UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
x | Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the fiscal year ended December 31, 2018
OR
¨ | Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period from to
Commission file number 1-12001
ALLEGHENY TECHNOLOGIES INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware | 25-1792394 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) | |
1000 Six PPG Place, Pittsburgh, Pennsylvania | 15222-5479 | |
(Address of principal executive offices) | (Zip Code) | |
Registrant’s telephone number, including area code: (412) 394-2800
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Name of each exchange on which registered | |
Common Stock, $0.10 Par Value | New York Stock Exchange | |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant is well known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No ¨
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No x
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer | x | Accelerated filer | ¨ | |||
Non-accelerated filer | ¨ (Do not check if a smaller reporting company) | Smaller reporting company | ¨ | |||
Emerging growth company | ¨ | |||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
On February 8, 2019, the Registrant had outstanding 125,684,396 shares of its Common Stock.
The aggregate market value of the Registrant’s voting stock held by non-affiliates at June 30, 2018 was approximately $3.2 billion, based on the closing price per share of Common Stock on June 29, 2018 of $25.12 as reported on the New York Stock Exchange. Shares of Common Stock known by the Registrant to be beneficially owned by directors and officers of the Registrant subject to the reporting and other requirements of Section 16 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), are not included in the computation. The Registrant, however, has made no determination that such persons are “affiliates” within the meaning of Rule 12b-2 under the Exchange Act.
Documents Incorporated By Reference
Selected portions of the Proxy Statement for the Annual Meeting of Stockholders to be held on May 9, 2019 are incorporated by reference into Part III of this Report.
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INDEX
Page Number | |
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PART I
Item 1. Business
The Company
Allegheny Technologies Incorporated is a Delaware corporation with its principal executive offices located at 1000 Six PPG Place, Pittsburgh, Pennsylvania 15222-5479, telephone number (412) 394-2800, Internet website address www.atimetals.com. References to “Allegheny Technologies,” “ATI,” the “Company,” the “Registrant,” “we,” “our” and “us” and similar terms mean Allegheny Technologies Incorporated and its subsidiaries, unless the context otherwise requires.
Our Business
ATI’s strategic vision is to be an aligned and integrated specialty materials and components company. Our strategies target the products and global growth markets that require and value ATI’s technical and manufacturing capabilities. Our largest markets are aerospace & defense, representing approximately 50% of total sales, led by products for jet engines. Additionally, we have a strong presence in the oil & gas, medical, electrical energy and automotive markets. ATI is a market leader in manufacturing differentiated products that require our unique manufacturing and precision machining capabilities as well as our innovative new product development competence. Our capabilities range from alloy development to final production of highly engineered finished components, as well as producing powders used in next-generation jet engine forgings and 3D-printed aerospace products.
We operate in two business segments: High Performance Materials & Components (HPMC), and Flat Rolled Products (FRP). Over 75% of 2018 HPMC business segment sales were to the aerospace & defense markets, and nearly half of HPMC’s total sales are products for commercial jet engines. Increasing demand for commercial aerospace products has been the main source of sales and segment operating profit growth for HPMC over the last few years, and is expected to continue to drive HPMC and overall ATI results for the next several years due to the ongoing expansion in production of next generation jet engines and airplanes. Other major HPMC end markets include medical, oil & gas, electrical energy, and construction & mining. HPMC produces a wide range of high performance materials and components, including advanced metallic powder alloys, made from titanium and titanium-based alloys, nickel-based alloys and superalloys, and a variety of other specialty materials. These materials are made in a variety of product forms that include precision forgings, castings, machined parts, 3D-printed parts and others.
Our FRP segment serves a diverse group of end markets, with the oil & gas market, including chemical and hydrocarbon processing, and the automotive market collectively representing over 45% of 2018 sales. Other major end markets for FRP include aerospace & defense, food equipment and appliances, construction & mining, electronics, communication equipment and computers. FRP produces nickel-based alloys, specialty alloys, and titanium and titanium-based alloys, and stainless steel in a variety of product forms including plate, sheet, engineered strip, and Precision Rolled Strip products.
Strategic end use markets for our products include:
Aerospace & Defense. We are a world leader in the production of specialty materials and components for both commercial and military jet engines and airframes supporting customer needs for initial build requirements and for spare parts. Through alloy development, internal growth efforts, and long-term supply agreements on current and next-generation jet engines and airframes, we are well positioned with a fully qualified asset base to meet the expected multi-year demand growth from the commercial aerospace market.
Typical aerospace applications for nickel-based alloys and superalloys and advanced metallic powders include jet engine shafts, discs, blades, vanes, rings and casings. Nickel-based alloys and superalloys remain extremely strong at high temperatures and resist degradation under extreme conditions. The next generation jet engines use advanced nickel-based superalloys and metallic powder alloys due to increased fuel efficiency requirements that require hotter-burning engines. Our specialty materials are also used in the manufacture of aircraft landing gear and structural components.
We are a global industry leader in isothermal and hot-die forging technologies for advanced aerospace components. Capital investments for our fourth iso-thermal press and heat-treating capacity expansion at our Iso-Thermal Forging Center of Excellence in Cudahy, WI began in 2018 and will continue through 2019. We produce highly sophisticated components that have differing mechanical properties across a single product unit and are highly-resistant to fatigue and temperature effects. Our precision forgings are used for jet engine components, structural components for aircraft, helicopters, launch vehicles, and other demanding applications. ATI provides a full range of post-production inspection and machining with the certified quality needed to meet demanding application requirements. ATI has the technology, equipment, and know-how to cast titanium parts in some of the largest and most complex sizes and shapes currently being manufactured for aerospace applications, and our
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advanced manufacturing capabilities offer OEMs the freedom to design components with intricate geometries, cored passageways, cast-in features, and sculpted surfaces.
Products and components made from titanium and titanium-based alloys, such as jet engine components including blades, vanes, discs, and casings, and airframe components such as structural members, landing gears, hydraulic systems, and fasteners, are critical in aerospace applications. These materials and components possess an extraordinary combination of properties that help to increase jet engine fuel efficiency and product longevity, including superior strength-to-weight ratio, elevated temperature resistance, low coefficient of thermal expansion, and extreme corrosion resistance.
Our specialty materials and components for government aerospace and defense applications include naval nuclear products, military jet engines, fixed wing and rotorcraft products, and armor applications. We expect to increase our sales in government defense applications in future years, and in 2017 announced a long-term supply agreement with General Dynamics Land Systems for titanium-based armor plate products for both U.S. and U.K. military ground defense vehicles that utilize a range of ATI’s manufacturing assets involving both the HMPC and FRP segments.
We continuously seek to develop and manufacture innovative new alloys to better serve the needs of the aerospace & defense markets. For example, ATI 718Plus® nickel-based superalloy, Rene 65 near-powder superalloy, and our powder alloys have won significant share in the current and next-generation jet engines. ATI’s metallic powder technology delivers alloy compositions and refined microstructures that offer increased performance and longer useful lives in high-temperature aerospace environments as well as improving the efficiency of jet engines. Our metallic powder products deliver the most uniform grain structure achievable in near-net shapes. We continue to increase our production capacity for advanced metallic powders for use in next-generation aerospace products, including additive manufacturing applications. In 2018, we acquired the assets of Addaero Manufacturing, a leader in metal alloy-based additive manufacturing, to expand ATI’s capabilities to provide comprehensive customer solutions ranging from the design of parts for additive manufacturing to the production of ready-to-install components. Our nickel-based powder alloy expansion in North Carolina was completed in 2017 and achieved initial commercial qualifications in early 2018. In 2018, capital investments were made for a titanium powder expansion located on the same site.
Oil & Gas. The environments in which oil & gas can be found in commercial quantities have become more challenging, involving deep offshore wells, high pressure and high temperature conditions in sour wells and unconventional sources, such as shale oil & gas, and oil sands. These challenging offshore environments are located further off the continental shelf, including locations in arctic and tropical waters more difficult than previously-sourced locations. They are often more than one mile below the water’s surface, and up to two miles below the ocean floor. We enable our customer’s success in these applications by developing and producing specialty materials for equipment that can operate for up to 30 years in these harsh environments.
Both of our business segments produce specialty materials that are critical to the oil & gas industry. Our specialty materials, including nickel-based alloys, stainless and duplex alloys, and other specialty alloys, have the strength and corrosion-resistant properties necessary to meet these challenging operating conditions. Several of our strip, plate and cast products meet NORSOK qualification standards, which are developed by the Norwegian petroleum industry and are intended to identify materials used in oil and gas applications that are safe and cost-effective.
Electrical Energy. Our specialty materials are widely used in the global electrical power generation and distribution industries. We believe energy needs and environmental policies and the electrification of developing countries will continue to drive demand for our specialty materials and products for use in this industry over the long term.
For electrical power generation, our specialty materials, including corrosion-resistant alloys (CRAs), are used in coal, nuclear, and natural gas applications. In coal-fired plants, our CRAs are used for pipe, tube, and heat exchanger applications in water systems in addition to pollution control scrubbers. Our CRAs are also used in water systems, fuel cladding components, and process equipment for nuclear power plants. For nuclear power plants, we are an industry pioneer in producing nuclear reactor fuel cladding and structural components utilizing zirconium and hafnium alloys. We are a technology leader for large diameter components used in natural gas land-based turbines for power generation. For alternative energy generation, our alloys are used for solar, fuel cell and geothermal applications.
Medical. ATI’s advanced specialty materials are used in medical device products that enhance the quality of people’s lives around the world.
Our specialty alloys are used for replacement knees, hips and other prosthetic devices. The use of our alloys in these replacement devices offer the potential of longer product lifespans versus previous implant generations.
Our biocompatible nickel-titanium shape memory alloy is used for stents to support collapsed or clogged blood vessels. Reduced in diameter for insertion, these stents expand post-implant to the original tube-like shape due to the metal’s
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superelasticity. In addition, our ultra fine diameter (0.002 inch/0.051 mm) titanium wire is used for screens to prevent blood clots from entering critical areas of the body.
Manufacturers of magnetic resonance imaging (MRI) devices rely on our niobium superconducting wire to help produce electromagnetic fields that allow physicians to safely scan the body’s soft tissue. We recently announced that we entered into a joint technology development agreement with Bruker Energy & Supercon Technologies, to advance state-of-the-art niobium-based superconductors, including those used in MRI magnets for the medical industry, and preclinical MRI magnets used in the life-science tools industry.
Automotive. For automobiles, ATI specialty materials are used for powertrain and structural parts, exhaust systems and emission control parts, gaskets, air bag inflator housings, windshield wipers and blades, fuel systems, fasteners, hose clamps, gaskets and other components. Stainless steel is also used on exterior trim for its bright appearance and for internal components for its corrosion resistance.
ATI’s advanced nickel-based alloys and specialty alloys in flat-rolled products are used primarily in engine and exhaust applications for the automotive market. We expect global demand to grow for our high-value precision and engineered strip for automotive applications such as gaskets, hose clamps, and turbo chargers. Our Hot-Rolling and Processing Facility (HRPF) provides the capability to produce high-value alloys in wider and longer product forms. As automotive engine operating temperatures rise due to the increasing use of turbochargers to improve fuel efficiency, we believe our expertise in heat-resistant aerospace alloys will enable us to expand our share of this market, improving our high-value product mix.
Business Segments
Our two business segments accounted for the following percentages of total revenues of $4.05 billion, $3.53 billion, and $3.13 billion for the years ended December 31, 2018, 2017, and 2016, respectively.
2018 | 2017 | 2016 | |||||||
High Performance Materials & Components | 58 | % | 59 | % | 62 | % | |||
Flat Rolled Products | 42 | % | 41 | % | 38 | % | |||
Information with respect to our business segments is presented below and in Note 16 of the notes to the consolidated financial statements.
High Performance Materials & Components Segment
Our HPMC segment produces a wide range of high performance specialty materials, parts and components for several major end markets, including aerospace & defense, medical, electrical energy, and oil & gas. 76% of the HPMC segment’s 2018 revenues were derived from the aerospace & defense markets. Demand for our products is driven primarily by the commercial aerospace cycle. Large aircraft and jet engines are manufactured by a small number of companies, such as The Boeing Company, Airbus S.A.S. (an Airbus Group company) including the former operations of Bombardier Aerospace, and Embraer (Empresa Brasileira de Aeronáutica S.A.) for airframes, and GE Aviation (a division of General Electric Company), Rolls-Royce plc, Pratt & Whitney (a division of United Technologies Corporation), Snecma (SAFRAN Group), and various joint ventures that manufacture jet engines. These companies, and their suppliers, form a substantial part of our customer base in this business segment. The loss of one or more of our customers in the aerospace & defense markets could have a material adverse effect on ATI’s results of operations and financial condition.
Our products are manufactured from a wide range of advanced materials including metallic powder alloys, made from titanium and titanium-based alloys, nickel-based alloys and superalloys, and a variety of other specialty materials. These materials are made into a variety of product forms that include precision forgings, castings, machined parts and others. We are integrated across these alloy systems in melt, forging, finishing, investment casting, and machining processes. Most of the products in this segment are sold directly to end-use customers, and a significant portion of our HPMC segment products are sold under multi-year agreements.
Principal competitors in the HPMC segment include: Berkshire Hathaway Inc., for nickel-based alloys and superalloys and specialty steel alloys, titanium and titanium-based alloys, precision forgings and investment castings through its ownership of Precision Castparts Corporation and subsidiaries; Arconic Inc., for titanium and titanium-based alloys and precision forgings through its ownership of RTI International Metals, Inc. and Firth Rixson; Carpenter Technology Corporation for nickel-based alloys and superalloys and specialty steel alloys; VSMPO-AVISMA for titanium and titanium-based alloys; and Aubert & Duval for precision forgings.
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Flat Rolled Products Segment
Our FRP segment produces nickel-based alloys, specialty alloys, titanium and titanium-based alloys, and stainless steel in a variety of product forms including plate, sheet, engineered strip, and Precision Rolled Strip® products. The major end markets for our flat-rolled products are oil & gas, automotive, aerospace & defense, food processing equipment and appliances, construction & mining, electronics, communication equipment and computers. The operations in this segment include ATI Flat Rolled Products and the Chinese joint venture company known as Shanghai STAL Precision Stainless Steel Company Limited (STAL), in which we hold a 60% interest. Segment results also include our 50% interest in the industrial titanium joint venture known as Uniti LLC and our 50% interest in Allegheny & Tsingshan Stainless (A&T Stainless).
Nickel-based alloys, titanium, and stainless steel sheet products are used in a wide variety of industrial and consumer applications. In 2018, approximately 75% of our stainless sheet products by volume were sold to independent service centers, which have slitting, cutting or other processing facilities, with the remainder sold directly to end-use customers.
Engineered strip and Precision Rolled Strip products, which are under 0.015 inches thick, are used by customers to fabricate a variety of products primarily in the automotive, construction, and electronics markets. In 2018, approximately 90% of these products by volume were sold directly to end-use customers or through our own distribution network, with the remainder sold to independent service centers. In 2018, we completed the construction of our third Precision Rolled Strip manufacturing facility at our STAL joint venture in China.
Nickel-based alloy, titanium, and stainless steel plate products are primarily used in aerospace, defense, and corrosion and industrial markets. In 2018, approximately 60% of our plate products by volume were sold to independent service centers, with the remainder sold directly to end-use customers.
Competition in the Flat Rolled Products segment includes domestic stainless steel competitors North American Stainless, Outokumpu Stainless USA, LLC, and AK Steel Corporation, as well as imports from numerous foreign producers, including Aperam, based in Europe. Competitors for nickel-based alloys and superalloys and specialty steel alloys include Haynes International and VDM Metals GmbH.
In 2018, we took important steps toward improving the capacity utilization of our HRPF, most notably with the A&T Stainless joint venture to manufacture 60” wide stainless sheet, as well as the agreement for carbon steel hot-rolling conversion services with NLMK USA, which is expected to ramp up throughout 2019. In late March 2018, ATI filed for an exclusion from the recently enacted Section 232 tariffs on behalf of the A&T Stainless joint venture. In the absence of an exclusion, these slabs are subject to the 25% tariff levied on all stainless steel products imported into the United States. We continue to work within the U.S. Commerce Department’s Section 232 tariff exclusion request process to secure an exclusion on behalf of the A&T Stainless joint venture.
