Q3 2021 TimkenSteel Corp Earnings Call
Thank you for standing by and welcome to the Timken Steel third quarter 2021 earnings call.
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I'd now like to hand, the conference over to your Speaker today, Jennifer Beeman. Thank you. Please go ahead.
Thanks, and good morning, welcome to Timken steels third quarter 2021 conference call I'm, Jennifer Beeman senior manager of Communications and Investor Relations for Timken Steel joining me today is Mike Williams, President and Chief Executive Officer, Kris Westbrooks Executive Vice President and Chief Financial Officer.
And Kevin Racket Church, executive Vice President of sales marketing and business development.
You all should have received a copy of our press release, which was issued last night.
During today's conference call, we may make forward looking statements as defined by the SEC. Our actual results may differ materially from those projected or implied due to a variety of factors, which we describe in greater detail in yesterday's release.
Please refer to our SEC filings, including our most recent Form 10-K and Form 10-Q, and the list of factors included in our earnings release, all of which are available on the timken steel website.
Where non-GAAP financial information is referenced additional details and reconciliations to its GAAP equivalent are also included in the earnings release with that I'd like to turn the call over to Mike Mike.
Thank you Jennifer and thanks to everyone on the call for joining us this morning.
During the third quarter, our end market demand remained robust.
And I'm pleased the first half of our 'twenty to 'twenty two order book is filling up and a strong pricing environment.
Our sales to the mobile market continued to be impacted by the semiconductor supply chain disruption during the quarter.
We had steady industrial sales thanks to the hard work of the team and continued focus on our customer needs.
In addition to our top priorities of employee safety and customer service.
We remain committed to cost control and working capital discipline, and therefore, we were able to achieve record adjusted EBITDA in the third quarter and significant operating cash flow.
Turning to our efforts around environmental safety and governance in the third and fourth quarters, we successfully completed all of our annual maintenance outages.
I'd like to thank the teams for careful planning execution and adhering to our high safety standards.
Nothing is more important than returning our employees and contractors home safely at the end of each shift.
In October we published our 2030 environmental goals.
These goals included a 40% absolute reduction in combined scope, one and scope two greenhouse gas emissions.
A 30% absolute reduction of total energy consumption.
About 35% absolute reduction of fresh water withdrawn.
And a 10% reduction in waste to landfill intensity.
We believe these environmental targets are aligned with regional National and international environmental priorities and are firmly supported by efforts throughout our manufacturing supply chain and corporate operations.
The initiatives around energy conservation and renewables recycled metal sourcing and handling.
And water management and reuse.
Positions the company as an environmental leader.
We have confidence that steel will continue to be a critical component of a reduced carbon future and we remain committed to making progress toward achieving our long term goals.
And building on our long lasting reputation as a sustainable steel supplier.
Okay.
Before I comment on our end market demand environment, a word on pricing in general.
We are currently in the process of negotiating customer pricing agreements for roughly 70% of our business.
To date, we've completed about half of our 2022 pricing negotiations thus.
Thus far we have been pleased with the positive outcomes and expect our average base sales price will be higher than 2021.
Turning to market demand and mobile the semi conductor supply chain disruption continued to negatively impact the quarter.
Our mobile shipments decreased by 5% sequentially due in part to supply chain issues, we expect fourth quarter mobile shipments to continue to be negatively impacted by customer production schedule changes.
I know many of you have asked what timken steels role will be in an EV world and I am pleased to say that we are currently working with our automotive customers as they roll out new EV or hybrid models. In fact, we have been awarded over 20 applications on different EV programs.
Or base sales well in excess of $50 million and expect that to increase even further.
For example, today, we provide our manufactured components products in the form of ring gears opinion chest two major Oems.
In future years, we expect that we will continue to earn additional applications on EV platforms.
As I mentioned earlier, our industrial market demand remained steady in the third quarter.
Customer inventory levels, although up slightly compared with the second quarter remained relatively low therefore, we have a positive view for 2022 market demand.
Moving to energy, while the short term demand remains historically low we continue to see more and more activity as larger players begin to replenish inventories and the rig counts are increasing.
With these improving industry statistics, our shipments into this market increased sequentially by 50% as we experienced some demand recovery.
From an operational and strategic standpoint, we are currently working on initiatives centered around people profitability cash management and business development.
As such we are focused on projects such as simplifying our administrative functions and improving our manufacturing processes.
More to come on these projects in the future.
In our efforts to achieve sustainable profitable growth, we are continuing to evaluate and refine our organizational structure to ensure we have the agility to best serve our customers and the cost structure to remain competitive during all business cycles.
