hxl-10q_20180930.htm

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarter Ended September 30, 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 1-8472

 

Hexcel Corporation

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

94-1109521

(State of Incorporation)

 

(I.R.S. Employer Identification No.)

Two Stamford Plaza

281 Tresser Boulevard

Stamford, Connecticut 06901-3238

(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code: (203) 969-0666

 

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 (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes      No  

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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer 

 

Accelerated filer 

 

 

 

Non-accelerated filer 

 

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 by Rule 12b-2 of the Exchange Act).    Yes      No  

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at October 15, 2018

COMMON STOCK

 

86,095,483

 

 

 

 

 

 


 

HEXCEL CORPORATION AND SUBSIDIARIES

INDEX

 

 

 

 

  

Page

PART I.

 

FINANCIAL INFORMATION

  

 

 

 

 

 

 

ITEM 1.

 

Condensed Consolidated Financial Statements (Unaudited)

  

 

 

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets — September 30, 2018 and December 31, 2017

  

3

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Operations — The three and nine months ended September 30, 2018 and 2017

  

4

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Comprehensive Income — The three and nine months ended September 30, 2018 and 2017

  

4

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows — The nine months ended September 30, 2018 and 2017

  

5

 

 

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements

  

6

 

 

 

 

 

ITEM 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

  

18

 

 

 

 

 

ITEM 3.

 

Quantitative and Qualitative Disclosures About Market Risk

  

24

 

 

 

 

 

ITEM 4.

 

Controls and Procedures

  

24

 

 

 

 

 

PART II.

 

OTHER INFORMATION

  

24

 

 

 

 

 

ITEM 1.

 

Legal Proceedings

  

24

 

 

 

 

 

ITEM 1A.

 

Risk Factors

  

24

 

 

 

 

 

ITEM 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

  

25

 

 

 

 

 

ITEM 6.

 

Exhibits

  

26

 

 

 

 

 

                        SIGNATURE

  

28

 

 

 

2


 

PART I. FINANCIAL INFORMATION

 

ITEM 1. Condensed Consolidated Financial Statements

Hexcel Corporation and Subsidiaries

 

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(Unaudited)

 

 

 

September 30,

 

 

December 31,

 

(In millions)

 

2018

 

 

2017

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

47.2

 

 

$

60.1

 

Accounts receivable, net

 

 

270.3

 

 

 

248.7

 

Inventories, net

 

 

308.7

 

 

 

314.0

 

Contract assets

 

 

43.7

 

 

 

Prepaid expenses and other current assets

 

 

29.1

 

 

 

33.9

 

Total current assets

 

 

699.0

 

 

 

656.7

 

 

 

 

 

 

 

 

 

 

Property, plant and equipment

 

 

2,839.8

 

 

 

2,743.9

 

Less accumulated depreciation

 

 

(945.6

)

 

 

(877.6

)

Net property, plant and equipment

 

 

1,894.2

 

 

 

1,866.3

 

 

 

 

 

 

 

 

 

 

Goodwill and other intangible assets

 

 

144.6

 

 

 

148.7

 

Investments in affiliated companies

 

 

45.9

 

 

 

47.7

 

Other assets

 

 

62.8

 

 

 

61.5

 

Total assets

 

$

2,846.5

 

 

$

2,780.9

 

 

 

 

 

 

 

 

 

 

Liabilities and Stockholders' Equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Current portion of debt

 

$

9.3

 

 

$

4.3

 

Accounts payable

 

 

143.1

 

 

 

144.1

 

Accrued compensation and benefits

 

68.1

 

 

 

73.0

 

Accrued liabilities

 

 

50.4

 

 

 

40.7

 

Total current liabilities

 

 

270.9

 

 

 

262.1

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies (see Note 13)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

980.7

 

 

 

805.6

 

Retirement obligations

 

 

42.7

 

 

 

45.4

 

Other non-current liabilities

 

 

184.9

 

 

 

172.7

 

Total liabilities

 

 

1,479.2

 

 

 

1,285.8

 

 

 

 

 

 

 

 

 

 

Stockholders' equity:

 

 

 

 

 

 

 

 

Common stock, $0.01 par value, 200.0 shares authorized, 108.5 shares  and 107.8 shares  issued at September 30, 2018 and December 31, 2017, respectively

 

 

1.1

 

 

 

1.1

 

Additional paid-in capital

 

 

795.2

 

 

 

774.3

 

Retained earnings

 

 

1,673.3

 

 

 

1,496.1

 

Accumulated other comprehensive loss

 

 

(81.6

)

 

 

(45.0

)

 

 

 

2,388.0

 

 

 

2,226.5

 

Less – Treasury stock, at cost, 22.4 shares at September 30, 2018, and 18.2 shares

at December 31, 2017, respectively.