Significant global overcapacity for stainless steel flat-rolled products has intensified the price competition in this segment over the last several years. Some of our foreign competitors are either directly or indirectly subsidized by governments. In 1999, the United States imposed anti-dumping and countervailing duties on unfairly low-priced and subsidized imports of stainless steel sheet and strip in coils and stainless steel plate in coils from companies in ten foreign countries. The anti-dumping and countervailing duty orders were reviewed in 2011 by the U.S. Department of Commerce and the U.S. International Trade Commission to determine whether the orders should remain in place for another five years. The agencies decided that eight such orders against five countries would continue in effect. In July 2016, the U.S. Department of Commerce and the U.S. International Trade Commission initiated a third review of the eight orders. The four orders covering imports of stainless steel plate in coils from three countries were continued for an additional five years in December 2016. In October 2017, the U.S. Department of Commerce published a notice continuing for an additional five years for orders covering imports of stainless steel sheet and strip in coils from three countries.
Additionally, in February 2016, ATI and the three domestic stainless steel competitors filed antidumping and countervailing duty petitions concurrently with the U.S. Department of Commerce and the U.S International Trade Commission, charging that unfairly traded imports of stainless steel sheet and strip from the People’s Republic of China are causing material injury to the domestic stainless steel industry. In February 2017, the U.S. Department of Commerce issued its final determinations, calculating antidumping duties ranging from 64% and 77% percent and countervailing duties ranging from 76% and 191%. These duties are generally applied in combination. The U.S. International Trade Commission reached a unanimous affirmative determination in early March 2017. The antidumping duties and subsidy margins, which have remained unchanged since the Commerce Department published the unfair trade orders in April 2017, are expected to act as a significant deterrent to the illegal dumping of Chinese government-subsidized imports of stainless steel sheet and strip into the U.S. market. We continue to monitor imports from foreign producers for appropriate action.
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Raw Materials and Supplies
Substantially all raw materials and supplies required in the manufacture of our products are available from more than one supplier, and the sources and availability of raw materials essential to our businesses are currently adequate. The principal raw materials we use in the production of our specialty materials are scrap (including iron-, nickel-, chromium-, titanium-, and molybdenum-bearing scrap), nickel, titanium sponge, zirconium sand and sponge, ferrochromium, ferrosilicon, molybdenum and molybdenum alloys, manganese and manganese alloys, cobalt, niobium, vanadium and other alloying materials. While we enter into raw materials futures contracts from time-to-time to hedge exposure to price fluctuations, such as for nickel, we cannot be certain that our hedge position adequately reduces exposure. We believe that we have adequate controls to monitor these contracts, but we may not be able to accurately assess exposure to price volatility in the markets for critical raw materials.
In 2016, we indefinitely idled our Rowley, UT titanium sponge production facility. Over the last several years, significant global capacity has been added to produce titanium sponge, which is a key raw material used to produce ATI’s titanium products. As a result, titanium sponge, including aerospace quality sponge, can be purchased from qualified global producers under long-term supply agreements at prices below ATI’s production costs at its Rowley, UT facility. ATI has entered into long-term cost competitive supply agreements with several producers of premium-grade and standard-grade titanium sponge. The lower cost titanium sponge purchased under these supply agreements replaces the titanium sponge produced at the Rowley facility.
Other raw materials, such as nickel, cobalt, and ferrochromium, are available to us and our specialty materials industry competitors primarily from foreign sources. Some of these foreign sources are located in countries that may be subject to unstable political and economic conditions, which could disrupt supplies or affect the price of these materials.
We purchase our nickel requirements principally from producers in Australia, Canada, Norway, Russia, and the Dominican Republic. Zirconium raw materials are primarily purchased from the United States and China. Cobalt is purchased primarily from producers in Canada. More than 80% of the world’s reserves of ferrochromium are located in South Africa, Zimbabwe, Albania, and Kazakhstan. Niobium is purchased principally from producers in Brazil, and our titanium sponge comes from sources in Japan and Kazakhstan.
Certain key supplies used in melting and other processing operations, such as graphite electrodes and industrial gases including helium and argon, are from time-to-time limited in availability and may be subject to significant price inflation. We enter into long-term supply contracts where possible to ensure an adequate supply of these items, however overall industry shortages may impact our operations and scheduling.
Export Sales and Foreign Operations
International sales represented approximately 42% of our total annual sales in 2018 and 2016, and 41% of our total sales in 2017. These figures include direct export sales by our U.S.-based operations to customers in foreign countries, which accounted for approximately 32% of our total sales in 2018, and 31% of our total sales in 2017 and 2016. Our overseas sales, marketing and distribution efforts are aided by our international marketing and distribution offices, ATI Europe, ATI Europe Distribution, and ATI Asia, or by independent representatives at various locations throughout the world. We believe that at least 50% of ATI’s 2018 sales were driven by global markets when we consider exports of our customers.
Our HPMC segment has manufacturing capabilities for melting, remelting, forging and finishing nickel-based alloys and specialty alloys in the United Kingdom, and manufacturing capabilities for precision forging and machining in Poland, primarily serving the aerospace, construction & mining and transportation markets. Within our FRP segment, our STAL joint venture in the People’s Republic of China produces Precision Rolled Strip products, which enables us to offer these products more effectively to markets in China and other Asian countries. Our Uniti LLC joint venture allows us to offer titanium products to global industrial markets more effectively.
Backlog, Seasonality and Cyclicality
Our backlog of confirmed orders was approximately $2.2 billion at December 31, 2018 and $2.1 billion at December 31, 2017. We expect that approximately 85% of confirmed orders on hand at December 31, 2018 will be filled during the year ending December 31, 2019. Our HPMC’s segment backlog of confirmed orders was approximately $2.0 billion at December 31, 2018 and $1.9 billion at December 31, 2017. We expect that approximately 85% of the confirmed orders on hand at December 31, 2018 for this segment will be filled during the year ending December 31, 2019. Our FRP’s segment backlog of confirmed orders was approximately $0.2 billion at December 31, 2018 and 2017. We expect that all of the confirmed orders on hand at December 31, 2018 for this segment will be filled during the year ending December 31, 2019.
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Demand for our products is cyclical over longer periods because specialty materials customers operate in cyclical industries and are subject to changes in general economic conditions and other factors both external and internal to those industries. The HPMC segment typically experiences modest seasonal weakness in the third quarter of each fiscal year due to many European customers, particularly in the aerospace supply chain, taking plant outages during this summer period. ATI also typically performs corresponding annual preventative maintenance outages at several facilities during this same period.
Research, Development and Technical Services
We believe that our research and development capabilities give ATI an advantage in developing new products and manufacturing processes that contribute to the long-term profitable growth potential of our businesses. We conduct research and development at our various operating locations both for our own account and, on a limited basis, for customers on a contract basis. Research and development expenditures for the years ended December 31, 2018, 2017, and 2016 included the following:
(In millions) | 2018 | 2017 | 2016 | |||||||||
Company-Funded: | ||||||||||||
High Performance Materials & Components | $ | 17.6 | $ | 9.3 | $ | 10.9 | ||||||
Flat Rolled Products | 2.6 | 2.7 | 3.6 | |||||||||
Corporate | 2.5 | 1.3 | 0.2 | |||||||||
22.7 | 13.3 | 14.7 | ||||||||||
Customer-Funded: | ||||||||||||
High Performance Materials & Components | 2.2 | 1.4 | 2.2 | |||||||||
Total Research and Development | $ | 24.9 | $ | 14.7 | $ | 16.9 | ||||||
Our research, development and technical service activities are closely interrelated and are directed toward development of new products, improvement of existing products, cost reduction, process improvement and control, quality assurance and control, development of new manufacturing methods, and improvement of existing manufacturing methods. The increased activity in 2018 was largely related to materials and manufacturing methods for products supporting the aerospace & defense markets.
We own hundreds of United States patents, many of which are also filed under the patent laws of other nations. Although these patents, as well as our numerous trademarks, technical information, license agreements, and other intellectual property, have been and are expected to be of value, we believe that the loss of any single such item or technically related group of such items would not materially affect the conduct of our business.
Environmental, Health and Safety Matters
We are subject to various domestic and international environmental laws and regulations that govern the discharge of pollutants and disposal of wastes, and which may require that we investigate and remediate the effects of the release or disposal of materials at sites associated with past and present operations. We could incur substantial cleanup costs, fines, civil or criminal sanctions, third party property damage or personal injury claims as a result of violations or liabilities under these laws or non-compliance with environmental permits required at our facilities. We are currently involved in the investigation and remediation of a number of our current and former sites as well as third party sites.
We consider environmental compliance to be an integral part of our operations. We have a comprehensive environmental management and reporting program that focuses on compliance with applicable federal, state, regional and local environmental laws and regulations. Each operating company has an environmental management system that includes mechanisms for regularly evaluating environmental compliance and managing changes in business operations while assessing environmental impact.
Our Corporate Guidelines for Business Conduct and Ethics address compliance with environmental laws as well as employment and workplace safety laws, and also describe our commitment to equal opportunity and fair treatment of employees. We continued to focus on safety across ATI’s operations during 2018.
Employees
We have approximately 8,800 full-time employees, of which approximately 15% are located outside the United States. Approximately 40% of our workforce is covered by various collective bargaining agreements (CBAs), predominantly with the United Steel, Paper and Forestry, Rubber, Manufacturing, Energy, Allied & Industrial Service Workers International Union, AFL-CIO, CLC (USW). New CBAs were ratified in 2018 with approximately 900 USW-represented employees, and there are
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no expired CBAs as of the end of 2018. Our next significant CBA expiration date is in the first quarter of 2020 involving USW-represented employees located primarily within the FRP segment operations and at two facilities in the HPMC segment.
Available Information
Our Internet website address is www.atimetals.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as well as proxy and information statements and other information that we file, are available free of charge through our Internet website as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the United States Securities and Exchange Commission (“SEC”). Our Internet website and the content contained therein or connected thereto are not intended to be incorporated into this Annual Report on Form 10-K. The SEC maintains an Internet website at www.sec.gov, which also contains reports, proxy and information statements and other information that we file electronically with the SEC.
Item 1A. Risk Factors
There are inherent risks and uncertainties associated with our business that could adversely affect our operating performance and financial condition. Set forth below are descriptions of those risks and uncertainties that we currently believe to be material, but the risks and uncertainties described are not the only risks and uncertainties that could affect our business. See the discussion under “Forward-Looking Statements” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, in this Annual Report on Form 10-K.
Cyclical Demand for Products. The cyclical nature of the industries in which our customers operate causes demand for our products to be cyclical, creating potential uncertainty regarding future profitability. Various changes in general economic conditions may affect the industries in which our customers operate. These changes could include decreases in the rate of consumption or use of our customers’ products due to economic downturns. Other factors that may cause fluctuation in our customers’ positions are changes in market demand, lower overall pricing due to domestic and international overcapacity, currency fluctuations, lower priced imports and increases in use or decreases in prices of substitute materials. As a result of these factors, our profitability has been and may in the future be subject to significant fluctuation.
Risks Associated with the Commercial Aerospace Industry. A significant portion of the sales of our HPMC segment represents products sold to customers in the commercial aerospace industry. Fulfilling contractual arrangements to provide various products to customers in this industry often involves meeting highly exacting performance requirements and product specifications, and our failure to meet those requirements and specifications on a timely and cost efficient basis could have a material adverse effect on our results of operations, business and financial condition. The commercial aerospace industry has historically been cyclical due to factors both external and internal to the airline industry. These factors include general economic conditions, airline profitability, consumer demand for air travel, varying fuel and labor costs, execution of projected build rates, price competition, and international and domestic political conditions such as military conflict and the threat of terrorism. The length and degree of cyclical fluctuation are influenced by these factors and therefore are difficult to predict with certainty. Demand for our products, particularly those produced in our HPMC segment, is subject to these cyclical trends. Although the commercial aerospace industry is currently experiencing a period of production expansion related to the introduction of next-generation engines and aircraft, we cannot provide any assurance as to the ultimate magnitude or duration of this trend or its impact on our business. A downturn in the commercial aerospace industry has had, and may in the future have, an adverse effect on the prices at which we are able to sell our products, and our results of operations, business and financial condition could be materially adversely affected.
Risks Associated with the Oil & Gas Industry. The oil and gas industry, which historically has been a significant end market for both our HPMC and FRP segments, is highly cyclical and subject to volatility as a result of worldwide economic activity and associated demand for oil and natural gas, anticipated future prices for oil and natural gas, fluctuation in the level of drilling activity, changes in applicable regulation, global geopolitical conditions and numerous other factors. Demand for our products are likewise subject to these trends. In recent years, our business has been negatively impacted by the downturn and slow recovery in the oil and gas industry. While we believe that conditions in this end market are improving, and we are beginning to see positive impacts on our business as a result, we expect that it will remain a highly cyclical industry and future downturns could have an adverse effect on the prices at which we are able to sell our products, and our results of operations, business and financial condition could be materially adversely affected.
Volatility of Raw Material Costs. Most of our inventory is valued utilizing the last-in, first-out (LIFO) costing methodology. Inventory of our non-U.S. operations is valued using average cost or first-in, first-out (FIFO) methods. Under the LIFO inventory valuation method, changes in the cost of raw materials and production activities are recognized in cost of sales in the current period even though these material and other costs may have been incurred at significantly different values due to the
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length of time of our production cycle. In a period of rising prices, cost of sales expense recognized under LIFO is generally higher than the cash costs incurred to acquire the inventory sold. Conversely, in a period of declining raw material prices, cost of sales recognized under LIFO is generally lower than cash costs incurred to acquire the inventory sold. Generally, over time based on overall inflationary trends in raw materials, labor and overhead costs, the use of the LIFO inventory valuation method will result in a LIFO inventory valuation reserve, as the higher current period costs are included in cost of sales and the balance sheet carrying value of inventory is reduced.
The prices for many of the raw materials we use have been extremely volatile during the past several years. Since we value most of our inventory utilizing the LIFO inventory costing methodology, a fall in raw material costs results in a benefit to operating results by reducing cost of sales and increasing the inventory carrying value, while conversely, a rise in raw material costs has a negative effect on our operating results by increasing cost of sales while lowering the carrying value of inventory.
Due primarily to persistent raw material deflation in prior years, we are in an unusual situation of having a LIFO inventory balance that exceeds replacement cost. In cases where inventory at FIFO cost is lower than the LIFO carrying value, a write-down of the inventory to market may be required, subject to a lower of cost or market evaluation. In applying the lower of cost or market principle, market means current replacement cost, subject to a ceiling (market value shall not exceed net realizable value) and a floor (market shall not be less than net realizable value reduced by an allowance for a normal profit margin). We evaluate product lines on a quarterly basis to identify inventory values that exceed estimated net realizable value. The calculation of a resulting reserve, if any, is recognized as an expense in the period that the need for the reserve is identified.
Due to the long lead times required to manufacture many of our products, volatility in raw material prices exposes us to cash costs that may not be fully recovered through surcharge and index pricing mechanisms.
Product Pricing. From time-to-time, reduced demand, intense competition and excess manufacturing capacity have resulted in reduced prices, excluding raw material surcharges, for many of our products. These factors have had and may have an adverse impact on our revenues, operating results and financial condition.
Although inflationary trends in recent years have been moderate, during most of the same period, certain critical raw material costs, such as nickel, titanium sponge, cobalt, chromium, and molybdenum and scrap containing iron, nickel, titanium, chromium, and molybdenum have been volatile. While we have been able to mitigate some of the adverse impact of volatile raw material costs through raw material surcharges or indices to customers, rapid changes in raw material costs causes volatility in, and may adversely affect, our results of operations.
