GrafTech Reports Results in Challenging Environment
07/30/2014 - As it reported its quarterly financial results, GrafTech International said that it expects to operate its graphite electrode facilities at full capacity in the second half of the year.
GrafTech International Ltd. announced preliminary financial results for the second quarter ended 30 June 2014. The results are based on the company's preliminary second quarter earnings and are subject to adjustment as the impact of the previously announced impairment in the Engineered Solutions segment is finalized.
Joel Hawthorne, chief executive officer of GrafTech, commented, “In a challenging environment, our team remains focused on executing our plan to increase global competitiveness, reduce cost and improve profitability while simultaneously delivering the world class products our customers expect. The previously announced Industrial Materials rationalization actions have been substantially completed and we are now moving forward with additional actions to improve the quality of earnings in our Engineered Solutions segment to drive further value for our shareholders."
Please refer to GrafTech's earlier announcement today regarding an impairment charge in the Engineered Solutions segment, other charges, and additional actions being taken to improve profitability.
2014 Second Quarter Review
Industrial Materials Segment
Net sales for Industrial Materials decreased 11% to US$207 million in the second quarter of 2014, as compared toUS$231 million in the second quarter of 2013. The decline in revenue was driven primarily by lower realized graphite electrode pricing than previously anticipated, which was partially offset by higher graphite electrode volumes. Weaker needle coke sales volume also contributed to the revenue decline.
The Industrial Materials segment had an operating loss of US$(11) million in the second quarter of 2014, largely driven by charges in the quarter related to the rationalization initiatives announced in 2013. Operating income was US$8 million in the second quarter of 2013. Adjusted segment operating income (which excludes the impact of US$11 million of rationalization and related charges) was approximately breakeven in the second quarter of 2014. The reduction in adjusted segment operating income is primarily due to weaker graphite electrode realized selling prices and lower needle coke sales volume and costs associated with the regularly scheduled five-year maintenance down time at the Seadrift facility.
The 2014 second quarter five-year planned maintenance down time at Seadrift was completed on time and under budget. However, several weeks following the restart of operations, Seadrift experienced an unplanned outage in July lasting approximately three weeks. This resulted in minimal disruption to customer orders due to the current inventory position but will negatively impact costs in the third quarter of 2014.
Mr. Hawthorne commented, “Our previously announced rationalization initiatives in Industrial Materials will significantly improve GrafTech's competitiveness by reducing cost and increasing operating efficiencies and position us well to capitalize on the recovery in global steel demand. These initiatives are expected to generate US$75 million in annual cost savings, and we expect to recognize approximately half of these savings in the second half of the year."
Engineered Solutions Segment
Net sales for Engineered Solutions increased 11% to US$78 million in the second quarter of 2014 compared to US$70 million in the second quarter of 2013. The increase in revenue was primarily driven by new product sales of high temperature furnace systems and thermal solutions serving the advanced consumer electronics market.
The recent deterioration of the outlook of profitability related to production of graphite and related products primarily servicing the solar industry and the migration of the supply chain to a very competitive China market caused the company to re-evaluate its participation in those product lines. This product line reassessment resulted in an estimated charge of US$137 million, primarily related to the impairment of long-lived assets and inventory in our advanced graphite materials business. Related initiatives are expected to yield approximately US$18 million of annual cost savings and the actions are targeted to be substantially complete by the end of the year. The initiatives are expected to contribute approximately US$1 million in savings in 2014.
Largely due to these charges, operating income for the Engineered Solutions segment was US$(133) million in the second quarter of 2014 versus US$8 million in the same period in 2013. Adjusted segment operating income* (which excludes the impact of US$138 million of charges, including the above estimated US$137 million) was US$6 million in the second quarter of 2014.
Mr. Hawthorne commented, "We are pleased with the over 20% Engineered Solutions revenue growth in the first half of the year. However, looking forward, we expect that the temporary delays in high temperature furnace customer orders and weaker consumer electronic product launches will drive lower sales in the third quarter, resulting in the lowering of 2014 revenue growth expectations and related operating margins."
For the full year, the company expects segment revenue to increase 5–10% and operating income margins to be in the range of 8–10%.