 

 

(1,020.7

)

 

 

(731.4

)

Total stockholders' equity

 

 

1,367.3

 

 

 

1,495.1

 

Total liabilities and stockholders' equity

 

$

2,846.5

 

 

$

2,780.9

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

 

3


 

Hexcel Corporation and Subsidiaries

Condensed Consolidated Statements of Operations

 

 

 

(Unaudited)

 

 

(Unaudited)

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions, except per share data)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Net sales

 

$

540.5

 

 

$

491.5

 

 

$

1,628.1

 

 

$

1,461.6

 

Cost of sales

 

 

397.5

 

 

 

355.9

 

 

 

1,197.7

 

 

 

1,052.0

 

Gross margin

 

 

143.0

 

 

 

135.6

 

 

 

430.4

 

 

 

409.6

 

Selling, general and administrative expenses

 

 

32.6

 

 

 

34.7

 

 

 

114.3

 

 

 

115.7

 

Research and technology expenses

 

 

13.9

 

 

 

11.8

 

 

 

40.7

 

 

 

36.5

 

Other operating income (expense)

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

96.5

 

 

 

89.1

 

 

 

275.4

 

 

 

257.4

 

Interest expense, net

 

 

10.6

 

 

 

7.0

 

 

 

27.3

 

 

 

20.0

 

     Income before income taxes, and equity in earnings from affiliated companies

 

 

85.9

 

 

 

82.1

 

 

 

248.1

 

 

 

237.4

 

Provision for income taxes

 

 

7.8

 

 

 

13.6

 

 

 

41.9

 

 

 

44.3

 

     Income before equity in earnings from affiliated companies

 

 

78.1

 

 

 

68.5

 

 

 

206.2

 

 

 

193.1

 

Equity in earnings from affiliated companies

 

 

2.0

 

 

 

1.2

 

 

 

4.3

 

 

 

2.8

 

     Net income

 

$

80.1

 

 

$

69.7

 

 

$

210.5

 

 

$

195.9

 

Basic net income per common share

 

$

0.92

 

 

$

0.77

 

 

$

2.37

 

 

$

2.16

 

Diluted net income per common share

 

$

0.91

 

 

$

0.76

 

 

$

2.35

 

 

$

2.13

 

Dividends per share

 

$

0.15

 

 

$

0.125

 

 

$

0.40

 

 

$

0.345

 

Weighted-average common shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

     Basic

 

 

87.0

 

 

 

90.1

 

 

 

88.6

 

 

 

90.7

 

     Diluted

 

 

88.1

 

 

 

91.4

 

 

 

89.7

 

 

 

92.1

 

 

 

Hexcel Corporation and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income

 

 

 

(Unaudited)

 

 

(Unaudited)

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Net Income

 

$

80.1

 

 

$

69.7

 

 

$

210.5

 

 

$

195.9

 

Currency translation adjustments

 

 

(0.4

)

 

 

28.7

 

 

 

(26.2

)

 

 

87.2

 

Net unrealized pension and other benefit actuarial gains

  and prior service credits

 

 

(0.6

)

 

 

(0.6

)

 

 

(0.1

)

 

 

(1.6

)

Net unrealized gains (losses) on financial instruments (net of tax)

 

 

0.2

 

 

 

7.7

 

 

 

(11.9

)

 

 

31.6

 

Total other comprehensive income

 

 

(0.8

)

 

 

35.8

 

 

 

(38.2

)

 

 

117.2

 

Comprehensive income

 

$

79.3

 

 

$

105.5

 

 

$

172.3

 

 

$

313.1

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

 

4


 

Hexcel Corporation and Subsidiaries

Condensed Consolidated Statements of Cash Flows

 

 

 

(Unaudited)

 

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

Cash flows from operating activities

 

 

 

 

 

 

 

 

Net income

 

$

210.5

 

 

$

195.9

 

Reconciliation to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

90.8

 

 

 

76.3

 

Amortization related to financing

 

 

1.2

 

 

 

0.6

 

Deferred income taxes

 

 

27.5

 

 

 

15.1

 

Equity in earnings from affiliated companies

 

 

(4.3

)

 

 

(2.8

)

Stock-based compensation

 

 

14.0

 

 

 

15.5

 

Changes in assets and liabilities:

 

 

 

 

 

 

 

 

(Increase) decrease in accounts receivable

 

 

(27.7

)

 

 

19.7

 

Increase in inventories

 

 

(32.1

)

 

 

(6.7

)

(Increase) decrease in prepaid expenses and other current assets

 

 

(5.0

)

 

 

1.4

 

Increase (decrease) in accounts payable/accrued liabilities

 

 

0.2

 

 

 

(9.8

)

Other net

 

 

3.3

 

 

 

3.3

 

Net cash provided by operating activities

 

 

278.4

 

 

 

308.5

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities

 

 

 

 

 

 

 

 

Capital expenditures

 

 

(150.2

)

 

 

(221.3

)

Acquisition of business and investment in affiliate

 

 

(0.7

)

 

 

(12.0

)

Net cash used for investing activities

 

 

(150.9

)

 

 

(233.3

)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities

 

 

 

 

 

 

 

 

Proceeds from senior notes due 2027 (including original issue discount of $1.7)

 

 

 

 

398.3

 