We change prices on certain of our products from time-to-time. The ability to implement price increases is dependent on market conditions, economic factors, raw material costs and availability, competitive factors, operating costs and other factors, some of which are beyond our control. The benefits of any price increases may be delayed due to long manufacturing lead times and the terms of existing contracts.
Export Sales and International Trade Matters. We believe that export sales will continue to account for a significant percentage of our future revenues. We also import certain raw materials, and recently formed, together with an affiliate company of Tsingshan Group, our A&T Stainless joint venture, which imports semi-finished stainless steel slab products from Indonesia to support its U.S. production of finished 60-inch wide stainless steel sheet products for sale in North America. Risks associated with such international trade include, among others: political and economic instability, including weak conditions in the world’s economies; accounts receivable collection; export controls; trade sanctions, changes in legal and regulatory requirements; policy changes affecting the markets for our products; changes in tax laws; and exchange rate fluctuations (which may affect sales to international customers and the value of profits earned on export sales when converted into dollars). Any of these factors could materially adversely affect our results for the period in which they occur.
Additionally, changes in international trade duties and other aspects of international trade policy, both in the U.S. and abroad, could materially impact our business. For example, in March 2018, the U.S. imposed an additional 25% tariff under Section 232 of the Trade Expansion Act of 1962, as amended, on steel products, including stainless steel, imported into the U.S. Currently, the semi-finished stainless steel slabs that our A&T Stainless joint venture imports from Indonesia are subject to the additional tariff. The A&T Stainless joint venture has filed for exclusions from the 232 tariff based on the nature of the imported product, its country of origin, and its lack of availability in the U.S. However, there can be no assurance that the joint venture will be successful in obtaining an exclusion for the products that it intends to import, and to the extent that no exclusion is obtained, the joint venture’s operations would be impacted.
Moreover, these new tariffs, or other changes in U.S. trade policy, have resulted in, and may continue to trigger, retaliatory actions by affected countries. Certain foreign governments have instituted or are considering imposing trade sanctions on certain U.S. goods. Others are considering the imposition of sanctions that will deny U.S. companies access to critical raw materials. A “trade war” of this nature or other governmental action related to tariffs or international trade agreements or
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policies has the potential to adversely impact demand for our products, our costs, customers, suppliers and/or the U.S. economy or certain sectors thereof and, thus, to adversely impact our businesses.
Goodwill or Long-Lived Asset Impairments. We have various long-lived assets that are subject to impairment testing. We review the recoverability of goodwill annually, or more frequently whenever significant events or changes in circumstances indicate that the recorded goodwill of a reporting unit may be below that reporting unit’s fair value. Our businesses operate in highly cyclical industries, such as commercial aerospace and oil & gas, and as such, our estimates of future cash flows, market demand, the cost of capital, and forecasted growth rates and other factors may fluctuate, which may lead to changes in estimated fair value and, therefore, impairment charges in future periods. For the 2018 annual goodwill impairment evaluation, both of our reporting units with goodwill had fair values that were significantly in excess of carrying value. Additionally, we have a significant amount of property, plant and equipment and acquired intangible assets that may be subject to impairment testing, depending on factors such as market conditions, the demand for our products, and facility utilization levels. Any determination requiring the impairment of a significant portion of goodwill or other long-lived assets has had, and may in the future have, a negative impact on our financial condition and results of operations.
Risks Associated with Strategic Capital Projects and Maintenance Activities. From time-to-time, we undertake strategic capital projects in order to enhance, expand and/or upgrade our facilities and operational capabilities. For instance, over the last several years we have undertaken major expansions of our titanium and premium-melt nickel-based alloy, superalloy and specialty alloy production capabilities, and finished product commissioning of a new advanced hot-rolling and processing facility. Our ability to achieve the anticipated increased revenues or otherwise realize acceptable returns on these investments or other strategic capital projects that we may undertake is subject to a number of risks, many of which are beyond our control, including a variety of market, operational, permitting, and labor-related factors. In addition, the cost to implement any given strategic capital project ultimately may prove to be greater than originally anticipated. If we are not able to achieve the anticipated results from the implementation of any of our strategic capital projects, or if we incur unanticipated implementation costs or delays, our results of operations and financial position may be materially adversely affected.
Additionally, we periodically undertake maintenance activities, routine or otherwise, involving facilities and pieces of equipment that are key to our operations, and it is possible that unanticipated maintenance needs, or unanticipated circumstances arising in connection with planned maintenance activities could result in equipment outages that are longer, or costs that exceed, those originally anticipated. Significant repair delays or unanticipated costs associated with these activities could have a negative impact on our results of operations and financial condition.
Dependence on Critical Raw Materials Subject to Price and Availability Fluctuations. We rely to a substantial extent on third parties to supply certain raw materials that are critical to the manufacture of our products. Purchase prices and availability of these critical items are subject to volatility. At any given time, we may be unable to obtain an adequate supply of these critical raw materials on a timely basis, on price and other terms acceptable to us, or at all.
If suppliers increase the price of critical raw materials, we may not have alternative sources of supply. In addition, to the extent that we have quoted prices to customers and accepted customer orders for products prior to purchasing necessary raw materials, or have existing contracts, we may be unable to raise the price of products to cover all or part of the increased cost of the raw materials.
The manufacture of some of our products is a complex process and requires long lead times. As a result, we may experience delays or shortages in the supply of raw materials. If unable to obtain adequate and timely deliveries of required raw materials, we may be unable to timely manufacture sufficient quantities of products. This could cause us to lose sales, incur additional costs, delay new product introductions, or suffer harm to our reputation.
We acquire certain important raw materials that we use to produce specialty materials, including nickel, zirconium, niobium, chromium, cobalt, and titanium sponge, from foreign sources. Some of these sources operate in countries that may be subject to unstable political and economic conditions. These conditions may disrupt supplies or affect the prices of these materials.
Dependence on Critical Supplies Subject to Price and Availability Fluctuations. We rely on third parties for certain supplies, such as graphite electrodes and industrial gases including helium and argon that are critical to the manufacture of our products. Purchase prices and availability of these critical items are subject to volatility. At any given time, we may be unable to obtain an adequate supply of these critical supplies on a timely basis, on price and other terms acceptable to us, or at all.
If suppliers increase the price of these items, we may not have alternative sources of supply. The manufacture of some of our products is a complex process and requires long lead times. As a result, we may experience delays or shortages of critical supplies. If unable to obtain adequate and timely deliveries of required raw materials, we may be unable to timely manufacture sufficient quantities of products. This could cause us to lose sales, incur additional costs, delay new product introductions, or suffer harm to our reputation.
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Availability of Energy Resources. We rely upon third parties for our supply of energy resources consumed in the manufacture of our products. The prices for and availability of electricity, natural gas, oil and other energy resources are subject to volatile market conditions. These market conditions often are affected by political and economic factors beyond our control. Disruptions in the supply of energy resources could temporarily impair our ability to manufacture products for customers. Further, increases in energy costs, or changes in costs relative to energy costs paid by competitors, has and may continue to adversely affect our profitability. To the extent that these uncertainties cause suppliers and customers to be more cost sensitive, increased energy prices may have an adverse effect on our results of operations and financial condition.
Risks Associated with Environmental Matters. We are subject to various domestic and international environmental laws and regulations that govern the discharge of pollutants and disposal of wastes, and which may require that we investigate and remediate the effects of the release or disposal of materials at sites associated with past and present operations. We could incur substantial cleanup costs, fines and civil or criminal sanctions, third party property damage or personal injury claims as a result of violations or liabilities under these laws or non-compliance with environmental permits required at our facilities. We are currently involved in the investigation and remediation of a number of our current and former sites as well as third party sites. We also could be subject to future laws and regulations that govern greenhouse gas emissions and various matters related to climate change and other air emissions, which could increase our operating costs.
With respect to proceedings brought under the federal Superfund laws, or similar state statutes, we have been identified as a potentially responsible party (PRP) at approximately 39 of such sites, excluding those at which we believe we have no future liability. Our involvement is limited or de minimis at approximately 31 of these sites, and the potential loss exposure with respect to 8 individual sites is not considered to be material.
We are a party to various cost-sharing arrangements with other PRPs at many of the sites. The terms of the cost-sharing arrangements are subject to non-disclosure agreements as confidential information. Nevertheless, the cost-sharing arrangements generally require all PRPs to post financial assurance of the performance of the obligations or to pre-pay into an escrow or trust account their share of anticipated site-related costs. In addition, the Federal government, through various agencies, is a party to several such arrangements.
We believe that we operate our businesses in compliance in all material respects with applicable environmental laws and regulations. However, from time-to-time, we are a party to lawsuits and other proceedings involving alleged violations of, or liabilities arising from, environmental laws. When our liability is probable and we can reasonably estimate our costs, we record environmental liabilities in our financial statements. In many cases, we are not able to determine whether we are liable or if liability is probable or to reasonably estimate the loss or range of loss. Estimates of our liability remain subject to additional uncertainties, including the nature and extent of site contamination, available remediation alternatives, the extent of corrective actions that may be required, and the participation number and financial condition of other PRPs, as well as the extent of their responsibility for the remediation. We intend to adjust our accruals to reflect new information as appropriate. Future adjustments could have a material adverse effect on our results of operations in a given period, but we cannot reliably predict the amounts of such future adjustments. At December 31, 2018, our reserves for environmental matters totaled approximately $20 million. Based on currently available information, we do not believe that there is a reasonable possibility that a loss exceeding the amount already accrued for any of the sites with which we are currently associated (either individually or in the aggregate) will be an amount that would be material to a decision to buy or sell our securities. Future developments, administrative actions or liabilities relating to environmental matters, however, could have a material adverse effect on our financial condition or results of operations.
Risks Associated with Current or Future Litigation and Claims. A number of lawsuits, claims and proceedings have been or may be asserted against us relating to the conduct of our currently and formerly owned businesses, including those pertaining to product liability, patent infringement, commercial disputes, government contracting, employment matters, employee and retiree benefits, taxes, environmental matters, health and safety and occupational disease, and stockholder and corporate governance matters. Due to the uncertainties of litigation, we can give no assurance that we will prevail on all claims made against us in the lawsuits that we currently face or that additional claims will not be made against us in the future. While the outcome of litigation cannot be predicted with certainty, and some of these lawsuits, claims or proceedings may be determined adversely to us, we do not believe that the disposition of any such pending matters is likely to have a material adverse effect on our financial condition or liquidity, although the resolution in any reporting period of one or more of these matters could have a material adverse effect on our results of operations for that period. Also, we can give no assurance that any other claims brought in the future will not have a material effect on our financial condition, liquidity or results of operations.
Labor Matters. We have approximately 8,800 full-time employees, of which approximately 15% are located outside the United States. Approximately 40% of our workforce is covered by various collective bargaining agreements (CBAs), predominantly with the USW. At various times, our CBAs expire and are subject to renegotiation. New CBAs were ratified in 2018 with approximately 900 USW-represented employees, and there are no expired CBAs as of the end of 2018. Our next significant
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CBA expiration date is in the first quarter of 2020 involving USW-represented employees located primarily within the FRP segment operations and at two facilities in the HPMC segment. Generally, collective bargaining agreements that expire may be terminated after notice by the union. After termination, the union may authorize a strike. A labor dispute, which could lead to a strike, lockout, or other work stoppage by the employees covered by one or more of the collective bargaining agreements, could have a material adverse effect on production at one or more of our facilities and, depending upon the length of such dispute or work stoppage, on our operating results. There can be no assurance that we will succeed in concluding collective bargaining agreements to replace those that expire.
Export Sales. We believe that export sales will continue to account for a significant percentage of our future revenues. Risks associated with export sales include: political and economic instability, including weak conditions in the world’s economies; accounts receivable collection; export controls; changes in legal and regulatory requirements; policy changes affecting the markets for our products; changes in tax laws and tariffs; trade duties; and exchange rate fluctuations (which may affect sales to international customers and the value of profits earned on export sales when converted into dollars). Any of these factors could materially adversely affect our results for the period in which they occur.
Risks Associated with Indebtedness. Our substantial indebtedness could adversely affect our business, financial condition or results of operations and prevent us from fulfilling our obligations under our outstanding indebtedness. As of December 31, 2018, our total consolidated indebtedness was approximately $1.5 billion. This substantial level of indebtedness increases the risk that we may be unable to generate enough cash to pay amounts due in respect of our indebtedness. Our substantial indebtedness could have important consequences to our stockholders and significant effects on our business. For example, it could:
• | make it more difficult for us to satisfy our obligations with respect to our outstanding indebtedness; |
• | increase our vulnerability to general adverse economic and industry conditions; |
• | require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures, our strategic growth initiatives and development efforts and other general corporate purposes; |
• | limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate; |
• | restrict us from taking advantage of business opportunities; |
• | place us at a competitive disadvantage compared to our competitors that have less indebtedness; and |
• | limit our ability to borrow additional funds for working capital, capital expenditures, acquisitions, debt service requirements, execution of our business strategy or other general corporate purposes. |
In addition, the agreements that govern our current indebtedness contain, and the agreements that may govern any future indebtedness that we may incur may contain, financial and other restrictive covenants that could limit our ability to engage in activities that may be in our long-term best interests. Our failure to comply with those covenants could result in an event of default that, if not cured or waived, could result in the acceleration of all of our debt.
Risks Associated with Retirement Benefits. At December 31, 2018, our U.S. qualified defined benefit pension plans were approximately 71% funded as calculated in accordance with U.S. generally accepted accounting principles. Based upon current regulations and actuarial studies, we expect to make approximately $145 million in annual cash contributions to the U.S. qualified defined benefit pension plans in 2019 and in 2020, and we currently expect to have average annual funding requirements of approximately $100 million for the next few years thereafter for these plans, using a 7.60% weighted average expected rate of return on pension plan assets. However, these estimates are subject to significant uncertainty, including the performance of our pension trust assets. Depending on the timing and amount, a requirement that we fund the U.S. qualified defined benefit pension plans could have a material adverse effect on our results of operations and financial condition.
Risks Associated with Acquisition and Disposition Strategies. We intend to continue to strategically position our businesses in order to improve our ability to compete. Strategies we employ to accomplish this may include seeking new or expanding existing specialty market niches for our products, expanding our global presence, acquiring businesses complementary to existing strengths, and continually evaluating the performance and strategic fit of our existing business units. From time-to-time, management holds discussions with management of other companies to explore acquisitions, joint ventures, and other business combination opportunities as well as possible business unit dispositions. As a result, the relative makeup of the businesses comprising our Company is subject to change. Acquisitions, joint ventures, and other business combinations involve various inherent risks, such as: assessing accurately the value, strengths, weaknesses, contingent and other liabilities and potential profitability of acquisition or other transaction candidates; the potential loss of key personnel of an acquired business; our ability to achieve identified financial and operating synergies, growth or other benefits anticipated to result from an acquisition or other transaction; and unanticipated changes in business and economic conditions affecting an acquisition or other transaction. International acquisitions and other transactions could be affected by export controls, exchange rate fluctuations, domestic and foreign political conditions, changes in tax laws and a deterioration in domestic and foreign economic conditions.
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Risks Associated with Information Technology. Information technology infrastructure is critical to supporting business objectives; failure of our information technology infrastructure to operate effectively could adversely affect our business. We depend heavily on information technology infrastructure to achieve our business objectives. If a problem occurs that impairs this infrastructure, the resulting disruption could impede our ability to record or process orders, manufacture and ship in a timely manner, or otherwise carry on business in the normal course. Any such events could cause us to lose customers or revenue and could require us to incur significant expense to remediate.
As we integrate, implement and deploy new information technology processes and information infrastructure across our operations, we could experience disruptions in our business that could have an adverse effect on our business, financial condition, results of operations and cash flow.
