GrafTech International Ltd. — Q2 2009 Form 10-Q
Business context and period: The filing reports the quarter and six months ended June 30, 2009. GrafTech makes graphite electrodes and refractory products through Industrial Materials, and advanced graphite and natural graphite products through Engineered Solutions. Amounts below are U.S. dollars; financial statement figures are unaudited. Comparative 2008 results were retrospectively adjusted for the accounting treatment of previously outstanding convertible debentures.
Financial performance
| Metric | Q2 2009 | Q2 2008 | Six months 2009 | Six months 2008 |
|---|---|---|---|---|
| Net sales | $157.8 million | $319.5 million | $291.8 million | $609.5 million |
| Gross profit / margin | $45.7 million / 29.0% | $114.4 million / 35.8% | $77.8 million / 26.7% | $222.5 million / 36.5% |
| Operating income | $19.5 million | $88.6 million | $27.9 million | $171.7 million |
| Net income (loss) | $(37.1) million | $45.9 million | $(28.6) million | $82.5 million |
| Basic EPS | $(0.31) | $0.43 | $(0.24) | $0.79 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $60.4 million | $102.4 million |
- Q2 sales declined 50.6% year over year; first-half sales declined 52.1%. The main driver was sharply lower volume amid the global steel downturn and customer inventory reduction. Favorable price/mix partially offset the decline.
- Industrial Materials sales were $129.8 million in Q2 and $234.4 million in the first half, down 53% and 55%, respectively. Engineered Solutions sales were $27.9 million and $57.4 million, down 37% and 33%.
- Segment operating income fell to $16.4 million in Q2 and $23.2 million in the first half for Industrial Materials; Engineered Solutions generated $3.1 million and $4.7 million, respectively.
- At June 30, cash and equivalents were $17.6 million; current assets $391.8 million; current liabilities $130.0 million; total assets $844.2 million; and stockholders’ equity $510.5 million. Working capital was approximately $261.8 million.
- Debt included $12.0 million short-term and $53.7 million long-term, including $33.3 million drawn on the Revolving Facility and $19.9 million principal of Senior Notes. Capital expenditures were $30.0 million in the first half.
Material changes and unusual items
- The company recorded a $52.8 million noncash impairment of its Seadrift investment in Q2, reflecting lower expected volumes, growth and profitability; the total Q2 equity-loss and write-down charge was $54.6 million. The first-half total was $53.4 million. The investment carrying value fell to $65.4 million.
- Lower production led to $9.3 million of first-half costs for production overheads in excess of normal absorption. Higher raw-material and production costs also weighed on margins despite lower volumes and costs overall.
- Interest expense declined to $1.4 million in Q2 and $3.1 million in the first half, compared with $5.8 million and $13.4 million, respectively, mainly reflecting the 2008 conversion of debentures and reduction in debt.
- First-half operating cash flow declined by $42.0 million year over year. Receivables and inventory reductions supported cash generation, partly offset by lower accounts payable and accruals. Investing cash use was $29.7 million; financing cash use was $25.5 million.
- Effective July 1, 2009, a postretirement plan amendment reduced the accumulated benefit obligation by $0.8 million, to be recorded in Q3.
Outlook, liquidity and risks
- Management said economic and market conditions remained highly volatile and it could not provide a full-year 2009 outlook. It expected difficult Industrial Materials conditions to continue through at least the second half, and reduced demand for Engineered Solutions during 2009. The filing noted signs that steel-customer electrode inventory destocking might be completed by year-end.
- Expected 2009 capital expenditures were approximately $50–$55 million; expected depreciation was approximately $35 million.
- Management reported covenant compliance at June 30 and expected compliance over the following 12 months. The Revolving Facility matures in July 2010; management expected to extend or refinance it but gave no assurance it could do so on comparable terms or at all.
- The facility permits up to $215 million of borrowings, subject to conditions. At June 30, $165.7 million was reported available after outstanding loans and letters of credit. Factoring and supply-chain financing provided additional working-capital liquidity, but lower sales, receivables or purchases could constrain use.
- Key risks include continued weak steel demand and utilization, delayed customer orders, pricing and competitive pressure, raw-material and energy costs, currency movements, customer credit quality, reduced financing access, covenant compliance, and further impairment of Seadrift. The company had loaned Seadrift $6.0 million on July 2, 2009 and agreed to lend up to $8.5 million in total under the arrangement.
- Management stated that various legal and environmental matters were not expected to have a material adverse effect, while noting that their ultimate disposition could not be determined.
Important facts for investors to verify
- Whether the Seadrift impairment assumptions prove accurate and whether additional impairment or funding support is required.
- Whether GrafTech refinances or extends the Revolving Facility before its July 2010 maturity, and whether borrowing capacity remains available under facility conditions.
- Whether steel demand and customer inventory destocking recover as management anticipated, and the resulting effects on electrode sales, production utilization and margins.
- How much receivables factoring and supply-chain financing remain accessible if sales, customer credit quality or purchasing needs decline.
- The effect of the reported $9.3 million under-absorption charge, foreign-exchange exposure, and other cost pressures on subsequent results and cash flow.