Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
(dollars in millions, except per share data)
Business Overview
We manufacture alloy steel, as well as carbon and micro-alloy steel, with an annual melt capacity of approximately 1.2 million tons and shipment capacity of approximately 0.9 million tons. Our portfolio includes special bar quality (“SBQ”) bars, seamless mechanical tubing (“tubes”), manufactured components such as precision steel components, and billets. Additionally, we manage raw material recycling programs, which are used internally as a feeder system for our melt operations and allow us to sell scrap not used in our operations to third parties. Our products and solutions are used in a diverse range of demanding applications in the following market sectors: automotive; oil and gas; industrial equipment; mining; construction; rail; defense; heavy truck; agriculture; power generation; and oil country tubular goods (“OCTG”).
SBQ steel is made to restrictive chemical compositions and high internal purity levels and is used in critical mechanical applications. We make these products from nearly 100% recycled steel, using our expertise in raw materials to create high-quality steel products. We focus on creating tailored products for our respective end-market sectors. Our engineers are experts in both materials and applications, so we can work closely with each customer to deliver flexible solutions related to our products as well as to their applications and supply chains.
The SBQ bar, tube, and billet production processes take place at our Canton, Ohio manufacturing location. This location accounts for all of the SBQ bars, seamless mechanical tubes and billets we produce and includes three manufacturing facilities: the Faircrest, Harrison, and Gambrinus facilities. Our production of manufactured components takes place at two downstream manufacturing facilities: Tryon Peak (Columbus, North Carolina) and St. Clair (Eaton, Ohio). Many of the production processes are integrated, and the manufacturing facilities produce products that are sold in all of our market sectors. As a result, investments in our facilities and resource allocation decisions affecting our operations are designed to benefit the overall business, not any specific aspect of the business.
The lead time for our products varies based on product type and specifications. As of the date of this filing, lead times for SBQ bars and tubes extend into the first quarter of 2023.
In July 2022, we had an incident at our Faircrest facility, which resulted in approximately one month of melt shop downtime. The Company anticipates a significant insurance recovery related to this incident, which could have a material effect on our financial position, cash flows and results of operations. The timing and amount of any potential recovery are uncertain at this time.
We conduct our business activities and report financial results as one business segment. The presentation of financial results as one reportable segment is consistent with the way we operate our business and is consistent with the manner in which the Chief Operating Decision Maker ("CODM") evaluates performance and makes resource and operating decisions for the business as described above. Furthermore, the Company notes that monitoring financial results as one reportable segment helps the CODM manage costs on a consolidated basis, consistent with the integrated nature of our operations.
Impact of Raw Material Prices
In the ordinary course of business, we are exposed to the volatility of the costs of our raw materials. For example, the current Russia-Ukraine conflict could exacerbate inflationary pressures throughout the global economy and lead to potential market disruptions, such as significant volatility in commodity prices and supply chain disruptions. Although our business has not been materially impacted by this conflict to date, it is difficult to predict the extent to which our operations, or those of our suppliers, will be impacted in the future.
Whenever possible, we manage our exposure to commodity risks primarily through the use of supplier pricing agreements that enable us to establish the purchase prices for certain inputs that are used in our manufacturing process. We also utilize a raw material and natural gas surcharge mechanism when pricing products to our customers.
There are two components of our raw material surcharge. One component is related to the scrap metal content in our finished product and is based on the published No. 1 busheling scrap index. The other component is related to alloy material content in our finished product and is based on published prices for nickel, molybdenum, vanadium, chromium, and manganese. The natural gas surcharge is only applicable when the price of natural gas exceeds a certain dollar amount per MMBtu.
Our surcharge mechanisms are designed to mitigate the impact of increases or decreases in raw material costs, although generally with a lag effect. This timing effect can result in raw material spread whereby costs can be over- or under-recovered in certain periods. While the surcharge generally protects gross profit, it has the effect of diluting gross margin as a percent of sales. We present the raw material spread impact on gross profit for the three and nine months ended September 30, 2022 compared to the three and nine months ended September 30, 2021 in the gross profit charts included within the results of operations section below.
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Table of Contents
Results of Operations
Net Sales
The charts below present net sales and shipments for the three months ended September 30, 2022 and 2021.
Net sales for the three months ended September 30, 2022 were $316.8 million, a decrease of $26.9 million, or 7.8% compared with the three months ended September 30, 2021. The decrease in net sales was primarily driven by lower volumes and a decrease in surcharges, partially offset by favorable price/mix. Customer demand remained solid throughout the third quarter of 2022; however, shipments were negatively impacted by the availability of inventory for shipment as a result of the July 2022 melt shop incident. This resulted in lower volumes of 54 thousand ship tons or a net sales decrease of $57.6 million. The decrease in surcharges of $21.0 million was primarily due to lower market prices for scrap. These decreases were partially offset by favorable price/mix of $51.7 million, due to higher base prices across all end-market sectors, as well as an improvement of sales mix within all end-market sectors. Excluding surcharges, net sales decreased $5.9 million or 2.6%.
The charts below present net sales and shipments for the nine months ended September 30, 2022 and 2021.
Net sales for the nine months ended September 30, 2022 were $1,084.5 million, an increase of $139.9 million, or 14.8% compared with the nine months ended September 30, 2021. The increase in net sales was primarily driven by favorable price/mix and an increase in surcharges, partially offset by lower volumes. Favorable price/mix of $126.2 million was primarily due to higher base prices across all end-market sectors, as well as an improvement of sales mix within all end-market sectors. The increase in surcharges of $68.3 million was primarily due to higher market prices for scrap and alloys. Customer demand remained solid throughout 2022; however, shipments were negatively impacted by the availability of inventory for shipment as a result of the melt shop incident during the third quarter of 2022. This resulted in lower volumes of 57 thousand ship tons or a net sales decrease of $54.6 million. Excluding surcharges, net sales increased $71.6 million or 11.0%.