Cyber Security Threats. Increased global information technology threats, security requirements, vulnerabilities, and a rise in sophisticated and targeted international computer crime pose a risk to the security of our systems and networks and the confidentiality, availability and integrity of our data. We believe that ATI faces the threat of such cyber attacks due to the markets we serve, the products we manufacture, the locations of our operations, and global interest in our technology. Due to the evolving nature of cyber security threats, the scope and impact of any incident cannot be predicted. We continually work to safeguard our systems and mitigate potential risks. Despite our efforts to protect sensitive information and confidential and personal data, our facilities and systems and those of our third-party service providers may be vulnerable to security breaches. This could lead to disclosure, modification or destruction of proprietary and other key information, defective products, production downtimes, operational disruptions, and remediation costs, which in turn could adversely affect our reputation, competitiveness and results of operations.
Internal Controls Over Financial Reporting. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Insurance. We have maintained various forms of insurance, including insurance covering claims related to our properties and risks associated with our operations. Our existing property and liability insurance coverages contain exclusions and limitations on coverage. From time-to-time, in connection with renewals of insurance, we have experienced additional exclusions and limitations on coverage, larger self-insured retentions and deductibles, and significantly higher premiums. As a result, in the future our insurance coverage may not cover claims to the extent that it has in the past and the costs that we incur to procure insurance may increase significantly, either of which could have an adverse effect on our results of operations.
Political and Social Turmoil. The war on terrorism as well as political and social turmoil could put pressure on economic conditions in the United States and worldwide. These political, social and economic conditions could make it difficult for us, our suppliers, and our customers to forecast accurately and plan future business activities, and could adversely affect the financial condition of our suppliers and customers and affect customer decisions as to the amount and timing of purchases from us. As a result, our business, financial condition and results of operations could be materially adversely affected.
Risks Associated with Government Contracts. Some of our operating units perform contractual work directly or indirectly for the U.S. Government, which requires compliance with laws and regulations relating to the performance of Government contracts. Various claims (whether based on U.S. Government or Company audits and investigations or otherwise) could be asserted against us related to our U.S. Government contract work. Depending on the circumstances and the outcome, such proceedings could result in fines, penalties, compensatory and treble damages or the cancellation or suspension of payments under one or more U.S. Government contracts. Under government regulations, a company, or one or more of its operating divisions or units, can also be suspended or debarred from government contracts based on the results of investigations.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
Our principal domestic facilities for our HPMC segment include melting operations and production facilities that perform processing and finishing operations. Domestic melting operations are located in Monroe and Bakers, NC, and Lockport, NY (vacuum induction melting, vacuum arc re-melt, electro-slag re-melt, plasma melting), Richland, WA (electron beam melting), and Albany, OR (vacuum arc re-melt). Production of high performance materials, most of which are in long product form, takes place at our domestic facilities in Monroe and Bakers, NC, Lockport, NY, Richburg, SC, Albany, OR, and Oakdale, PA. Our production of zirconium and related specialty alloys takes place at facilities located in Millersburg, OR and Huntsville, AL. Our production of highly engineered forgings, castings, and machined components takes place at facilities in Cudahy and Coon
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Valley, WI, East Hartford, CT, Albany, OR, Irvine, CA, Portland, IN, Lebanon, KY, Billerica, MA, and Salem, OR. Metal alloy-based additive manufacturing for the aerospace and defense industries takes place in New Britain, CT.
Our principal domestic locations for melting stainless steel and other flat-rolled specialty materials are located in Brackenridge and Latrobe, PA. Hot-rolling is performed at our domestic facilities in Brackenridge and Washington, PA. Finishing of our flat-rolled products takes place at our domestic facilities located in Brackenridge, Vandergrift, Washington, Rochester, Monaca, and Zelienople, PA, and in Waterbury, CT, New Bedford, MA, Louisville, OH, and Bridgeview, IL.
Substantially all of our properties are owned, and three of our properties are subject to mortgages or similar encumbrances securing borrowings under certain industrial development authority financings.
We also own or lease facilities in a number of foreign countries, including France, Germany, the United Kingdom, Poland, and the People’s Republic of China. We own and/or lease and operate facilities for melting and re-melting, machining and bar mill operations, laboratories and offices located in Sheffield, England. We own highly engineered forging and machining operations in Stalowa Wola, Poland. Through our STAL joint venture, we operate facilities for finishing Precision Rolled Strip products in the Xin-Zhuang Industrial Zone, Shanghai, China.
Our executive offices, located in PPG Place in Pittsburgh, PA, are leased.
Although our facilities vary in terms of age and condition, we believe that they have been well maintained and are in sufficient condition for us to carry on our activities.
Item 3. Legal Proceedings
From time-to-time, we become involved in various lawsuits, claims and proceedings relating to the conduct of our current and formerly owned businesses, including those pertaining to product liability, patent infringement, commercial, government contracting, employment, employee and retiree benefits, taxes, environmental, health and safety and occupational disease, and stockholder and corporate governance matters. While we cannot predict the outcome of any lawsuit, claim or proceeding, our management believes that the disposition of any pending matters is not likely to have a material adverse effect on our financial condition or liquidity. The resolution in any reporting period of one or more of these matters, including those described above, however, could have a material adverse effect on our results of operations for that period.
Information relating to legal proceedings is included in Note 20. Commitments and Contingencies of the Notes to Consolidated Financial Statements and incorporated herein by reference.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Common Stock Prices
Our common stock is traded on the New York Stock Exchange (symbol ATI). At February 1, 2019, there were 3,137 record holders of Allegheny Technologies Incorporated common stock. We paid no cash dividends during 2018 or 2017. We paid a quarterly cash dividend of $0.08 per share of common stock outstanding for the first three quarters of 2016. Effective with the fourth quarter of 2016, our Board of Directors decided to suspend the quarterly dividend. The payment of dividends and the amount of such dividends depends upon matters deemed relevant by our Board of Directors, such as our results of operations, financial condition, cash requirements, future prospects, any limitations imposed by law, credit agreements or senior securities, and other factors deemed relevant and appropriate. Our Asset Based Lending (ABL) Revolving Credit Facility restricts our ability to pay dividends in certain circumstances. For more information on the restrictions under our ABL facility, see Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Financial Condition and Liquidity - Dividends.”
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Cumulative Total Stockholder Return
The graph set forth below shows the cumulative total stockholder return (i.e., price change plus reinvestment of dividends) on our common stock from December 31, 2013 through December 31, 2018, as compared to the S&P MidCap 400 Index and a Peer Group of companies. We have included the SPDR S&P Metals and Mining Index ETF because our stock price trading and volatility trends with the performance of that index. We believe that the Peer Group of companies, which is defined below, is representative of companies in our industry that have served similar markets during the applicable periods. The total stockholder return for the Peer Group is weighted according to the respective issuer’s stock market capitalization at the beginning of each period. The graph assumes that $100 was invested on December 31, 2013. The stock performance information included in this graph is based on historical results and is not necessarily indicative of future stock price performance.
Company / Index | Dec 2013 | Dec 2014 | Dec 2015 | Dec 2016 | Dec 2017 | Dec 2018 | |||||||||||
ATI | 100.00 | 99.38 | 33.06 | 47.57 | 72.09 | 65.01 | |||||||||||
S&P MidCap 400 Index | 100.00 | 109.77 | 107.38 | 129.65 | 150.71 | 134.01 | |||||||||||
Peer Group | 100.00 | 96.29 | 77.41 | 101.17 | 113.09 | 84.66 | |||||||||||
SPDR S&P Metals & Mining ETF | 100.00 | 74.73 | 36.97 | 76.17 | 92.29 | 67.58 | |||||||||||
Source: Standard & Poor’s | |||||||||||||||||
Peer Group companies for the cumulative five year total return period ended December 31, 2018 were as follows:
AK Steel Holding Corporation | Materion Corp | Steel Dynamics, Inc. | ||
Alcoa Inc. | Nucor Corp. | The Timken Company | ||
Carpenter Technology Corporation | Precision Castparts Corp. | Timken Steel Corporation | ||
Castle (A M) & Co. | Reliance Steel & Aluminum Co. | United States Steel Corporation | ||
Commercial Metals Company | RTI International Metals, Inc. | Universal Stainless & Alloy Products, Inc. | ||
Kennametal Inc. | Schnitzer Steel Industries, Inc. | Worthington Industries, Inc. | ||
Alcoa Inc. was included in the total stockholder return Peer Group through October 31, 2016 when it was separated into Alcoa Corp and Arconic Inc. Castle (A M) & Co. was included through August 31, 2017 when it was delisted. Precision Castparts Corp. was included through January 29, 2016 when it was acquired by Berkshire Hathaway Inc. RTI International Metals Inc. was included through July 22, 2015 when it was acquired by Alcoa Inc. Effective in 2014, The Timken Company spun off its steel business into a new public company, Timken Steel Corporation, which was included in the total stockholder return Peer Group starting on June 19, 2014 when it began trading.
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Item 6. Selected Financial Data
(In millions) | ||||||||||||||||||||
For the Years Ended December 31, | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
Revenue by Market: | ||||||||||||||||||||
Aerospace & Defense | $ | 1,965.5 | $ | 1,718.1 | $ | 1,590.4 | $ | 1,514.0 | $ | 1,446.3 | ||||||||||
Oil & Gas | 546.2 | 418.2 | 280.8 | 538.0 | 752.3 | |||||||||||||||
Automotive | 323.4 | 273.7 | 232.8 | 293.8 | 414.4 | |||||||||||||||
Food Equipment & Appliances | 244.9 | 226.0 | 172.2 | 217.3 | 248.8 | |||||||||||||||
Electrical Energy | 234.5 | 192.2 | 232.6 | 368.1 | 430.2 | |||||||||||||||
Construction/Mining | 226.0 | 192.9 | 160.6 | 226.3 | 295.6 | |||||||||||||||
Medical | 183.1 | 183.0 | 195.8 | 220.7 | 211.0 | |||||||||||||||
Electronics/Communication/Computers | 156.9 | 151.6 | 109.7 | 126.4 | 154.6 | |||||||||||||||
Other | 166.1 | 169.4 | 159.7 | 215.0 | 270.2 | |||||||||||||||
Total | $ | 4,046.6 | $ | 3,525.1 | $ | 3,134.6 | $ | 3,719.6 | $ | 4,223.4 | ||||||||||
(In millions, except per share amounts) | ||||||||||||||||||||
For the Years Ended December 31, | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
Results of Operations: | ||||||||||||||||||||
Sales: | ||||||||||||||||||||
High Performance Materials & Components | $ | 2,334.2 | $ | 2,067.4 | $ | 1,930.4 | $ | 1,985.9 | $ | 2,006.8 | ||||||||||
Flat Rolled Products | 1,712.4 | 1,457.7 | 1,204.2 | 1,733.7 | 2,216.6 | |||||||||||||||
Total Sales | $ | 4,046.6 | $ | 3,525.1 | $ | 3,134.6 | $ | 3,719.6 | $ | 4,223.4 | ||||||||||
Segment operating profit (loss): | ||||||||||||||||||||
High Performance Materials & Components | $ | 335.4 | $ | 246.4 | $ | 168.7 | $ | 157.1 | $ | 234.8 | ||||||||||
Flat Rolled Products | 77.8 | 37.0 | (163.0 | ) | (241.9 | ) | (47.0 | ) | ||||||||||||
Total segment operating profit (loss) | $ | 413.2 | $ | 283.4 | $ | 5.7 | $ | (84.8 | ) | $ | 187.8 | |||||||||
Income (loss) from continuing operations before income taxes | $ | 247.7 | $ | (86.5 | ) | $ | (734.0 | ) | $ | (478.0 | ) | $ | 1.5 | |||||||
Income tax provision (benefit) | 11.0 | (6.8 | ) | (106.9 | ) | (112.1 | ) | (8.7 | ) | |||||||||||
Income (loss) from continuing operations | 236.7 | (79.7 | ) | (627.1 | ) | (365.9 | ) | 10.2 | ||||||||||||
Income (loss) from discontinued operations, net of tax | — | — | — | — | (0.6 | ) | ||||||||||||||
Net income (loss) | 236.7 | (79.7 | ) | (627.1 | ) | (365.9 | ) | 9.6 | ||||||||||||
Less: Net income attributable to noncontrolling interests | 14.3 | 12.2 | 13.8 | 12.0 | 12.2 | |||||||||||||||
Net income (loss) attributable to ATI | $ | 222.4 | $ | (91.9 | ) | $ | (640.9 | ) | $ | (377.9 | ) | $ | (2.6 | ) | ||||||
Basic net income (loss) per common share | ||||||||||||||||||||
Continuing operations attributable to ATI per common share | $ | 1.78 | $ | (0.83 | ) | $ | (5.97 | ) | $ | (3.53 | ) | $ | (0.02 | ) | ||||||
Discontinued operations attributable to ATI per common share | — | — | — | — | (0.01 | ) | ||||||||||||||
Basic net income (loss) attributable to ATI per common share | $ | 1.78 | $ | (0.83 | ) | $ | (5.97 | ) | $ | (3.53 | ) | $ | (0.03 | ) | ||||||
Diluted net income (loss) per common share | ||||||||||||||||||||
Continuing operations attributable to ATI per common share | $ | 1.61 | $ | (0.83 | ) | $ | (5.97 | ) | $ | (3.53 | ) | $ | (0.02 | ) | ||||||
Discontinued operations attributable to ATI per common share | — | — | — | — | (0.01 | ) | ||||||||||||||
Diluted net income (loss) attributable to ATI per common share | $ | 1.61 | $ | (0.83 | ) | $ | (5.97 | ) | $ | (3.53 | ) | $ | (0.03 | ) | ||||||
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(In millions, except per share amounts and ratios) | ||||||||||||||||||||
As of and for the Years Ended December 31, | 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
Working capital | $ | 1,409.8 | $ | 1,203.1 | $ | 1,057.8 | $ | 1,181.1 | $ | 1,584.4 | ||||||||||
Total assets | 5,501.8 | 5,185.4 | 5,170.0 | 5,751.7 | 6,571.7 | |||||||||||||||
Long-term debt | 1,535.5 | 1,530.6 | 1,771.9 | 1,491.8 | 1,498.2 | |||||||||||||||
Total debt | 1,542.1 | 1,540.7 | 1,877.0 | 1,495.7 | 1,516.0 | |||||||||||||||
Cash and cash equivalents | 382.0 | 141.6 | 229.6 | 149.8 | 269.5 | |||||||||||||||
Total ATI Stockholders’ equity | 1,885.7 | 1,739.4 | 1,355.2 | 2,082.8 | 2,598.4 | |||||||||||||||
Noncontrolling interests | 105.9 | 105.1 | 89.6 | 101.6 | 110.9 | |||||||||||||||
Total Stockholders’ equity | 1,991.6 | 1,844.5 | 1,444.8 | 2,184.4 | 2,709.3 | |||||||||||||||
Dividends declared per common share | $ | — | $ | — | $ | 0.24 | $ | 0.62 | $ | 0.72 | ||||||||||
The information presented in Selected Financial Data should be read in conjunction with the information provided in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, and in Item 8. Financial Statements and Supplementary Data.
Results of operations in 2018 include a $15.9 million pre-tax gain on the sale of a 50% noncontrolling interest and subsequent deconsolidation of the Allegheny & Tsingshan Stainless joint venture in March 2018. Results of operations in 2017 include a $114.4 million pre-tax goodwill impairment charge, a $37.0 million pre-tax and net of tax debt extinguishment charge for the full redemption of the $350.0 million, 9.375% Senior Notes due 2019 (2019 Notes), and $4.1 million of tax benefits from the 2017 Tax Cuts and Jobs Act legislation. 2016 results include $538.5 million of pre-tax restructuring and other charges, primarily related to the indefinite idling of the Rowley, UT titanium sponge production facility. 2016 results also include $171.5 million in deferred tax valuation allowances which reduced the income tax benefit. Results of operations in 2015 include $131.5 million of pre-tax net realizable value inventory reserves, which are required to offset ATI’s aggregate net debit LIFO inventory balance that exceeds current inventory replacement cost, $216.3 million of pre-tax goodwill impairment, restructuring and inventory revaluation charges, and $74.5 million of deferred tax valuation allowances, which reduced the income tax benefit. 2014 results from continuing operations include postretirement benefit curtailment and settlement gains of $25.5 million pre-tax.
