ATI Inc.

Good morning and welcome to the Allegheny Technologies Incorporated second quarter 2019 results conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to Scott Minder, Vice President, Treasurer, and Investor Relations. Please go ahead, sir.

Thank you, Andrew. Good morning, and welcome to the Allegheny Technologies Second Quarter 2019 Conference Call. This call is being broadcast on our website at atimetals.com. Participating in the call today are Bob Weatherby, President and Chief Executive Officer, John Sims, Executive Vice President, High Performance Materials and Components Segment, Kim Fields, Executive Vice President, Flat World Products. Pat DeCourcy, Senior Vice President, Finance and Chief Financial Officer. And Kevin Kramer, Senior Vice President, Chief Commercial and Marketing Officer. If you have connected to this call via the internet, you should see slides on your screen. For those of you who have dialed in, slides are available on our website. After our prepared remarks, we will open the line for questions. During the Q&A session, please limit yourself to two questions to allow time for others. We will try to reach everybody who would like to ask a question. Please note that all forward-looking statements are subject to various assumptions and caveats as noted in the earnings release and shown on this slide. Now I will turn the call over to Bob.

Thanks, Scott. Good morning, everyone, and thanks for joining us. Our second quarter results reflected a significant improvement over our first quarter 2019 results. Year-over-year and sequential revenue growth in both segments demonstrated our ability to deliver increasing quantities of critical, high-quality materials and components on time, enabling our customers to meet their production objectives. Segment operating profit expanded sequentially in both business segments, driven by increased volumes and reduced operating headwinds, those headwinds primarily due to raw materials. On a year-over-year basis, second quarter segment operating profit declined versus a very strong prior year quarter. Turning to slide four, before the team covers our second quarter results and financial outlook in detail, I thought it appropriate to share my perspective on the progress that we've made on several of our strategic initiatives. First, we continue to execute on the aerospace production ramp, and we've grown market share over time principally due to our high-quality manufacturing processes and reliable delivery performance. including our recent gains in the nickel powder billet for a large jet engine OEM. We're completely qualified and on pace to be fully ramped up on these incremental volume requirements by year-end 2019 and expect an additional volume increase in 2020. The aerospace industry continues to be a principal growth engine for ATI, and the recent Paris Airshow strengthened our confidence in the industry's future despite the current challenges related to the Boeing 737 MAX. Briefly on Boeing, to date, we haven't experienced any significant change to our order book or backlog related to the 737 MAX situation. We continue to produce jet engine and airframe materials in higher quantities to satisfy the industry's increasing demands for both single and double aisle aircraft production. Based on recent discussions with Boeing and GE Safran, we don't expect any meaningful negative financial impacts from reduced 737 MAX or LEAP 1B production rates in the third or fourth quarters. We continue to monitor the situation to ensure that we have the latest information and we'll update our manufacturing schedules in concert with our customers' directions if and when instructed. The 737 MAX is clearly an important program for ATI. But it's also important to remember that it's one of many airframe and engine programs we supply in a very healthy global market. Second item for this morning, we continue to make progress with our flat-roll product segment towards sustainable profitability despite the ongoing raw material volatility and uncertain global trade policies. Our product mix improved in the second quarter as we began to ship the initial quantities of a nickel alloy product for a large oil and gas pipeline project in Latin America. Third item for this morning, as we work to improve our balance sheet, our strategic review process identified several non-core assets as divestiture opportunities. In the second quarter, we completed the sale of our industrial forging operations located in Portland, Indiana and Lebanon, Kentucky, raising $37 million in cash. And we announced yesterday that we had completed the sale of our cast products business for $127 million in cash. Additionally, we announced the sale of our long-held oil and gas rights on properties in Eddy County, New Mexico, for a total of $91 million in proceeds, including $29 million related to a second quarter sale and $62 million linked to a sale that's expected to close in the third quarter. The value of these properties grew significantly as a result of recent developments in directional drilling technologies. In total, these assets sales provide ATI with approximately $250 million in cash. Consistent with our strategic priorities, we intend to use these proceeds to strengthen our balance sheet, primarily through increased funding to legacy pension obligations and reducing overall debt levels. As you can see through our results, we made tangible progress on three of our strategic priorities in the second quarter, improving our business and bringing us closer to our goals. Before I turn the call over to my team to delve deeper into our second quarter results, I'm pleased to welcome two new ATI board members with significant and relevant industry and business experience. David Hess is an aerospace industry veteran who is well known for thoughtful capital allocation while guiding strong growth at Pratt & Whitney. And Mary Ann Kha is a true expert in global energy markets and risk assessments with deep industry experience at ConocoPhillips. The breadth and depth of the domain expertise in ATI's board is extremely helpful to us as we drive to deliver more value to our shareholders. I'll now turn the call over to John Sims to discuss HPMC segment results in more detail. I'll return with the frog in my throat at the end of the call to wrap up and take your questions. John? Thanks, Bob.

