Rayonier Advanced Materials Inc. — Q2 2014 Form 10-Q
Reporting period: Three and six months ended June 28, 2014. The company became an independent public company in a June 27 spin-off from Rayonier. Pre-separation comparative results represent the performance fibers business on a combined basis, including allocated Rayonier costs, and may not reflect standalone expenses.
Business context and results
The company manufactures high-value cellulose products at plants in Georgia and Florida. Its products include cellulose specialties, commodity viscose and absorbent materials. The Jesup expansion, completed in 2013, added cellulose specialties capacity; the company plans to ramp production toward capacity by 2018 as markets absorb the additional volume.
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net sales | $212.5m | $254.2m | $456.0m | $539.4m |
| Gross margin | $52.3m | $84.4m | $107.1m | $181.7m |
| Operating income | $6.2m | $71.6m | $49.6m | $159.0m |
| Net income | $4.6m | $49.0m | $35.5m | $129.0m |
| Diluted EPS | $0.11 | $1.16 | $0.84 | $3.06 |
| Operating cash flow | — | $103.0m | $116.2m |
Reported gross margin percentage was 24.4% in Q2 and 23.5% for the first half, versus 33.1% and 33.8%, respectively, in 2013. Operating margin was 2.8% and 11.0%, versus 28.3% and 29.5%. Q2 cellulose specialties sales fell to $201m from $233m; six-month sales fell to $407m from $480m.
Material changes and key financial position
- Sales declined 16% in Q2 and 15% in the first half. Management attributed the decline principally to lower cellulose specialties prices and volumes, timing of orders and production issues. Cellulose specialties prices averaged $1,768 per metric ton in Q2 versus $1,902 a year earlier; volumes were 114,000 versus 123,000 metric tons.
- Operating income fell sharply, reflecting lower prices and volumes, adverse product mix and higher wood, energy and depreciation costs, as well as spin-off-related costs. Wet-weather-related wood costs reduced results by $7m in Q2 and $12m year to date; energy costs reduced them by $2m and $7m, respectively.
- Six-month investing cash outflow was $63.9m, including $50.7m of capital expenditures and $12.7m for timber deeds. Adjusted free cash flow, a company-defined non-GAAP measure, was $52m versus $27m; it excludes strategic capital expenditures.
- At June 28, cash was $19.6m; total debt was $948.9m, including $550m of 5.50% senior notes due 2024 and variable-rate term and revolver borrowings. Stockholders’ deficit was $38.8m, following the spin-off distributions and transfers.
- Revolver availability was $149m at June 28, net of letters of credit. On June 30, a $75m delayed-draw term loan repaid the same amount of revolver borrowings, leaving total debt unchanged and increasing revolver availability to $224m.
Outlook, risks and unusual items
- Management lowered its 2014 outlook: it expected segment EBITDA to be approximately 25% below 2013, 10 percentage points below prior guidance. It cited costs above budget and expected to remain elevated, and limited ability to place incremental cellulose specialties volume. Committed 2014 cellulose specialties sales volumes were described as consistent with 2013; the targeted 30,000 incremental tons would be introduced as the market could absorb them.
- Capital expenditures were expected to be $75m–$80m for 2014; income tax payments $35m–$40m; second-half environmental payments for disposed operations approximately $4m. The company expected no mandatory or discretionary pension contributions in 2014.
- Q2 included an income tax benefit of $1.6m, versus tax expense of $22.6m a year earlier; the reported Q2 effective tax rate was negative 53.3%. Management attributed the rate chiefly to reversal of a tax reserve related to the cellulosic biofuel producer credit.
- In connection with the separation, the company assumed $73.8m of environmental liabilities and $73.8m of employee-benefit liabilities. Environmental liabilities for disposed operations totaled $92.3m at June 28, including an $18.4m increase associated with required financial assurance. The company disclosed reasonably possible additional environmental losses of up to $33m beyond recorded liabilities.
- The Altamaha Riverkeeper lawsuit alleges discharge-related violations at the Jesup plant and seeks injunctive relief and monetary damages; the amount sought was not determinable. The company disputes the allegations and intends to defend the case. Fernandina bargaining agreements covering about 225 hourly employees had expired; negotiations continued under extensions, and a work stoppage could materially affect the business.
- Credit facilities include quarterly leverage and interest-coverage tests, with compliance measurement beginning in Q3 2014. Management stated that operating cash flow, revolver availability and potential capital-market access should be adequate for anticipated needs.
Important facts for investors to verify
- Reconcile the filing’s differing descriptions of separation and legal costs, including the amount recorded in the notes and the larger non-GAAP adjustments in MD&A.
- Track cellulose specialties pricing, production reliability, customer qualification and the pace at which additional capacity can be placed.
- Review quarterly covenant compliance, debt balances, available liquidity and interest-rate exposure; a 1 percentage-point rate move was estimated to affect annual interest expense by about $4m.
- Monitor environmental remediation estimates, financial-assurance requirements and the disclosed potential losses above recorded liabilities.
- Follow the Jesup litigation and Fernandina labor negotiations, and assess whether standalone costs differ from historical parent-company allocations.