Total debt in 2017 reflects the redemption of all $350.0 million aggregate principal amount of our 2019 Notes. In 2016, we issued $287.5 million of 4.75% Convertible Senior Notes due 2022 (2022 Convertible Notes), and added a $100.0 million term loan to our asset based lending facility. A portion of the convertible note proceeds were used to make $250.0 million in contributions to the U.S. qualified defined benefit pension plan in 2016 and 2017. In 2014, we repaid the remaining $397.5 million outstanding of our 4.25% Convertible Senior Notes due 2014. In 2013, we issued $500.0 million of 5.875% Senior Notes due in 2023 (currently bearing a 7.875% interest rate) (2023 Notes), the net proceeds of which were used for general corporate purposes.
Total ATI stockholders’ equity in 2018 includes a $15.5 million increase to retained earnings for the cumulative effect of adoption of ASC 606, Revenue from Contracts with Customers. (see Note 2 in Item 8. “Financial Statements and Supplementary Data” for further explanation). Total ATI stockholders’ equity in 2017 increased due to our issuance of 17 million shares of common stock at $24.00 per share before expenses in an underwritten registered public offering. This offering resulted in proceeds of $397.8 million, net of transaction costs, which were used to redeem all of ATI’s outstanding 2019 Notes. Stockholders’ equity changes include net decreases of $141.4 million, $42.7 million, $60.6 million, $69.6 million, and $266.5 million, and for 2018, 2017, 2016, 2015, and 2014, respectively, related to remeasurements of ATI’s retirement benefit obligations. In addition, ATI stockholders’ equity for 2018, 2017 and 2016 included a $20.5 million decrease, $16.8 million increase and a $45.6 million decrease, respectively, from income tax valuation allowances on amounts recorded in other comprehensive income.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Certain statements contained in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are forward-looking statements. Actual results or performance could differ materially from those encompassed within such forward-looking statements as a result of various factors, including those described below. Net income (loss) and net income (loss) per share amounts referenced below are attributable to Allegheny Technologies Incorporated and Subsidiaries.
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ATI Overview
ATI is a global manufacturer of technically complex components and advanced specialty materials. Our largest markets are aerospace & defense, representing approximately 50% of total sales, led by products for jet engines. Additionally, we have a strong presence in the oil & gas, electrical energy, medical, and automotive markets. In aggregate, these markets represent about 80% of our revenue. ATI is a market leader in manufacturing differentiated products that require our unique manufacturing and precision machining capabilities as well as our innovative new product development competence. Our capabilities range from alloy development to final production of highly engineered finished components. We are a leader in producing powders for use in next-generation jet engine forgings and 3D-printed aerospace products.
We operate in two business segments: High Performance Materials & Components (HPMC), and Flat Rolled Products (FRP). Over 75% of 2018 HPMC business segment sales were to the aerospace & defense markets, and nearly half of HPMC’s total sales are products for commercial jet engines. Increasing demand for commercial aerospace products has been the main source of sales and segment operating profit growth for HPMC over the last few years, and is expected to continue to drive HPMC and overall ATI results for the next several years. Other major HPMC end markets include medical, electrical energy, oil & gas, and construction & mining. HPMC produces a wide range of high performance materials, parts and components, and advanced metallic powder alloys made from titanium and titanium-based alloys, nickel-based alloys and superalloys, and a variety of other specialty materials. These materials are made in a variety of product forms that include precision forgings, castings, machined parts and others.
Our FRP segment serves a diverse group of end markets, with the oil & gas market, including chemical and hydrocarbon processing, and the automotive market collectively representing over 45% of 2018 sales. Other major end markets for FRP include food equipment and appliances, construction & mining, electronics, communication equipment and computers, and aerospace & defense. FRP produces nickel-based alloys, specialty alloys, and titanium and titanium-based alloys, and stainless steel in a variety of product forms including plate, sheet, engineered strip, and Precision Rolled Strip products.
Overview of 2018 Financial Performance
Sales in 2018 increased 15%, to $4.05 billion, and gross profit increased 27%, to $630 million, compared to 2017. Net income was $222.4 million, or $1.61 per share. This marked our highest sales total since 2014 and our first profitable year from continuing operations since 2012. Our commitment to relentless innovation, disciplined operational performance and an improved cost structure resulting from significant restructuring actions in prior years enabled ATI to achieve greatly improved financial performance. Revenues grew in nearly all of our major end markets during 2018, with sales to our largest end markets, aerospace & defense, increasing $248 million, or 14%, over 2017, and representing 49% of our 2018 sales. International sales, including both U.S. exports and foreign sales from our foreign manufacturing operations, were $1.70 billion in 2018 and represented 42% of total sales.
A summary of our results is as follows. Gross profit amounts for 2017 and 2016 have been restated as a result of the retrospective application of required changes to the accounting for defined benefit pension and other postretirement benefit expenses adopted by the Company in 2018.
(Dollars in millions, except per share amounts) | 2018 | 2017 | 2016 | |||||||||
Sales | $ | 4,046.6 | $ | 3,525.1 | $ | 3,134.6 | ||||||
Gross profit | $ | 630.3 | $ | 497.0 | $ | 222.8 | ||||||
Gross profit % of sales | 15.6 | % | 14.1 | % | 7.1 | % | ||||||
Segment operating profit | $ | 413.2 | $ | 283.4 | $ | 5.7 | ||||||
Segment operating profit % of sales | 10.2 | % | 8.0 | % | 0.2 | % | ||||||
Restructuring, goodwill impairment and other charges | $ | — | $ | (151.4 | ) | $ | (538.5 | ) | ||||
Income (loss) before income taxes | $ | 247.7 | $ | (86.5 | ) | $ | (734.0 | ) | ||||
Net income (loss) | $ | 222.4 | $ | (91.9 | ) | $ | (640.9 | ) | ||||
Diluted net income (loss) per common share | $ | 1.61 | $ | (0.83 | ) | $ | (5.97 | ) | ||||
Business segment operating profit in 2018 increased 46% over 2017, as HPMC segment results increased 36% on continued strong demand from the aerospace & defense markets, and FRP segment operating profit more than doubled, with significant growth in key end markets.
We continue to maintain valuation allowances for U.S. federal and state deferred taxes. As a result, our net-of-tax results do not reflect the typical tax impacts that would apply to the pretax results.
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Our major strategic accomplishments during 2018 include:
• | Supporting the needs of our customers, including meeting the ongoing requirements of the commercial aerospace delivery schedules, and having the operational capability to meet emergent demand. In the HPMC segment, our next-generation, differentiated jet engine product mix continued to improve, with sales of these products up 49% compared to 2017, representing nearly half of total jet engine product sales. Additionally, sales of commercial airframe products increased 7% during the year. |
• | Taking important steps toward improving the capacity utilization of our FRP segment’s Hot-Rolling and Processing Facility (HRPF), most notably with the Allegheny & Tsingshan Stainless (A&T Stainless) joint venture to manufacture 60” wide stainless sheet, as well as the agreement for carbon steel hot-rolling conversion services with NLMK USA, which is expected to ramp up throughout 2019. |
• | Continuing to make capital investments to support our strategic growth initiatives, with $139 million of capital expenditures in 2018, including our fourth iso-thermal press and heat-treating capacity expansion in progress at our Iso-Thermal Forging Center of Excellence in Cudahy, WI, an ongoing expansion of our titanium powder production, and completing the construction of our third Precision Rolled Strip manufacturing facility at our STAL joint venture in China. We acquired the assets of Addaero Manufacturing, a leader in metal alloy-based additive manufacturing, for $10 million to expand ATI’s capabilities to provide comprehensive customer solutions ranging from the design of parts for additive manufacturing to the production of ready-to-install components. |
• | Strengthening our balance sheet, including maintaining a solid liquidity position with $382 million in cash on hand, and $350 million of available borrowing capacity under our domestic asset based lending facility. During 2018, we generated $393 million of cash from operating activities, and reduced managed working capital as a percentage of sales to 31.6%, approaching our long-term goal of 30%. We reduced our Debt to EBITDA ratio to 3.1 at December 31, 2018. |
• | Making progress on our risk management strategy for retirement benefit obligations. ATI’s qualified defined benefit pension plans are now completely closed to new entrants following the ratification of a collective bargaining agreement at a facility in our HPMC operations, and we completed a $97 million risk transfer through the purchase of an annuity contract with a nationally recognized insurance company. This annuity buyout reduced the plan’s liability by approximately 4% and removed 17% of plan participants. |
Results of Operations
Sales were $4.05 billion in 2018, $3.53 billion in 2017, and $3.13 billion in 2016. The 15% sales increase in 2018 includes a 13% increase in HPMC sales, driven by a 13% increase in sales to the aerospace & defense markets, which comprises 76% of the sales in this segment. Sales increased 17% in the FRP segment, primarily due to approximately 30% higher sales to both the oil & gas and aerospace & defense markets. The 13% increase in total 2017 ATI sales compared to 2016 was primarily the result of 21% higher FRP sales, primarily due to higher sales to the oil & gas market, which increased over 50% from 2016 levels, and stronger shipments of both high-value and standard products due to higher operating levels. HPMC sales increased 7% in 2017 compared to 2016, including a 9% increase in sales to the aerospace & defense markets.
Segment operating profit was $413.2 million, or 10.2% of sales in 2018, compared to segment operating profit of $283.4 million, or 8.0% of sales, in 2017, and $5.7 million, or 0.2% of sales, in 2016. Our measure of segment operating profit, which we use to analyze the performance and results of our business segments, excludes income taxes, corporate expenses, net interest expense, closed operations expenses, the effects of LIFO inventory accounting and any related changes in net realizable value (NRV) inventory reserves, goodwill impairment charges, debt extinguishment charges, non-operating gains and losses and restructuring costs, if any. Total revenues and segment operating profit (loss) of our two business segments were as follows (in millions):
2018 | 2017 | 2016 | ||||||||||||||||||||||
Revenue | Operating Profit | Revenue | Operating Profit | Revenue | Operating Profit (Loss) | |||||||||||||||||||
High Performance Materials & Components | $ | 2,334.2 | $ | 335.4 | $ | 2,067.4 | $ | 246.4 | $ | 1,930.4 | $ | 168.7 | ||||||||||||
Flat Rolled Products | 1,712.4 | 77.8 | 1,457.7 | 37.0 | 1,204.2 | (163.0 | ) | |||||||||||||||||
Total ATI | $ | 4,046.6 | $ | 413.2 | $ | 3,525.1 | $ | 283.4 | $ | 3,134.6 | $ | 5.7 | ||||||||||||
Business segment results in 2018 exclude a $15.9 million pre-tax gain on the sale of a 50% noncontrolling interest and subsequent deconsolidation of the A&T Stainless joint venture in March 2018. Business segment results in 2017 exclude a $114.4 million pre-tax goodwill impairment charge for our titanium castings business, and a $37.0 million debt extinguishment charge for the early redemption of our 9.375% Senior Notes due 2019 (2019 Notes). Business segment results in 2016 exclude $538.5 million in pre-tax charges for significant restructuring actions involving HPMC titanium operations and right-sizing actions across the FRP business. These restructuring charges were comprised of $471.3 million of long-lived asset
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impairments, primarily for the indefinitely idled Rowley, UT titanium sponge production facility, $43.0 million of facility closure costs and related inventory revaluations, and $24.2 million of severance charges and other employee benefit costs.
Pre-tax results were profits of $247.7 million in 2018, and losses of $86.5 million in 2017 and $734.0 million in 2016. 2018 net income was $222.4 million, or $1.61 per share, compared to a 2017 net loss of $91.9 million, or $(0.83) per share, and a 2016 loss of $640.9 million, or $(5.97) per share. We continue to maintain valuation allowances for U.S. federal and state deferred taxes, and results in all periods include impacts from income taxes that differ from the applicable standard tax rate, primarily related to these income tax valuation allowances. We recorded a $4.1 million tax benefit in 2017 as a result of the U.S. federal tax law changes in December 2017, and results in 2016 include $171.5 million of charges for income tax valuation allowances on deferred tax assets.
Comparative information for our overall revenues (in millions) by end market and their respective percentages of total revenues is as follows:
Market | 2018 | 2017 | 2016 | ||||||||||||||||||
Aerospace & Defense | $ | 1,965.5 | 49 | % | $ | 1,718.1 | 49 | % | $ | 1,590.4 | 51 | % | |||||||||
Oil & Gas | 546.2 | 13 | % | 418.2 | 12 | % | 280.8 | 9 | % | ||||||||||||
Automotive | 323.4 | 8 | % | 273.7 | 8 | % | 232.8 | 7 | % | ||||||||||||
Food Equipment & Appliances | 244.9 | 6 | % | 226.0 | 6 | % | 172.2 | 6 | % | ||||||||||||
Electrical Energy | 234.5 | 6 | % | 192.2 | 5 | % | 232.6 | 7 | % | ||||||||||||
Construction/Mining | 226.0 | 6 | % | 192.9 | 6 | % | 160.6 | 5 | % | ||||||||||||
Medical | 183.1 | 4 | % | 183.0 | 5 | % | 195.8 | 6 | % | ||||||||||||
Electronics/Computers/Communication | 156.9 | 4 | % | 151.6 | 4 | % | 109.7 | 4 | % | ||||||||||||
Other | 166.1 | 4 | % | 169.4 | 5 | % | 159.7 | 5 | % | ||||||||||||
Total | $ | 4,046.6 | 100 | % | $ | 3,525.1 | 100 | % | $ | 3,134.6 | 100 | % | |||||||||
Comparative information for our major high-value and standard products based on their percentages of revenues is as follows:
For the Years Ended December 31, | 2018 | 2017 | 2016 | ||||||
High-Value Products | |||||||||
Nickel-based alloys and specialty alloys | 30 | % | 28 | % | 28 | % | |||
Precision forgings, castings and components | 20 | % | 19 | % | 18 | % | |||
Titanium and titanium-based alloys | 17 | % | 17 | % | 20 | % | |||
Precision and engineered strip | 14 | % | 14 | % | 13 | % | |||
Zirconium and related alloys | 5 | % | 6 | % | 8 | % | |||
Total High-Value Products | 86 | % | 84 | % | 87 | % | |||
Standard Products | |||||||||
Stainless steel sheet | 8 | % | 9 | % | 7 | % | |||
Specialty stainless sheet | 4 | % | 5 | % | 4 | % | |||
Stainless steel plate and other | 2 | % | 2 | % | 2 | % | |||
Total Standard Products | 14 | % | 16 | % | 13 | % | |||
Grand Total | 100 | % | 100 | % | 100 | % | |||
Sales by geographic area (in millions), and as a percentage of total sales, were as follows :
For the Years Ended December 31, | 2018 | 2017 | 2016 | ||||||||||||||||||
United States | $ | 2,348.1 | 58 | % | $ | 2,070.6 | 59 | % | $ | 1,857.5 | 59 | % | |||||||||
Europe | 877.2 | 22 | % | 767.9 | 21 | % | 639.7 | 21 | % | ||||||||||||
Asia | 602.1 | 15 | % | 457.8 | 13 | % | 418.9 | 13 | % | ||||||||||||
Canada | 106.5 | 2 | % | 99.8 | 3 | % | 97.6 | 3 | % | ||||||||||||
Other | 112.7 | 3 | % | 129.0 | 4 | % | 120.9 | 4 | % | ||||||||||||
Total sales | $ | 4,046.6 | 100 | % | $ | 3,525.1 | 100 | % | $ | 3,134.6 | 100 | % | |||||||||
Information with respect to our business segments follows.