Turning to slide five. The HPMC segment had a solid second quarter to rebounded from a first quarter impacted by previously discussed powder billet availability issues, as well as raw material and operational cost headwinds. Our sequential revenue and operating profit growth rates led to operating margins that were ahead of our expectations. In aggregate, HPMC revenues grew by 9% versus the prior year, driven by 17% growth in aerospace and defense sales which were led by substantial increases in our airframe and defense markets and a return to year-over-year growth in our jet engine product sales after a one-quarter pause. Second quarter 2019 operating margins grew by 330 basis points versus the first quarter 2019, driven largely by increased aerospace and defense demand. Segment operating profit increased, but margins were lower when compared to an exceptionally strong prior year due to lingering operational and raw material cost headwinds, as well as unfavorable product mix in our forgings and mill products business units. As Bob highlighted, the HPMC segment closed two significant asset sales since our first quarter earnings call. First, we finalized the sale of our industrial forging operations in June for $37 million in cash. The two independent production facilities primarily produce carbon and low alloy steel forgings for non-aerospace applications. Second, we completed the sale of our cast products business in late July for $127 million in cash. This business produces titanium investment castings for aerospace and defense markets, primarily used in commercial jet engines and airframes. Taken together, these sales will generate about $160 million of cash for ATI, enabling the company to make further progress on its balance sheet improvement initiatives. These transactions will be immediately accretive to segment operating margins, and as a result, we will intensify our focus on our core specialty materials and forging businesses that leverage our leading materials science capabilities and unique process technologies, primarily serving aerospace and defense end markets. Looking ahead, we expect third quarter financial results to improve year over year. due to solid incremental earnings on relatively modest sales growth in our specialty mill products and forging businesses when compared to the prior year, excluding divested business units. These gains are driven by ongoing aerospace and defense industry growth due to our nickel powder billet share gains in associated isothermal forgings and continued emerging demand for our titanium products. Jet engine product sales growth for double aisle aircraft programs is likely to be uneven in the second half of the year to accommodate our customers' anticipated demand changes driven by their internal inventory management objectives. We will work with this customer to minimize the quarterly impact on ATI in 2019 as much as possible and expect this business to expand further in 2020. We anticipate third quarter segment revenue and operating profit to decline sequentially due to normal business seasonality and the negative impact of a planned maintenance-related shutdown in our Millersburg, Oregon operations. Turning to slide six, the pie chart and accompanying table show the HPMC segment second quarter sales by market compared to prior year. And total segment revenues were up by 9%, led by ongoing strong growth in our aerospace and defense market sales, which grew by 17% versus the prior year. with expansion in each major submarket. Commercial jet engine revenue increased primarily due to demand growth for ATI specialty materials, particularly those needed to support OEM engine production for single-aisle aircraft. Commercial airframe sales expanded versus prior year at a significant double-digit rate for the fourth straight quarter due to our customers' emergent demand requests to ensure that they can meet their double- and single-aisle aircraft production targets. Sales to the defense market increased by over 30% versus the prior year for the second straight quarter led by naval, nuclear, and military Rotocraft product sales as the U.S. and other countries increased their defense spending. However, customer demand contracted in several other smaller HPMC markets, including medical, energy, and construction and mining. We anticipate improvements in our medical market sales in the second half of 2019, while demand in our energy and construction and mining products will likely remain soft for the balance of the year. In summary, ATI sales to the aerospace and defense markets continue to grow rapidly while we are executing on our base and emergent demand requirements to satisfy our customers' growing needs. As Bob mentioned, we have not experienced any negative impact from the 737 MAX grounding to date. I will now turn the call over to Kim to talk about Flat Row products.