Issuance costs related to senior notes due 2027

 

 

 

 

(3.7

)

Proceeds from settlement of treasury locks associated with senior notes due 2027

 

 

 

 

10.0

 

Proceeds from Euro term loan

 

 

 

 

37.4

 

Repayments of Euro term loan

 

 

(4.2

)

 

 

(4.1

)

Borrowing from senior unsecured credit facility

 

 

662.0

 

 

 

342.0

 

Repayment of senior unsecured credit facility

 

 

(477.0

)

 

 

(632.0

)

Proceeds from (repayment of) capital lease obligation and other debt, net

 

 

0.3

 

 

 

(0.4

)

Dividends paid

 

 

(35.5

)

 

 

(31.3

)

Repurchase of stock

 

 

(282.8

)

 

 

(122.0

)

Activity under stock plans

 

 

0.4

 

 

 

6.8

 

Net cash (used in) provided by financing activities

 

 

(136.8

)

 

 

1.0

 

Effect of exchange rate changes on cash and cash equivalents

 

 

(3.6

)

 

 

7.7

 

Net (decrease) increase in cash and cash equivalents

 

 

(12.9

)

 

 

83.9

 

Cash and cash equivalents at beginning of period

 

 

60.1

 

 

35.2

 

Cash and cash equivalents at end of period

 

$

47.2

 

 

$

119.1

 

Supplemental data:

 

 

 

 

 

 

 

 

Accrual basis additions to property, plant and equipment

 

$

133.5

 

 

$

218.0

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

 

5


 

HEXCEL CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

Note 1 — Significant Accounting Policies

In these notes, the terms “Hexcel,” “the Company,” “we,” “us,” or “our” mean Hexcel Corporation and subsidiary companies. The accompanying Condensed Consolidated Financial Statements are those of Hexcel Corporation.  Refer to Note 1 to the consolidated financial statements included in the Annual Report on Form 10-K for the year ended December 31, 2017 for a discussion of our significant accounting policies. Significant changes to our accounting policies subsequent to the filing of our Form 10-K, relate solely to the adoption of Topic 606, Revenue from Contracts with Customers, are discussed below in Recent Accounting Pronouncements as well as in Note 9.

Basis of Presentation

The accompanying Condensed Consolidated Financial Statements have been prepared from the unaudited accounting records of Hexcel pursuant to rules and regulations of the Securities and Exchange Commission (“SEC”) and in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information.  Certain information and footnote disclosures normally included in financial statements have been omitted pursuant to rules and regulations of the SEC. In the opinion of management, the Condensed Consolidated Financial Statements include all normal recurring adjustments as well as any non-recurring adjustments necessary to present fairly the statement of financial position, results of operations and cash flows for the interim periods presented.  The Condensed Consolidated Balance Sheet as of December 31, 2017 was derived from the audited 2017 consolidated balance sheet.  Interim results are not necessarily indicative of results expected for any other interim period or for the full year.  These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our 2017 Annual Report on Form 10-K. Within the Unaudited Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2017, borrowings and repayments related to our revolving credit facility previously presented net within financing activities have been presented gross to conform to the current year presentation. 

Investments in Affiliated Companies

We have a 50% equity investment in Aerospace Composites Malaysia Sdn. Bhd. (“ACM”), and a 25% equity investment in Hexcut Services.  These investments are accounted for using the equity method of accounting.      

Recent Accounting Pronouncements

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update No. 2014-09 (ASU 2014-09), Revenue from Contracts with Customers (“ASC 606”).  The update clarified the principles for recognizing revenue and developed a common revenue standard for all industries. We adopted this new standard January 1, 2018, using the modified retrospective method, as a result we adjusted the opening balance of our retained earnings by approximately $3.8 million, which represented the cumulative net earnings effect of revenue recognized over time prior to the date of adoption, related to those contracts whose performance obligations were not fully satisfied by the adoption date.

In February 2016, the FASB issued Accounting Standards Update No. 2016-02 (ASU 2016-02), Leases (Topic 842). This ASU requires lessees to recognize a right of use asset and lease liability on the balance sheet for all leases, with the exception of short-term leases (those of a duration of one year or less). We will adopt this standard on January 1, 2019.  We will adopt the provisions of this standard using the transition method which allows companies to recognize existing leases at the adoption date without requiring comparable presentation. We are in the process of finalizing our analysis and assessment of the impact this new standard will have on our financial statements.

In March 2017, the FASB issued Accounting Standards Update No. 2017-07 (ASU 2017-07), Compensation-Retirement Benefits, that amends the presentation of net periodic pension cost and net periodic postretirement benefit cost. This amendment requires entities to disaggregate the service cost component from the other components of net periodic benefit cost, to report the service cost component in the same line item as other compensation costs and to report the other components of net periodic benefit cost separately as a line item below operating income on our statement of operations. In addition, capitalization of net periodic benefit cost in assets is limited to the service cost component. We adopted this amendment on January 1, 2018. The adoption did not have a material impact to our financial statements or disclosures.