In October we offered a voluntary exit incentive to certain U S based salaried non operative employees.
Not only will this action will result in savings for the company, but we expect that this move will provide opportunities for some employees eager to take on new challenges.
Chris will cover the financial impact of this action in a moment.
Finally, I am pleased that we reached an agreement with United Steelworkers local 11, 23, and they have voted in favor of a new four year contract.
We believe this contract provides some of the areas best wages and benefits while also addressing some of our long term competitive challenges the.
The contract, which is in effect until September 27th of 2025 offers our canton based bargaining workforce increases to base wages every year competitive health care and retirement benefits for all members and a continued focus on employee safety productivity and quality.
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With that I'd like to turn the call over to Chris.
Chris.
Thanks, Mike Good morning, everyone and thanks for joining us today I'm extremely pleased with the team's continued focus on execution and the strong demand environment.
As a result, the company was once again able to deliver a record third quarter adjusted EBITDA strong operating cash flow and a record quarter end cash and total liquidity.
Turning to our third quarter of 2021 results.
Net income on a GAAP basis was $50 $1 million or <unk> 94 per diluted share.
Comparatively the company reported a net loss in the third quarter of 2020 of $13 $9 million or a loss of 31 per diluted share.
Second quarter of 2021, net income was $54 million or <unk> 98 per diluted share.
On an adjusted basis net income for the third quarter was $55 2 million or $1 <unk> per diluted share.
For comparison purposes, the third quarter of 2020, adjusted net loss was $17 3 million or a loss of 38 cents per diluted share <unk>.
Adjusted net income in the second quarter of 2021 was $52 $5 million or <unk> 96 per diluted share.
As it relates to earnings per share our diluted share count in the third quarter was $53 9 million shares.
$2 2 million shares from the second quarter, primarily due to the prior quarter convertible debt settlement for.
For further details please refer to the earnings per share disclosure in our Form 10-Q filed yesterday.
Returning to profitability adjusted EBITDA improved to a record $72 million in the third quarter. This was a substantial improvement of $69 $4 million from the third quarter of last year and a slight improvement from our previous adjusted EBITDA record of $71 million in the second quarter of 2021.
Through the first three quarters of the year adjusted EBITDA totaled $183 8 million.
Representing the company's strongest adjusted EBITDA performance since energy markets peaked in 2014.
Turning to the drivers of the financial results.
Shipments in the third quarter were 212700 tons essentially flat to the second quarter of 2021 and in line with our previously stated guidance.
Third quarter shipments increased 58400 tons or 38% from the third quarter of 2020, primarily driven by a significant increase in the industrial and energy shipments.
In the industrial end market third quarter shipments of 111000 tonnes remained essentially flat compared to the second quarter, reflecting continued strength in shipments to a diverse group of general industrial and distribution customers.
We continued to be successful in filling open capacity created by semiconductor related delays with short lead time industrial demand.
Mobile customer shipments were 88800 tons in the third quarter, a decrease of 4800 tons sequentially or 5% due in part to the ongoing impact of the semiconductor chip shortage.
During the third quarter and year to date periods, we estimate that semiconductor supply chain disruption negatively impacted our mobile shipments by approximately 15030 3000 tons, respectively as mobile customers adjusted their operating schedules and delayed shipments to future periods.
Lastly from an end market perspective energy shipments increased sequentially by approximately 50% to 12900 tons in the third quarter.
Net sales of $343 $7 million in the third quarter increased 5% compared with the second quarter of 2021, and improved 67% compared with the third quarter of 2020.
The majority of the sequential increase is due to higher surcharge revenue as a result of a 17% increase in the average raw material surcharge per ton as a result of higher market prices for scrap and alloys.
The remainder of the sequential increase in net sales is primarily due to higher base selling prices as a result of previous spot price increases.
As anticipated manufacturing cost increased sequentially by $4 million in the third quarter, primarily due to the successful completion of our planned annual maintenance shutdown at the company is rolling and finishing operations in comparison to the prior year quarter manufacturing costs improved by $29 million as a result of improved fixed cost leverage on significantly higher.
Melt utilization and continued cost discipline.
The operation of a single melt shop on our fair craft facility, coupled with strength in end market demand drove third quarter melt utilization of 85% a slight improvement compared to the second quarter of 2021.
This compares to the Covid impacted third quarter of 2020, when total company melt utilization was 36% and fair crest only melt utilization was 44%.