23
Table of Contents
Gross Profit
The chart below presents the drivers of the gross profit variance from the three months ended September 30, 2021 to September 30, 2022.
Gross profit for the three months ended September 30, 2022 decreased $61.1 million, or 91.6% compared with the three months ended September 30, 2021. The decrease was primarily driven by higher manufacturing costs, unfavorable raw material spread, and lower volumes. This was partially offset by favorable price/mix. Higher manufacturing costs were primarily driven by lower cost absorption, as a result of the July 2022 melt shop incident and ongoing production ramp up during the third quarter of 2022. Manufacturing costs were also higher due to overall inflation, as well as higher maintenance and repair costs. Raw material spread was unfavorable due to lower scrap and alloy spread. Customer demand remained solid throughout the third quarter of 2022; however, shipments were negatively impacted by the availability of inventory for shipment as a result of the melt shop incident. This resulted in lower volumes of 54 thousand ship tons. Favorable price/mix was due to higher base prices across all end-market sectors, as well as an improvement of product mix within all end-market sectors.
24
Table of Contents
The chart below presents the drivers of the gross profit variance from the nine months ended September 30, 2021 to September 30, 2022.
Gross profit for the nine months ended September 30, 2022 decreased $17.6 million, or 10.7% compared with the nine months ended September 30, 2021. The decrease was driven by higher manufacturing costs, unfavorable raw material spread, unfavorable inventory adjustments and lower volumes. This was partially offset by favorable price/mix and other items. Higher manufacturing costs were primarily driven by lower cost absorption, as a result of the July 2022 melt shop incident and ongoing production ramp up during the third quarter of 2022. Manufacturing costs were also higher due to overall inflation, as well as higher maintenance and repair costs. Raw material spread was unfavorable due to lower scrap and alloy spread. Inventory adjustments were unfavorable when comparing the nine months ended September 30, 2021 to the nine months ended September 30, 2022. During the nine months ended September 30, 2021, there were favorable inventory adjustments due to the reversal of reserves, as inventory was sold or scrapped. There were no similar adjustments during the nine months ended September 30, 2022. Customer demand remained solid throughout 2022; however, shipments were negatively impacted by the availability of inventory for shipment as a result of the melt shop incident. This resulted in lower volumes of 57 thousand ship tons. Favorable price/mix was due to higher base prices across all end-market sectors, as well as an improvement of product mix within all end-market sectors. Other items were favorable primarily due to an increase in natural gas surcharges.
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Table of Contents
Selling, General and Administrative Expenses
The charts below present selling, general and administrative (“SG&A”) expense for the three and nine months ended September 30, 2022 and 2021.
SG&A expense for the three and nine months ended September 30, 2022 decreased by $3.7 million, or 18.6%, and $4.0 million, or 6.6%, respectively, compared with the same periods in 2021. This decrease was primarily due to lower variable compensation expense, as well as lower employee expense as a result of prior restructuring actions. This was partially offset by higher spend on professional services, driven by the ongoing information technology transformation project.
Restructuring Charges
Over the past several years, TimkenSteel has made numerous organizational changes to enhance profitable and sustainable growth. These company-wide actions included the restructuring of its business support functions, the reduction of management layers throughout the organization and other domestic and international actions to further improve the Company’s overall cost structure. There were no restructuring charges incurred during the three months ended September 30, 2022 compared with restructuring charges of $0.4 million for the three months ended September 30, 2021. Restructuring charges totaled $0.8 million for the nine months ended September 30, 2022 compared with restructuring charges of $2.0 million for the nine months ended September 30, 2021. Refer to “Note 4 - Restructuring Charges” in the Notes to the unaudited Consolidated Financial Statements for additional information.
Impairment Charges & Loss (Gain) on Sale or Disposal of Assets, net
TimkenSteel recorded no impairment charges for the three and nine months ended September 30, 2022. There were also no impairment charges for the three months ended September 30, 2021. For the nine months ended September 30, 2021, the Company recorded $8.2 million of impairment charges driven by $7.9 million related to the indefinite idling of our Harrison melt and casting assets in the first quarter of 2021. Other impairment charges in the prior year included $0.3 million related to the disposition of assets at our former TMS facility in the first quarter of 2021. Refer to “Note 5 - Disposition of Non-Core Assets” in the Notes to the unaudited Consolidated Financial Statements for additional information.
Additionally, the Company recorded a net loss on the sale or disposal of assets for the three and nine months ended September 30, 2022 of $1.9 million and $2.5 million, respectively. This compares with a net loss on the sale or disposal of assets of $0.1 million and $0.5 million for the three and nine months ended September 30, 2021, respectively. The increased loss for the three and nine months ended September 30, 2022, compared to the same periods in 2021, is primarily due to the loss on the sale of the remaining land and buildings associated with the Company's TimkenSteel Material Services ("TMS") facility in the third quarter of 2022.
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Table of Contents
Interest (Income) Expense, net
Net interest income for the three months ended September 30, 2022 was $0.2 million compared with net interest expense of $1.2 million for the three months ended September 30, 2021. The change from income to expense was due to interest earned on cash invested in a money market fund during the third quarter of 2022, as well as a reduction in average outstanding borrowings for the three months ended September 30, 2022 compared to the same period in 2021.
Net interest expense for the nine months ended September 30, 2022 was $1.6 million compared with net interest expense of $4.7 million for the nine months ended September 30, 2021. The change in net interest expense was due to a reduction in average outstanding borrowings for the nine months ended September 30, 2022 compared to the same period in 2021, as well as interest earned on cash invested in a money market fund during the second and third quarters of 2022.