6


 

In August 2017, the FASB issued Accounting Standards Update No. 2017-12 (ASU 2017-12), Targeted Improvement to Accounting for Hedging Activities, which better aligns hedge accounting with an organization’s risk management activities in the financial statements. In addition, the standard simplified the application of hedge accounting guidance in areas where practice issues exist. We adopted this standard on January 1, 2018, with no material impact to our results of operations, or financial position.

In February 2018, the FASB issued Accounting Standards Update No. 2018-02 (ASU 2018-02), Income Statement—Reporting Comprehensive Income (Topic 220), which amends the previous guidance to allow for certain tax effects “stranded” in accumulated other comprehensive income, which are impacted by the Tax Cuts and Jobs Act (the “Act”), to be reclassified from accumulated other comprehensive income into retained earnings. This amendment pertains only to those items impacted by the new tax law and will not apply to any future tax effects stranded in accumulated other comprehensive income. This standard is effective for fiscal years beginning after December 15, 2018, and allows for early adoption. The Company elected to early adopt this standard during the quarter ended March 31, 2018. As a result of the adoption of this standard, the Company reduced the opening balance of retained earnings by approximately $1.6 million.

In August 2018 the FASB issued Accounting Standards Update No. 2018-14 (ASU 2018-14), Compensation—Retirement Benefits—Defined Benefit Plans—General (Subtopic 715-20), which amends the current disclosure requirements regarding defined benefit pensions and other post retirement plans, and allows for the removal of certain disclosures, while adding certain new disclosure requirements. This standard is effective for fiscal years beginning after December 15, 2020, and allows for early adoption. We do not expect this new standard to have a significant impact to our disclosures.

 

Note 2 — Net Income per Common Share

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions, except per share data)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Basic net income per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

80.1

 

 

$

69.7

 

 

$

210.5

 

 

$

195.9

 

Weighted average common shares outstanding

 

 

87.0

 

 

 

90.1

 

 

 

88.6

 

 

 

90.7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic net income per common share

 

$

0.92

 

 

$

0.77

 

 

$

2.37

 

 

$

2.16

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted net income per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

80.1

 

 

 

69.7

 

 

 

210.5

 

 

 

195.9

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding — Basic

 

 

87.0

 

 

 

90.1

 

 

 

88.6

 

 

 

90.7

 

Plus incremental shares from assumed conversions:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restricted stock units

 

 

0.5

 

 

 

0.4

 

 

 

0.4

 

 

 

0.4

 

Stock options

 

 

0.6

 

 

 

0.9

 

 

 

0.7

 

 

 

1.0

 

Weighted average common shares outstanding — Dilutive

 

 

88.1

 

 

 

91.4

 

 

 

89.7

 

 

 

92.1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted net income per common share

 

$

0.91

 

 

$

0.76

 

 

$

2.35

 

 

$

2.13

 

 

Total shares underlying stock options of 0.2 million were excluded from the computation of diluted net income per share for the three and nine months ended September 30, 2018, as they were anti-dilutive. Total shares underlying stock options of 0.1 million and 0.2 million, respectively, were excluded from the computation of diluted net income per share for the three and nine months ended September 30, 2017, as they were anti-dilutive.  

 

Note 3 Inventories

 

 

 

September 30,

 

 

December 31,

 

(In millions)

 

2018

 

 

2017

 

Raw materials

 

$

143.7

 

 

$

126.7

 

Work in progress

 

 

50.6

 

 

 

52.1

 

Finished goods

 

 

114.4

 

 

 

135.2

 

Total Inventory

 

$

308.7

 

 

$

314.0

 

 

 

7


 

Note 4 Retirement and Other Postretirement Benefit Plans

We maintain qualified and nonqualified defined benefit retirement plans covering certain current and former U.S. and European employees, retirement savings plans covering eligible U.S. and U.K. employees and certain postretirement health care and life insurance benefit plans covering eligible U.S. retirees. We also participate in a union sponsored multi-employer pension plan covering certain U.S. employees with union affiliations.

Defined Benefit Retirement Plans

Net Periodic Benefit Costs

Net periodic benefit costs of our defined benefit retirement plans for the three and nine months ended September 30, 2018 and 2017 were as follows:

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

U.S. Nonqualified Defined Benefit Retirement Plans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Service cost

 

$

0.2

 

 

$

0.4

 

 

$

0.8

 

 

$

1.1

 

Interest cost

 

0.1

 

 

0.1

 

 

0.4

 

 

0.4

 

Settlement expense

 

 

 

0.2

 

 

 

 

0.3

 

Net amortization and deferral

 

0.1

 

 

0.1

 

 

0.1

 

 

0.3

 

Net periodic benefit cost

 

$

0.4

 

 

$

0.8

 

 

$

1.3

 

 

$

2.1

 

 

(In millions)

 

September 30, 2018

 

 

December 31, 2017

 

Amounts recognized on the balance sheet:

 

 

 

 

 

 

 

 

Accrued liabilities

 

$

1.0

 

 

$

4.5

 

Other non-current liabilities

 

 

17.8

 

