Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2014
OR
o Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File Number 0-21719
Steel Dynamics, Inc.
(Exact name of registrant as specified in its charter)
Indiana
35-1929476
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
7575 West Jefferson Blvd, Fort Wayne, IN
46804
(Address of principal executive offices)
(Zip Code)
Registrant’s telephone number, including area code: (260) 969-3500
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 x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company (see definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act).
(Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
As of July 31, 2014, Registrant had 240,040,043 outstanding shares of common stock.
STEEL DYNAMICS, INC.
Page
PART I. Financial Information
Item 1.
Financial Statements:
Consolidated Balance Sheets as of June 30, 2014 (unaudited) and December 31, 2013
1
Consolidated Statements of Income for the three- and six-month periods ended June 30, 2014 and 2013 (unaudited)
2
Consolidated Statements of Cash Flows for the three- and six-month periods ended June 30, 2014 and 2013 (unaudited)
3
Notes to Consolidated Financial Statements (unaudited)
4
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
17
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
24
Item 4.
Controls and Procedures
PART II. Other Information
Legal Proceedings
25
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults Upon Senior Securities
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits
26
Signatures
27
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
June 30,
December 31,
2014
2013
(unaudited)
Assets
Current assets
Cash and equivalents
$
357,490
395,156
Accounts receivable, net
852,440
664,208
Accounts receivable-related parties
58,356
56,392
Inventories
1,320,871
1,314,747
Deferred income taxes
17,813
17,964
Other current assets
23,216
25,167
Total current assets
2,630,186
2,473,634
Property, plant and equipment, net
2,177,007
2,226,134
Restricted cash
18,460
23,827
Intangible assets, net
372,819
386,159
Goodwill
728,751
731,996
Other assets
57,979
91,256
Total assets
5,985,202
5,933,006
Liabilities and Equity
Current liabilities
Accounts payable
422,761
404,605
Accounts payable-related parties
17,930
10,327
Income taxes payable
19,448
4,023
Accrued payroll and benefits
74,155
93,432
Accrued interest
30,682
31,363
Accrued expenses
86,486
89,884
Current maturities of long-term debt
61,761
341,544
Total current liabilities
713,223
975,178
Long-term debt
Senior term loan
199,375
220,000
Senior notes
1,500,000
Other long-term debt
42,753
46,045
Total long-term debt
1,742,128
1,766,045
548,285
556,038
Other liabilities
22,356
23,376
Commitments and contingencies
Redeemable noncontrolling interests
124,180
116,514
Equity
Common stock voting, $.0025 par value; 900,000,000 shares authorized; 259,588,037 and 258,840,350 shares issued; and 239,620,885 and 222,867,408 shares outstanding, as of June 30, 2014 and December 31, 2013, respectively
647
645
Treasury stock, at cost; 19,967,152 and 35,972,942 shares, as of June 30, 2014 and December 31, 2013, respectively
(398,818
)
(718,529
Additional paid-in capital
1,058,921
1,085,694
Retained earnings
2,237,147
2,179,513
Total Steel Dynamics, Inc. equity
2,897,897
2,547,323
Noncontrolling interests
(62,867
(51,468
Total equity
2,835,030
2,495,855
Total liabilities and equity
See notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(in thousands, except per share data)
Three Months Ended
Six Months Ended
Net sales
Unrelated parties
1,987,635
1,735,420
3,753,516
3,463,821
Related parties
82,126
65,920
146,327
133,215
Total net sales
2,069,761
1,801,340
3,899,843
3,597,036
Costs of goods sold
1,846,990
1,653,648
3,513,768
3,273,080
Gross profit
222,771
147,692
386,075
323,956
Selling, general and administrative expenses
73,463
65,356
143,505
130,618
Profit sharing
10,469
4,779
15,864
11,422
Amortization of intangible assets
6,934
8,051
13,869
16,178
Impairment charges
—
308
Total selling, general and administrative expenses
90,866
78,494
173,238
158,526
Operating income
131,905
69,198
212,837
165,430
Interest expense, net of capitalized interest
30,050
31,465
60,619
66,094
Other expense (income), net
(1,754
(1,246
(2,385
(2,292
Income before income taxes
103,609
38,979
154,603
101,628
Income taxes
37,268
15,706
54,564
37,103
Net income
66,341
23,273
100,039
64,525
Net loss attributable to noncontrolling interests
5,962
5,685
10,843
12,648
Net income attributable to Steel Dynamics, Inc.
72,303
28,958
110,882
77,173
Basic earnings per share attributable to Steel Dynamics, Inc. stockholders
0.32
0.13
0.49
0.35
Weighted average common shares outstanding
226,220
220,471
224,615
220,233
Diluted earnings per share attributable to Steel Dynamics, Inc. stockholders, including the effect of assumed conversions when dilutive
0.31
0.48
0.34
Weighted average common shares and share equivalents outstanding
242,048
221,736
241,721
238,246
Dividends declared per share
0.115
0.11
0.23
0.22
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(in thousands)
Operating activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization
58,441
56,826
116,009
113,887
Equity-based compensation
4,700
2,344
10,468
7,097
(280
10,812
(4,371
21,747
(Gain) loss on disposal of property, plant and equipment
3,456
588
6,097
(795
Changes in certain assets and liabilities:
Accounts receivable
(99,696
(19,826
(188,646
(130,764
11,230
1,660
(6,124
34,008
345
6,783
7,704
10,141
13,385
(46,370
18,426
(7,382
Income taxes receivable/payable
(4,964
(23,304
14,429
(26,326
Accrued expenses and liabilities
23,056
19,621
(25,264
(24,021
Net cash provided by operating activities
76,014
32,715
48,767
62,425
Investing activities:
Purchases of property, plant and equipment
(33,534
(49,236
(58,375
(94,582
Proceeds from maturity of short-term commercial paper
31,520
Other investing activities
2,314
863
31,198
3,277
Net cash used in investing activities
(31,220
(48,373
(27,177
(59,785
Financing activities:
Issuance of current and long-term debt
63,945
32
107,398
409,293
Repayment of current and long-term debt
(76,412
(202,312
(132,658
(508,003
Debt issuance costs
(195
(6,192
Proceeds from exercise of stock options, including related tax effect
8,516
2,977
11,421
10,591
Contributions from noncontrolling investors, net
(606
5,286
4,764
5,697
Dividends paid
(25,666
(24,238
(50,181
(46,190
Net cash used in financing activities
(30,223
(218,450
(59,256
(134,804
Increase (decrease) in cash and equivalents
14,571
(234,108
(37,666
(132,164
Cash and equivalents at beginning of period
342,919
477,861
375,917
Cash and equivalents at end of period
243,753
Supplemental disclosure information:
Cash paid for interest
20,838
17,583
60,501
67,315
Cash paid for federal and state income taxes, net
43,008
27,360
45,151
38,525
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Note 1. Description of the Business and Significant Accounting Policies
Description of the Business
Steel Dynamics, Inc. (SDI), together with its subsidiaries (the company), is a domestic manufacturer of steel products and metals recycler. The company has three reporting segments: steel operations, metals recycling and ferrous resources operations, and steel fabrication operations.
Steel Operations. Steel operations include the company’s Flat Roll Division, Structural and Rail Division, Engineered Bar Products Division, Roanoke Bar Division, Steel of West Virginia and The Techs operations. These operations consist of mini-mills, producing steel from steel scrap, using electric arc furnaces, continuous casting, automated rolling mills, and downstream finishing facilities. Steel operations accounted for 61% of the company’s external net sales during each of the three-month periods ended June 30, 2014 and 2013, and 61% and 60% of the company’s external net sales during the six-month periods ended June 30, 2014 and 2013, respectively.
Metals Recycling and Ferrous Resources Operations. Metals recycling and ferrous resources operations primarily include OmniSource Corporation, the company’s metals recycling, steel scrap procurement, and processing locations, and our two ironmaking initiatives: Iron Dynamics, a liquid pig iron production facility; and our Minnesota iron operations, an iron nugget production facility and operations to supply the nugget facility with its primary raw material, iron concentrate. Metals recycling and ferrous resources operations accounted for 31% and 33% of the company’s external net sales during the three-month periods ended June 30, 2014 and 2013, respectively, and 31% and 34% of the company’s external net sales during the six-month periods ended June 30, 2014 and 2013, respectively.