Refer to “Note 10- Financing Arrangements” in the Notes to the unaudited Consolidated Financial Statements for additional information.
Other (Income) Expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
2022 |
|
|
2021 |
|
|
$ Change |
|
Pension and postretirement non-service benefit (income) loss |
|
$ |
(3.0 |
) |
|
$ |
(9.2 |
) |
|
$ |
6.2 |
|
Loss (gain) from remeasurement benefit plans, net |
|
|
4.8 |
|
|
|
2.7 |
|
|
|
2.1 |
|
Insurance recovery |
|
|
(1.5 |
) |
|
|
— |
|
|
|
(1.5 |
) |
Miscellaneous (income) expense |
|
|
(0.1 |
) |
|
|
(0.1 |
) |
|
|
— |
|
Total other (income) expense, net |
|
$ |
0.2 |
|
|
$ |
(6.6 |
) |
|
$ |
6.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
2022 |
|
|
2021 |
|
|
$ Change |
|
Pension and postretirement non-service benefit (income) loss |
|
$ |
(19.8 |
) |
|
$ |
(28.0 |
) |
|
$ |
8.2 |
|
Loss (gain) from remeasurement of benefit plans, net |
|
|
(37.2 |
) |
|
|
2.2 |
|
|
|
(39.4 |
) |
Insurance recovery |
|
|
(1.5 |
) |
|
|
— |
|
|
|
(1.5 |
) |
Sales and use tax refund |
|
|
— |
|
|
|
(2.5 |
) |
|
|
2.5 |
|
Foreign currency exchange (gain) loss |
|
|
(0.1 |
) |
|
|
— |
|
|
|
(0.1 |
) |
Miscellaneous (income) expense |
|
|
(0.2 |
) |
|
|
— |
|
|
|
(0.2 |
) |
Total other (income) expense, net |
|
$ |
(58.8 |
) |
|
$ |
(28.3 |
) |
|
$ |
(30.5 |
) |
Non-service related pension and other postretirement benefit income, for all years, consists primarily of the interest cost, expected return on plan assets and amortization components of net periodic cost.
The remeasurement of benefit plans is due to all lump sum payments exceeding the sum of the service cost and interest cost components of the net periodic pension cost for certain plans, as well as the partial annuitization of the TimkenSteel Corporation Bargaining Unit Pension Plan ("Bargaining Plan"). The lump sum payments and partial annuitization constitute partial settlements, which are significant events requiring remeasurement of both plan assets and benefit obligations.
A net loss of $4.8 million from the remeasurement of these benefit plans was recognized for the three months ended September 30, 2022. This loss was due to $73.6 million of investment losses on plan assets and lump sum basis losses, partially offset by a gain of $68.8 million primarily driven by a decrease in the pension liability due to an increase in discount rate.
A net gain of $37.2 million from the remeasurement of these benefit plans was recognized for the nine months ended September 30, 2022. This gain was driven by a $299.9 million decrease in the pension liability primarily due to an increase in discount rate, partially offset by a loss of $262.7 million driven by investment losses on plan assets and lump sum basis losses.
A total loss of $2.7 million and $2.2 million from the remeasurement of these benefit plans was recognized for the three and nine months ended September 30, 2021, respectively. For the three months ended September 30, 2021, this loss was due to $3.3 million of investment losses on plan assets and lump sum basis losses, partially offset by a gain of $0.6 million driven by a decrease in the pension liability due to an increase in discount rate. For the nine months ended September 30, 2021, this loss was due to $12.8 million of investment losses on plan assets and lump sum basis losses, partially offset by a gain of $10.6 million driven by a decrease in the pension liability due to an increase in discount rate.
27
Table of Contents
For more details on the aforementioned remeasurements, refer to “Note 11 - Retirement and Postretirement Plans.”
During the third quarter of 2022, TimkenSteel recognized an insurance recovery gain of $1.5 million in the Consolidated Statements of Operations related to an unplanned outage at our Faircrest facility in November 2021. This was recorded in other current assets on the Consolidated Balance Sheets, as the amount was agreed upon with the insurance provider prior to the end of the third quarter of 2022. The cash proceeds were received in October 2022.
During the second quarter of 2021, TimkenSteel received a refund from the State of Ohio related to an overpayment of sales and use taxes for the period of October 1, 2016 through September 30, 2019. This resulted in a gain recognized of $2.5 million, net of related professional fees, during the second quarter of 2021.
Provision for Income Taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
2022 |
|
|
2021 |
|
|
$ Change |
|
Provision (benefit) for income taxes |
|
$ |
0.7 |
|
|
$ |
0.5 |
|
|
$ |
0.2 |
|
Effective tax rate |
|
|
(5.6 |
)% |
|
|
1.0 |
% |
|
|
(6.6 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
2022 |
|
|
2021 |
|
|
$ Change |
|
Provision (benefit) for income taxes |
|
$ |
3.1 |
|
|
$ |
2.1 |
|
|
$ |
1.0 |
|
Effective tax rate |
|
|
3.1 |
% |
|
|
1.8 |
% |
|
|
1.3 |
% |
The majority of the Company’s income tax expense is derived from domestic state and local taxes. The Company remains in a full valuation for the U.S. jurisdiction for the three and nine months ended September 30, 2022 and 2021.
28
Table of Contents
Non-GAAP Financial Measures
Net Sales, Excluding Surcharges
The tables below present net sales by end-market sector, adjusted to exclude surcharges, which represents a financial measure that has not been determined in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”). We believe presenting net sales by end-market sector, both on a gross basis and on a per ton basis, adjusted to exclude raw material and natural gas surcharges, provides additional insight into key drivers of net sales such as base price and product mix. Due to the fact that the surcharge mechanism can introduce volatility to our net sales, net sales adjusted to exclude surcharges provides management and investors clarity of our core pricing and results. Presenting net sales by end-market sector, adjusted to exclude surcharges including on a per ton basis, allows management and investors to better analyze key market indicators and trends and allows for enhanced comparison between our end-market sectors.