 

16.9

 

 

 

$

18.8

 

 

$

21.4

 

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

European Defined Benefit Retirement Plans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Service cost

 

$

0.3

 

 

$

0.3

 

 

$

0.8

 

 

$

0.7

 

Interest cost

 

1.2

 

 

1.1

 

 

3.4

 

 

3.3

 

Expected return on plan assets

 

 

(2.4

)

 

 

(2.0

)

 

 

(7.1

)

 

 

(6.1

)

Net amortization and deferral

 

 

 

 

 

 

0.2

 

 

0.2

 

Net periodic benefit credit

 

$

(0.9

)

 

$

(0.6

)

 

$

(2.7

)

 

$

(1.9

)

 

(In millions)

 

September 30, 2018

 

 

December 31, 2017

 

Amounts recognized on the balance sheet:

 

 

 

 

 

 

 

 

Noncurrent asset

 

$

38.8

 

 

$

32.2

 

 

 

 

 

 

 

 

 

 

Accrued liabilities

 

 

1.0

 

 

 

0.3

 

Other non-current liabilities

 

 

21.0

 

 

 

19.6

 

Total accrued benefit

 

$

22.0

 

 

$

19.9

 

 

 

All costs related to our pensions are included as a component of operating income in our consolidated statements of operations. For the three months ended September 30, 2018 and 2017, amounts unrelated to service costs were a benefit of $1.0 million and $0.5 million, respectively, and for the nine months ended September 30, 2018 and 2017, amounts unrelated to service costs were a benefit of $3.0 million and $1.6 million, respectively.

 

Contributions

We generally fund our U.S. non-qualified defined benefit retirement plans when benefit payments are incurred.  We have contributed approximately $4.4 million in the first nine months of 2018 to cover unfunded benefits.  We expect to contribute a total of $4.6 million in 2018 to cover unfunded benefits.  We contributed $0.4 million to our U.S. non-qualified defined benefit retirement plans during the nine months ended September 30, 2017.

8


 

We contributed $3.8 million and $2.8 million to our European defined benefit retirement plans in the nine months ended September 30, 2018 and 2017, respectively.  We plan to contribute approximately $5.0 million during 2018 to our European plans.

Postretirement Health Care and Life Insurance Benefit Plans

We recorded $0.3 million and $0.9 million of net amortization gain deferral for the three and nine months ended September 30, 2017, and  $0.9 million of net amortization gain deferral for the nine months ended September 30, 2018. There were no amounts related to the amortization gain deferral recorded during the three months ended September 30, 2018. Net periodic benefit costs of our postretirement health care and life insurance benefit plans for the three and nine months ended September 30, 2018 and 2017 were immaterial.

 

(In millions)

 

September 30, 2018

 

 

December 31, 2017

 

Amounts recognized on the balance sheet:

 

 

 

 

 

 

 

 

Accrued liabilities

 

$

0.5

 

 

$

0.5

 

Other non-current liabilities

 

3.9

 

 

3.6

 

   Total accrued benefit

 

$

4.4

 

 

$

4.1

 

In connection with our postretirement plans, we contributed about $0.3 million during both the nine months ended September 30, 2018 and September 30, 2017. We periodically fund our postretirement plans to pay covered expenses as they are incurred. We expect to contribute approximately $0.4 million in 2018 to cover unfunded benefits.   

 

Note 5 –– Debt

 

(In millions)

 

September 30, 2018

 

 

December 31, 2017

 

Current portion of Euro term loan

 

$

9.3

 

 

$

4.3

 

Current portion of debt

 

 

9.3

 

 

 

4.3

 

Non-current portion of Euro term loan

 

 

52.5

 

 

 

63.3

 

Senior unsecured credit facility - due 2021

 

 

235.0

 

 

 

50.0

 

4.7% senior notes due 2025

 

 

300.0

 

 

 

300.0

 

3.95% senior notes due 2027

 

 

400.0

 

 

 

400.0

 

Senior notes original issue discount

 

 

(2.1

)

 

 

(2.3

)

Senior notes deferred financing costs

 

 

(5.0

)

 

 

(5.5

)

Other debt

 

 

0.3

 

 

 

0.1

 

Long-term debt

 

 

980.7

 

 

 

805.6

 

Total debt

 

$

990.0

 

 

$

809.9

 

 

 

 

 

 

 

 

 

 

 

In 2017, the Company issued $400 million in aggregate principal amount of 3.95% Senior Unsecured Notes due in 2027. The interest rate on these senior notes may be increased 0.25% each time a credit rating applicable to the notes is downgraded. Conversely, such increases would be reversed should the credit rating be subsequently upgraded. The maximum rate is 5.95%. The effective interest rate for the nine months ended September 30, 2018 was 3.88% inclusive of approximately a 0.25% benefit of treasury locks. The fair value of the senior notes due in 2027 based on quoted prices utilizing Level 2 inputs was $387.8 million at September 30, 2018.