Thanks, John. In addition to the quarterly financial review, I will provide some further detail on FRP segment second quarter revenue by market and product later in the call. So turning now to financial highlights on slide seven, as anticipated, the FRP segment returned to profitability in the second quarter after a first quarter that was impacted by a timing mismatch in our raw material surcharges and soft demand in certain parts of our business. Second quarter revenues grew by 9% sequentially for the segment. primarily driven by increased volumes of high-value products that went into a large oil pipeline project in Latin America and into the marine scrubber applications with our energy market. Aerospace and defense sales were in line with the strong first quarter results. After a slow start to 2019, stall JV sales in China rebounded primarily due to an increase in consumer electronics demand stemming from our customers' new product launches. And lastly, NMLK USA's carbon steel tolling volumes with ATI increased as their end customers continue to value the benefits provided by conversion on our world-class HRPF. We expect this relationship to grow over time and benefit ATI and NMLK USA as well as their end customers. Looking at segment operating profits, the second quarter increased by $27 million compared to the first quarter due to several factors. The first, Sales volume for our specialty products were up primarily due to increased demand from the oil and gas market, which provided a significant uplift to the quarterly earnings. Second, the business benefited from the temporary timing mismatch in raw material surcharges as both nickel and ferrochrome prices increased for the quarter. Third, improved asset utilization, including total conversion volumes for NMLK USA and our A&T Stainless Joint Venture, provided a cost absorption benefit to all products produced at the HRPF. And finally, second quarter results included a modest loss for the A&T Stainless Joint Venture, which was in line with the first quarter. As we've talked about in the past, the JV's imported slabs continue to be subject to the 25% Section 232 tariffs. The joint ventures continue to look at alternative slab sources and other options to achieve a near-term cash-neutral position for ATI as well as pursuing longer-term solutions with our partners to return the profitability. Looking ahead to the third quarter, we anticipate continued profitability in the U.S. operations and for the segment in total. Revenues are expected to increase sequentially due to continued strength in our strategic end markets, where customers value the product differentiation and quality that ATI can deliver through its material, science, know-how, and process capabilities. We also expect to see increased contributions from our stall joint venture versus the second quarter as we begin to increase utilization of the recent facility expansion. We anticipate headwinds from the continued softness in our commodity-driven markets in the U.S. that our customers attribute to conservatism due to the continued trade uncertainty. Segment operating profits will also likely be negatively impacted by raw material surcharge timing mismatches related to lower ferrochrome prices in the third quarter versus the second quarter. Although, nickel prices have been rising in recent weeks and may provide a partial offset to the lower ferrochrome values. My first full 90 days leading the flat-rolled products team has been focused on reshaping the business to achieve sustainable and appropriate profit levels. The team has been focused on growth in end markets that value the differentiated products our unique set of assets can provide while balancing our exposure to commoditized end markets. In doing so, we seek to maximize our asset utilization but manage end market volatility. And additionally, the team continues to grow our third-party HRPF conversion volume to increase cash generation, which ultimately helps ATI to strengthen its balance sheet. We are making steady progress in several key areas, as evidenced by our increasing share of high-value products, enhanced participation in the segment's key end markets, namely oil and gas and aerospace and defense, and through higher toll conversion volumes and asset utilization rates. We continue to enhance the value of our business by leveraging the HRPF to produce new alloys and tighter gauge products that better address customer needs and free up high-value product capacity at our other facilities. And I expect these trends to continue in the coming quarters. Turning now to slide eight, which provides additional revenue detail. The FRP segment saw year-over-year sales increases in most of our major end markets, especially those targeted for high-value product growth. After a 70% year-over-year increase in the first quarter, aerospace and defense sales advanced nearly 40% in the second quarter versus the prior year. This growth was led by jet engine products and defense-related sales, the latter mainly being due to increasing titanium armor plate volumes for General Dynamics land systems. Sales to FRP's largest end market, oil and gas, increased versus a strong prior year comparison that also included production for a large offshore pipeline project. Our energy markets grew sales by more than 50%, mainly due to demand for the marine scrubbers driven by the IMO 2020 regulations to reduce smokestack emissions for the ocean-going vessels. And finally, sales to the consumer electronics market increased at our Stahl joint venture as customers filled their product pipelines with new handset and tablet models. Quickly looking at revenue by product, high-value product sales increased by more than 10% versus a strong prior year quarter, led by sales of our nickel, alloy, and specialty stainless products. Second quarter titanium sales decreased in total versus the prior year, but this was due to deliberate reallocation of capacity from the lower-value industrial applications to support our increase in our high-value armor plate business. Sales of our standard stainless products decreased by 12% in aggregate as our commodity-driven end markets, automotive, and particularly appliances, experienced sluggish demand for the second straight quarter. In summary, the FRP segment's second quarter results both sales and operating profits improved significantly compared to the first quarter. Operating profits were behind prior year, mainly due to more substantial raw material tailwinds in 2018 and increased retirement benefit expenses in 2019. Overall, the team is making great progress on building a business that is sustainably profitable and generates significant cash flow to fund the broader corporate initiative. We continue to focus on products that emphasize and market that value our unique capabilities. As we continue to balance the melting and hot-rolling utilization benefits provided by the commodity-driven markets, we are working to minimize their associated risk and volatility. And always, we will ensure that we have the right assets and a lean cost structure to achieve these goals. Now, I'll hand the call over to Pat DeCourcy to talk in more detail about our second quarter financial performance and provide an update on our outlook for the third quarter and full year.