When surcharges are included in a customer agreement and are applicable (i.e., reach the threshold amount), based on the terms outlined in the respective agreement, surcharges are then included as separate line items on a customer’s invoice. These additional surcharge line items adjust base prices to match cost fluctuations due to market conditions. Each month, the company will post on the surcharges page of its external website, as well as our customer portal, the scrap, alloy, and natural gas surcharges that will be applied (as a separate line item) to invoices dated in the following month (based upon shipment volumes in the following month). All surcharges invoiced are included in GAAP net sales.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars in millions, tons in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2022 |
|
|
|
Mobile |
|
|
Industrial |
|
|
Energy |
|
|
Other |
|
|
Total |
|
Tons |
|
|
71.2 |
|
|
|
71.3 |
|
|
|
16.0 |
|
|
|
— |
|
|
|
158.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
$ |
130.0 |
|
|
$ |
146.0 |
|
|
$ |
36.0 |
|
|
$ |
4.8 |
|
|
$ |
316.8 |
|
Less: Surcharges |
|
|
42.9 |
|
|
|
45.8 |
|
|
|
11.3 |
|
|
|
— |
|
|
|
100.0 |
|
Base Sales |
|
$ |
87.1 |
|
|
$ |
100.2 |
|
|
$ |
24.7 |
|
|
$ |
4.8 |
|
|
$ |
216.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales / Ton |
|
$ |
1,826 |
|
|
$ |
2,048 |
|
|
$ |
2,250 |
|
|
$ |
— |
|
|
$ |
1,999 |
|
Surcharges / Ton |
|
$ |
603 |
|
|
$ |
643 |
|
|
$ |
706 |
|
|
$ |
— |
|
|
$ |
631 |
|
Base Sales / Ton |
|
$ |
1,223 |
|
|
$ |
1,405 |
|
|
$ |
1,544 |
|
|
$ |
— |
|
|
$ |
1,368 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2021 |
|
|
|
Mobile |
|
|
Industrial |
|
|
Energy |
|
|
Other |
|
|
Total |
|
Tons |
|
|
88.8 |
|
|
|
111.0 |
|
|
|
12.9 |
|
|
|
— |
|
|
|
212.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
$ |
133.5 |
|
|
$ |
182.0 |
|
|
$ |
20.4 |
|
|
$ |
7.8 |
|
|
$ |
343.7 |
|
Less: Surcharges |
|
|
47.0 |
|
|
|
66.6 |
|
|
|
7.4 |
|
|
|
— |
|
|
|
121.0 |
|
Base Sales |
|
$ |
86.5 |
|
|
$ |
115.4 |
|
|
$ |
13.0 |
|
|
$ |
7.8 |
|
|
$ |
222.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales / Ton |
|
$ |
1,503 |
|
|
$ |
1,640 |
|
|
$ |
1,581 |
|
|
$ |
— |
|
|
$ |
1,616 |
|
Surcharges / Ton |
|
$ |
529 |
|
|
$ |
600 |
|
|
$ |
573 |
|
|
$ |
— |
|
|
$ |
569 |
|
Base Sales / Ton |
|
$ |
974 |
|
|
$ |
1,040 |
|
|
$ |
1,008 |
|
|
$ |
— |
|
|
$ |
1,047 |
|
29
Table of Contents
(dollars in millions, tons in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2022 |
|
|
|
Mobile |
|
|
Industrial |
|
|
Energy |
|
|
Other |
|
|
Total |
|
Tons |
|
|
245.5 |
|
|
|
268.3 |
|
|
|
50.0 |
|
|
|
— |
|
|
|
563.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
$ |
427.0 |
|
|
$ |
529.2 |
|
|
$ |
107.3 |
|
|
$ |
21.0 |
|
|
$ |
1,084.5 |
|
Less: Surcharges |
|
|
143.8 |
|
|
|
180.7 |
|
|
|
36.3 |
|
|
|
— |
|
|
|
360.8 |
|
Base Sales |
|
$ |
283.2 |
|
|
$ |
348.5 |
|
|
$ |
71.0 |
|
|
$ |
21.0 |
|
|
$ |
723.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales / Ton |
|
$ |
1,739 |
|
|
$ |
1,972 |
|
|
$ |
2,146 |
|
|
$ |
— |
|
|
$ |
1,924 |
|
Surcharges / Ton |
|
$ |
585 |
|
|
$ |
673 |
|
|
$ |
726 |
|
|
$ |
— |
|
|
$ |
640 |
|
Base Sales / Ton |
|
$ |
1,154 |
|
|
$ |
1,299 |
|
|
$ |
1,420 |
|
|
$ |
— |
|
|
$ |
1,284 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2021 |
|
|
|
Mobile |
|
|
Industrial |
|
|
Energy |
|
|
Other |
|
|
Total |
|
Tons |
|
|
285.9 |
|
|
|
307.3 |
|
|
|
27.1 |
|
|
|
— |
|
|
|
620.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales |
|
$ |
400.0 |
|
|
$ |
480.3 |
|
|
$ |
41.4 |
|
|
$ |
22.9 |
|
|
$ |
944.6 |
|
Less: Surcharges |
|
|
121.5 |
|
|
|
156.9 |
|
|
|
14.1 |
|
|
|
— |
|
|
|
292.5 |
|
Base Sales |
|
$ |
278.5 |
|
|
$ |
323.4 |
|
|
$ |
27.3 |
|
|
$ |
22.9 |
|
|
$ |
652.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales / Ton |
|
$ |
1,399 |
|
|
$ |
1,563 |
|
|
$ |
1,528 |
|
|
$ |
— |
|
|
$ |
1,523 |
|
Surcharges / Ton |
|
$ |
425 |
|
|
$ |
511 |
|
|
$ |
521 |
|
|
$ |
— |
|
|
$ |
472 |
|
Base Sales / Ton |
|
$ |
974 |
|
|
$ |
1,052 |
|
|
$ |
1,007 |
|
|
$ |
— |
|
|
$ |
1,051 |
|
30
Table of Contents
Liquidity and Capital Resources
Amended Credit Agreement
On September 30, 2022, TimkenSteel Corporation (the “Company”), as borrower, and certain domestic subsidiaries of the Company, as subsidiary guarantors (the “Subsidiary Guarantors”), entered into a Fourth Amended and Restated Credit Agreement (the “Amended Credit Agreement”), with JPMorgan Chase Bank, N.A., as administrative agent (the “Administrative Agent”), and the lenders party thereto (collectively, the “Lenders”), which further amends and restates the Company’s existing secured Third Amended and Restated Credit Agreement, dated as of October 15, 2019.