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High Performance Materials & Components
(In millions) | 2018 | % Change | 2017 | % Change | 2016 | |||||||||||||
Sales to external customers | $ | 2,334.2 | 13 | % | $ | 2,067.4 | 7 | % | $ | 1,930.4 | ||||||||
Segment operating profit | $ | 335.4 | 36 | % | $ | 246.4 | 46 | % | $ | 168.7 | ||||||||
Segment operating profit as a percentage of sales | 14.4 | % | 11.9 | % | 8.7 | % | ||||||||||||
International sales as a percentage of sales | 48.0 | % | 47.0 | % | 45.2 | % | ||||||||||||
2018 Compared to 2017
Sales for the HPMC segment in 2018 increased 13%, to $2.33 billion, with double-digit sales growth in each quarter of 2018, compared to the prior year period. Sales to the aerospace & defense markets, which are the largest end markets for HPMC at 76% of total segment sales, were 13% higher. This was driven by a 20% increase in sales in 2018 to the commercial jet engine market. Construction and mining market sales were 42% higher, and sales to the oil & gas and electrical energy markets increased 17% and 16%, respectively, all from low prior year demand levels. Sales to the medical market declined slightly primarily due to increased competition in magnetic resonance imaging (MRI) end uses.
Comparative information for our HPMC segment revenues (in millions) by market, the respective percentages of overall segment revenues for the years ended 2018 and 2017, and the percentage change in revenues by market for 2018 is as follows:
Market | 2018 | 2017 | Change | ||||||||||||||||||
Aerospace & Defense: | |||||||||||||||||||||
Jet Engines | $ | 1,100.6 | 47 | % | $ | 915.2 | 44 | % | $ | 185.4 | 20 | % | |||||||||
Airframes | 411.2 | 18 | % | 385.2 | 19 | % | 26.0 | 7 | % | ||||||||||||
Government Aerospace & Defense | 259.5 | 11 | % | 268.5 | 13 | % | (9.0 | ) | (3 | )% | |||||||||||
Total Aerospace & Defense | 1,771.3 | 76 | % | 1,568.9 | 76 | % | 202.4 | 13 | % | ||||||||||||
Medical | 168.5 | 7 | % | 170.4 | 8 | % | (1.9 | ) | (1 | )% | |||||||||||
Electrical Energy | 131.4 | 6 | % | 113.1 | 6 | % | 18.3 | 16 | % | ||||||||||||
Oil & Gas | 74.9 | 3 | % | 63.9 | 3 | % | 11.0 | 17 | % | ||||||||||||
Construction/Mining | 72.8 | 3 | % | 51.3 | 2 | % | 21.5 | 42 | % | ||||||||||||
Other | 115.3 | 5 | % | 99.8 | 5 | % | 15.5 | 16 | % | ||||||||||||
Total | $ | 2,334.2 | 100 | % | $ | 2,067.4 | 100 | % | $ | 266.8 | 13 | % | |||||||||
Over the past several years, we have entered into long-term agreements (LTAs) with certain of our customers for our specialty materials, including powders, parts and components, to reduce their supply uncertainty, including several LTAs with aerospace market OEMs. These LTAs are expected to drive HPMC’s growth trajectory for the next several years and are for the sale of ATI’s specialty materials, parts and components that are required for both next-generation and legacy aircraft platforms, including jet engines. Our LTAs include a titanium products supply agreement for aircraft airframes and structural components with The Boeing Company (Boeing), which extends into the next decade. This LTA covers value-added titanium products and provides opportunity for greater use of ATI’s next generation and advanced titanium alloys in both long product and flat-rolled product forms, including highly engineered titanium cast and forged products. The agreement includes both long-product forms that are manufactured within the HPMC segment, and a significant amount of plate products that are manufactured utilizing assets of both the HPMC and FRP segments. Revenues and profits associated with these titanium products covered by the Boeing long-term agreement are included primarily in the results for the HPMC segment. We also have LTAs with GE Aviation for the supply of premium titanium alloys, nickel-based alloys, and vacuum-melted specialty alloys products for commercial and military jet engine applications and with Snecma (Safran) for the supply of premium titanium alloys, nickel-based alloys, vacuum melted specialty alloys, and titanium investment castings for commercial and military jet engine applications. In addition, we have LTAs with Rolls-Royce plc for the supply of disc-quality products and precision forgings and castings for commercial jet engine applications. In 2017, we entered into a new LTA with United Technologies Corporation to supply its Pratt & Whitney subsidiaries with isothermal forgings and powder alloys for next-generation jet engines, as well as for structural components for airframe applications. We also supply products to other important parts of the aviation market such as helicopters and rotary engine fixed wing aircraft.
The commercial aerospace market is transitioning to the next generation of single aisle and large twin aisle aircraft, and next-generation jet engines. New airframe designs contain a larger percentage of titanium alloys, and the jet engines that power them use newer nickel-based alloys and titanium-based alloys, in both cases for improved performance and more economical
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operating costs, compared to legacy airframe and engine designs. Boeing and Airbus have multi-year backlogs of orders for both legacy models and next-generation aircraft, and there are over 26,600 jet engines with firm orders (Aero Engine News, February 2019). Both Boeing and Airbus have implemented production increases, and announced additional production increases over the next several years, which is expected to positively impact the demand for products for jet engine and airframe applications. Due to manufacturing cycle times, demand for our specialty materials leads the deliveries of new aircraft by approximately 3 to 12 months.
Our 2018 HPMC results reflect this demand growth, as the next-generation of aircraft and engines use significantly more of the products we make. Use of these newer materials, particularly for jet engine applications, is expected to continue to increase for several years, with strong growth expected in powder metal alloys, including increased usage of isothermal forging and additive manufacturing production processes.
Additionally, new entrants to the commercial jet aircraft market for single aisle and regional jets are expected to increase demand for products made with titanium- and nickel-based alloys over the next several years. In addition, as our specialty materials are used in rotating components of jet engines, demand for our products for spare parts is impacted by aircraft flight activity and engine refurbishment requirements of U.S. and foreign aviation regulatory authorities. As the number of aircraft in service increases, the need for our materials associated with engine refurbishment is expected to increase.
Our HPMC segment produces a wide range of high performance materials, including titanium and titanium-based alloys, nickel- and cobalt-based alloys and superalloys, zirconium and related alloys including hafnium and niobium, advanced powder alloys and other specialty materials, in long product forms such as ingot, billet, bar, rod, wire, shapes and rectangles, and seamless tubes, plus precision forgings, castings, components, and machined parts.
Precision forgings, castings and components sales increased 21% in 2018, reflecting improved commercial aerospace demand. Sales of nickel-based alloys increased 14% compared to 2017, and sales of titanium products were 10% higher in 2018. Comparative information for the segment’s major product categories, based on their percentages of revenue is as follows:
For the Years Ended December 31, | 2018 | 2017 | ||||
High-Value Products | ||||||
Precision forgings, castings and components | 34 | % | 32 | % | ||
Nickel-based alloys and specialty alloys | 31 | % | 31 | % | ||
Titanium and titanium-based alloys | 25 | % | 26 | % | ||
Zirconium and related alloys | 10 | % | 11 | % | ||
Total High-Value Products | 100 | % | 100 | % | ||
HPMC segment operating profit for 2018 increased 36% compared to 2017, to $335.4 million, or 14.4% of sales, reflecting a 250 basis point improvement as a percentage of sales over 2017. This improvement is due to an improved product mix of next-generation nickel alloys and forgings from the aero engine market and higher productivity resulting from increasing aerospace & defense sales. Sales of next-generation jet engine product sales growth remained strong, increasing by nearly 50% versus 2017, and represented 48% of total 2018 HPMC jet engine product sales. This improvement is due to higher productivity from increasing aerospace & defense sales, and an improved product mix of next-generation specialty materials from the aero engine market.
We anticipate significant industry demand growth for advanced powder materials required to satisfy expanding aerospace & defense market production requirements, and for emerging additive manufacturing of parts and components. To proactively meet this growing demand for complex powder alloy products, ATI designed and built an all-new nickel and super alloy powder production facility in North Carolina, which started production in 2018. HPMC 2017 results included $8 million of start-up costs for this facility. We also announced an expansion of our titanium alloys powder production capabilities at the same North Carolina site, which is expected to be completed in early 2019. We acquired assets in 2018 to accelerate the development of our capabilities in metal alloy-based additive manufacturing to provide comprehensive customer solutions ranging from the design of parts for additive manufacturing to the production of ready-to-install components. Additionally, in July 2017, we formed Next Gen Alloys, a joint venture with GE Aviation, for the development of a new meltless titanium alloy powder manufacturing process that eliminates the traditional melt step used prior to converting base material to powder form. The JV will construct a new R&D pilot production facility to focus on increasing the scale of this GE-developed manufacturing process. The Next Gen Alloys joint venture R&D activities are excluded from HPMC segment results.
In the medical market, we recently announced that we entered into a joint technology development agreement with Bruker Energy & Supercon Technologies, to advance state-of-the-art niobium-based superconductors, including those used in MRI magnets for the medical industry, and preclinical MRI magnets used in the life-science tools industry.
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Competition continues to be very strong across most key end markets, particularly within the aerospace & defense, oil & gas, and medical market supply chains. We believe that our HPMC segment is very well-positioned for profitable growth, especially in the next-generation jet engine platforms. Our HPMC segment is expected to continue sustained profitable growth, supported by long-term agreements that provide significant growth and share gains for ATI on next-generation airplanes and the jet engines that power them. We have sufficient available capacity for the forecasted growth in aerospace demand over the next several years, as well as the ability, to some extent, to meet higher demand for products to other key end markets such as oil & gas and electrical energy, when conditions for these markets improve.
2017 Compared to 2016
Sales for the HPMC segment in 2017 increased 7%, to $2.07 billion. Sales to the aerospace & defense markets, which are the largest end markets for HPMC at 76% of total segment sales, were 9% higher. This was driven by an 11% increase in sales in 2017 to the commercial jet engine market, including a 35% improvement in our sales of next-generation jet engine products, compared to 2016. Construction and mining market sales were 40% higher, and sales to oil & gas market increased 37% in 2017, both from low 2016 demand levels. Sales to the medical market declined 8% primarily due to increased competition in MRI end uses, and sales to the electrical energy market decreased 12%.
Comparative information for our HPMC segment revenues (in millions) by market, the respective percentages of overall segment revenues for the years ended 2017 and 2016, and the percentage change in revenues by market for 2017 is as follows:
Market | 2017 | 2016 | Change | ||||||||||||||||||
Aerospace & Defense: | |||||||||||||||||||||
Jet Engines | $ | 915.2 | 44 | % | $ | 823.3 | 43 | % | $ | 91.9 | 11 | % | |||||||||
Airframes | 385.2 | 19 | % | 381.5 | 20 | % | 3.7 | 1 | % | ||||||||||||
Government Aerospace & Defense | 268.5 | 13 | % | 234.4 | 12 | % | 34.1 | 15 | % | ||||||||||||
Total Aerospace & Defense | 1,568.9 | 76 | % | 1,439.2 | 75 | % | 129.7 | 9 | % | ||||||||||||
Medical | 170.4 | 8 | % | 185.3 | 10 | % | (14.9 | ) | (8 | )% | |||||||||||
Electrical Energy | 113.1 | 6 | % | 129.1 | 7 | % | (16.0 | ) | (12 | )% | |||||||||||
Oil & Gas | 63.9 | 3 | % | 46.5 | 2 | % | 17.4 | 37 | % | ||||||||||||
Construction/Mining | 51.3 | 2 | % | 36.7 | 2 | % | 14.6 | 40 | % | ||||||||||||
Other | 99.8 | 5 | % | 93.6 | 4 | % | 6.2 | 7 | % | ||||||||||||
Total | $ | 2,067.4 | 100 | % | $ | 1,930.4 | 100 | % | $ | 137.0 | 7 | % | |||||||||
Our 2017 HPMC results reflect the ongoing transition of the commercial aerospace market to the next generation of single aisle and large twin aisle aircraft, and next-generation jet engines, as the next-generation of aircraft and engines use significantly more of the products we make. Sales of differentiated nickel-based superalloy mill products increased 35% in 2017 compared to 2016, including both external sales and intercompany sales to our forging operations.
Precision forgings, castings and components sales increased 17% in 2017, reflecting improved commercial aerospace demand. Sales of nickel-based alloys increased 14% compared to 2016, while sales of titanium products were 6% lower in 2017. Comparative information for the segment’s major product categories, based on their percentages of revenue is as follows:
For the Years Ended December 31, | 2017 | 2016 | ||||
High-Value Products | ||||||
Precision forgings, castings and components | 32 | % | 29 | % | ||
Nickel-based alloys and specialty alloys | 31 | % | 29 | % | ||
Titanium and titanium-based alloys | 26 | % | 29 | % | ||
Zirconium and related alloys | 11 | % | 13 | % | ||
Total High-Value Products | 100 | % | 100 | % | ||
HPMC segment operating profit for 2017 increased 46% compared to 2016, to $246.4 million, or 12% of sales, reflecting higher productivity from increasing aerospace & defense sales, a richer mix of products for next-generation jet engines, which represented 39% of HPMC jet engine product sales in 2017, and the benefit of our 2016 titanium operations restructuring activities, including the Rowley, UT titanium sponge operations idling. Through the fourth quarter of 2017, where HPMC segment operating profit was 12.7% of sales, the HPMC segment has achieved six quarters of improvement in segment operating margin of 140 basis points or greater versus the prior year quarter. Segment results for 2016 included $5.3 million of non-recurring work stoppage and return to work costs for represented employees at two HPMC facilities.
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HPMC segment results exclude the Rowley, UT titanium sponge operations beginning with the third quarter 2016. During 2016, we completed significant restructuring actions involving certain titanium manufacturing operations in the HPMC segment, which are excluded from segment results. These actions included the indefinite idling of the Rowley, UT titanium sponge production facility, as well as the closure of a small unprofitable titanium wire production facility in Frackville, PA, and the idling of certain titanium manufacturing operations in Albany, OR.
Flat Rolled Products
(In millions) | 2018 | % Change | 2017 | % Change | 2016 | |||||||||||||
Sales to external customers | $ | 1,712.4 | 17 | % | $ | 1,457.7 | 21 | % | $ | 1,204.2 | ||||||||
Segment operating profit (loss) | $ | 77.8 | 110 | % | $ | 37.0 | 123 | % | $ | (163.0 | ) | |||||||
Segment operating profit (loss) as a percentage of sales | 4.5 | % | 2.5 | % | (13.5 | )% | ||||||||||||
International sales as a percentage of sales | 33.8 | % | 33.2 | % | 33.6 | % | ||||||||||||
2018 Compared to 2017
Sales for the FRP segment in 2018 increased 17% compared to 2017, to $1.71 billion, due to higher sales of high-value products, primarily nickel-based and specialty alloys and Precision Rolled Strip products. Sales increased in every major market including a 33% increase in the oil & gas market, and a 30% increase in the aerospace & defense markets. Sales in the automotive market increased 18% due primarily to greater use of high-value materials in engine compartment applications.
Comparative information for our Flat Rolled Products segment revenues (in millions) by market, the respective percentages of overall segment revenues for the years ended 2018 and 2017, and the percentage change in revenues by market for 2018 is as follows:
Market | 2018 | 2017 | Change | ||||||||||||||||||
Oil & Gas | $ | 471.3 | 28 | % | $ | 354.3 | 24 | % | $ | 117.0 | 33 | % | |||||||||
Automotive | 313.9 | 18 | % | 264.9 | 18 | % | 49.0 | 18 | % | ||||||||||||
Food Equipment & Appliances | 244.5 | 14 | % | 224.9 | 15 | % | 19.6 | 9 | % | ||||||||||||
Aerospace & Defense | 194.2 | 11 | % | 149.2 | 10 | % | 45.0 | 30 | % | ||||||||||||
Construction/Mining | 153.2 | 9 | % | 141.8 | 10 | % | 11.4 | 8 | % | ||||||||||||
Electronics/Computers/Communication | 149.0 | 9 | % | 147.2 | 10 | % | 1.8 | 1 | % | ||||||||||||
Electrical Energy | 103.1 | 6 | % | 79.1 | 6 | % | 24.0 | 30 | % | ||||||||||||
Other | 83.2 | 5 | % | 96.3 | 7 | % | (13.1 | ) | (14 | )% | |||||||||||
Total | $ | 1,712.4 | 100 | % | $ | 1,457.7 | 100 | % | $ | 254.7 | 17 | % | |||||||||
Our FRP segment produces nickel-based alloys, specialty alloys, titanium and titanium-based alloys, and stainless steel, in a variety of product forms including plate, sheet, engineered strip, and Precision Rolled Strip products. FRP also provides hot-rolling conversion services, including titanium products of the Uniti joint venture, and beginning in 2018, standard stainless sheet products of the A&T Stainless joint venture and carbon steel products for NLMK USA.