Steel Fabrication Operations. Steel fabrication operations include the company’s six New Millennium Building Systems joist and deck plants located throughout the United States and Northern Mexico. Revenues from these plants are generated from the fabrication of trusses, girders, steel joists and steel decking used within the non-residential construction industry. Steel fabrication operations accounted for approximately 7% and 6% of the company’s external net sales during the three-month periods ended June 30, 2014 and 2013, respectively, and 6% of the company’s external net sales for each of the six-month periods ended June 30, 2014 and 2013.
Significant Accounting Policies
Principles of Consolidation. The consolidated financial statements include the accounts of SDI, together with its wholly and majority-owned or controlled subsidiaries, after elimination of significant intercompany accounts and transactions. Noncontrolling interests represent the noncontrolling owner’s proportionate share in the equity, income, or losses of the company’s majority-owned or controlled consolidated subsidiaries.
Use of Estimates. These financial statements are prepared in conformity with accounting principles generally accepted in the United States and, accordingly, include amounts that require management to make estimates and assumptions that affect the amounts reported in the financial statements and in the notes thereto. Significant items subject to such estimates and assumptions include the carrying value of property, plant and equipment, intangible assets and goodwill; valuation allowances for trade receivables, inventories and deferred income tax assets; unrecognized tax benefits; potential environmental liabilities; and litigation claims and settlements. Actual results may differ from these estimates and assumptions.
In the opinion of management, these financial statements reflect all normal recurring adjustments necessary for a fair presentation of the interim period results. These financial statements and notes should be read in conjunction with the audited financial statements and notes thereto included in the company’s Annual Report on Form 10-K for the year ended December 31, 2013.
Goodwill. The company’s goodwill is allocated to the following reporting units at June 30, 2014, and December 31, 2013, (in thousands):
OmniSource – Metals Recycling/Ferrous Resources Segment
555,002
558,247
The Techs – Steel Segment
142,783
Roanoke Bar Division – Steel Segment
29,041
New Millennium Building Systems – Fabrication Segment
1,925
OmniSource goodwill decreased $3.2 million from December 31, 2013 to June 30, 2014, in recognition of the 2014 tax benefit related to the amortization of the component of OmniSource tax-deductible goodwill in excess of book goodwill.
Recently Issued Accounting Standards. In May 2014, the FASB issued guidance codified in ASC 606, Revenue Recognition — Revenue from Contracts with Customers, which amends the guidance in former ASC 605, Revenue Recognition. The company is currently evaluating the impact of the provisions of ASC 606.
Note 2. Earnings Per Share
Basic earnings per share is based on the weighted average shares of common stock outstanding during the period. Diluted earnings per share assumes the weighted average dilutive effect of common share equivalents outstanding during the period applied to the company’s basic earnings per share. Common share equivalents represent potentially dilutive stock options, restricted stock units, deferred stock units, and dilutive shares related to the company’s 5.125% convertible senior notes, which matured on June 15, 2014 and were dilutive through then; and are excluded from the computation in periods in which they have an anti-dilutive effect. No options to purchase shares were anti-dilutive at June 30, 2014, while options to purchase 2.5 million shares were anti-dilutive at June 30, 2013. The computation of diluted earnings per share for the three month period ended June 30, 2013 did not include the after-tax equivalent of interest of $2.4 million for the company’s 5.125% senior convertible notes due June 2014, and the related weighted average equivalent of 16.7 million shares, as the result would have been anti-dilutive.
The following table presents a reconciliation of the numerators and the denominators of the company’s basic and diluted earnings per share computations for net income attributable to Steel Dynamics, Inc. (in thousands, except per share data):
Three Months Ended June 30,
Net Income (Numerator)
Shares (Denominator)
Per Share Amount
Basic earnings per share
.32
Dilutive common share equivalents
1,789
1,265
5.125% convertible senior notes, net of tax
1,969
14,039
Diluted earnings per share
74,272
.31
Six Months Ended June 30,
.49
1,699
1,363
4,327
15,407
4,716
16,650
115,209
.48
81,889
Note 3. Inventories
Inventories are stated at lower of cost or market. Cost is determined using a weighted average cost method for scrap, and on a first-in, first-out basis for other inventory. Inventory consisted of the following (in thousands):
Raw materials
614,098
660,384
Supplies
288,631
293,533
Work in progress
130,908
84,710
Finished goods
287,234
276,120
Total inventories
Note 4. Debt
Holders of $271.8 million principal amount of the company’s 5.125% Convertible Notes due June 15, 2014 (the “Notes”) exercised their option to convert the Notes into shares of common stock by the close of business on June 12, 2014, the conversion election deadline. The conversion rate provided under the terms of the Notes was 58.4731 shares of common stock per $1,000 principal amount of Notes, equivalent to a conversion price of approximately $17.10 per share of common stock, resulting in the company issuing a total of 15,893,457 shares of common stock from treasury shares upon conversion of the Notes. The remaining $15.7 million of the outstanding Notes was paid in cash on June 16, 2014.
5
Note 5. Changes in Equity
The following table provides a reconciliation of the beginning and ending carrying amounts of total equity, equity attributable to stockholders of Steel Dynamics, Inc. and equity and redeemable amounts attributable to the noncontrolling interests (in thousands):
Stockholders of Steel Dynamics, Inc.
Common
Additional Paid-In
Retained
Treasury
Noncontrolling
Total
Redeemable Noncontrolling
Stock
Capital
Earnings
Interests
Balances at January 1, 2014
Proceeds from the exercise of stock options, including related tax effect
11,501
11,503
Dividends declared
(53,221
Conversion of 5.125% convertible senior notes
(45,650
317,451
271,801
Equity-based compensation and issuance of restricted stock
7,376
(27
2,260
9,609
Contributions from noncontrolling investors
97
7,666
Distributions to noncontrolling investors
(653
Net income (loss)
(10,843
Balances at June 30, 2014
Note 6. Derivative Financial Instruments
The company is exposed to certain risks relating to its ongoing business operations. The company utilizes derivative instruments to mitigate interest rate risk, foreign currency exchange rate risk, and commodity margin risk. Interest rate swaps may be entered into to manage interest rate risk associated with the company’s fixed and floating-rate borrowings. Forward exchange contracts on various foreign currencies may be entered into to manage foreign currency exchange rate risk as necessary. No interest rate swaps or forward exchange contracts on foreign currency existed for the periods presented. The company routinely enters into forward exchange traded futures and option contracts to manage the price risk associated with nonferrous metals inventory as well as purchases and sales of nonferrous metals (specifically aluminum, copper, nickel and silver). The company offsets fair value amounts recognized for derivative instruments executed with the same counterparty under master netting agreements. The company designates certain of its nonferrous metals, forward exchange futures contracts as fair value hedges of inventory and firm sales commitments.
Commodity Futures Contracts. If the company is “long” on a futures contract, it means the company has more futures contracts purchased than futures contracts sold for the underlying commodity. If the company is “short” on a futures contract, it means the company has more futures contracts sold than futures contracts purchased for the underlying commodity. The following summarizes the company’s futures contract commitments as of June 30, 2014 (MT represents metric tons and Lbs represents pounds):
Commodity Futures
Long/Short
Aluminum
Long
3,550
MT
Short
3,575
Copper
7,129
21,636
Silver
343
Lbs
6
Note 6. Derivative Financial Instruments (Continued)
The following summarizes the location and amounts of the fair values reported on the company’s balance sheets as of June 30, 2014, and December 31, 2013, and gains and losses related to derivatives included in the company’s statement of income for the three and six-month periods ended June 30, 2014 and 2013 (in thousands):
Asset Derivatives
Liability Derivatives
Fair Value
Balance sheet location
June 30, 2014
Derivative instruments designated as fair value hedges -
Commodity futures
274
658
(1,800
1,886
Derivative instruments not designated as hedges -
708
352
(1,781
2,601
Total derivative instruments
982
1,010
(3,581
4,487
The fair value of the above derivative instruments along with required margin deposit amounts with the same counterparty under master netting arrangements, which totaled $5.1 million at June 30, 2014 and $3.6 million at December 31, 2013, are reflected in other current assets in the consolidated balance sheet.