Thanks, Kim. Turning to Slide 9, we ended the second quarter with $281 million cash on hand and approximately $360 million of borrowing capacity available on our Asset-Based Lending Agreement, or ABL. There were no borrowings under the revolving credit portion of the ABL at quarter end, and we do not expect to borrow under our ABL facility in 2019. Managed working capital continues to be an area of significant progress despite business growth. As a percentage of sales, managed working capital improved by 350 basis points year-over-year, ending the quarter at 34.0. We expect further improvements in this area at year-end 2019, building on a 650 basis point year-over-year decrease in 2018. Shifting to pensions, we contributed approximately $28 million to our U.S. defined benefit pension plan in the quarter. and still expect to contribute a total of $145 million for the full year 2019. We continue to take actions to reduce our exposure to our legacy pension obligations beyond our annual cash contributions. We expect to complete our third participant annuitization action since 2016 in the third quarter of this year. This event will further reduce pension plan participation by over 1,800 people. We anticipate ongoing significant progress in this area over the next several quarters in part by using a portion of the funds generated by our recent asset sales to improve our pension funding levels. Second quarter capital expenditures were $28 million in line with expectations and total $51 million year to date. We remain on pace to meet our previously communicated 2019 capital expenditures target. As Bob and John discussed earlier on the call, the sale of non-core businesses and assets enables us to reshape our business portfolio to drive improved financial results. Combined, these transactions provide ATI with approximately $250 million in cash. These funds help to further our capital deployment priorities, including reduce overall corporate debt and further pension funding improvements. As a result of these asset sales, adjustments for divested businesses and our updated full-year financial outlook, we are increasing full-year 2019 free cash flow guidance to be approximately $420 million, excluding our annual pension fund contribution. We now expect to end the year with at least $550 million in cash. Turning to slide 10, I will now provide an update on our expectations for the third quarter and full-year financial results. First, focusing on the HPMC segment, we expect third quarter segment revenues to increase by a low to mid single digit percent versus adjusted prior year results. For reference, third quarter 2018 segment revenues should be reduced by approximately 50 million for sales from divested businesses. We anticipate year-over-year growth rate to slow somewhat versus the second quarter 2019 due to uneven jet engine product order patterns driven by a large customer's desire to tightly manage their inventory in the second half of the year, as well as slightly lower end market demand for their products. We anticipate segment operating profits to increase versus prior year, mainly due to higher materials and forging volumes and corresponding operating margins to expand by approximately 150 basis points year over year on a higher revenue base. For the full year, we now anticipate revenue growth to moderate somewhat in the second half of 2019, reducing the full year increase to approximately 5 to 7 percent versus 2018 results adjusted for business divestitures. We expect the third quarter's growth rate to carry over into the fourth quarter. We are maintaining our full year 2019 guidance for higher year-over-year segment operating profit with corresponding margins in line with prior year levels. Shifting to the FRP segment, we anticipate profitable results in the third and fourth quarters, albeit at slightly lower levels than previously expected. In the third quarter, we predict sequential revenue growth driven by sales of our higher value products and continued expansion of our stalled JVs profitable sales. Despite the anticipated volume growth, segment operating profit is expected to decline modestly due to the timing mismatch of raw material surcharges driven by lower ferrochrome, along with higher maintenance costs. This sequential decline may be moderated if the current rise in nickel prices is maintained through August. For the full year, we continue to expect stalled JV revenues and operating profits to expand. We also see continued positive momentum in our high-value product sales and carbon conversion volumes. The commodity-driven end markets served by the U.S. lateral products business are likely to remain soft and will continue to be a drag on segment earnings in the third and fourth quarters. Due to raw material uncertainty and a softer demand environment, we believe that our full year segment operating profits may be somewhat below our previously communicated range. While we are not able to predict fourth quarter raw material values at this time, we are confident that we will be profitable again in each of the third and fourth quarters, and we are working diligently to achieve our full year targets. I will now hand the call back over to Bob.

