Allegheny Technologies (ATI 29.02, +2.22, +8.28%) is trading sharply higher today after reporting Q2 results this morning.
ATI is major supplier of high performance metals, including titanium and titanium alloys, nickel-based alloys, and specialty steels. It also sells specialty stainless sheet, stainless steel sheet, and stainless steel plate. ATI produces advanced alloys that combine qualities such as superior strength-to-weight ratio, elevated temperature resistance, low coefficient of thermal expansion, and extreme corrosion resistance.
Its largest market is aerospace and defense, which represents about half of total sales, led by products for jet engines. Additionally, ATI has a strong presence in the oil and gas, electrical energy, medical, and automotive markets. In aggregate, these key markets represent about 80% of revenue. Its capabilities range from alloy development to final production of highly engineered finished components.
ATI operates in two business segments: High Performance Materials & Components (HPMC), and Flat Rolled Products (FRP). Over 75% of 2017 HPMC segment sales were to the aerospace and defense markets, and nearly half of HPMC's total sales were products for commercial jet engines, including provisions of its specialtynickel-based alloys and superalloys, which remain extremely strong at high temperatures and resist degradation under extreme conditions, making them well-suited to a variety of aerospace applications, including jet engine shafts, discs, blades, vanes, rings, and casings.
Increasing demand for commercial aerospace products has been the main source of segment sales growth. This is expected to drive HPMC and overall ATI results for the next several years due to ongoing expansion in production of next generation jet engines and airplanes. Its FRP segment serves a diverse group of end markets. The oil and gas market, including chemical and hydrocarbon processing, and the automotive market collectively represent over 40% of 2017 sales. Other major end markets for FRP include food processing equipment and appliances, construction, and mining.
Turning to the Q2 results, ATI reported that non-GAAP EPS jumped 478% year/year to $0.52/share, up from $0.09 in the prior year period. Revenue rose 14.7% year/year to $1.01 bln. EPS was well above market expectations while revenue was reported at a slight upside. As in Q1, results in its HPMC segment improved at a faster pace than expected.
Next-generation jet engine products saw continued strong sales, which at $146 mln were up 39% year/year. This drove HPMC segment operating margin to 16.5% of sales. These results demonstrate the power of ATI's next-generation product mix, as these materials, parts, and components represented 49% of total Q2 HPMC jet engine product sales.
Its FRP segment had a solid quarter with 6.3% operating margin. This was a significant improvement both sequentially and year/year. FRP segment operating profit benefited from improved market demand and the absence of 1Q18 headwinds, including a better matching of raw material costs and surcharges.
Looking ahead, in the HPMC segment, ATI expects continued revenue and operating profit growth in 2H18 resulting from ongoing aerospace market demand growth and improved asset utilization. ATI remains confident in its customers' continued elevated order patterns due to increasing jet engine build rates over the next several years. In the FRP segment, ATI sees continued strong end-market demand. ATI expects strong 2H18 cash generation, with at least $150 mln of free cash flow for the full year 2018, excluding about $40 mln in contributions to the ATI Pension Plan. Finally, ATI does not expect to pay any significant U.S. federal or state income taxes in 2018 due to NOL carryforwards.
This was a good quarter for ATI. After a slight EPS miss in 3Q17, ATI has now posted three large back-to-back-to-back EPS beats. ATI is clearly benefitting from a strong aerospace market, particularly the commercial jet engine market, as that industry is focusing a lot on next-generation engines. The stock has been stuck in a $24-30 trading range since the beginning of 2018. Hopefully this report can get the stock to break above this range and get back on a longer-term uptrend.
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