Amount of gain (loss)
recognized in income on
derivatives for the three
related hedged items for the
Location of gain (loss)
months ended
Hedged items
three months ended
recognized in income
in fair value hedge
on derivatives
relationships
on related hedged item
Derivatives in fair value hedging relationships -
(2,632
(654
Firm commitments
1,297
Inventory
2,846
(2,014
2,193
(717
Derivatives not designated as hedging instruments -
(2,030
6,621
derivatives for the six months
ended
six months ended
(1,015
7,392
331
2,613
358
(8,822
689
(6,209
5,926
6,629
Derivatives accounted for as fair value hedges had ineffectiveness resulting in a gain of $160,000 and in a loss of $108,000 during the three-month periods ended June 30, 2014 and 2013, respectively; and gains of $456,000 and $113,000 during the six-month periods ended June 30, 2014 and 2013, respectively. Losses excluded from hedge effectiveness testing of $599,000 and $1.2 million increased costs of goods sold during the three-month periods ended June 30, 2014 and 2013, respectively. A loss excluded from hedge effectiveness testing of $782,000 increased costs of goods sold and a gain excluded from hedge effectiveness testing of $1.1 million reduced cost of goods sold during the six-month periods ended June 30, 2014 and 2013, respectively.
7
Note 7. Fair Value Measurements
FASB accounting standards provide a comprehensive framework for measuring fair value and sets forth a definition of fair value and establishes a hierarchy prioritizing the inputs to valuation techniques, giving the highest priority to quoted prices in active markets for identical assets and liabilities and the lowest priority to unobservable value inputs. Levels within the hierarchy are defined as follows:
· Level 1—Unadjusted quoted prices for identical assets and liabilities in active markets;
· Level 2—Quoted prices for similar assets and liabilities in active markets (other than those included in Level 1) which are observable for the asset or liability, either directly or indirectly; and
· Level 3—Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
The following table sets forth financial assets and liabilities measured at fair value in the consolidated balance sheets and the respective levels to which the fair value measurements are classified within the fair value hierarchy as of June 30, 2014, and December 31, 2013 (in thousands):
Quoted Prices in Active Markets for Identical Assets (Level 1)
Significant Other Observable Inputs (Level 2)
Significant Unobservable Inputs (Level 3)
Commodity futures – financial assets
Commodity futures – financial liabilities
December 31, 2013
The carrying amounts of financial instruments including cash and equivalents approximate fair value. The fair values of commodity futures contracts are estimated by the use of quoted market prices, estimates obtained from brokers, and other appropriate valuation techniques based on references available. The fair value of long-term debt, including current maturities, as determined by quoted market prices (Level 2), was approximately $1.9 billion and $2.3 billion (with a corresponding carrying amount in the consolidated balance sheets of $1.8 billion and $2.1 billion) at June 30, 2014 and December 31, 2013, respectively.
Note 8. Commitments and Contingencies
The company is involved in various routine litigation matters, including administrative proceedings, regulatory proceedings, governmental investigations, environmental matters, and commercial and construction contract disputes, none of which are expected to have a material impact on our financial condition, results of operations, or liquidity.
The company is involved, along with other steel manufacturing companies, in a class action antitrust complaint filed in federal court in Chicago, Illinois in September 2008, which alleges a conspiracy to fix, raise, maintain and stabilize the price at which steel products were sold in the United States during a period between 2005 and 2007, by artificially restricting the supply of such steel products. All but one of the complaints were brought on behalf of a purported class consisting of all direct purchasers of steel products. The other complaint was brought on behalf of a purported class consisting of all indirect purchasers of steel products within the same time period. A ninth complaint, in December 2010, was brought on behalf of indirect purchasers of steel products in Tennessee and has been consolidated with the original complaints. All complaints seek treble damages and costs, including reasonable attorney fees, pre- and post-judgment interest and injunctive relief. Following a period of discovery relating to class certification matters, plaintiffs’ motion for class action certification filed in 2012, and briefing by both sides, the court, on March 5 — 7 and April 11, 2014, held a class certification hearing. At the conclusion of the hearing, the court took the class certification issue under advisement. It’s unclear when the court will issue its ruling.
Due to the uncertain nature of litigation, the company cannot presently determine the ultimate outcome of this litigation. However, we have determined, based on the information available at this time, that there is not presently a “reasonable possibility” (as that term is defined in ASC 450-20-20), that the outcome of these legal proceedings would have a material impact on our financial condition, results of operations, or liquidity. Although not presently necessary or appropriate to make a dollar estimate of exposure to loss, if any, in connection with the above matter, we may in the future determine that a loss accrual is necessary. Although we may make loss accruals, if and as warranted, any amounts that we may accrue from time to time could vary significantly from the amounts we actually pay, due to inherent uncertainties and the inherent shortcomings of the estimation process, the uncertainties involved in litigation and other factors. Additionally, an adverse result could have a material effect on our financial condition, results of operations and liquidity.
8
Note 9. Segment Information
The company has three reportable segments: steel operations, metals recycling and ferrous resources operations, and steel fabrication operations. These operations are described in Note 1 to the financial statements. Revenues included in the category “Other” are from subsidiary operations that are below the quantitative thresholds required for reportable segments and primarily consist of further processing, slitting, and sale of certain steel products and the resale of certain secondary and excess steel products. In addition, “Other” also includes certain unallocated corporate accounts, such as the company’s senior secured credit facility, senior notes, convertible senior notes (which matured in June 2014), certain other investments, and certain profit sharing expenses.
The company’s operations are primarily organized and managed by operating segment. Operating segment performance and resource allocations are primarily based on operating results before income taxes. The accounting policies of the reportable segments are consistent with those described in Note 1 to the financial statements. Intra-segment and intra-company sales and any related profits are eliminated in consolidation. Refer to the company’s Annual Report on Form 10-K for the year ended December 31, 2013, for more information related to the company’s segment reporting. The company’s segment results for the three and six-month periods ended June 30, 2014 and 2013 are as follows (in thousands):
For the three months ended
Metals Recycling /
Steel Fabrication
Steel Operations
Ferrous Resources
Operations
Other
Eliminations
Consolidated
Net Sales
External
1,214,247
587,385
134,852
24,181
1,960,665
External Non-U.S.
50,857
57,831
408
109,096
Other segments
69,802
303,617
7,309
(380,728
1,334,906
948,833
31,898
Operating income (loss)
155,949
(6,053
7,590
(24,159
)(1)
(1,422
)(2)
Income (loss) before income taxes
142,594
(12,634
6,099
(31,028
28,869
25,870
2,401
1,352
(51
Capital expenditures
16,332
16,384
536
282
33,534
As of June 30, 2014
2,732,388
2,551,899
297,149
624,518
(3)
(220,752
)(4)
Liabilities
578,124
640,459
20,879
1,996,306
(5)
(209,776
)(6)
3,025,992
Footnotes related to the three months ended June 30, 2014 segment results (in millions):
(1)
Corporate SG&A
(11.0
Company-wide equity-based compensation
(4.7
(8.9
Other, net
0.4
(24.2
(2)
Gross profit decrease from intra-company sales
(1.4
299.9
14.4
12.4
17.7
70.9
22.9
Intra-company debt
158.1
28.2
624.5
(4)
Elimination of intra-company receivables
(52.0
Elimination of intra-company debt
(158.1
(10.7
(220.8
46.0
19.4
30.5
Accrued profit sharing
13.6
Debt
1,737.0
120.5
29.3
1,996.3
(6)
Elimination of intra-company payables
(52.4
0.7
(209.8
9
Note 9. Segment Information (Continued)
June 30, 2013
1,038,868
538,599
103,595
20,828
1,701,890
52,148
46,893
409
99,450
52,897
275,666
564
6,885
(336,012
1,143,913
861,158
104,159
28,122
85,545
(7,251
2,330
(14,434
3,008
71,732
(14,439
800
(22,122
26,496
26,704
2,179
1,498
34,533
13,545
822
336
49,236
As of June 30, 2013
2,582,168
2,490,215
261,556
604,195
(202,224
5,735,910
512,634
522,306
16,136
2,362,721
(193,358
3,220,439
Footnotes related to the three months ended June 30, 2013 segment results (in millions):
(9.1
(2.0
(3.2
(0.1
(14.4
Gross profit increase from intra-company sales
3.0
218.2
15.5
23.6
73.7
Debt issuance costs, net
154.2
76.1
604.2
(40.2
(154.2
(7.8
(202.2
43.5
2.9
32.3
9.2
2,045.3
205.1
24.4
2,362.7
(40.5
1.3
(193.4
10
For the six months ended
2,275,326
1,105,342
250,713
44,802
3,676,183
107,376
115,648
636
223,660
113,534
647,545
13,982
(775,061
2,496,236
1,868,535
59,420
261,592
(21,572
10,716
(40,704
2,805
234,592
(35,330
7,751
(55,215
56,246
52,491
4,623
2,751
(102
34,938
22,163
847
427
58,375
Footnotes related to the six months ended June 30, 2014 segment results (in millions):
(19.3
(9.3
(13.6
1.5
(40.7
2.8
2,050,063
1,096,210
197,392
40,199
3,383,864
102,265
110,410
497
213,172
113,945
552,030
1,142
12,280
(679,397
2,266,273
1,758,650
198,534
52,976
204,846
(17,075
3,860
(30,873
4,672
176,739
(32,293
724
(48,214
52,883
53,840
4,236
3,030
59,259
32,614
1,703
1,006
94,582
Footnotes related to the six months ended June 30, 2013 segment results (in millions):
(17.1
(5.2
0.5
(30.9
4.7
11
Note 10. Condensed Consolidating Information
Certain 100%-owned subsidiaries of SDI have fully and unconditionally guaranteed all of the indebtedness relating to the issuance of the company’s senior notes due 2019, 2020, 2022 and 2023. Following are the company’s condensed consolidating financial statements, including the guarantors, which present the financial position, results of operations and cash flows of (i) SDI (in each case, reflecting investments in its consolidated subsidiaries under the equity method of accounting), (ii) the guarantor subsidiaries of SDI, (iii) the non-guarantor subsidiaries of SDI, and (iv) the eliminations necessary to arrive at the information on a consolidated basis. The following statements should be read in conjunction with the accompanying consolidated financial statements and the company’s Annual Report on Form 10-K for the year ended December 31, 2013.