Thanks, Pat. In closing, ATI generated solid second quarter financial results, in large part due to continued strong execution on the ongoing aerospace production ramp for single and double aisle aircraft. We made significant progress toward our strategic initiatives with non-core asset sales that will generate cash proceeds of about $250 million that we intend to use primarily to strengthen our balance sheet by increasing pension funding and reducing debt. Our management team and our board are laser-focused on relentlessly improving all facets of ATI, further unlocking value for our shareholders and providing a safe and inviting work environment for our employees. I look forward to providing progress updates on future earnings calls. And with that, let's open up the call to questions, Scott.

We will now begin the question and answer session. To ask a question, you may press star then 1 on your touchtone phone. Please limit yourself to two questions. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. The first question comes from Gautam Khanna of Cowan & Company. Please go ahead.

Thanks, and good morning, guys.

Good morning, Gautam.

I wanted to just ask for more granularity on the guidance and what's changed. So flat rolled, the prior standing guide was 42 to 46 million of EBIT for the year. Do you guys have a revised plan? range and then also at high performance now that the divested assets are out but margins are flat, does that mean the operating profit guide is actually the same or is it down? I'm just trying to understand what's changed.

Sure. On flat roll products, we do expect to be below that range at this point in time. It's difficult to predict due to raw material movements here at Gotham. So, we will be prepared to update you when we have more clarity on those raw materials, but it is modestly lower than the previous guide for flat roll products. On the high performance side, we do expect margin improvement year over year in the third and fourth quarters. And we do expect our margins when we exit the year to be at that increased rate that we anticipated for 2019 over 2018. But the revenue will be slightly below our original estimates. So we're looking at a guide of 5% to 7% versus where we've been running in the second quarter at the high single digits.

OK, but just to elaborate on that point, the casting's business, the divested assets are now out. That takes up exactly how much revenue relative to our going in assumption?

So total revenue for that business for the year was expected to be about $125 million. And it was at a lost position in the first part of the year. It was expected to turn to a small profit in the back half of the year.

OK. So just the mechanics of exiting these two things, the guidance is now updated for that. I'm just trying to get a sense of the .

That's right. It'll be accretive to margins. In the second half, about 100 basis points.

OK. And so with that accretive addition by subtraction, the guidance is for flat high performance margins in 2019 versus 18. That's correct. Isn't that a slightly reduced view versus the prior? It is, modestly. No problem. I get it. Then the second thing I was going to ask about was the jet engine customer. What's going on there? It doesn't sound like it's CFM, so I'm just curious. What specifically is going on there? If you could elaborate on the nickel billet contract that you're close to signing, when does that start to kick in and If you can give us any sort of quantification of the opportunity there.

Yeah, I got it. This is John. I'll provide you the granularity I can. I guess I would capture this as while it wasn't something we had on our radar, it's not something that's unusual for us to experience as customers go through a given year or given kind of planning cycle, this particular customer decided to take some inventory actions internally, and those inventory actions resulted in some demand shift for us that's gonna move out of 2019 into 2020. So it's not that significant in the grand scheme of things, but it does have some modest impact on our guidance, as Pat talked about. So it's not something we're terribly concerned about at this point. It's just a shift for us. So it does have some impact on us. On the nickel billet question, we continue to have discussions with the customer. And we are ramping, as Bob said earlier in his comments, ramping to achieve the rates we had discussed at the beginning of the year. We, at this point, anticipate that demand to increase next year, and we'll see how all of that works out as we finish the discussions with the customer relative to the contract.

Thank you, guys.

The next question comes from David Strauss of Barclays. Please go ahead.

Thanks. Good morning. Good morning, David. uh pat on the i just want to level set us on the free cash flow forecast so you're now seeing 420 which i i'm taking includes the 250 million in uh divestiture proceeds so are we now at 170 you know 170 versus 250 prior so down down roughly 80 million on the free cash flow side

Yes, that's correct, David. We're down about $80 million. It's driven by lower earnings, and then also those businesses had some contribution as well, the divested businesses.

Okay. Working capital view still similar to what it was prior?