 

In 2015, the Company issued $300 million in aggregate principal amount of 4.7% Senior Unsecured Notes due in 2025. The interest rate on these senior notes may be increased by 0.25% each time a credit rating applicable to the notes is downgraded. Conversely, such increases would be reversed should the credit rating be subsequently upgraded. The maximum rate is 6.7%.  The effective interest rate for the nine months ended September 30, 2018 was 4.84%. The fair value of the notes due in 2025 based on quoted prices utilizing Level 2 inputs was $305.5 million at September 30, 2018.

 

The Company has a revolving credit facility (the “Facility”) that allows up to $700 million of borrowings. The Facility matures in June 2021. The interest rate for the Facility at September 30, 2018 is LIBOR + 1.25%. The interest rate ranges from LIBOR + 0.875% to a maximum of LIBOR + 1.875%, depending upon the Company’s leverage ratio.     

 

The Facility contains financial and other covenants, including, but not limited to, restrictions on the incurrence of debt and the granting of liens, as well as the maintenance of an interest coverage ratio and a leverage ratio. In accordance with the terms of the Facility, we are required to maintain a minimum interest coverage ratio of 3.50 (based on the ratio of EBITDA, as defined in the

9


 

Credit Agreement, to interest expense) and may not exceed a maximum leverage ratio of 3.50 (based on the ratio of total debt to EBITDA) throughout the term of the Facility. In addition, the Facility contains other terms and conditions such as customary representations and warranties, additional covenants and customary events of default.

 

As of September 30, 2018, total borrowings under the Facility were $235.0  million, which approximates fair value using Level 2 inputs. The Facility permits us to issue letters of credit up to an aggregate amount of $40 million. Outstanding letters of credit reduce the amount available for borrowing under our revolving loan. As of September 30, 2018, there were no outstanding letters of credit under the Facility, resulting in undrawn availability under the Facility as of September 30, 2018 of $465.0 million. The weighted average interest rate for the Facility was 3.34% for the nine months ended September 30, 2018.

 

In 2016, we entered into a 60 million term loan.  The loan has two tranches of which the first tranche for 25 million has a rate of Euribor +1.2% and a final maturity date of June 30, 2023, and a second tranche for 35 million has a rate of Euribor +1.25% with a final maturity date of June 30, 2024. The loans are payable in annual installments that began on June 30, 2017, for the first tranche, and beginning on June 30, 2019, for the second. There is a zero percent floor on the Euribor. Amounts outstanding under this loan at September 30, 2018 were $61.8 million which approximates fair value using Level 2 inputs under the market approach.      

 

Note 6 Derivative Financial Instruments

Interest Rate Swap and Interest Lock Agreements

        As of September 30, 2018, the Company had interest rate swaps, having a combined notional value of $50.0 million, that swap floating rate obligations for fixed rate obligations at an average rate of 1.09% against LIBOR in U.S. dollars. Both swaps mature in September 2019. The swaps are accounted for as cash flow hedges of our floating rate bank loan. To ensure the swaps were highly effective, all of the critical terms of the swaps matched the terms of the bank loan. The fair value of the interest rate swaps was an asset of $0.8 million at both September 30, 2018 and December 31, 2017, respectively. 

At September 30 2018, we had interest swaps related to European debt obligations which had a combined notional value of approximately €52.9 million. These derivatives swapped floating rate obligations for fixed rate obligations at a weighted average rate of 0.51% against Euribor in Euros.  The swaps amortize through the final maturities of the obligations, on June 30, 2023 and June 30, 2024, in annual installments. The derivatives are accounted for as cash flow hedges of the floating rate term loans.  To ensure the swaps were highly effective, all of the principal terms of the swap matched the terms of the bank loans.  The fair value of the interest rate swaps was a liability of $0.3 million at September 30, 2018, and a liability of $0.4 million at December 31, 2017.

The Company had treasury lock agreements to protect against unfavorable movements in the benchmark treasury rate related to the issuance of our 3.95% Senior Unsecured Notes. These hedges were designated as cash flow hedges therefore any change in fair value was recorded as a component of other comprehensive income. As part of the issuance of our senior notes, we net settled these derivatives for $10 million in cash. As a result of settling these derivatives the previously deferred gains recorded in other comprehensive income will be released to interest expense over the life of the senior notes. The effect of these treasury locks reduced the effective interest rate on the senior notes by approximately 0.25%.  

Foreign Currency Forward Exchange Contracts

A number of our European subsidiaries are exposed to the impact of exchange rate volatility between the U.S. dollar and the subsidiaries’ functional currencies, being either the Euro or the British Pound sterling. We entered into contracts to exchange U.S. dollars for Euros and British Pound sterling through March 2021, which we account for as cash flow hedges. The aggregate notional amount of these contracts was $408.6 million and $285.4 million at September 30, 2018 and December 31, 2017, respectively.  The purpose of these contracts is to hedge a portion of the forecasted transactions of our European subsidiaries under long-term sales contracts with certain customers. These contracts are expected to provide us with a more balanced matching of future cash receipts and expenditures by currency, thereby reducing our exposure to fluctuations in currency exchange rates.  The effective portion of the hedges, losses of $0.6  million and $13.1 million, respectively, were recorded in other comprehensive income (“OCI”) for the three and nine months ended September 30, 2018, and gains of $9.7 million and $31.7 million for the three and nine months ended September 30, 2017, respectively.  We classified the carrying amount of these contracts of $4.8 million in other assets and $8.5 million in other liabilities on the Condensed Consolidated Balance Sheets at September 30, 2018 and $14.7 million in other assets and $2.8 million in other liabilities at December 31, 2017.  We recognized net losses of $0.9 million and net gains of $2.5 million in gross margin during the three and nine months ended September 30, 2018, and net losses of $0.6 million and $11.4 million for the three and nine months ended September 30, 2017, respectively.  