Corporate
Total Company selling and administrative expenses and research and development expenses were US$35 million for the second quarter of 2014, compared to US$33 million in the second quarter of 2013. Excluding the incremental costs associated with our proxy contest, overhead expense in the current quarter was US$33 million.
Interest expense was US$9 million in the second quarter of 2014, which was flat compared to the second quarter of 2013.
GrafTech also recorded a US$59 million non-cash charge in the second quarter of 2014 to increase the valuation allowance against certain U.S. deferred income tax assets. The non-cash tax expense is a result of near-term reduced profit expectations but does not result in or limit the company's ability to utilize tax losses carried forward in the future.
Outlook
According to the World Steel Association, 2014 global steel production increased 2%, excluding China, through the end of June 2014. For the same period, the European Union and the Middle East continued to recover with year-over-year steel production growth rates of four and nine%, respectively. North America steel production and operating rates continue to show improvement as well. GrafTech's global steel customers remain cautiously optimistic as trends indicate stable to improving conditions for the remainder of this year.
Mr. Hawthorne commented, “Our Industrial Materials business continues to see volume recover and we expect to operate our graphite electrode facilities at full capacity in the second half of the year. Our Engineered Solutions segment continues to execute on its plan; however, the timing of product launches and customer orders are expected to unfavorably impact sales and margins in the third quarter.”
GrafTech targets 2014 EBITDA* to be in the range of US$135 million to US$150 million, a reduction in the company’s prior estimate that reflects unanticipated delays in Engineered Solutions customer orders, weaker graphite electrode pricing expectations and costs associated with an unplanned outage at Seadrift in July 2014. The Company targets third quarter EBITDA* to be in the range of US$30 million to US$40 million. The implied improvement in fourth quarter EBITDA* is expected to be largely driven by the recovery of Engineered Solutions sales, normalized operations at Seadrift and the benefits of the company-wide rationalization initiatives.
Joel Hawthorne, chief executive officer of GrafTech, commented, “In a challenging environment, our team remains focused on executing our plan to increase global competitiveness, reduce cost and improve profitability while simultaneously delivering the world class products our customers expect. The previously announced Industrial Materials rationalization actions have been substantially completed and we are now moving forward with additional actions to improve the quality of earnings in our Engineered Solutions segment to drive further value for our shareholders."
Please refer to GrafTech's earlier announcement today regarding an impairment charge in the Engineered Solutions segment, other charges, and additional actions being taken to improve profitability.
2014 Second Quarter Review
-
Net sales were US$284 million, a decrease of 6%, compared to US$301 million in the same period of the prior year.
- Industrial Materials segment revenue declined 11% primarily due to weaker graphite electrode realized pricing and lower needle coke sales volume.
- Engineered Solutions segment revenue increased 11% primarily due to higher sales volumes in advanced consumer electronics and high temperature furnace applications.
- Preliminary earnings were a net loss of US$(160) million, or US$(1.18) per diluted share, versus net income of US$4 million, orUS$0.03 per diluted share in the same period of the prior year. The preliminary net loss in the second quarter of 2014 includes an estimated US$154 million, net of tax, of special charges. Excluding these charges, adjusted net loss was US$(6) million, or US$(0.05) per diluted share.
- EBITDA* (which excludes special charges) was US$28 million as compared to US$40 million in the same period of the prior year.
- Net cash provided by operating activities was US$34 million versus a net cash use of US$(6) million in the second quarter of 2013. Operating cash flow in the second quarter of 2014 includes approximately US$9 million of rationalization and related cash costs.
- Net debt* was US$531 million as compared to US$540 million at the end of 2013.
Industrial Materials Segment
Net sales for Industrial Materials decreased 11% to US$207 million in the second quarter of 2014, as compared toUS$231 million in the second quarter of 2013. The decline in revenue was driven primarily by lower realized graphite electrode pricing than previously anticipated, which was partially offset by higher graphite electrode volumes. Weaker needle coke sales volume also contributed to the revenue decline.
The Industrial Materials segment had an operating loss of US$(11) million in the second quarter of 2014, largely driven by charges in the quarter related to the rationalization initiatives announced in 2013. Operating income was US$8 million in the second quarter of 2013. Adjusted segment operating income (which excludes the impact of US$11 million of rationalization and related charges) was approximately breakeven in the second quarter of 2014. The reduction in adjusted segment operating income is primarily due to weaker graphite electrode realized selling prices and lower needle coke sales volume and costs associated with the regularly scheduled five-year maintenance down time at the Seadrift facility.