Comparative information for the Flat Rolled Products segment’s major product categories, based on their percentages of revenue are presented in the following table. Conversion services are excluded.
For the Years Ended December 31, | 2018 | 2017 | ||||
High-Value Products | ||||||
Precision and engineered strip | 33 | % | 34 | % | ||
Nickel-based alloys and specialty alloys | 28 | % | 24 | % | ||
Titanium and titanium-based alloys | 5 | % | 5 | % | ||
Total High-Value Products | 66 | % | 63 | % | ||
Standard Products | ||||||
Stainless steel sheet | 20 | % | 21 | % | ||
Specialty stainless sheet | 10 | % | 12 | % | ||
Stainless steel plate | 4 | % | 4 | % | ||
Total Standard Products | 34 | % | 37 | % | ||
Grand Total | 100 | % | 100 | % | ||
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Comparative shipment volume and average selling price information on the segment’s products for the years ended December 31, 2018 and 2017 is provided in the following table:
2018 | 2017 | % change | |||||||
Volume (000’s pounds): | |||||||||
High-Value | 346,564 | 323,391 | 7 | % | |||||
Standard | 400,995 | 446,542 | (10 | )% | |||||
Total | 747,559 | 769,933 | (3 | )% | |||||
Average prices (per lb.): | |||||||||
High-Value | $3.20 | $2.81 | 14 | % | |||||
Standard | $1.41 | $1.21 | 17 | % | |||||
Combined Average | $2.24 | $1.88 | 19 | % | |||||
Segment operating profit in 2018 was $77.8 million, or 4.5% of sales, more than double the segment operating profit of $37.0 million, or 2.5% of sales, in 2017. Compared to 2017, results in 2018 included improved cost absorption through higher operating rates, and approximately $8 million of lower retirement benefit expense. Results also benefited from continued strong market demand and ongoing improvements in asset utilization. We continue to make progress toward our FRP goal of capital efficient asset utilization improvements as evidenced by our recently announced agreement to provide carbon steel hot-rolling conversion services for NLMK USA at our world-class HRFP. Slab shipments to ATI began in October 2018 and are expected to increase to anticipated levels throughout 2019.
On March 1, 2018, we announced the formation of the A&T Stainless joint venture with Tsingshan to produce 60-inch wide stainless sheet products for sale in North America. This joint venture utilizes Tsingshan-supplied stainless steel slabs from its vertically integrated operations in Indonesia. The Tsingshan-supplied stainless steel slabs are hot-rolled into coils on the FRP segment’s HRPF under a conversion agreement. The hot-rolled coils are finished into stainless steel sheet using ATI’s previously-idled Direct Roll Anneal and Pickle (DRAP) production facility in Midland, PA, which is ATI’s major investment in the joint venture. ATI’s share of the A&T Stainless joint venture results was a $3.9 million loss for 2018, which is included in the FRP segment’s operating results. In late March 2018, ATI filed for an exclusion from the recently enacted Section 232 tariffs on behalf of the A&T Stainless JV. In the absence of an exclusion, these slabs are subject to the 25% tariff levied on all stainless steel products imported into the United States. We continue to work within the U.S. Commerce Department’s Section 232 tariff exclusion request process to secure an exclusion on behalf of the A&T Stainless joint venture. 2018 results of A&T Stainless were negatively impacted by these tariffs.
2017 Compared to 2016
Sales for the FRP segment in 2017 increased 21% compared to 2016, to $1.46 billion, primarily due to higher shipment volume and selling prices for both high-value and standard stainless products. Sales to the oil & gas market were 51% higher primarily due to project-based demand for chemical and hydrocarbon processing projects, and sales to the automotive market were 18% higher due primarily to greater use of high-value materials in engine compartment applications. Sales to the electrical energy market declined 23%. Results for 2016 also include a partial year of sales of unprofitable GOES products and certain commodity standard stainless steel sheet products prior to the idling of the Bagdad, PA and Midland, PA operations.
The FRP segment has undergone significant restructuring to refocus the business to a higher value product mix, and to right-size the operating footprint and cost structure to meet very competitive business conditions, from both domestic and international producers of flat-rolled stainless steel and other specialty metals. These actions included the 2016 idling and ultimate closure of the commodity stainless operations at the Midland, PA facility, and the GOES operations, including the Bagdad, PA finishing facility. Closure-related costs and employee benefit costs of $12.8 million were recognized in the fourth quarter of 2016 from these closure actions, which are excluded from 2016 FRP segment results. Severance charges of $11.8 million for reductions of over 250 employees, or approximately one-third of the ATI Flat Rolled Products salaried workforce, were also excluded from 2016 FRP segment results.
Sales of high-value products, excluding GOES, were 20% higher compared to 2016, and sales of standard products were 32% higher in 2017 compared to 2016, led by a 38% increase in specialty stainless sheet products.
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Comparative information for our Flat Rolled Products segment revenues (in millions) by market, the respective percentages of overall segment revenues for the years ended 2017 and 2016, and the percentage change in revenues by market for 2017 is as follows:
Market | 2017 | 2016 | Change | ||||||||||||||||||
Oil & Gas | $ | 354.3 | 24 | % | $ | 234.3 | 19 | % | $ | 120.0 | 51 | % | |||||||||
Automotive | 264.9 | 18 | % | 225.2 | 19 | % | 39.7 | 18 | % | ||||||||||||
Food Equipment & Appliances | 224.9 | 15 | % | 170.4 | 14 | % | 54.5 | 32 | % | ||||||||||||
Aerospace & Defense | 149.2 | 10 | % | 151.2 | 13 | % | (2.0 | ) | (1 | )% | |||||||||||
Electronics/Computers/Communication | 147.2 | 10 | % | 106.3 | 9 | % | 40.9 | 38 | % | ||||||||||||
Construction/Mining | 141.8 | 10 | % | 123.9 | 10 | % | 17.9 | 14 | % | ||||||||||||
Electrical Energy | 79.1 | 6 | % | 103.5 | 9 | % | (24.4 | ) | (24 | )% | |||||||||||
Other | 96.3 | 7 | % | 89.4 | 7 | % | 6.9 | 8 | % | ||||||||||||
Total | $ | 1,457.7 | 100 | % | $ | 1,204.2 | 100 | % | $ | 253.5 | 21 | % | |||||||||
Comparative information for the Flat Rolled Products segment’s major product categories, based on their percentages of revenue is presented in the following table. Conversion services and sales of discontinued GOES products are excluded.
For the Years Ended December 31, | 2017 | 2016 | ||||
High-Value Products | ||||||
Precision and engineered strip | 34 | % | 36 | % | ||
Nickel-based alloys and specialty alloys | 24 | % | 25 | % | ||
Titanium and titanium-based alloys | 5 | % | 4 | % | ||
Total High-Value Products | 63 | % | 65 | % | ||
Standard Products | ||||||
Stainless steel sheet | 21 | % | 19 | % | ||
Specialty stainless sheet | 12 | % | 11 | % | ||
Stainless steel plate | 4 | % | 5 | % | ||
Total Standard Products | 37 | % | 35 | % | ||
Grand Total | 100 | % | 100 | % | ||
Comparative shipment volume and average selling price information on the segment’s products for the years ended December 31, 2017 and 2016, is provided in the following table:
2017 | 2016 | % change | |||||||
Volume (000’s pounds): | |||||||||
High-Value | 323,391 | 293,589 | 10 | % | |||||
Standard | 446,542 | 385,010 | 16 | % | |||||
Total | 769,933 | 678,599 | 13 | % | |||||
Average prices (per lb.): | |||||||||
High-Value | $2.81 | $2.59 | 8 | % | |||||
Standard | $1.21 | $1.06 | 14 | % | |||||
Combined Average | $1.88 | $1.72 | 9 | % | |||||
Segment operating profit in 2017 was $37.0 million, or 2.5% of sales, compared to a segment operating loss of $163.0 million, or (13.5)% of sales, in 2016. The substantial improvement in operating results, which was the first profitable year since 2012, primarily reflects the benefits of higher operating levels, a greater mix of high-value products, and the benefits of cost reductions and restructuring actions, including the exit from the GOES market and the de-emphasis of certain commodity standard stainless sheet products, as discussed above. Segment operating results in 2017 also included approximately $14 million in lower retirement benefit expense from defined benefit plans compared to 2016, primarily due to lower defined benefit pension costs as a result of pension plan contributions, as well as from lower defined benefit retiree medical plan costs that were the result of changes achieved in the 2016 labor agreement. Segment operating results in 2016 were primarily driven by lower shipment volumes and selling prices, and also included $43.5 million of costs associated with the work stoppage and return-to-work of represented employees.
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LIFO and Net Realizable Value Reserves
The net effect of changes in LIFO and net realizable value (NRV) inventory reserves was expense of $0.7 million and $0.2 million in 2018 and 2017, respectively, and a benefit of $0.8 million in 2016. Rising inventory costs in 2018, 2017 and 2016 resulted in $28.6 million, $54.2 million and $39.1 million, respectively, pretax LIFO inventory valuation reserve charges, which were offset by $27.9 million, $54.0 million, and $39.9 million, respectively, pretax non-cash benefits for NRV inventory reserves that are required to offset the Company’s aggregate net debit LIFO inventory balance that exceeds current inventory replacement cost.
Corporate Expenses
Corporate expenses, which are included in selling and administrative expenses in the statement of operations, were $58.1 million in 2018 compared to $50.5 million in 2017, and $43.4 million in 2016. The increase in corporate expenses in 2018 compared to 2017 and 2016 were due primarily due to higher incentive compensation costs related to improved company performance, and as well as start-up research and development costs for Next Gen Alloys, our meltless titanium alloy powder joint venture formed with GE in 2017.
Closed Operations and Other Expenses
Closed operations and other expenses are presented primarily in selling and administrative expenses in the consolidated statements of operations, and include legal, environmental, retirement benefit and insurance obligations associated with closed operations. Closed operations and other expenses were $21.6 million in 2018, $34.0 million in 2017, and $34.6 million in 2016. These expenses in 2018 were lower compared to 2017 primarily due to foreign currency remeasurement gains in 2018 compared to remeasurement losses in 2017 from our European Treasury Center operation, along with lower carrying costs for closed facilities in 2018, mainly related to the Rowley, UT and Midland, PA locations, compared to the prior year. Closed operations and other expenses in 2017 were comparable to 2016 as lower closed facility costs, a $3.7 million benefit for reduction in liabilities for legacy employee benefit programs, and higher royalty income were offset by increased foreign currency exchange losses, primarily related to our European Treasury Center operation, and other legacy costs of closed operations, compared to 2016 amounts.
Gain on Joint Venture Deconsolidation
On March 1, 2018, we announced the formation of A&T Stainless, in which ATI has a 50% ownership interest. Our joint venture partner purchased its 50% joint venture interest during the first quarter of 2018, and as a result of this sale and the subsequent deconsolidation of the A&T Stainless entity, we recognized a $15.9 million gain in the first quarter of 2018. This gain is reported in other income, net, on the consolidated statement of operations for the year ended December 31, 2018 and is excluded from FRP segment results.
Restructuring, Goodwill Impairment and Other Charges
2017
Business segment results in 2017 exclude a $114.4 million goodwill impairment charge to write-off all the goodwill assigned to ATI Cast Products, our titanium investment casting business in the HPMC segment. During the third quarter of 2017, we performed an interim goodwill impairment analysis on ATI Cast Products due to impairment indicators, including lower actual results versus projections. As a result of the 2017 interim goodwill impairment evaluation, we determined that the fair value of the Cast Products business was significantly below the carrying value, including goodwill. This was primarily due to lower projected revenues, profitability and cash flows associated with revised expectations for the rate of operational improvement and profitability of this business based on current customer agreements. This goodwill impairment charge was excluded from HPMC 2017 business segment results.
2016
Business segment results in 2016 exclude $538.5 million of restructuring and other charges. These charges include $471.3 million in long-lived asset impairment charges, $31.7 million of facility shutdown and idling costs, $24.2 million of employee benefit costs and $11.3 million of inventory valuation charges.
In August 2016, we announced the indefinite idling of the Rowley, UT titanium sponge production facility and the consolidation of certain titanium manufacturing operations in the HPMC segment. We recorded a non-cash impairment charge of $470.8 million during 2016 to reduce the carrying value of the Rowley, UT facility to an estimated fair value of $15.0
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million. The indefinite idling of the Rowley, UT facility was completed in the fourth quarter 2016, as was the closure of a small titanium wire production facility in Frackville, PA, and the idling of certain titanium manufacturing operations in Albany, OR. We recognized $23.8 million of facility shutdown and idling costs, including contract termination costs, and $7.5 million of employee benefit costs including severance obligations for the elimination of approximately 180 positions associated with these and other HPMC restructuring actions. Also, an $11.3 million charge was recorded in cost of sales to revalue titanium sponge inventory based on revised assessments of industrial grade titanium market conditions and expected utilization of this inventory. The Rowley facility was idled in a manner that allows the facility to be restarted in the future if supported by market conditions.
In October 2016, we announced the closure of the Midland, PA commodity stainless steel operations and the Bagdad, PA GOES finishing facility. These facilities, which were part of our FRP operations, were indefinitely idled earlier in 2016, and management concluded that the facilities could not be operated at an acceptable rate of return. As a result of these actions, during 2016 we recorded $8.4 million of closure-related costs and asset impairments, and $4.9 million of employee benefit costs, including $3.4 million of special termination benefits for pension and other postretirement benefit plans.
Results for 2016 also include an $11.8 million charge for severance obligations in the FRP operations, for the reduction of approximately one-third of the salaried workforce at ATI Flat Rolled Products through the elimination of over 250 positions, which was largely completed by the end of 2016. Reserves for restructuring charges at December 31, 2016 were $33 million, consisting of severance and employee benefit and closure costs, and were substantially paid in 2017.
Debt Extinguishment Charge
In December 2017, we redeemed all $350 million aggregate principal amount of our 2019 Notes, resulting in a $37.0 million pre-tax debt extinguishment charge, which included a $35.8 million cash payment as a make-whole provision on the early extinguishment of debt, and a $1.2 million charge for previously-unrecognized debt issue costs.
Interest Expense, Net
Interest expense, net of interest income and interest capitalization, was $101.0 million in 2018, $133.8 million in 2017, and $124.0 million in 2016. The decrease in interest expense in 2018 compared to 2017 was primarily due to the redemption of our 2019 Notes in the fourth quarter of 2017. The increase in interest expense in 2017 versus 2016 was primarily due to interest on the $287.5 million 2022 Convertible Notes and the $100.0 million term loan (Term Loan), both of which were issued during the second quarter of 2016. Interest expense is presented net of interest income of $1.1 million in 2018, $1.1 million in 2017, and $1.4 million in 2016. Interest expense in 2018, 2017, and 2016 was reduced by $4.1 million, $2.6 million, and $4.7 million, respectively, related to interest capitalization on major strategic capital projects.
Income Taxes
Since 2015, ATI results have reflected a three year cumulative loss from U.S. operations. In situations where a three year cumulative loss condition exists, accounting standards limit the ability to consider projections of future results as positive evidence to assess the realizability of deferred tax assets. Deferred taxes result from temporary differences in the recognition of income and expense for financial and income tax reporting purposes, and differences between the fair value of assets acquired in business combinations accounted for as a purchase for financial reporting purposes and their corresponding tax bases. Deferred income taxes represent future tax benefits or costs to be recognized when those temporary differences reverse. In 2016, the actions to indefinitely idle the Rowley, UT titanium sponge production facility resulted in a reassessment of the realizability of U.S. federal deferred tax assets. In 2016, our results of operations included an increase to deferred tax asset valuation allowances of $171.5 million, including an additional $165.8 million valuation allowance on federal and state deferred tax assets, as well as additional deferred tax asset valuation allowances in certain foreign jurisdictions. In 2017 and 2018, ATI continued to maintain income tax valuation allowances on its U.S. federal and state deferred tax assets. As a result of deferred tax valuation allowances, the remeasurement of our deferred tax assets and liabilities due to the lower enacted federal tax rate in the Tax Cuts and Jobs Act (Tax Act) did not have a significant impact on 2017 results.