The Amended Credit Agreement extended the maturity date of the asset-based revolving credit facility (the “Credit Facility”) from October 2024 to September 2027. Following the amendment, Credit Facility capacity remained at $400.0 million. Pursuant to the terms of the Amended Credit Agreement, the interest rate to be paid on any borrowings under the Credit Facility is now based on a two-tiered schedule rather than a three-tiered schedule with applicable rates decreasing by 25 basis points, references to LIBOR rates have been updated with references to SOFR rates, the advance rate on investment-grade eligible accounts receivable has been increased from 85% to 90%, and there has been an improvement in the springing fixed charge coverage ratio from 1.1x to 1.0x. The Credit Facility remains undrawn at this time.
Refer to “Note 10- Financing Arrangements” in the Notes to the unaudited Consolidated Financial Statements for additional information.
Convertible Notes
In May 2016, the Company issued $75.0 million aggregate principal amount of Convertible Senior Notes due 2021, plus an additional $11.3 million principal amount to cover over-allotments.
In December 2020, the Company entered into separate, privately negotiated exchange agreements with a limited number of holders of the Company’s then outstanding Convertible Senior Notes due 2021. Pursuant to the exchange agreements, the Company exchanged $46.0 million aggregate principal amount of Convertible Senior Notes due 2021 for $46.0 million aggregate principal amount of its new Convertible Senior Notes due 2025. The Company did not receive any cash proceeds from the issuance of the Convertible Senior Notes due 2025.
The remaining Convertible Senior Notes due 2021 matured on June 1, 2021 and were settled with a combination of cash of $38.9 million and 0.1 million shares, as most noteholders exercised their conversion option prior to maturity. The final cash payment for interest was also made to noteholders on June 1, 2021 in the amount of $1.2 million.
The Convertible Senior Notes due 2025 bear cash interest at a rate of 6.0% per year, payable semiannually on June 1 and December 1, beginning on June 1, 2021. The Convertible Senior Notes due 2025 will mature on December 1, 2025, unless earlier repurchased or converted. The net amount of this exchange was $44.5 million, after deducting the initial underwriters’ fees and paying other transaction costs.
The Convertible Senior Notes due 2025 are convertible at the option of holders in certain circumstances and during certain periods into the Company’s common shares, cash, or a combination thereof, at the Company’s election. The Indenture for the Convertible Senior Notes due 2025 provides that notes will become convertible during a quarter when the share price for 20 trading days during the final 30 trading days of the immediately preceding quarter was greater than 130% of the conversion price. This criterion was met during the third quarter of 2022 and as such the notes can be converted at the option of the holders beginning October 1 through December 31, 2022. Whether the notes will be convertible following such period will depend on if this criterion, or another conversion condition, is met in the future. To date, no holders have elected to convert their notes during any optional conversion periods.
In the first half of 2022, TimkenSteel repurchased a total of $25.2 million aggregate principal amount of its Convertible Senior Notes Due 2025. Total cash paid to noteholders was $67.6 million. A loss on extinguishment of debt was recognized of $43.0 million, including a charge of $0.6 million, for unamortized debt issuance costs related to the portion of debt extinguished, as well as the related transaction costs. There were no repurchases related to the Convertible Notes during the third quarter of 2022.
For additional details regarding the Convertible Notes please refer to “Note 14 - Financing Arrangements” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.
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Table of Contents
Additional Liquidity Considerations
The following represents a summary of key liquidity measures under the Amended Credit Agreement as of September 30, 2022 and December 31, 2021:
|
|
|
|
|
|
|
|
|
|
|
September 30,
2022 |
|
|
December 31,
2021 |
|
Cash and cash equivalents |
|
$ |
262.5 |
|
|
$ |
259.6 |
|
|
|
|
|
|
|
|
Credit Agreement: |
|
|
|
|
|
|
Maximum availability |
|
$ |
400.0 |
|
|
$ |
400.0 |
|
Suppressed availability(1) |
|
|
(169.9 |
) |
|
|
(143.5 |
) |
Availability |
|
|
230.1 |
|
|
|
256.5 |
|
Amount borrowed |
|
|
— |
|
|
|
— |
|
Letter of credit obligations |
|
|
(5.4 |
) |
|
|
(5.4 |
) |
Availability not borrowed |
|
$ |
224.7 |
|
|
$ |
251.1 |
|
|
|
|
|
|
|
|
Total liquidity |
|
$ |
487.2 |
|
|
$ |
510.7 |
|
(1) As of September 30, 2022, and December 31, 2021, TimkenSteel had less than $400 million in collateral assets to borrow against.
