Yahoo Finance ATI Inc. (NYSE:ATI) Q3 2023 Earnings Call Transcript
ATI Inc. (NYSE:ATI) Q3 2023 Earnings Call Transcript November 2, 2023
ATI Inc. beats earnings expectations. Reported EPS is $0.55, expectations were $0.52.
Operator: Hello, and welcome to the ATI Third Quarter 2023 Results Conference Call. My name is Alex. I'll be coordinating the call today. [Operator Instructions] I now hand it over to your host, Dave Weston, Vice President of Investor Relations. Please go ahead.
Dave Weston: Thank you. Good morning, and welcome to ATI's third quarter 2023 earnings call. Today's discussion is being broadcast on our website. Participating in today's call to share key points from our third quarter results, are Bob Wetherbee, Board, Chair and CEO; and Don Newman, Executive Vice President and CFO. Before starting our prepared remarks, I would like to draw your attention to the supplemental presentation that accompanies this call. Those slides provide additional color and details on our results and outlook. It can be found on our website at atimaterials.com. After our prepared remarks, we'll open the lines for questions. As a reminder, all forward-looking statements are subject to various assumptions and caveats. These are noted in the earnings release and in the slide presentation. Now I'll turn the call over to Bob.
Bob Wetherbee: Thanks, Dave. Good morning, everyone. Q3 marked another solid quarter of A&D growth and continued margin expansion for ATI. This morning, I'll highlight 3 major points: first, aerospace and defense market demand for ATI products is strong, and we expect continued growth for years to come; second, our transformational actions are driving meaningfully improved results, better still, we're in the early stages of the journey with many benefits yet to come; third, our strong execution is delivering for our customers and shareholders. And now some insights into each of these. First up, the continued strong aerospace and defense market demand for ATI's products. Order lead times for some specialty product lines are out as far as the first quarter of 2025 and we're still years away from peak airframe build rates as recent world events reinforce safety, security and sustained performance remain more important than ever.
ATI is well positioned to deliver on this expectation. We have the right products, the right capabilities and the right team. A&D sales hit 61% in the third quarter, up from 58% in Q2. This is an all-time record for ATI, and we're well on our way to our 65% target. What drove this expansion? Another significant step-up in airframe demand, notably in titanium. Shipments of airframe materials surpassed $200 million in the third quarter. That's up more than 50% from the third quarter last year. It's a new record for us, surpassing our prior Q2 2019 high watermark. How do we achieve this? Ramping build rates, realization of well-earned share gains and a lot of hard work industry analysts commonly referred to as operational execution. Our increased titanium melt capacity in Oregon has been a critical enabler to our top line growth.
The modest investment to restart these 3 furnaces, coupled with additional steps that optimize overall melt throughput helped expand our titanium melt capacity by 35% over the 2022 baseline. It's now producing at full run rate. Customer commitments for ATI titanium are so strong that we're currently bringing online a fourth and most likely the last furnace at that same Oregon Milk facility. This additional furnace will produce high-value specialty titanium alloys that are in fierce demand by our customers with critical applications. It fills another gap left by the much discussed geopolitical disruption to the supply chain. This latest incremental step, coupled with highly efficient execution by our operating team will enable an additional $50 million in titanium revenue per year.
We're on track to ramp capacity in the first half of 2024, reaching that higher full run rate in the second half. This investment falls within our existing CapEx guidance. All in, we've increased titanium capacity by 45% through restarts and optimizations, up from the 35% we previously forecast. And we still have our Richland, Washington melt expansion coming online in 2025. How strong is titanium demand today? In just 12 months, total ATI titanium sales are up approximately 75%. It's an incredible ramp, strong demand, customer commitments and these timely and efficient capacity additions, some cases, we're the only game in town. And the stronger bottom line results are clearly ahead for us. Pretty exciting time to be part of ATI. Let's move to my second point.