Condensed Consolidating Balance Sheets (in thousands)
Combined
Consolidating
Parent
Guarantors
Non-Guarantors
Adjustments
297,225
50,461
9,804
367,627
1,077,153
49,880
(583,864
910,796
684,841
543,977
97,561
(5,508
47,442
7,719
4,310
(18,442
41,029
1,397,135
1,679,310
161,555
(607,814
1,033,622
584,587
561,115
(2,317
Other assets, including investments in subs
2,615,185
21,781
7,109
(2,567,636
76,439
5,045,942
3,387,248
729,779
(3,177,767
168,091
284,773
94,049
(106,222
440,691
142,351
117,303
10,089
(58,972
210,771
34,925
300
66,474
(39,938
345,367
402,376
170,612
(205,132
1,704,528
184,554
(146,954
98,150
2,022,395
35,504
(1,585,408
570,641
Common stock
33,896
18,121
(52,017
Treasury stock
Additional paid-in-capital
117,737
585,348
(703,085
Retained earnings (deficit)
810,844
(325,673
(485,171
962,477
277,796
(1,240,273
214,929
12
Note 10. Condensed Consolidating Information (Continued)
As of December 31, 2013
320,866
61,148
13,142
309,691
874,707
32,018
(495,816
720,600
673,763
557,640
91,199
(7,855
50,228
8,399
3,259
(18,755
43,131
1,354,548
1,501,894
139,618
(522,426
1,046,093
619,617
562,843
(2,419
2,630,411
21,789
8,092
(2,545,209
115,083
5,031,052
3,261,455
710,553
(3,070,054
160,255
258,406
60,987
(64,716
414,932
142,055
115,182
10,694
(49,229
218,702
315,521
52,163
(26,440
617,831
373,888
123,844
(140,385
1,725,433
204,385
(163,773
140,465
1,986,260
34,895
(1,582,206
579,414
Redeemable noncontrolling interest
552,946
(670,683
749,674
(288,684
(460,990
901,307
282,383
(1,183,690
230,915
13
Condensed Consolidating Statements of Operations (in thousands)
For the three months ended,
1,007,569
2,313,459
121,239
(1,372,506
860,024
2,183,181
141,362
(1,337,577
Gross profit (loss)
147,545
130,278
(20,123
(34,929
Selling, general and administrative
35,419
56,411
3,406
(4,370
112,126
73,867
(23,529
(30,559
19,031
10,294
1,986
(1,261
Other (income) expense, net
(1,556
(46
(1,412
1,260
Income (loss) before income taxes and equity in net income of subsidiaries
94,651
63,619
(24,103
(30,558
Income taxes (benefit)
23,950
23,076
814
(10,572
70,701
40,543
(24,917
(19,986
Equity in net loss of subsidiaries
1,602
(1,602
Net income (loss) attributable to Steel Dynamics, Inc.
(18,955
(21,588
836,805
1,998,513
88,039
(1,122,017
753,761
1,900,497
107,814
(1,108,424
83,044
98,016
(19,775
(13,593
24,916
54,764
2,673
(3,859
58,128
43,252
(22,448
(9,734
20,148
10,751
(1,223
(1,533
214
(1,149
1,222
Income (loss) before income taxes and equity in net loss of subsidiaries
39,513
32,287
(23,088
(9,733
5,621
12,214
1,382
(3,511
33,892
20,073
(24,470
(6,222
(4,934
4,934
(18,785
(1,288
14
For the six months ended,
1,871,132
4,425,848
227,088
(2,624,225
1,621,419
4,198,757
264,935
(2,571,343
249,713
227,091
(37,847
(52,882
64,253
110,700
6,814
(8,529
185,460
116,391
(44,661
(44,353
38,392
20,855
3,866
(2,494
(2,532
349
(2,696
2,494
149,600
95,187
(45,831
33,875
34,018
1,510
(14,839
115,725
61,169
(47,341
(29,514
(4,843
4,843
(36,498
(24,671
1,664,006
4,014,000
154,409
(2,235,379
1,460,148
3,814,555
203,755
(2,205,378
203,858
199,445
(49,346
(30,001
53,602
108,756
4,811
(8,643
150,256
90,689
(54,157
(21,358
42,194
22,790
3,490
(2,380
(2,353
(2,332
2,379
110,415
67,885
(55,315
(21,357
17,015
25,133
2,081
(7,126
93,400
42,752
(57,396
(14,231
(16,227
16,227
(44,748
1,996
15
Condensed Consolidating Statements of Cash Flows (in thousands)
Net cash provided by (used in) operating activities
94,219
(19,938
(23,559
(1,955
(34,747
(10,007
(13,076
30,653
Net cash provided by (used in) financing activities
(83,113
19,258
33,297
(28,698
Decrease in cash and equivalents
(23,641
(10,687
(3,338
(6,011
98,049
(39,730
10,117
(62,083
(24,118
(9,484
35,900
(40,896
(100,880
52,989
(46,017
(108,990
(26,949
3,775
322,707
41,675
11,535
213,717
14,726
15,310
Note 11. Subsequent Event — Acquisition of Severstal Columbus, LLC
On July 18, 2014, the company entered into a definitive membership interest purchase agreement to acquire Severstal Columbus, LLC (Columbus) for a purchase price of $1.625 billion, on a cash-free, debt-free basis, subject to certain working capital adjustments. Located in northeast Mississippi, Columbus is one of the newest and most technologically advanced mini-mills in North America. The transaction is planned to close prior to December 31, 2014, subject to customary closing conditions and regulatory approvals. The purchase agreement contains customary representations, warranties, covenants, indemnification provisions and termination provisions. The company intends to fund the acquisition with available cash and debt, with the debt comprised of a combination of borrowings under its currently existing and undrawn $1.1 billion revolving credit facility and in new indebtedness. To the extent it is needed, if at all, a consortium of banks has issued a commitment letter, subject to customary conditions, to provide the company with financing consisting of bridge loan facilities in the aggregate amount of $1.0 billion.