Our principal sources of liquidity are cash and cash equivalents, cash flows from operations and available borrowing capacity under our Amended Credit Agreement. As of September 30, 2022, taking into account our view of mobile, industrial, and energy market demand for our products, and our 2022 operating and long-range plan, we believe that our cash balance as of September 30, 2022, projected cash generated from operations, and borrowings available under the Amended Credit Agreement, will be sufficient to satisfy our working capital needs, capital expenditures and other liquidity requirements associated with our operations, including servicing our debt and pension and postretirement benefit obligations, for at least the next twelve months.
To the extent our liquidity needs prove to be greater than expected or cash generated from operations is less than anticipated, and cash on hand or credit availability is insufficient, we would seek additional financing to provide additional liquidity. We regularly evaluate our potential access to the equity and debt capital markets as sources of liquidity and we believe additional financing would likely be available if necessary, although we can make no assurance as to the form or terms of any such financing.
We continue to evaluate the best use of our liquidity which would allow us to invest in profitable growth, maintain a strong balance sheet, and return capital to shareholders. We are currently anticipating capital expenditures to be approximately $25 million to $30 million in 2022.
During the first half of 2022, we privately negotiated early repurchases of $25.2 million aggregate principal amount of our Convertible Senior Notes Due 2025. In addition to reducing outstanding debt and generating $1.5 million of annual interest savings, the repurchases of convertible notes reduced diluted shares outstanding for the nine months ended September 30, 2022 by 2.0 million shares and on a go-forward basis, reduced diluted shares outstanding by 3.2 million shares. There were no repurchases related to the Convertible Notes during the third quarter of 2022.
On December 20, 2021, TimkenSteel announced that its Board of Directors authorized a share repurchase program under which the Company may repurchase up to $50.0 million of its outstanding common shares. Our share repurchase program is intended to return capital to shareholders while also offsetting dilution from annual equity compensation awards. The Company may utilize various methods to repurchase shares, which could include open market repurchases, including repurchases through Rule 10b5-1 plans, privately-negotiated transactions or by other means. The actual timing, number and value of shares repurchased under the program will depend on a number of factors, including the price of the Company's shares, general market and economic conditions, capital needs and other factors. The share repurchase program does not require the Company to acquire any dollar amount or number of shares and may be modified, suspended, extended or terminated by the Company at any time without prior notice. For the three months ended September 30, 2022, the Company repurchased approximately 1.3 million common shares in the open market at an aggregate cost of $19.7 million, which equates to an average repurchase price of $15.72 per share. For the nine months ended September 30, 2022, the Company repurchased approximately 1.9 million common shares in the open market at an aggregate cost of $32.4 million, which equates to an average repurchase price of $17.42 per share. As of September 30, 2022, the Company had a balance of $17.6 million remaining on its previously approved $50.0 million share repurchase program.
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Table of Contents
In October 2022, the Company repurchased approximately 0.7 million common shares in the open market at an aggregate cost of $12.1 million, which equates to an average repurchase price of $16.07 per share. As of October 31, 2022, the Company had $5.5 million remaining under its previously approved $50.0 million share repurchase program.
On November 2, 2022, the Board of Directors authorized an additional $75.0 million share repurchase program. This authorization reflects the continued confidence of the Board and senior leadership in the Company’s ability to generate sustainable through-cycle profitability while maintaining a strong balance sheet and cash flow. In aggregate as of November 2, 2022, the Company has $79.1 million remaining under its authorized share repurchase programs.
Coronavirus Aid, Relief, and Economic Security Act
Due to a provision in the Coronavirus Aid, Relief, and Economic Security ("CARES") Act, the Company was able to defer the employer share of Social Security payroll taxes for a specified time during 2020. During the year ended December 31, 2020, the Company deferred $6.4 million in cash payments and recorded reserves for such deferred payroll taxes in salaries, wages and benefits on the Consolidated Balance Sheets, to be paid in two equal installments. The first installment in the amount of $3.2 million was paid during the fourth quarter of 2021. The second installment is due on December 31, 2022.
The CARES Act also provided for an employee retention credit (“Employee Retention Credit”), which is a refundable tax credit against certain employment taxes. The Company qualified for the tax credit in the second and third quarters of 2020 and accrued a benefit of $2.3 million in the fourth quarter of 2020 related to the Employee Retention Credit in other (income) expense, net on the Consolidated Statements of Operations. The Company filed for this credit in the second quarter of 2021 and received a portion of the proceeds from the Internal Revenue Service ("IRS") in the amount of $0.5 million during the fourth quarter of 2021. The Company received the remaining $1.8 million of cash proceeds in the first quarter of 2022.
Cash Flows
The following table reflects the major categories of cash flows for the nine months ended September 30, 2022 and 2021. For additional details, please refer to the unaudited Consolidated Statements of Cash Flows included in this quarterly report.
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
2022 |
|
|
2021 |
|
Net cash provided (used) by operating activities |
|
$ |
110.8 |
|
|
$ |
106.2 |
|
Net cash provided (used) by investing activities |
|
|
(12.7 |
) |
|
|
(0.9 |
) |
Net cash provided (used) by financing activities |
|
|
(94.5 |
) |
|
|
(36.1 |
) |
Increase (Decrease) in Cash and Cash Equivalents |
|
$ |
3.6 |
|
|
$ |
69.2 |
|
Operating activities
Net cash provided by operating activities for the nine months ended September 30, 2022 was $110.8 million compared to net cash provided of $106.2 million for the nine months ended September 30, 2021. The increase in net cash provided by operating activities is primarily driven by a reduction in working capital. This is partially offset by a decrease in profitability for the nine months ended September 30, 2022 compared to the same period in 2021, as well as an increase in the cash payment related to variable compensation earned in 2021 compared to 2020, which is paid out in the first quarter of the subsequent year.