Our transformational actions are making a difference. They're delivering increased profitability with more room to expand. ATI's transformation, which began in the depths of COVID is driving meaningful results in the business today. This was another quarter of sequential EBITDA growth and margin improvement. HPMC's EBITDA margins hit 21.5% in Q3. We're making great and steady progress. By 2025, we target delivering HPMC margins consistently in the low to mid-20% range. We're working every day to accelerate shipments, debottleneck and streamline operations and optimize flow times throughout the system. As this high-value material works its way through ATI's finishing facilities, downstream operations are being tested and are delivering more than ever before.
We're not immune to challenges, new bottlenecks emerge and sometimes legacy electrical transformers fail. That was the case at our Lockport, New York mill operation in Q3. While the operating team got the power back on relatively quickly, the outage created a potential divid in our Q4 shipments. The team has responded aggressively taking steps to significantly offset what otherwise would be a Q4 bottom line impact. Strong demand means we've been running hard. So we're increasing our focus on preventive maintenance to ensure consistent operations. In our Advanced Alloys & Solutions segment, aerospace and defense mix continues to improve. It reached 35% in Q3. That's 8 points higher than a year ago. That's good news when you think about long-term growth opportunities for these markets.
Industrial demand softened. We know that's caused by transitory conditions. Operationally, we've taken actions to align our near-term cost structure with this lower demand. Commercially, we're focused on optimizing our product mix. It's another reminder why being an aerospace and defense leader is at the core of our strategy. We're at our best in markets with long-term growth potential, where ATI's differentiated capabilities are critical to our customers' success and where the returns generated reflect the essential value of those materials. What else are we doing to transform? In October, we announced that we have reduced our qualified pension obligations by 85% through annuitization and made additional contributions, which we expect will fully fund the remaining 15%.
Let me take a second to be really clear here. This is a huge milestone for us and for the team at ATI. We worked on this a long time. We've talked about it in almost every earnings call for 5, 6, 7, maybe a decade years. But we've been very deliberate in getting here, meeting our commitments to our retirees and to our shareholders. And I'm pleased that we're at this point, appreciate the team's hard work and diligent preparation for something like in for what we accomplished. It's great. This transaction significantly derisks ATI's balance sheet and enhances our ability to generate substantial cash flow going forward. As we shared this pension annuitization of greatest benefit to the AA&S segment where we should see meaningfully lower pension expense starting this quarter.
My third point today, ATI continues to deliver. Our adjusted earnings per share were $0.55. This is above the midpoint of our August guidance. We see this momentum continuing into 2025 and beyond. Now Don will take us through the financials and talk a bit about Q4 and what's ahead. Then I'll be back to close out and take us into the Q&A. Don?
Don Newman: Thank you, Bob. Our third quarter reinforces our strong foundation, rooted and growing A&D content. It's serving us well. Our adjusted EPS of $0.55 per share outperformed the midpoint of our guidance. Keep in mind, the prior guidance did not include $0.03 of interest expense related to debt supporting the pension annuitization and funding. The strength of our A&D business allowed us to increase total adjusted EBITDA margin while delivering our fifth consecutive quarter of revenue above $1 billion. As we look ahead to the fourth quarter and beyond, the resiliency of our performance and growth continues to carry our business and support value creation. In HPMC, our A&D content increased 200 basis points to 85%, supporting an increase of EBITDA margin to 21.5%.
The mix, pricing and performance of this segment, all in line with current market conditions and the optimization of ATI around this building demand. EBITDA margins in our AA&S segment at 10.4% reflect the previously communicated seasonal Q3 outages, which impacted the quarter's margins by approximately 200 basis points. AA&S margins should increase in the fourth quarter driven by our production cycle and continued growth in our A&D and A&D like markets. We will also see initial benefits from the recent pension actions. I would also note that we are ahead of our SRP transformation time line, and we remain confident in our ability in delivering AA&S's 2025 EBITDA margins in the mid- to upper teen percentage range. Turning to the balance sheet.
