11%, partly offset by a 6% increase in sales volume. Q2 prices were improving: average prices at quarter-end were 4% above Q1-end and 2% above 2015 year-end. Kronos’ first-half operating income was $10.2m, down from $21.8m.
- NL’s accumulated other comprehensive loss improved by $4.7m in the first half, primarily reflecting marketable-security and currency translation gains. NL’s cash balance increased by $5.6m from year-end.
Outlook, risks and unusual items
- CompX outlook: Management expected 2016 sales to remain relatively comparable to 2015, excluding more than $5m of nonrecurring 2015 sales to one government security customer, absent improvement in general economic conditions. Management cited product development, market-share efforts and cost initiatives as potential upside, not a quantified forecast.
- Kronos outlook: Kronos expected 2016 operating income to exceed 2015, assuming global conditions did not deteriorate, citing potentially higher volumes and production, lower ore costs, workforce-reduction savings and price increases. Price realization, demand, competition, currency and production costs remain uncertain. Kronos had recognized a further $2.9m noncash tax valuation allowance in 2016; its German and Belgian deferred tax assets remained subject to future evidence of profitability.
- Management expected sufficient liquidity for short-term obligations and general corporate expenses comparable to 2015, but noted outcomes could differ from expectations. NL expected approximately $1m of 2016 pension and postretirement contributions.
- Lead-pigment litigation: NL is appealing the California Santa Clara judgment finding it and two other defendants jointly and severally liable for $1.15bn of abatement costs. NL recorded no accrual, stating a loss was not probable and could not be reasonably estimated; the filing warns a future loss could materially affect results, financial position and liquidity.
- Environmental exposure: NL accrued about $115m for approximately 40 sites; the upper end of reasonably possible estimated costs was about $173m, including the accrual. Costs for five additional sites could not be estimated. A new EPA special notice in June 2016 concerned a Missouri mine site.
- Other notable items include $3.4m of insurance recoveries in the first half of 2015, primarily from a litigation-defense-cost settlement, and a $3.0m noncash tax benefit in 2015 from reducing uncertain-tax-position reserves. NL reported no material change to its risk factors and stated disclosure controls were effective.
Important facts for investors to verify
- Track the California lead-pigment appeal and assess potential exposure despite the absence of an accrual.
- Monitor environmental remediation spending, the estimated-cost range and developments at sites where costs remain unestimable.
- Confirm CompX sales and margins against management’s outlook, especially the effect of the lost government project and Marine Components demand.
- Assess whether Kronos can sustain price increases and volume growth, reduce costs, and produce sufficient evidence to support any reversal of German and Belgian tax valuation allowances.
- Review cash generation and parent-company liquidity, including reliance on subsidiary and affiliate dividends and the discretionary nature of Valhi credit support.