 

In addition, we enter into foreign exchange forward contracts which are not designated as hedges. These are used to provide an offset to transactional gains or losses arising from the re-measurement of non-functional monetary assets and liabilities such as accounts receivable. The change in the fair value of the derivatives is recorded in the statement of operations. There are no credit

10


 

contingency features in these derivatives. During the quarters ended September 30, 2018 and 2017, we recognized net foreign exchange losses of $0.1 million and gains of $4.0 million, respectively, in the Condensed Consolidated Statements of Operations. During the nine months ended September 30, 2018 and 2017, we recognized net foreign exchange losses of $4.1 million and gains of $15.4 million, respectively, in the Condensed Consolidated Statements of Operations. The net foreign exchange impact recognized from these hedges offset the translation exposure of these transactions. The carrying amount of the contracts for derivatives not designated as hedging instruments was $0.5 million classified in other assets and $0.1 million in other liabilities, and $1.3 million classified in other assets, and $0.1 million in other liabilities on the September 30, 2018 and December 31, 2017 Condensed Consolidated Balance Sheets, respectively.

The change in fair value of our foreign currency forward exchange contracts under hedge designations recorded net of tax within accumulated other comprehensive income for the quarters and nine months ended September 30, 2018 and September 30, 2017 was as follows:

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Unrealized (losses) gains at beginning of period, net of tax

 

$

(3.1

)

 

$

(1.3

)

 

$

8.6

 

 

$

(25.9

)

Losses (gains) reclassified to net sales

 

 

0.7

 

 

 

0.6

 

 

 

(1.6

)

 

 

8.9

 

(Decrease) increase in fair value

 

 

(0.3

)

 

 

7.2

 

 

 

(9.7

)

 

 

23.5

 

Unrealized (loss) gain at end of period, net of tax

 

$

(2.7

)

 

$

6.5

 

 

$

(2.7

)

 

$

6.5

 

 

We expect to reclassify $0.7 million of unrealized losses into earnings over the next twelve months as revenue is recorded.

 

Note 7 — Income Taxes

 

The effective tax rate for the current quarter was 9.1% compared to 16.5% for the quarter ended September 30, 2017. The current quarter benefitted from discrete benefits of $9.6 million primarily related to a change in tax accounting method and the release of a valuation allowance in a foreign jurisdiction. The third quarter of 2017 included a non-recurring discrete benefit of $4.2 million resulting from the reversal of reserves for uncertain tax positions. The effective tax rate for the nine months ended September 30, 2018, was 16.9% compared to 18.6% for the nine months ended September 30, 2017. The provision for the nine months ended September 30, 2018 also included a discrete benefit of $1.3 million related to the release of reserves for uncertain tax positions. The provision for the nine months ended September 30, 2017, also included nonrecurring discrete benefits of $9.1 million related to the release of a valuation allowance in a foreign jurisdiction. Excluding these discrete benefits the effective tax rates were 21.3% and 24.2%, respectively. The 2018 periods also reflect the cumulative impact of the reduction of our underlying estimated annual effective rate to 24% from 25%. Both periods benefitted from deductions associated with share-based compensation payments.

 

The Tax Cuts and Jobs Act (the “Act”) enacted in 2017, resulted in the U.S. Federal income tax rate being reduced to 21% from 35% for the same period last year. During the measurement period, which is one year from the date of enactment, or the completion of all estimates made in connection with the Act, companies are permitted to make additional income tax adjustments and revisions of estimates related to the Act. During the quarter ended September 30, 2018, there were no material adjustments made to previously made estimates related to the Act. We are currently in the process of completing our estimates for the transition tax related to our 2018 earnings, which will be finalized during the fourth quarter of 2018.

 

 

Note 8 — Fair Value Measurements

The authoritative guidance for fair value measurements establishes a hierarchy for observable and unobservable inputs used to measure fair value, into three broad levels, which are described below:

 

Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest priority to Level 1 inputs.

 

Level 2: Observable prices that are based on inputs not quoted on active markets, but corroborated by market data.

 

Level 3: Unobservable inputs are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.

In determining fair value, we utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as consider counterparty credit risk in our assessment of fair value.

We have no assets or liabilities that utilize Level 1 inputs. However, we have derivative instruments classified as liabilities and assets which utilize Level 2 inputs, and one liability that utilizes Level 3 inputs.