We have a lot in motion as we continue to reshape this business for strong future cash generation. Managed working capital remains a focal point. Despite the level remaining near 40% of sales through Q3, we project meaningful improvement to manage working capital levels in Q4. This will be driven by inventory reductions as well as receivable and payable performance. Those initiatives are in process as we speak. Inventory is a key target area for improvement as demand in our front-end melt capacity increase, our team is optimizing that growth as it flows through to finished product and testing. We anticipate year-end managed working capital will be between 31% and 32% of sales. This is slightly higher than our previous expectations, but we expect to largely offset that impact through CapEx management and performance in other areas.
Therefore, we are narrowing our full year free cash flow guidance range to $130 million to $160 million. Q4 cash flow should be very strong. While talking about the balance sheet, I want to further highlight the impact of our recent pension actions, including the annuitization. You'll recall, we've taken many steps to reduce exposure over the past several years. Even so, our pension assets and liabilities still represented an element of forward risk for our shareholders, driven by market forces beyond our direct control. With the pension annuitization, approximately 85% of that risk has been successfully transferred out of ATI to a trusted and fully qualified third party. As a result of additional planned contributions, we expect our remaining obligations to be fully funded.
As such, we no longer expect to make any material cash contributions to the qualified pension plans. I also want to emphasize that the annuitization and other pension actions taken in 2023 are expected to deliver substantial earnings benefits. Specifically, we expect to see annual pension expense drop more than $45 million from pre-annuitization run rates. These glide path steps have delivered the outcome that we were striving for. This largely gets us out of the pension business. Our cash balance exceeds $400 million following this activity. With a strong fourth quarter for cash flow, our outlook for net debt will only improve going forward. We intend to continue to deliver a balanced capital deployment strategy, funding growth while also delevering and returning capital to shareholders.
To that end, we purchased approximately $45 million in outstanding shares in the third quarter and expect to complete our remaining authorization of $30 million in the fourth quarter. We expect this cycle will continue and strengthen in the future with growth, performance and reduced volatility on our balance sheet moving forward. Let's take a closer look at our guidance for the remainder of 2023. As we estimated previously and reinforced with these results, we're tracking towards a strong fourth quarter and should carry momentum into 2024. As we approach the end of the year, we're tightening our guidance range for full year EPS to $2.20 to $2.30 per share, holding the previous midpoint of $2.25 per share. At this midpoint, our Q4 EPS was center at $0.62, representing the highest quarterly result for 2023.
Robust A&D demand and increasing capacity along with optimized cycles and performance point to this high water mark in EPS as we look ahead. As I noted, our free cash flow estimate remains consistent with prior expectations. We're balancing the working capital pressure driven by our increase in sales with continued prudence and tight discipline of our capital investment. All significant expansions and projects, including our newly announced classified facility for additive manufacturing remain on schedule. With that, we are still able to lower our current year capital expenditures to a range of $190 million to $210 million. While we're not yet providing formal guidance for 2024, I will tell you that we see continued growth and expanding performance for next year, directionally in line with the targets we have previously outlined for 2025.
At our upcoming investor update on November 29, we intend to offer more clarity and visibility into this growth. We'll also provide new perspective and details on the continued upward trend for ATI through 2025 and beyond, including insights into our 2027 financial targets. We hope you'll join us in person at the New York Stock Exchange for that event. And by the way, registration is available on our website. With that, I will hand the call back over to Bob to conclude our opening remarks.
Bob Wetherbee: Thanks, Don. These are truly exciting times for ATI, and I'm confident in our sustained momentum and trajectory. Best of all, even 2025 won't be the peak of growth for ATI. We have many more years of growth ahead with clear visibility and long-term agreements extending into the back half of the decade. We continue to shape our business to capitalize on increased demand while also insulating our business against future risk. I hope you'll join us later this month for our investor update in New York. As Don said, we'll talk a lot more about what that growth looks like and what it means for ATI and for our shareholders. With that, let's open the line for questions. Operator, we're ready for the first question.
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