The 2014 second quarter five-year planned maintenance down time at Seadrift was completed on time and under budget. However, several weeks following the restart of operations, Seadrift experienced an unplanned outage in July lasting approximately three weeks. This resulted in minimal disruption to customer orders due to the current inventory position but will negatively impact costs in the third quarter of 2014.
Mr. Hawthorne commented, “Our previously announced rationalization initiatives in Industrial Materials will significantly improve GrafTech's competitiveness by reducing cost and increasing operating efficiencies and position us well to capitalize on the recovery in global steel demand. These initiatives are expected to generate US$75 million in annual cost savings, and we expect to recognize approximately half of these savings in the second half of the year."
Engineered Solutions Segment
Net sales for Engineered Solutions increased 11% to US$78 million in the second quarter of 2014 compared to US$70 million in the second quarter of 2013. The increase in revenue was primarily driven by new product sales of high temperature furnace systems and thermal solutions serving the advanced consumer electronics market.
The recent deterioration of the outlook of profitability related to production of graphite and related products primarily servicing the solar industry and the migration of the supply chain to a very competitive China market caused the company to re-evaluate its participation in those product lines. This product line reassessment resulted in an estimated charge of US$137 million, primarily related to the impairment of long-lived assets and inventory in our advanced graphite materials business. Related initiatives are expected to yield approximately US$18 million of annual cost savings and the actions are targeted to be substantially complete by the end of the year. The initiatives are expected to contribute approximately US$1 million in savings in 2014.
Largely due to these charges, operating income for the Engineered Solutions segment was US$(133) million in the second quarter of 2014 versus US$8 million in the same period in 2013. Adjusted segment operating income* (which excludes the impact of US$138 million of charges, including the above estimated US$137 million) was US$6 million in the second quarter of 2014.
Mr. Hawthorne commented, "We are pleased with the over 20% Engineered Solutions revenue growth in the first half of the year. However, looking forward, we expect that the temporary delays in high temperature furnace customer orders and weaker consumer electronic product launches will drive lower sales in the third quarter, resulting in the lowering of 2014 revenue growth expectations and related operating margins."
For the full year, the company expects segment revenue to increase 5–10% and operating income margins to be in the range of 8–10%.
Corporate
Total Company selling and administrative expenses and research and development expenses were US$35 million for the second quarter of 2014, compared to US$33 million in the second quarter of 2013. Excluding the incremental costs associated with our proxy contest, overhead expense in the current quarter was US$33 million.
Interest expense was US$9 million in the second quarter of 2014, which was flat compared to the second quarter of 2013.
GrafTech also recorded a US$59 million non-cash charge in the second quarter of 2014 to increase the valuation allowance against certain U.S. deferred income tax assets. The non-cash tax expense is a result of near-term reduced profit expectations but does not result in or limit the company's ability to utilize tax losses carried forward in the future.
Outlook
According to the World Steel Association, 2014 global steel production increased 2%, excluding China, through the end of June 2014. For the same period, the European Union and the Middle East continued to recover with year-over-year steel production growth rates of four and nine%, respectively. North America steel production and operating rates continue to show improvement as well. GrafTech's global steel customers remain cautiously optimistic as trends indicate stable to improving conditions for the remainder of this year.
Mr. Hawthorne commented, “Our Industrial Materials business continues to see volume recover and we expect to operate our graphite electrode facilities at full capacity in the second half of the year. Our Engineered Solutions segment continues to execute on its plan; however, the timing of product launches and customer orders are expected to unfavorably impact sales and margins in the third quarter.”
GrafTech targets 2014 EBITDA* to be in the range of US$135 million to US$150 million, a reduction in the company’s prior estimate that reflects unanticipated delays in Engineered Solutions customer orders, weaker graphite electrode pricing expectations and costs associated with an unplanned outage at Seadrift in July 2014. The Company targets third quarter EBITDA* to be in the range of US$30 million to US$40 million. The implied improvement in fourth quarter EBITDA* is expected to be largely driven by the recovery of Engineered Solutions sales, normalized operations at Seadrift and the benefits of the company-wide rationalization initiatives.