16
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
This report contains some predictive statements about future events, including statements related to conditions in the steel and metallic scrap markets, our revenues, costs of purchased materials, future profitability and earnings, and the operation of new or existing facilities. These statements are intended to be made as “forward-looking,” subject to many risks and uncertainties, within the safe harbor protections of the Private Securities Litigation Reform Act of 1995. These statements speak only as of this date and are based upon information and assumptions, which we consider reasonable as of this date, concerning our businesses and the environments in which they operate. Such predictive statements are not guarantees of future performance, and we undertake no duty to update or revise any such statements. Some factors that could cause such forward-looking statements to turn out differently than anticipated include: (1) the effects of uncertain economic conditions; (2) cyclical and changing industrial demand; (3) changes in conditions in any of the steel or scrap-consuming sectors of the economy which affect demand for our products, including the strength of the non-residential and residential construction, automotive, appliance, pipe and tube, and other steel-consuming industries; (4) fluctuations in the cost of key raw materials (including steel scrap, iron units, and energy costs) and our ability to pass-on any cost increases; (5) the impact of domestic and foreign import price competition; (6) unanticipated difficulties in integrating or starting up new or acquired businesses; (7) risks and uncertainties involving product and/or technology development; and (8) occurrences of unexpected plant outages or equipment failures.
More specifically, we refer you to our more detailed explanation of these and other factors and risks that may cause such predictive statements to turn out differently, as set forth in our most recent Annual Report on Form 10-K for the year ended December 31, 2013, in our quarterly reports on Form 10-Q or in other reports which we from time to time file with the Securities and Exchange Commission. These reports are available publicly on the SEC website, www.sec.gov, and on the Steel Dynamics website, www.steeldynamics.com. Forward-looking or predictive statements we make are based upon information and assumptions, concerning our businesses and the environments in which they operate, which we consider reasonable as of the date on which these statements are made. Due to the foregoing risks and uncertainties however, as well as, matters beyond our control which can affect forward-looking statements, you are cautioned not to place undue reliance on these predictive statements, which speak only as of the date of this report. We undertake no duty to update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.
Operating Statement Classifications
Net Sales. Net sales from our operations are a factor of volumes shipped, product mix and related pricing. We charge premium prices for certain grades of steel, product dimensions, certain smaller volumes, and for value-added processing or coating of the steel products. Except for our steel fabrication operations segment, we recognize revenue from sales and the allowance for estimated costs associated with returns from these sales at the time the title of the product is transferred to the customer. Provision is made for estimated product returns and customer claims based on estimates and actual historical experience. Net sales from steel fabrication operations are recognized from construction contracts utilizing a percentage-of-completion method, which is based on the percentage of steel consumed to date as compared to the estimated total steel required for each contract.
Costs of Goods Sold. Our costs of goods sold represent all direct and indirect costs associated with the manufacture of our products. The principal elements of these costs are scrap and scrap substitutes (which represent the most significant single component of our consolidated costs of goods sold), steel, direct and indirect labor and related benefits, alloys, zinc, transportation and freight, repairs and maintenance, utilities (most notably electricity and natural gas), and depreciation.
Selling, General and Administrative Expenses. Selling, general and administrative expenses consist of all costs associated with our sales, finance and accounting, and administrative departments. These costs include, among other items, labor and related benefits, professional services, insurance premiums, property taxes, company-wide profit sharing, and amortization of intangible and other assets.
Interest Expense, net of Capitalized Interest. Interest expense consists of interest associated with our senior credit facilities and other debt net of interest costs that are required to be capitalized during the construction period of certain capital investment projects.
Other Expense (Income), net. Other income consists of interest income earned on our temporary cash deposits and investments; any other non-operating income activity, including gains on certain short-term investments; and income from non-consolidated investments accounted for under the equity method. Other expense consists of any non-operating costs, such as certain financing expenses.
Acquisition of Severstal Columbus, LLC.
On July 18, 2014, we entered into a definitive membership interest purchase agreement to acquire Severstal Columbus, LLC for a purchase price of $1.625 billion, on a cash-free, debt-free basis, subject to certain working capital adjustments. Located in northeast Mississippi, Columbus is one of the newest and most technologically advanced mini-mills in North America. The transaction is planned to close prior to December 31, 2014, subject to customary closing conditions and regulatory approvals. The purchase agreement contains customary representations, warranties, covenants, indemnification provisions and termination provisions. We intend to fund the acquisition with available cash and debt, with the debt comprised of a combination of borrowings under our currently existing and undrawn $1.1 billion revolving credit facility and in new indebtedness. To the extent it is needed, if at all, a consortium of banks has issued a commitment letter, subject to customary conditions, to provide us with financing consisting of bridge loan facilities in the aggregate amount of $1.0 billion.
Results Overview
Net income was $72.3 million, or $0.31 per diluted share, for the second quarter of 2014, compared with net income of $29.0 million, or $0.13 per diluted share, for the second quarter of 2013, with comparative operating income increasing $62.7 million, or 91%, to $131.9 million. The improvement in second quarter 2014 operating results over those of the same period in 2013 was driven primarily by our steel operations segment, which reported increases in sales and operating income of 17% and 82%, respectively, on increased shipments, improved metal spread, and reduced conversion costs. By comparison, net income for the first quarter of 2014 was $38.6 million, or $0.17 per diluted share, with operating income of $80.9 million. The improved operating results for the second quarter of 2014 as compared to the first quarter 2014 were beyond those of a recovery from the first quarter 2014 weather-inhibited results; as selling volumes increased across all of our operating platforms, and production, product pricing, metal spread and conversion costs improved in steel and fabrication.
Net income was $110.9 million, or $0.48 per diluted share, during the first half of 2014, compared with net income of $77.2 million, or $0.34 per diluted share, during the first half of 2013, an increase of $33.7 million, or 44%. Our improved operating results in 2014 as compared to 2013 were driven primarily by increases in sales and operating income of 10% and 28%, respectively, within our steel operations, despite the negative impacts on shipping volumes and production costs experienced in the first quarter of 2014 due to the severe winter weather. In addition, operating income in our fabrication operations increased by 178%, to $10.7 million in the first half of 2014 as compared to the first half of 2013 as shipping volumes, selling prices, metal spread, and conversion costs all improved, in step with the significantly improving non-residential construction market and market share gains we have been able to realize.
Segment Operating Results 2014 vs. 2013 (dollars in thousands)
First
Sequential
Quarter
% Change
Net sales:
Steel
%
1,161,330
Metals recycling and ferrous resources
919,702
Steel fabrication
29
115,861
27,522
2,450,489
2,137,352
2,224,415
4,674,904
4,276,433
Intra-company
(394,333
1,830,082
Operating income (loss):
82
105,643
48
28
(15,519
61
(26
)%
226
3,126
143
178
(67
(16,545
(32
133,327
66,190
76,705
210,032
160,758
4,227
91
80,932
63
Steel Operations. Steel operations consist of our five electric arc furnace mini-mills, producing steel from steel scrap, utilizing continuous casting, automated rolling mills, and various downstream finishing facilities, including The Techs operations. Collectively, our steel operations sell directly to end users and service centers. These products are used in numerous industry sectors, including the automotive, construction, commercial, transportation, agriculture and industrial machinery markets. In the second quarter of 2014 and 2013, our steel operations accounted for 61% of our external net sales, and in the first half of 2014 and 2013, our steel operations accounted for 61% and 60%, respectively, of our external net sales.
Sheet Products. Our Flat Roll Division sells a broad range of sheet steel products, such as hot rolled, cold rolled and coated steel products, including a large variety of specialty products such as light gauge hot rolled, galvanized, Galvalume® and painted products. The Techs operations, comprised of three galvanizing lines, also sells specialized galvanized sheet steels used in non-automotive applications.
Long Products. Our Structural and Rail Division sells structural steel beams and pilings to the construction market, as well as standard-grade and premium rail to the railroad industry. Our Engineered Bar Products Division primarily sells engineered, special-bar-quality and merchant bar quality rounds, round-cornered squares, and smaller-diameter round engineered bars. Our Roanoke Bar Division primarily sells merchant steel products, including angles, plain rounds, flats and channels. Steel of West Virginia primarily sells merchant beams, channels and specialty structural steel sections.