We estimated the impact of the Tax Act as part of the 2017 year-end financial statements. Additional Internal Revenue Service (IRS) guidance and Internal Revenue Code (IRC) elections have been published, which have aided in refining the initial estimate related to the tax on the mandatory repatriation of foreign earnings, otherwise known as the “transition tax”. The transition tax is an income tax on certain previously untaxed accumulated and current earnings and profits (E&P) of our foreign subsidiaries. As of December 31, 2017, our initial estimate was approximately $100 million of federal taxable income on the mandatory repatriation of foreign E&P, for which we planned to utilize a portion of our federal net operating loss (NOL) deferred tax asset to fully offset the estimated transition tax liability of $35 million. As of December 31, 2018, our finalized untaxed foreign E&P was $97.5 million, resulting in a transition tax liability of $34.1 million. We made an election to forgo the utilization of NOLs to offset the transition tax liability, and instead utilized available tax credits of $28.2 million. The
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remaining transition tax liability of $5.9 million was recognized as a discrete charge in the income tax provision in 2018 based on updated IRS guidance, our evaluation of various tax assets, and the IRC election to utilize tax credits to meet a portion of the transition tax. The transition tax liability is payable over eight years under the IRC, and the first installment payment of $0.5 million was paid in 2018.
The election to not use NOLs to offset the transition tax inclusion preserved $97.5 million of the federal NOL that we expect to be able to utilize to offset future taxable income, while using tax credits that would potentially expire due to utilization limitations. The overall impact on our deferred tax assets as of December 31, 2017 is zero due to the net valuation allowance position.
The 2018 income tax provision was $11.0 million, or 4.4% of the pre-tax income, compared to a benefit of $6.8 million, or 7.9% of the pre-tax loss in 2017, and income tax benefit of $106.9 million, or 14.6% of the pre-tax loss in 2016. Results in 2018, 2017 and 2016 include impacts from income taxes that differ from applicable standard tax rates, primarily related to income tax valuation allowances. We recorded a $4.1 million tax benefit in 2017 as a result of the U.S. federal tax law changes in December 2017, and results in 2016 include $171.5 million of charges for income tax valuation allowances on deferred tax assets.
Financial Condition and Liquidity
We have a $500 million Asset Based Lending (ABL) Credit Facility, which is collateralized by the accounts receivable and inventory of our domestic operations. The ABL includes a $400 million revolving credit facility, which includes a letter of credit sub-facility of up to $200 million, and a $100 million Term Loan.
In June 2017, the ABL facility was amended to extend the maturity date of the Term Loan from November 2017 to February 2022 and to reduce the interest rate on the Term Loan to 3.0% plus a LIBOR spread from 3.5% plus a LIBOR spread. In July 2018, the ABL facility was further amended to reduce the Term Loan base interest rate to 2.5% plus a LIBOR spread. In conjunction with this 2018 amendment, we entered into a $50 million floating-for-fixed interest rate swap which converts half of the Term Loan to a 5.44% fixed interest rate. The swap matures in January 2021. The Term Loan can be prepaid in minimum increments of $50 million if certain minimum liquidity conditions are satisfied. The underwriting costs associated with amending the Term Loan in 2017 were $0.8 million, and are being amortized, along with the unamortized portion of the $1.0 million of previously recognized deferred fees from the issuance of the Term Loan, to interest expense over the extended term of the loan ending February 2022.
Also in June 2017, the ABL facility was amended to, among other things, extend the duration of the revolving portion of the facility from September 2020 to February 2022. As amended, the applicable interest rate for revolving credit borrowings under the ABL facility includes interest rate spreads based on available borrowing capacity that range between 1.75% and 2.25% for LIBOR-based borrowings (2.0% and 2.5% prior to amendment) and between 1.0% and 1.5% for base rate borrowings. The ABL facility contains a financial covenant whereby we must maintain a fixed charge coverage ratio of not less than 1.00:1.00 after an event of default has occurred and is continuing or if the undrawn availability under the revolving credit portion of the facility is less than the greater of (i) 10%, as amended, of the then applicable maximum borrowing amount under the revolving credit portion of the ABL and any outstanding Term Loan balance, or (ii) $40 million. The Company was in compliance with the fixed charge coverage ratio at December 31, 2018. Additionally, we must demonstrate liquidity, as calculated in accordance with the terms of the ABL facility, of at least $700 million on the date that is 91 days prior to January 15, 2021, the maturity date of the 5.95% Senior Notes due 2021, and that such liquidity is available at all times thereafter until the 5.95% Senior Notes due 2021 are paid in full or refinanced. Costs associated with entering into the 2017 ABL amendment were $1.0 million, and are being amortized, along with the unamortized portion of $2.4 million of previously recognized deferred costs, to interest expense over the extended term of the facility ending February 2022.
There were no outstanding revolving credit borrowings under the ABL facility as of December 31, 2018, and $35.3 million was utilized to support the issuance of letters of credit. Average revolving credit borrowings under the ABL facility for the fiscal year ended December 31, 2018 were $43 million, bearing an average annual interest rate of 3.7%. Average borrowings under the ABL for the fiscal year ended December 31, 2017 were $37 million, bearing an average annual interest rate of 3.3%.
On November 7, 2017, we issued 17 million shares of common stock at $24.00 per share before expenses in an underwritten registered public offering. This equity offering resulted in proceeds, net of transaction costs, of $397.8 million that were used to redeem all of the outstanding $350 million aggregate principal amount of our 2019 Notes. We recognized a $37.0 million pre-tax debt extinguishment charge to redeem the 2019 Notes, which included a $35.8 million cash payment as a make-whole provision on the early extinguishment of debt, and a $1.2 million charge for previously-unrecognized debt issue costs. As a result of the 2019 Notes redemption and the ABL actions, we have no significant debt maturities until 2021.
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At December 31, 2018, we had $382 million of cash and cash equivalents, and available additional liquidity under the ABL facility of approximately $350 million. We do not expect to pay any significant U.S. federal income taxes in the next several years due to net operating loss carryforwards.
In 2018, the Company made $40 million in cash contributions to its U.S. qualified defined benefit pension plans in order to complete its funding requirements for 2018. Based on pension trust assets as of December 31, 2018, and the expected rate of return on pension assets in future years, we currently expect our annual funding requirements to the U.S. qualified defined benefit pension plans to be approximately $145 million in 2019 and in 2020, and to have annual funding requirements of approximately $100 million to these pension plans for the next few years thereafter. However, these funding estimates are subject to significant uncertainty including the actual pension trust assets’ fair value, and the discount rates used to measure pension liabilities.
We believe that internally generated funds, current cash on hand and available borrowings under the ABL facility will be adequate to meet our liquidity needs, including currently projected required contributions to our pension plans. If we needed to obtain additional financing using the credit markets, the cost and the terms and conditions of such borrowings may be influenced by our credit rating. In addition, we regularly review our capital structure, various financing alternatives and conditions in the debt and equity markets in order to opportunistically enhance our capital structure. In connection therewith, we may seek to refinance or retire existing indebtedness, incur new or additional indebtedness or issue equity or equity-linked securities, in each case, depending on market and other conditions.
We have no off-balance sheet arrangements as defined in Item 303(a)(4) of SEC Regulation S-K.
Cash Flow and Working Capital
Cash provided by operations for 2018 was $392.8 million, including cash provided by a $74.1 million reduction in managed working capital balances. This was despite $10.5 million in short-term advances for our funding of the A&T Stainless joint venture in 2018 during its production ramp-up and $40 million in cash contributions to ATI’s U.S. qualified defined benefit pension plans. Cash provided by operations was $22.4 million in 2017, despite a $135.0 million pension plan contribution and a use of cash of $111.8 million from higher managed working capital balances.
As part of managing the liquidity of our business, we focus on controlling managed working capital, which is defined as gross accounts receivable, short-term contract assets and gross inventories, less accounts payable and short-term contract liabilities. With the adoption of the new revenue recognition accounting standard in 2018, we now include short-term contract assets and liabilities in the calculation of managed working capital. In 2017 and prior periods, portions of contract assets and liabilities were included in managed working capital. Prior managed working capital calculations were not revised for this accounting change. In measuring performance in controlling this managed working capital, we exclude the effects of LIFO and other inventory valuation reserves, and reserves for uncollectible accounts receivable which, due to their nature, are managed separately. We also measure managed working capital as a percentage of the prior three months annualized sales to evaluate our performance based on recent levels of business volume. In 2018, managed working capital decreased to 31.6% of annualized total ATI sales compared to 38.1% of annualized sales at December 31, 2017, a 650 basis point reduction despite significant year-over-year business growth. The $74.1 million decrease in managed working capital in 2018 resulted from a $17.4 million decrease in accounts receivable, a $78.7 million increase in accounts payable and $71.4 million in short-term contract liabilities, partially offset by $51.2 million in short-term contracts assets and a $42.2 million increase in inventory. Days sales outstanding, which measures actual collection timing for accounts receivable, improved by approximately 4% at year-end 2018 compared to 2017. Although inventories were approximately 3% higher for the year, they increased slower than our revenue growth rate, reflecting our ongoing efforts to reduce inventory levels across ATI. Gross inventory turns, which exclude the effect of LIFO and any applicable offsetting NRV inventory valuation reserves, increased 12% in 2018 compared to 2017.
In 2017, managed working capital increased by $111.8 million, due primarily to expanding production levels to support business growth, including large pipeline project orders in our FRP segment, which were delivered to our customers in early 2018, along with initial materials received to support the A&T Stainless joint venture. The $111.8 million increase resulted from a $145.8 million increase in inventory and a $91.8 million increase in accounts receivable, partially offset by a $125.8 million decrease in accounts payable.
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The components of managed working capital were as follows:
(In millions) | December 31, 2018 | December 31, 2017 | December 31, 2016 | |||||||||
Accounts receivable | $ | 527.8 | $ | 545.3 | $ | 452.1 | ||||||
Short-term contract assets | 51.2 | — | — | |||||||||
Inventory | 1,211.1 | 1,176.1 | 1,037.0 | |||||||||
Accounts payable | (498.8 | ) | (420.1 | ) | (294.3 | ) | ||||||
Short-term contract liabilities | (71.4 | ) | — | — | ||||||||
Subtotal | 1,219.9 | 1,301.3 | 1,194.8 | |||||||||
Allowance for doubtful accounts | 6.0 | 5.9 | 7.3 | |||||||||
LIFO reserve | (2.9 | ) | (43.1 | ) | (97.3 | ) | ||||||
Inventory reserves | 88.5 | 121.5 | 169.0 | |||||||||
Managed working capital | $ | 1,311.5 | $ | 1,385.6 | $ | 1,273.8 | ||||||
Annualized prior 3 months sales | $ | 4,151.3 | $ | 3,639.5 | $ | 3,184.2 | ||||||
Managed working capital as a % of annualized sales | 31.6 | % | 38.1 | % | 40.0 | % | ||||||
December 31, 2018 change in managed working capital | $ | (74.1 | ) | |||||||||
Cash used in investing activities was $145.1 million in 2018, including $139.2 million for capital expenditures and $10.0 million for the acquisition of Addaero, a leader in metal alloy-based additive manufacturing for the aerospace and defense industries, partially offset by proceeds from equipment disposals and other items. The 2018 capital expenditures primarily relate to HPMC growth projects including the previously announced new iso-thermal press and heat-treating expansion in Cudahy, WI, as well as significant expenditures on our FRP segment’s STAL joint venture’s expansion in China, which was placed in service in the third quarter 2018. The STAL joint venture expansion has been funded entirely through joint venture cash and operations.
Cash used in financing activities in 2018 was $7.3 million and consisted primarily of $10.0 million in dividend payments to the 40% noncontrolling interest in our STAL joint venture and a $5.9 million reduction in foreign credit facility borrowings, partially offset by $2.7 million for the sale of noncontrolling interest related to Next Gen Alloys, and $12.0 million of installment payments from our joint venture partner for the $17.5 million purchase price of its 50% joint venture interest in A&T Stainless. Cash provided by financing activities in 2017 was $9.2 million, as $397.8 million of proceeds from our November 2017 equity offering were largely offset by $353.0 million in long-term debt payments and $35.8 million for a debt extinguishment charge both of which reflect the redemption of our 2019 Notes.
At December 31, 2018, cash and cash equivalents on hand totaled $382.0 million, a $240.4 million increase from year-end 2017. Cash and cash equivalents held by our foreign subsidiaries was $87.9 million at December 31, 2018, of which $35.0 million was held by the STAL joint venture.
Debt
Total debt outstanding remained fairly consistent in 2018 at $1,552.5 million at December 31, 2018, following a decline in 2017 due to the redemption of the 2019 Notes in the fourth quarter of 2017.
In managing our overall capital structure, some of the measures on which we focus are debt to EBITDA, which measures our ability to repay our incurred debt, net debt to total capitalization, which is the percentage of our debt, net of cash that may be available to reduce borrowings, to our total invested and borrowed capital, and total debt to total capitalization, which excludes cash balances. We define EBITDA as income (loss) from continuing operations before interest and income taxes, plus depreciation and amortization. We define Adjusted EBITDA as EBITDA excluding significant non-cash charges or credits, including goodwill impairment charges, restructuring charges including long-lived asset impairments, and other postretirement/pension curtailment and settlement gains and losses. We believe that EBITDA and Adjusted EBITDA are useful to investors because these measures are commonly used to analyze companies on the basis of operating performance, leverage and liquidity. Furthermore, analogous measures are used by industry analysts to evaluate operating performance. EBITDA and Adjusted EBITDA are not intended to be measures of free cash flow for management’s discretionary use, as they do not consider certain cash requirements such as interest payments, tax payments and capital expenditures. EBITDA and Adjusted EBITDA are not intended to represent, and should not be considered more meaningful than, or as alternatives to, a measure of operating performance as determined in accordance with U.S. generally accepted accounting principles.
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All of these leverage ratios improved in 2018 primarily as a result of higher earnings. At year-end 2018, our debt to Adjusted EBITDA ratio was 3.07, compared to 4.32 at December 31, 2017.
December 31, 2018 | December 31, 2017 | |||||||
Income (loss) before income taxes | $ | 247.7 | $ | (86.5 | ) | |||
Interest expense | 101.0 | 133.8 | ||||||
Depreciation and amortization | 156.4 | 160.8 | ||||||
Impairment of goodwill | — | 114.4 | ||||||
Debt extinguishment charge | — | 37.0 | ||||||
Adjusted EBITDA | $ | 505.1 | $ | 359.5 | ||||
Total debt (a) | $ | 1,552.5 | $ | 1,553.8 | ||||
Debt to Adjusted EBITDA | 3.07 | 4.32 | ||||||
At year-end 2018, our net debt to total capitalization was 38.3%, compared to 44.8% at December 31, 2017.
(In millions) | December 31, 2018 | December 31, 2017 | ||||||
Total debt (a) | $ | 1,552.5 | $ | 1,553.8 | ||||
Less: Cash | (382.0 | ) | (141.6 | ) | ||||
Net debt | $ | 1,170.5 | $ | 1,412.2 | ||||
Total ATI stockholders’ equity | 1,885.7 | 1,739.4 | ||||||
Net ATI capital | $ | 3,056.2 | $ | 3,151.6 | ||||
Net debt to ATI capital | 38.3 | % | 44.8 | % | ||||
Total debt to total capitalization was 45.2% at December 31, 2018 compared to 47.2% at December 31, 2017.
(In millions) | ||||||||