Investing activities
Net cash used by investing activities for the nine months ended September 30, 2022 was $12.7 million compared to net cash used of $0.9 million for the nine months ended September 30, 2021. The change was due to higher capital expenditures for the nine months ended September 30, 2022 compared to the same period in 2021, as well as increased cash provided in the third quarter of 2021 from the sale of TimkenSteel (Shanghai) Corporation Limited. This is partially offset by higher proceeds from disposals of property, plant and equipment during the nine months ended September 30, 2022 compared to the same period in 2021.
Financing activities
Net cash used by financing activities for the nine months ended September 30, 2022 was $94.5 million compared to net cash used of $36.1 million for the nine months ended September 30, 2021. The change was primarily due to early repurchases of a portion of the Convertible
33
Table of Contents
Senior Notes due 2025 during the nine months ended September 30, 2022 compared to the same period in 2021. Also contributing to this increased use of cash was the repurchase of common shares in 2022 under the share repurchase program, which is discussed in more detail in “Note 10 - Financing Arrangements”. This is partially offset by increased proceeds from the exercise of stock options for the nine months ended September 30, 2022 compared to the same period in 2021.
Critical Accounting Policies and Estimates
Our financial statements are prepared in accordance with U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. We review our critical accounting policies throughout the year.
For a detailed discussion of the Company's critical accounting policies and estimates, refer to the section “Critical Accounting Policies and Estimates” within "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.
New Accounting Guidance
See “Note 2 - Recent Accounting Pronouncements” in the Notes to the unaudited Consolidated Financial Statements.
Revenue Recognition
TimkenSteel recognizes revenue from contracts at a point in time when it has satisfied its performance obligation and the customer obtains control of the goods, at the amount that reflects the consideration the Company expects to receive for those goods.
Substantially all performance obligations arise from the sale of manufactured steel products. The Company receives and acknowledges purchase orders from its customers, which define the quantity, pricing, payment and other applicable terms and conditions. In some cases, the Company receives a blanket purchase order from its customer, which includes pricing, payment and other terms and conditions, with quantities defined at the time the customer issues periodic releases from the blanket purchase order.
Transfer of control and revenue recognition for substantially all the Company’s sales occur upon shipment or delivery of the product, which is when title, ownership, and risk of loss pass to the customer and is based on the applicable customer shipping terms.
The Company invoices its customers at the time of title transfer. Payment terms are generally 30 days from the invoice date. Invoiced amounts are usually inclusive of shipping and handling activities incurred. Shipping and handling activities billed are included in net sales in the Consolidated Statements of Operations. The related costs incurred by the Company for the delivery of goods are classified as cost of products sold in the Consolidated Statements of Operations.
Certain contracts contain variable consideration, which primarily consists of rebates that are accounted for in net sales and accrued based on the estimated probability of the requirements being met.
Sales returns and allowances are treated as a reduction to net sales and are provided for primarily based on historical experience. These reserves also capture any potential warranty claims, which normally result in returned or replaced product.
Benefit Plans
TimkenSteel recognizes an overfunded status or underfunded status (e.g., the difference between the fair value of plan assets and the benefit obligations) as either an asset or a liability for its defined benefit pension and other postretirement benefit plans on the Consolidated Balance Sheets. The Company recognizes actuarial gains and losses immediately through net periodic benefit cost in the Consolidated Statements of Operations upon the annual remeasurement at December 31, or on an interim basis as triggering events warrant remeasurement. An example of a potential triggering event would be settlements. The Company’s accounting policy is to recognize settlements during the quarter in which it is projected that the costs of all settlements during the year will be greater than the sum of the service cost and interest cost components. In addition, the Company uses fair value to account for the value of plan assets.
After remeasurement of certain pension plans during the first three quarters of 2022, the aggregate net periodic pension expense for the fourth quarter of 2022 is currently forecasted to be $3.8 million, resulting in total 2022 net periodic pension expense now estimated at $0.1 million, compared to the estimated net periodic pension income at December 31, 2021 of $11.5 million. This estimate is based on an updated weighted average discount rate of 5.14% as of September 30, 2022 for all of the pension benefit plans, which reflects updated discount rates for the plans that have been remeasured during 2022. Actual asset returns have been recognized for the plans that were remeasured
34
Table of Contents
throughout 2022. For more details on the pension plan remeasurements, refer to "Note 6 - Other (Income) Expense, net" and “Note 11 - Retirement and Postretirement Plans” in the Notes to the unaudited Consolidated Financial Statements. As of September 30, 2022, the weighted average expected return on assets remains at 5.96%, consistent with the December 31, 2021 assumption. Actual cost is dependent on various other factors related to the employees covered by these plans, as well as subsequent remeasurement of the pension plans at December 31, 2022.
On July 7, 2022, the Company entered into an agreement with The Prudential Insurance Company of America ("Prudential") to purchase an irrevocable group annuity contract and transfer approximately $256.2 million of pension obligations under the Bargaining Plan. In connection with the agreement, Prudential began paying benefits under the group annuity contract as of October 1, 2022 for a specified group of approximately 1,900 participants and beneficiaries who previously received payments from the Bargaining Plan. Benefits payable to these participants and beneficiaries were not reduced as a result of this transaction. Plan participants and beneficiaries not included in the transaction remain in the Bargaining Plan. The Company recorded a non-cash settlement gain of approximately $2.7 million in the third quarter of 2022 related to this partial plan annuitization. This settlement is a significant event which also required remeasurement of the Bargaining Plan during the third quarter. The transaction was funded directly by the assets of the Bargaining Plan and required no cash contribution from the Company.