Now turning to SG&A expense in the third quarter SG&A decreased $1 $1 million on a sequential basis to $19 $9 million, primarily as a result of lower variable compensation and employee benefits expense and.
In comparison to the third quarter of 2020, SG&A increased by $2 million largely driven by the following factors first the third quarter of 2021 SG&A includes an additional $1 $7 million of variable compensation expense given significantly improved adjusted EBITDA and continued strong operating cash flow.
SG&A in the prior year quarter benefited by $800000 from COVID-19 related temporary cost reduction actions.
These increases were partially offset by savings from employee restructuring actions.
As Mike mentioned in an effort to further refine our cost structure, we offered a voluntary exit incentive to certain U S. Based salary non operative employees as a result of this program, we will recognize a restructuring charge of approximately $4 million in the fourth quarter of 2021 with cash severance expected primarily in 2022.
Run rate savings are estimated to be approximately $5 million as a result of this action.
With a fairly even split of the savings between SG&A and cost of goods sold.
In 2022, we expect to realize approximately 70% of the run rate savings based on planned exit dates with full run rate savings being realized in 2023.
Moving onto cash flow and liquidity.
Working capital was a use of cash in the third quarter of $14 million driven by an increase in accounts receivable given higher sales activity and modestly higher inventory to support near term demand.
Quarterly net income significantly exceeded working capital requirements and drove operating cash flow of $53 8 million in the third quarter of $14 $6 million sequential improvement.
Thanks to our entire team for another strong cash flow performance in the quarter.
This marks the company's 10th consecutive quarter of generating positive operating cash flow during which time, we generated over $380 million of operating cash flow.
We finished September with a record $172 million of cash and nearly 50% increase from the end of June.
Total liquidity was a record $444 million at the end of September a $68 million increase since the end of June primarily due to a higher cash balance.
Regarding pensions the company recorded a noncash remeasurement loss of approximately $2 $7 million in the third quarter as a result of the required salary pension plan remeasurement.
Additionally, during the quarter the company finalized elections permitted by the American Rescue Plan Act of 2021 at this time based on current assumptions, we believe that required cash contributions to the domestic defined benefit pension plans have been delayed until 2030 prior to the act we would expect it to make required contributions beginning in 2022.
In total as of September 32021, the funded status of all company plans was 86%.
Internationally. The company has a legacy pension scheme, the United Kingdom from our previous manufacturing operation. We're currently working towards a termination and annuity buyout for the U K pension scheme with expected completion by the end of 2023.
Assets and liabilities associated with the UK pension scheme total approximately $102 million and $78 million, respectively as of September 32021.
To this end, we contributed an additional $1 $4 million to the U K pension scheme in October the further enabled pension scheme termination in the future.
As further information is available regarding our pension plans, we will provide an update.
Turning now to the outlook, while the Companys order book is full for the remainder of 2021 and into the second quarter of 2022 fourth quarter shipments are expected to be less in the third quarter given the recently completed annual fair crest melt shop maintenance shutdown.
The planned outage lasted 10 days at a cost of approximately $5 million and the resulting impact was a reduction of approximately 30000 melt tons during the fourth quarter.
Additionally, periodic customer manufacturing outages due to the semiconductor chip shortage made negatively impact fourth quarter mobile shipments.
From an operational perspective during the fourth quarter melt utilization is expected to be at or above 75% and in accordance with the recently ratified labor agreement ratification bonus of $1500 per bargaining unit employees will be paid during the fourth quarter at a total cost of approximately $2 million.
Lastly, we expect our 2021 capital expenditures to remain in the previously stated range of 15 million to $20 million.
To wrap up we are well positioned to finish 2021 with a strong balance sheet and cash flow and further build on our positive business momentum in 2022.
Thanks for your interest in Timken steel, we look forward to sharing our continued progress in the future. We would now like to open the call for questions.
At this time, if you would like to ask a question. Please press star one on your telephone keypad.
And your first question comes from the line of Phil Gibbs with Keybanc.
You said, 70% of your business is re pricing next year.
Does that mean, you've you've implicitly move more of your business to spot because I think from what I remember it was about 80% to 85% most recently.
And then just wanted to to affirm that you said you have roughly half of that 70% put to bed.
Yeah.
Yes, that's correct, Phil so our strategic approach to the market in 2022 is to be more of a 70.
Contract 30 spot.
And 50% of that 70% has already been negotiated and settled upon.
Okay.
And then and then just generally speaking your thoughts on capital returns Youre not cash right now.
Financial performance is as good as it's ever been.
2022 visibility as above average it appears your pension contributions from what I heard Chris say just got delayed.