18
Steel Operations Shipments (net tons):
Shipments
Flat Roll Division
778,220
720,582
641,520
21
1,419,740
1,424,872
The Techs
191,934
179,217
153,237
345,171
330,354
Sheet products
970,154
899,799
794,757
22
1,764,911
1,755,226
Structural and Rail Division
336,380
286,974
292,316
628,696
567,871
Engineered Bar Products Division
152,768
23
123,919
144,303
297,071
236,740
Roanoke Bar Division
143,583
134,001
143,782
287,365
273,951
Steel of West Virginia
74,881
(4
77,975
75,574
(1
150,455
(5
158,682
Long products
707,612
622,869
655,975
1,363,587
1,237,244
Total shipments
1,677,766
1,522,668
1,450,732
3,128,498
2,992,470
Intra-segment shipments
(57,930
(35,031
(45,508
(103,438
(67,121
Segment shipments
1,619,836
1,487,637
1,405,224
3,025,060
2,925,349
External shipments
1,518,882
1,396,380
1,338,573
2,857,455
2,740,812
Net sales for the steel segment increased 17% in the second quarter of 2014 when compared to the second quarter of 2013, based on a 9% increase in shipments combined with a 7%, or $55 per ton, increase in average selling prices. Our Flat Roll and Structural and Rail Divisions both achieved record shipments in the second quarter of 2014, after experiencing weather-inhibited shipping difficulties in the first quarter of 2014. Demand for our sheet products continues to strengthen in the automotive, manufacturing and energy markets; as does demand for our special bar quality long products steel; while structural steel demand has improved with the continued steady growth in the non-residential construction market. Net sales for the steel segment increased 10% in the first half of 2014, when compared to the first half of 2013, as a 3% increase in segment shipments combined with an increase of 7%, or $50 per ton, in average selling prices.
Metallic raw materials used in our electric arc furnaces represent our single most significant manufacturing cost, representing 66% and 64% our steel operations’ manufacturing costs, excluding the operations of The Techs, which purchases, rather than produces, the steel it further processes. Our metallic raw material cost per net ton consumed in our steel operations increased $10 in the second quarter of 2014, compared with the second quarter of 2013; and increased $18 in the first half of 2014 compared with the first half of 2013, representing 65% of our steel operations’ manufacturing costs during each period, excluding the operations of The Techs.
19
As a result of increased shipments and metal spread expansion, operating income for the steel segment increased 82%, to $155.9 million in the second quarter of 2014, compared to the same period of 2013. Operating income for the steel segment increased 28%, to $261.6 million in the first half of 2014 compared to the same period of 2013 also due to increased shipments and metal spread expansion, despite the increased weather-related production costs experienced in the first quarter of 2014.
Metals Recycling and Ferrous Resources Operations
Metals Recycling and Ferrous Resources Operations. This operating segment primarily includes our metals recycling operations (OmniSource); our liquid pig iron production facility, Iron Dynamics (IDI); and our Minnesota iron operations. Our metals recycling and ferrous resources operations segment accounted for 31% and 33% of our external net sales in the second quarter of 2014 and 2013, respectively, and 31% and 34% of our external net sales in the first half of 2014 and 2013, respectively. Operating losses for the segment decreased $1.2 million in the second quarter of 2014, to $6.1 million, compared to the second quarter of 2013, due primarily to increased nonferrous volumes and metal spreads within our metals recycling operations. Operating losses for the segment increased $4.5 million in the first half of 2014, to $21.6 million, compared to the first half of 2013, as reduced losses in the Minnesota iron operations were more than offset by reductions in metals recycling operating income.
Metals Recycling and Ferrous Resources Shipments:
Ferrous metal (gross tons)
1,422,697
1,334,390
1,364,533
2,787,230
2,677,319
Intra-segment
(103
(1,237
(300
(403
(3,206
1,422,594
1,333,153
1,364,233
2,786,827
2,674,113
769,046
(2
786,122
649,552
1,418,598
(10
1,575,161
Nonferrous metals (thousands of pounds)
288,233
254,495
270,978
559,211
534,151
(17,263
(5,471
(18,343
(35,606
(6,902
270,970
249,024
252,635
523,605
527,249
270,271
247,758
251,588
521,859
523,885
Mesabi Nugget shipments (metric tons) – intra-company
32,542
44,454
37,488
(13
70,030
(33
104,139
Iron Dynamics (metric tons) –intra-company
64,756
66,285
57,122
121,878
(7
130,970
Metals Recycling. Our metals recycling operations (OmniSource) represent our metals sourcing and processing operations and are the primary source of net sales in this segment. These operations sell ferrous metals to steel mills and foundries, and nonferrous metals, such as copper, brass, aluminum and stainless steel to, among others, ingot manufacturers, copper refineries and mills, smelters, and specialty mills. Our metals recycling operations represented 88% and 90% of this segment’s net sales during the second quarter of 2014 and 2013, respectively. Metals recycling operations net sales were $891.6 million and $794.8 million, and operating income was $13.9 million and $10.3 million, during the second quarter 2014 and 2013, respectively. During the first half of 2014, metals recycling operations sales were $1.8 billion and operating income was $18.9 million, compared with sales of $1.6 billion and operating income of $29.8 million during the same period of 2013.
Net sales for metals recycling increased 12% overall in the second quarter of 2014, when compared to the second quarter of 2013, as sales prices of ferrous metals increased 7% on 7% higher volumes, while nonferrous metals sales volumes increased 13%, as average selling prices decreased 8%. Ferrous and nonferrous volume increases are largely attributable to improved industrial and manufacturing markets that are creating increases not only in scrap inflow, but also in our customers’ need for and use of our scrap. In conjunction with increased net sales, operating income for the second quarter of 2014 increased 34% when compared to the second quarter of 2013, due primarily to a 14% increase in nonferrous metal spreads, most notably in stainless which experienced increased usage of nickel by our customers in their manufacturing processes resulting in increased metal spread. Conversely, ferrous metal margins decreased 14% quarter over quarter in spite of improved ferrous scrap availability and volumes as ferrous metal procurement costs were elevated from excess competition.
20
Net sales in metals recycling increased 9% in the first half of 2014 as compared to the same period in 2013, as ferrous volumes increased 4% and ferrous selling prices increased 9%. Ferrous metal margins decreased 10% in the first half of 2014 versus the same period in 2013, while nonferrous metal margins remained consistent with the same prior year period. Operating income for metals recycling decreased $10.9 million, or 37%, for the first half of 2014 when compared to the same period for 2013 as the decrease in ferrous metal spreads more than offset the impact of the increased ferrous volumes.
Ferrous Resources. Our ferrous resource operations consist of our two ironmaking initiatives: Iron Dynamics (IDI), a liquid pig iron production facility, and our Minnesota iron operations, consisting of an iron nugget production facility and operations to supply the nugget facility with its primary raw material, iron concentrate. IDI primarily produces liquid pig iron, which is used as a scrap substitute raw material input exclusively at our Flat Roll Division. Our Minnesota iron operations consists of Mesabi Nugget, (owned 81% by us); our potential future iron mining operations, Mesabi Mining; and, our iron tailings operations, Mining Resources (owned 80% by us). The impact of losses from our Minnesota iron operations on second quarter 2014 net income was approximately $9.1 million, as compared to approximately $9.3 million during the second quarter of 2013. For the first half of 2014, losses from our Minnesota iron operations reduced our net income by approximately $18.0 million, compared with $23.2 million in the first half of 2013. The iron nugget production facility utilizes a pioneering production process, which has experienced operational, quality control and production cost challenges. We have continued to modify, re-engineer and further refine this production process and have changed or modified equipment configurations with resulting improvement in plant availability, production, and quality. Remaining operating trials were completed during the second quarter of 2014, and a four week outage was taken to make rotary hearth furnace upgrades at Mesabi Nugget. The trials resulted in encouraging results related to improvements in yield, quality, volume and raw material input costs. The proscribed cost structure needs to be confirmed on a consistent and ongoing basis over the coming months.
Steel Fabrication Operations
Our steel fabrication operations represent the company’s six New Millennium Building Systems’ plants located throughout the United States and Northern Mexico. Revenues from these plants are generated from the fabrication of trusses, girders, steel joists and steel decking used within the non-residential construction industry. Steel fabrication operations accounted for 7% and 6% of our external net sales during the second quarter of 2014 and 2013, respectively; and 6% of our external net sales during both the first half of 2014 and 2013.