The timing and amount of future required pension contributions is significantly affected by asset returns and actuarial assumptions. Plan asset losses through the third quarter of 2022, combined with current actuarial assumptions, have resulted in potentially accelerated timing of future required pension contributions to as early as 2024. Required future pension contribution timing and amounts are subject to significant change based on future investment performance, Company estimates and actuarial assumptions, as well as current funding laws.
Other postretirement benefit income for 2022 is still forecasted to be $5.0 million for the full year, which is unchanged from the December 31, 2021 forecast. This estimate is based on an unchanged weighted average discount rate of 3.00%, as well as an unchanged weighted average expected return on assets of 4.75%. Actual cost is dependent on various other factors related to the employees covered by these plans.
Adjustments to our actuarial assumptions for both pension and postretirement plans could have a material adverse impact on our operating results.
Forward-Looking Statements
Certain statements set forth in this Quarterly Report on Form 10-Q (including our forecasts, beliefs and expectations) that are not historical in nature are “forward-looking” statements within the meaning of the Private Securities Litigation Reform Act of 1995. In particular, Management’s Discussion and Analysis of Financial Condition and Results of Operations contains numerous forward-looking statements. Forward-looking statements generally will be accompanied by words such as “anticipate,” ,“aspire,” “believe,” “could,” “estimate,” “expect,” “forecast,” “outlook,” “intend,” “may,” “plan,” “possible,” “potential,” “predict,” “project,” “seek,” “should,” “strategic direction,” “strategy,” “target,” “will,” “would,” or other similar words, phrases or expressions that convey the uncertainty of future events or outcomes. You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this Form 10-Q. We caution readers that actual results may differ materially from those expressed or implied in forward-looking statements made by or on behalf of us due to a variety of factors, such as:
•deterioration in world economic conditions, or in economic conditions in any of the geographic regions in which we conduct business, including additional adverse effects from global economic slowdown, terrorism or hostilities. This includes: political risks associated with the potential instability of governments and legal systems in countries in which we or our customers conduct business, and changes in currency valuations;
•the impact of the Russia-Ukraine conflict on the global economy, sourcing of raw materials, and commodity prices;
•climate-related risks, including environmental and severe weather caused by climate changes, and legislative and regulatory initiatives addressing global climate change or other environmental concerns;
•the effects of fluctuations in customer demand on sales, product mix and prices in the industries in which we operate. This includes: our ability to respond to rapid changes in customer demand including but not limited to changes in customer operating schedules due to supply chain constraints; the effects of customer bankruptcies or liquidations; the impact of changes in industrial business cycles; and whether conditions of fair trade exist in the U.S. markets;
35
Table of Contents
•the potential impact of the COVID-19 pandemic on our operations and financial results, including cash flows and liquidity;
•whether we are able to successfully implement actions designed to improve profitability on anticipated terms and timetables and whether we are able to fully realize the expected benefits of such actions;
•competitive factors, including changes in market penetration; increasing price competition by existing or new foreign and domestic competitors; the introduction of new products by existing and new competitors; and new technology that may impact the way our products are sold or distributed;
•changes in operating costs, including the effect of changes in our manufacturing processes; changes in costs associated with varying levels of operations and manufacturing capacity; availability of raw materials and energy; our ability to mitigate the impact of fluctuations in raw materials and energy costs and the effectiveness of our surcharge mechanism; changes in the expected costs associated with product warranty claims; changes resulting from inventory management, cost reduction initiatives and different levels of customer demands; the effects of unplanned work stoppages; and changes in the cost of labor and benefits;
•the success of our operating plans, announced programs, initiatives and capital investments; and our ability to maintain appropriate relations with the union that represents our associates in certain locations in order to avoid disruptions of business;
•unanticipated litigation, claims or assessments, including claims or problems related to intellectual property, product liability or warranty, employment matters, and environmental issues and taxes, among other matters;
•cyber-related risks, including information technology system failures, interruptions and security breaches;
•the Company's ability to achieve its environmental, social, and governance ("ESG") goals, including its 2030 ESG goals;
•the availability of financing and interest rates, which affect our cost of funds and/or ability to raise capital, including our ability to refinance and/or repay prior to or at maturity the Convertible Notes due December 1, 2025; our pension obligations and investment performance; and/or customer demand and the ability of customers to obtain financing to purchase our products or equipment that contain our products;
•the overall impact of the pension and postretirement mark-to-market accounting;
•the effects of the conditional conversion feature of the Convertible Senior Notes due 2025, which, if triggered, entitles holders to convert the notes at any time during specified periods at their option and therefore could result in potential dilution if the holder elects to convert and the Company elects to satisfy a portion or all of the conversion obligation by delivering common shares instead of cash;
•the timing required to ramp up melt production to forecasted demand levels, as the Company recovers from the July 2022 melt incident;
•the amount, if any, that the Company is able to obtain from its business interruption insurance claim in connection with the related incident at the Company's melt shop;
•the impacts from any repurchases of our common shares, including the timing and amount of any repurchases; and
•those items identified under the caption Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2021.
You are cautioned that it is not possible to predict or identify all of the risks, uncertainties and other factors that may affect future results, and that the above list should not be considered to be a complete list. Except as required by the federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. Further, this report includes our current policy and intent and is not intended to create legal rights or obligations. Certain standards of measurement and performance contained in this report are developing and based on assumptions, and no assurance can be given that any plan, objective, initiative, projection, goal, mission, commitment, expectation, or prospect set forth in this report can or will be achieved. Inclusion of information in this report is not an indication that the subject or information is material to our business or operating results.
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Table of Contents