Is holding you back.
So let me make a few comments and then I'll turn it over to Chris will make a few comments as well first of all I want to.
Say that we're very confident in our near term outlook.
Given the current demand environment.
The upcoming reset of ore.
Customer pricing arrangements.
And the ongoing benefits of our cost reduction efforts.
Both over the last two years as well as the number of additional opportunities that we're pursuing right now to improve our cost.
And of course, we're very pleased with the flexibility that our improved balance sheet provides us.
You have to recall that our objective is to generate sustainable profitability through the business cycles.
And for that I'll turn it over to Chris for a few of his thoughts.
Thanks, Mike and thanks, Phil for the question I completely agree with Mike's comments, we'd like to add that we're actively collaborating with our board on the topic of capital allocation.
Although we cannot yet share the specifics of the strategy because it is an active and ongoing evaluation our capital allocation framework, it's gonna be balanced and it's going to be focused on a few things first it's about maintaining a strong balance sheet with adequate liquidity to provide us that necessary flexibility throughout the cycle.
And we'd also like to use our operating cash flow and balance sheet flexibility to execute on strategic projects with returns in excess of our cost of capital.
Our initial focus here will be on internal investments with strong returns the drive manufacturing excellence asset reliability and also with an eye on ESG we.
We have several of these projects in the pipeline we're in the process of evaluating and prioritizing those to ensure we maximize returns in 2022.
And all of this is being done while ensuring that our shareholders are rewarded as well.
So we look forward to sharing our capital allocation framework details with you in the first quarter of next year and while we continue our analysis our focus is going to be on the execution and continued delivery of strong operating results.
This is Chris I would say more to come on.
Hopefully on that and your your maintenance.
Item was 5 million I think you said that was completed with a $5 million overall for the year.
Did you take some in the third quarter and some in the fourth or was it $5 million in total for both quarters.
It was $5 million.
In the third quarter, and it was $5 million and the actually early in the third quarter.
At Harrison and Gambrinus plants, and then fair Chris was 5 million 10 million in total so nothing incremental in Q4 Phil.
But continuation.
Okay. Thank you.
Thank you.
The next question comes from the line of Tristan <unk> with Exane BNP Paribas.
Hi, Thank you for taking my questions. The first one.
I was wondering if you could provide a bit of color.
What do you expect on Q4 in terms of mix and maybe ASP.
Given that your order book is fully I guess, you had a bit of a picture.
Ability there do you expect a similar increase in terms of ASP compared to Q3 or something a bit lower.
First question, yes.
Yes.
We do expect Asps to continue to improve as you know there was a price increase announcement effective November one.
On our spot business.
So yeah, we expect it to continue to improve and of course I just want to reiterate that we're in negotiations right now with our remaining contracts for 2022.
And I'm very positive about the price environment that we've been successful to achieve and expect that to continue with the remaining contracts.
Interest and if I could add on the mix side of things, it's going to be somewhat dependent on mobile in the chip shortage what shipments ultimately look like there.
And our ability to flex into industrial as we've done in the past.
Alright, that's that's really helpful and if I may.
Pull up on that.
You flagged the order shipments that.
You kind of mix in Q3 and Q4.
What are your expectations for Q, sorry for Q3 and Q2, what are your expectations for Q4.
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This 15000 ton COVID-19 could be higher in Q4, you see maybe some improvement on the demand side or not yet.
Well honestly your guess is as good as ours, but what we expect the best we expect rate knows where to be Q4 to be similar to Q3. However.
No.
Automotive Oems have been making changes to their production schedules at short notice. So that's.
That's the best we can predict right now.
Alright, Thank you and maybe a last one on <unk>.
<unk> announcement and your targets for 2030.
Made is there any capex associated with that you can share at this stage or are you still working progress and future mining how much you will have to spend two to meet those targets.
Yes, so there is capex associated to our overall plan to achieve those targets.
And there'll be Capex spent.
Every year between now and 2030 to deliver those targets.
When we when we when we come out with 2022 will be a little more specific on how much is allocated to the ESG invest.
Investment.
Interest and just to add a little bit to that we believe it is gonna be modest it's gonna be.
<unk> full to the outcome of our ESG program, but be balanced with our remaining capex spend similar to what we've done in the past.
Alright, perfect. Thanks, Phil.
And as a reminder, if you would like to ask a question. Please press star one on your telephone keypad.
And there are no further questions at this time.
Great and thank you all for joining us today.
Thank you for participating this concludes today's conference call you may now disconnect.
Yeah.
Okay.