Net sales for the steel fabrication operations segment increased 29% in the second quarter of 2014 compared to the second quarter of 2013, as volumes increased 22% and selling prices increased 6%. Net sales for the segment increased $52.2 million, or 26%, in the first half of 2014 compared to the first half of 2013, as volumes increased 22% and selling prices increased 4%. Our steel fabrication operations continue to realize notable increases in order activity and sales volumes in excess of the improving demand in the non-residential construction industry, as we continue to leverage our national footprint to expand market share.
The purchase of various steel products is the largest single cost of production for our steel fabrication operations generally representing more than two thirds of the total cost of manufacturing for our steel fabrication operations. The average cost of steel consumed increased in the second quarter of 2014, as compared to the same period in 2013, by $43 per ton, consistent with increases in the steel market. Likewise, during the first half of 2014 the average cost of steel consumed increased, as compared to the same period in 2013, by $37 per ton.
Operating income for the steel fabrication segment of $7.6 million in the second quarter of 2014 was more than double that of the same period in 2013, due to increased selling volumes and metal spread expansion, as well as, decreased conversion costs realized from manufacturing efficiencies achieved from higher production volumes. The segment had operating income of $10.7 million in the first half of 2014, compared to $3.9 million in the first half of 2013. The 178% increase in operating income is primarily due to 22% increases in sales volume, and decreased conversion costs.
Second Quarter Consolidated Results 2014 vs. 2013
Selling, General and Administrative Expenses. Selling, general and administrative expenses (including profit sharing and amortization of intangible assets) were $90.9 million during the second quarter of 2014, as compared to $78.2 million during the second quarter of 2013, comparable in that they represented 4% of our total net sales during each period. The comparable increase of $12.7 million in total selling, general and administrative expenses was primarily the result of increased profit sharing and incentive compensation expense driven by the company's increase in pre-tax earnings.
Interest Expense, net of Capitalized Interest. During the second quarter of 2014, gross interest expense decreased $1.3 million to $31.1 million, and capitalized interest increased $71,000 to $1.1 million, when compared to the same period in 2013. The interest capitalized during these periods relates to construction activities at our various operating segments.
Income Taxes. During the second quarter of 2014, our income tax expense was $37.3 million with an effective tax rate of 36.0%, as compared to $15.7 million with an effective tax rate of 40.3% during the same period in 2013. The higher effective tax rate in the second quarter of 2013 is due primarily to the impact on the effective tax rate of higher proportional (to pretax income) noncontrolling interest losses in the second quarter of 2013 as compared to the same period in 2014.
First Six Months Consolidated Results 2014 vs. 2013
Selling, General and Administrative Expenses. Selling, general and administrative expenses (including profit sharing and amortization of intangible assets) were $173.2 million during the first six months of 2014, as compared to $158.2 million during the first six months of 2013, comparable in that they represent 4% of our total net sales during both periods. The comparable increase of $15.0 million in total selling, general and administrative expenses was primarily the result of increased profit sharing and incentive compensation expense driven by the company's increase in pre-tax earnings.
Interest Expense, net of Capitalized Interest. During the first six months of 2014, gross interest expense decreased $4.9 million to $63.0 million, and capitalized interest increased $609,000, to $2.4 million, when compared to the same period in 2013. The interest capitalized during these periods relates to construction activities at our various operating segments. The decrease in gross interest expense is due to refinancing activities during March/April of 2013 that reduced outstanding debt by $100.0 million and decreased the effective interest rate by 1.5% on $400.0 million of senior notes that were refinanced.
Income Taxes. During the first six months of 2014, our income tax expense was $54.6 million with an effective tax rate of 35.3%, as compared to $37.1 million with an effective tax rate of 36.5% during the same period in 2013. The lower effective tax rate in the first six months of 2013 is due primarily to lower proportional (to pretax income) noncontrolling interest losses in the first six months of 2014, as compared to the same period in 2013.
Liquidity and Capital Resources
Our business is capital intensive and requires substantial expenditures for, among other things, the purchase and maintenance of equipment used in our steelmaking and finishing operations and to remain in compliance with environmental laws. Our short-term and long-term liquidity needs arise primarily from capital expenditures, working capital requirements and principal and interest payments related to our outstanding indebtedness. We have met these liquidity requirements primarily with cash provided by operations, long-term borrowings and issuances of common stock. Our liquidity at June 30, 2014 is as follows (in thousands):
Revolver availability
1,086,008
Total liquidity
1,443,498
On July 18, 2014, the company entered into a definitive membership interest purchase agreement to acquire Severstal Columbus, LLC for a purchase price of $1.625 billion, on a cash-free, debt-free basis. The company intends to fund the acquisition with available cash and debt, with the debt comprised of a combination of borrowings under its currently existing and undrawn $1.1 billion revolving credit facility and in new indebtedness. To the extent it is needed, if at all, a consortium of banks has issued a commitment letter, subject to customary conditions, to provide the company with financing consisting of bridge loan facilities in the aggregate amount of $1.0 billion.
Working Capital. Our operating activities provided cash flows of $48.8 million during the first half of 2014, as net income and non-cash items outpaced the increase in accounts receivable during the period. Our operational working capital, representing amounts invested in trade receivables and inventories less current liabilities other than income taxes payable and debt, increased $193.9 million during the first six months of 2014, with accounts receivable increasing $188.6 million. This increase in accounts receivable is consistent with increased sales during the period, while high credit quality has been maintained, as days sales outstanding has remained consistently at approximately 36 days. Inventories at June 30, 2014 remained relatively similar with those at December 31, 2013, despite the increased levels of production and sales in the second quarter of 2014 as compared to fourth quarter 2013, as average inventory turns were increased to almost six times per year at June 30, 2014 from less than five times per year at December 31, 2013.
Capital Investments. During the first half of 2014, we invested $58.4 million in property, plant and equipment, as compared to $94.6 million during the same period in 2013. Capital investments in the first six months of 2014 are below those of the same period in 2013 as growth or expansion projects initiated in early 2013 at two of our steel mills were substantially completed in the first half of 2014. We currently estimate total capital expenditures for existing operations to be in the range of $130 million to $150 million for the full year 2014.
Capital Resources and Long-term Debt. During the first half of 2014, our total outstanding debt decreased $303.7 million to $1.8 billion, due primarily to the conversion of $271.8 million of our convertible senior notes and cash payment of the remaining $15.7 million in outstanding principal when due in June 2014. As a result, our total long-term debt to capitalization ratio (representing our long-term debt, including current maturities, divided by the sum of our long-term debt, redeemable noncontrolling interests, and our total stockholders’ equity) decreased to 37.9% at June 30, 2014, from 44.7% at December 31, 2013.
We have a senior secured credit facility (Facility) that matures in September 2016 which provides for a $1.1 billion Revolver. Subject to certain conditions, we have the opportunity to increase the Revolver capacity by an additional $125.0 million. The Facility is guaranteed by certain of our subsidiaries and is secured by substantially all of our accounts receivable and inventories and pledges of shares of our wholly owned subsidiaries’ capital stock. The Revolver is available to fund working capital, capital expenditures, and other general corporate purposes.
The outstanding balance on the Revolver must be the lesser of $1.1 billion less other applicable commitments such as letters of credit and other secured debt, as defined within the Facility or the sum of 85% of our eligible accounts receivable and 65% of our eligible inventories, less other applicable commitments. At June 30, 2014, we had $1.1 billion of availability on the Revolver, excluding the $14.0 million of outstanding letters of credit and other obligations.
The Facility contains financial and other covenants that limit or restrict our ability to make capital expenditures; incur indebtedness; permit liens on property; enter into transactions with affiliates; make restricted payments or investments; enter into mergers, acquisitions or consolidations; conduct asset sales; pay dividends or distributions and enter into other specified transactions and activities. Our ability to borrow funds within the terms of the Revolver is dependent upon our continued compliance with the financial and other covenants.
The financial covenants under our Facility state that we must maintain an interest coverage ratio of not less than 2.50:1.00. Our interest coverage ratio is calculated by dividing our last-twelve trailing months (LTM) consolidated adjusted EBITDA (earnings before interest, taxes, depreciation, amortization, and certain other non-cash transactions as allowed in our Facility) by our LTM gross interest expense. In addition, a net debt (as defined in the Facility) to consolidated LTM adjusted EBITDA ratio (leverage ratio) of not more than 5.00:1.00 must be maintained. If the leverage ratio exceeds 3.50:1:00 at any time, our ability to make restricted payments as defined in the credit agreement (which includes cash dividends to stockholders and share purchases, among other things), is limited. At June 30, 2014, our interest coverage ratio and net debt leverage ratio were 5.88:1.00 and 2.06:1.00, respectively. We were therefore in compliance with these covenants at June 30, 2014, and we anticipate we will continue to be in compliance during the remainder of the year.