11


 

For derivative assets and liabilities that utilize Level 2 inputs, we prepare estimates of future cash flows of our derivatives, which are discounted to a net present value. The estimated cash flows and the discount factors used in the valuation model are based on observable inputs, and incorporate non-performance risk (the credit standing of the counterparty when the derivative is in a net asset position, and the credit standing of Hexcel when the derivative is in a net liability position). The fair value of these assets and liabilities was approximately $6.0 million and $8.9 million, respectively, at September 30, 2018.  In addition, the fair value of these derivative contracts, which are subject to a master netting arrangement under certain circumstances, is presented on a gross basis in the Consolidated Balance Sheet.

Below is a summary of valuation techniques for all Level 2 financial assets and liabilities:

 

Interest rate swaps — valued using LIBOR yield curves at the reporting date. Fair value was an asset of $0.8 million and a liability of $0.3 million at September 30, 2018.

Foreign exchange derivative assets and liabilities — valued using quoted forward prices at the reporting date. Fair value of assets and liabilities at September 30, 2018 was $5.2 million and $8.6 million, respectively.

Counterparties to the above contracts are highly rated financial institutions, none of which experienced any significant downgrades in the nine months ended September 30, 2018 that would reduce the receivable amount owed, if any, to the Company.

Liabilities classified as Level 3 we have a liability for $3.0 million, which represented contingent consideration, that was recognized in connection with an acquisition completed during the prior year. This amount was estimated based on certain contractual stipulations which requires payments to be made to the seller in the future based upon the achievement of certain results. We used forecasted results which were discounted using an internally derived discount rate. Future amounts payable may differ from this estimate by the difference between the actual and forecasted results. The amount of interest related to this liability accreted during the nine months ended September 30, 2018, was not material.  

 

Note 9 — Revenue

 

Our revenue is primarily derived from the sale of inventory under long-term agreements with our customers. We have determined that individual purchase orders (“PO”), whose terms and conditions taken with a master agreement, create the ASC 606 contracts which are generally short-term in nature.  For those sales, which are not tied to a long-term agreement, we generate a PO that is subject to our standard terms and conditions. The majority of our sales are covered under long-term agreements, with the remaining sales coming from POs. Our agreements (including POs) generally do not have multiple performance obligations and thus do not require an allocation of a single price amongst multiple goods or services.  All pricing is fixed and determinable. A majority of our revenue is earned when goods are shipped to a customer. In instances where our customers acquire our goods related to government contracts, the contracts are typically subject to terms similar, or equal to, the Federal Acquisition Regulation Part 52.249-2, which contains a termination for convenience clause (“T for C”). T for C allows for a customer to cancel a contract at any point for any reason, but also requires that the customer pay for the cost of both the finished and unfinished goods at the time of cancellation plus a reasonable profit relative to the work performed. Generally these arrangements relate to unique products manufactured to customer specifications and have no alternative use.

 

Upon adoption of ASC 606 we recognize revenue over time for those agreements that have T for C, and where the products being produced have no alternative use.  Prior to the adoption date, revenue related to these agreements was recognized when the goods were shipped, however, as a result of the adoption of ASC 606 a portion of our revenue may be earned in periods earlier than it would have been in prior years. The cumulative adjustment to retained earnings upon adoption represents those earnings, which would have been recognized in the previous year had ASC 606 been in effect during that time. As our production cycle is typically six months or less, it is expected that goods related to the revenue represented in that adjustment will be shipped and billed within the current year. Less than half of our agreements contain provisions which would require revenue to be recognized over time. For revenue recognized over time, we estimate the amount of revenue earned at a given point during the production cycle based on certain costs factors such as raw materials and labor, incurred to date, plus a reasonable profit. We believe this method, which is the cost-to-cost input method, best estimates the revenue recognizable for T for C agreements.

 

We disaggregate our revenue based on market for analytical purposes. The following table details our revenue by market for the three and nine months ended September 30, 2018 and 2017:

 

 

 

Quarter Ended September 30,

 

 

Nine Months Ended September 30,

 

(In millions)

 

2018

 

 

2017

 

 

2018

 

 

2017

 

Consolidated Net Sales

 

$

540.5

 

 

$

491.5

 

 

$

1,628.1

 

 

$

1,461.6

 

Commercial Aerospace

 

 

373.1

 

 

 

352.6

 

 

 

1,139.6

 

 

 

1,048.7

 

Space & Defense

 

90.4

 

 

82.7

 

 

272.2

 

 

 

247.3

 

Industrial

 

77.0

 

 

56.2

 

 

216.3

 

 

165.6

 

12


 

 

Revenue recognized over time gives rise to contract assets, which represent revenue recognized but unbilled.  Contract assets are included in our Consolidated Balance Sheets as a component of current assets. The activity related to contract assets for the nine months ended September 30, 2018 is as follows:

`

 

Composite

 

 

Engineered

 

 

 

 

 

(In millions)

 

Materials

 

 

Products

 

 

Total

 

Opening adjustment - January 1, 2018

 

$