Cash Dividends. As a reflection of confidence in our current and future strength regarding our cash flow generation ability and financial position, we increased our quarterly cash dividend by 5% to $0.115 per share in 2014 (from $0.110 per share during 2013), resulting in declared cash dividends of $53.2 million during the first half of 2014. We paid cash dividends of $50.2 million and $46.2 million during the first half of 2014 and 2013, respectively. Our board of directors, along with management, approves the payment of dividends on a quarterly basis. During the remainder of 2014, we anticipate maintaining our current level of quarterly dividends; however, the determination to pay cash dividends in the future is at the discretion of our board of directors, after taking into account various factors, including our financial condition, results of operations, outstanding indebtedness, current and anticipated cash needs and growth plans. In addition, the terms of our senior secured revolving credit agreement and the indenture relating to our senior notes may restrict the amount of cash dividends we can pay.
Other. Our ability to meet our debt service obligations and reduce our total debt will depend upon our future performance which, in turn, will depend upon general economic, financial and business conditions, along with competition, legislation and regulatory factors that are largely beyond our control. In addition, we cannot assure you that our operating results, cash flows, access to credit markets and capital resources will be sufficient for repayment of our indebtedness in the future. We believe that based upon current levels of operations and anticipated growth, cash flows from operations, together with other available sources of funds, including additional borrowings under our senior secured credit agreement through its term, which expires in September 2016, will be adequate for the next twelve months for making required payments of principal and interest on our indebtedness, funding working capital requirements, and anticipated capital expenditures.
Other Matters
Inflation. We believe that inflation has not had a material effect on our results of operations.
Environmental and Other Contingencies. We have incurred, and in the future will continue to incur, capital expenditures and operating expenses for matters relating to environmental control, remediation, monitoring, and compliance. We believe, apart from our dependence on environmental construction and operating permits for our existing and proposed manufacturing facilities, that compliance with current environmental laws and regulations is not likely to have a materially adverse effect on our financial condition, results of operations or liquidity; however, environmental laws and regulations have changed rapidly in recent years, and we may become subject to more stringent environmental laws and regulations in the future, such as the impact of United States government or various governmental agencies introducing regulatory changes in response to the potential of climate change.
Critical Accounting Policies and Estimates
No material changes have occurred to the indicated critical accounting policies and estimates as disclosed in our 2013 Annual Report on Form 10-K.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk
In the normal course of business, we are exposed to interest rate changes. Our objectives in managing exposure to interest rate changes are to limit the impact of these rate changes on earnings and cash flows and to lower overall borrowing costs. To achieve these objectives, we primarily use interest rate swaps to manage net exposure to interest rate changes related to our portfolio of borrowings. We did not have any interest rate swaps during the periods ended June 30, 2014 or 2013.
Commodity Risk
In the normal course of business we are exposed to the market risk and price fluctuations related to the sale of steel products and to the purchase of raw materials used in our operations, such as metallic raw materials, electricity, natural gas, iron concentrate, fuel and zinc. Our risk strategy associated with product sales has generally been to obtain competitive prices for our products and to allow operating results to reflect market price movements dictated by supply and demand.
Our risk strategy associated with the purchase of raw materials utilized within our operations has generally been to make some commitments with suppliers relating to future expected requirements for certain commodities such as electricity, natural gas and its transportation services, air products, fuel, and zinc. Certain commitments contain provisions which require us to “take or pay” for specified quantities without regard to actual usage for periods of up to 37 months for physical commodity requirements, for up to 7 years for commodity transportation requirements, and for up to 14 years for air products. We also purchase electricity consumed at our Flat Roll Division pursuant to a contract which extends through December 2014. The contract designates 160 hours annually as “interruptible service” and establishes an agreed fixed-rate energy charge per Mill/kWh consumed for each year through the expiration of the agreement. At June 30, 2014, no material changes had occurred related to these commodity risks from the information disclosed in our Annual Report on Form 10-K for the year ended December 31, 2013. We utilized such “take or pay” requirements during the past three years under these contracts. We believe that production requirements will be such that consumption of the products or services purchased under these commitments will occur in the normal production process.
In our metals recycling operations we have certain fixed price contracts with various customers and suppliers for future delivery of nonferrous metals. Our risk strategy has been to enter into base metal financial contracts with the goal to protect the profit margin, within certain parameters, that was contemplated when we entered into the transaction with the customer or supplier. At June 30, 2014, we had a cumulative unrealized gain associated with these financial contracts of $274,000, substantially all of which have a settlement date within the next twelve months. We believe the customer and supplier contracts associated with the financial contracts will be fully consummated.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. Our management, with the participation of our principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures as of June 30, 2014. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures as of June 30, 2014, our principal executive officer and principal financial officer concluded that, as of such date, our disclosure controls and procedures were effective.
(b) Changes in Internal Controls Over Financial Reporting. No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended June 30, 2014 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are involved in various routine litigation matters, including administrative proceedings, regulatory proceedings, governmental investigations, environmental matters, and commercial and construction contract disputes.
We are also involved, along with other steel manufacturing companies, in a class action antitrust complaint filed in federal court in Chicago, Illinois in March 2008, which alleges a conspiracy to fix, raise, maintain and stabilize the price at which steel products were sold in the United States starting in 2005, by artificially restricting the supply of such steel products. All but one of the Complaints were brought on behalf of a purported class consisting of all direct purchasers of steel products. The other Complaint was brought on behalf of a purported class consisting of all indirect purchasers of steel products within the same time period. In addition, in December 2010, we and the other co-defendants were served with a substantially similar complaint purporting to be on behalf of indirect purchasers of steel products in Tennessee and has been consolidated with the original complaint. All Complaints seek treble damages and costs, including reasonable attorney fees, pre- and post-judgment interest and injunctive relief. Following a period of discovery relating to class certification matters, plaintiffs’ motion for class certification filed in 2012, and briefing by both sides, the court, on March 5 — 7 and April 11, 2014, held a class certification hearing. At the conclusion of the hearing, the court took the class certification issue under advisement. It’s unclear when the court will issue its ruling.
Although not presently necessary or appropriate to make a dollar estimate of exposure to loss, if any, in connection with the above matter, we may in the future determine that a loss accrual is necessary. Although we may make loss accruals, if and as warranted, any amounts that we may accrue from time to time could vary significantly from the amounts we actually pay, due to inherent uncertainties and the inherent shortcomings of the estimation process, the uncertainties involved in litigation and other factors. Additionally, an adverse result could have a material effect on our financial condition, results of operations and liquidity.
ITEM 1A. RISK FACTORS
No material changes have occurred to the indicated risk factors as disclosed in our 2013 Annual Report on Form 10-K.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
ITEM 4. MINE SAFETY DISCLOSURES
The information required to be furnished pursuant to Item 4 concerning mine safety disclosure matters required by Section 1503(a) of the Dodd-Frank Wall Street Reform and Consumer Protection Act and Item 104 of Regulation S-K (17 CFR 229.104) is included in Exhibit 95 to this Quarterly Report.
ITEM 5. OTHER INFORMATION
ITEM 6. EXHIBITS
Executive Officer Certifications
31.1* Certification of Principal Executive Officer required by Item 307 of Regulation S-K as promulgated by the Securities and Exchange Commission and pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Certification of Principal Financial Officer required by Item 307 of Regulation S-K as promulgated by the Securities and Exchange Commission and pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
95* Mine Safety Disclosures.
XBRL Documents
101.INS* XBRL Instance Document
101.SCH* XBRL Taxonomy Extension Schema Document
101.CAL* XBRL Taxonomy Extension Calculation Document
101.LAB* XBRL Taxonomy Extension Label Document
101.PRE* XBRL Taxonomy Presentation Document
101.DEF* XBRL Taxonomy Definition Document
* Filed concurrently herewith
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
August 8, 2014
By:
/s/ Theresa E. Wagler
Theresa E. Wagler
Executive Vice President and Chief Financial Officer
(Principal Accounting Officer)