It is, yes. Significant improvement expected in the back half of the year, building on the improvement from last year. So we're going to see cash generated out of inventory in the back half of the year.

Okay. And then on the pension side, I guess a couple questions. The size of the annuitization you're talking about here later this year, and then you talked about using some of the proceeds, the asset sale proceeds towards the pension, but you're still talking about the same contribution this year. Is that correct?

That's correct. It's about a $100 million transaction roughly, and it involves 1,800 participants. that will be annuitized and probably close in the third quarter here. Okay, and then on the contribution side, so you're... Same contribution level expected for the full year, the base contribution level of $145 million. We're indicating we could make some additional contributions. A portion of that cash that we attribute to the asset sales could be used for that purpose, but we haven't honed in on that exact number yet.

Okay, I'll get back in the queue. Thank you.

The next question comes from Richard Safran of Buckingham Research Group. Please go ahead.

Hey, good morning, everyone.

Good morning. Richard.

John, this may be for you, and I was hoping you could clear this up. So in the release, and I think in your remarks, you were talking about maintaining current production levels on the MAX. Now in its release ahead of two key results, Boeing noted that it was planning or anticipating ramping up the MAX to 57 a month in 2020. So at least internally, that's what their planning assumption was. So I wanted to get your take on Boeing's planning assumption as a long lead item supplier. You know, I would think that if Boeing is going to be ramping up to 57 a month before the end of 2020, and you're currently shipping at 52 a month, you know, the prior level, you know, that would put pressure on you to ramp up and support that rate right now, you know, given the lead time involved. Am I right? Is that the case? If so, does Boeing's assumption cause you to think there might be, you know, some sort of change to your 2019 expectations?

Well, I appreciate that question, Rich. Here's the way I would describe it. We are in, obviously, daily communication with our customers. And so the outlook that we gave you was based on the best we know right now. And the best we know right now is based on the backlog we have and forecasts we have that are based on the conversations we're having with the customers. And that's both on the airframe side and the engine side. So at this point in time, I think the guidance that Bob gave you was for what we can see for balance of 2019, we don't see an impact. And that's reflected and that view is reflected in the guidance that we gave you. I think beyond that, like you, we're going to have to wait to hear what Boeing says tomorrow and and some of the other engine makers say later on to see if there's any change to that view.

Yeah, I think to add on to that, John, I think we had numerous conversations at the air show and we have continuing conversations with the supply base. But I always have to be reminded that the 737 airframe is just not a titanium intense structure. So that's not really affecting us as much. And I would say based on our collective experience in the aerospace industry, that the supply base during the 737 MAX issue is making a very concerted effort to smooth the supply chain and maintain the supply chain at a healthy rate, consistent rate, such that the downturn and the upturn are not really that visible to us. As John has said before, forging is six months away from the assembly, and billet's about 12 months away. And I think we believe, I think the industry believes, that the max situation will return to service within that window. So we're not seeing the knee-jerk reactions that you might have seen in prior ups and downs of demand. We're still on every commercial engine out there, and there are other people who have good days and bad days in the supply chain. So being ready to consistently supply and engage on a smooth basis, I think, is paramount for the engine producers.

Okay. Yeah, I was kind of focused there on – I know it wasn't a titanium-intensive airplane. I was kind of focused on the fact that it's one of your largest content per ship set engines that you're on. And so that's what I was focused on, the lead time there. So let me shift. On the Pratt engines, on the F-135 and GTF, I'm going to go out on a limb here. I'd like to know – If I could focus on that for just a second. And I wanted to know if you could compare and contrast the content you're going to have on the 135 for the F-35 aircraft and the geared turbofan engines with that that you have on the LEAP. So I'm just trying to get a sense of profitability of the various programs and just overall as the contract ramps, how that might impact your EBIT margins.

Well, thank you, Rich, for that question. I would say I'm not going to give you that level of detail. We don't do that. But I would give you directionally, obviously, with the share of the market that the LEAP program has over the geared turbofan, obviously, we're going to have more cumulative content on those programs than we are on the geared turbofan. the PW1100. But they're both going to contribute in the long term. And as we've said before, that content is expanding for us on the Pratt side, is expanding over time. And we expect to see that improve probably more significantly within the next two years. as other qualifications we're working on with them kind of complete.

Okay.

Thank you.

The next question comes from Phil Gibbs of Key Bank Capital Markets. Please go ahead. Hey, good morning.

Good morning, Phil.

Can we just... Talk a little bit about the longer-term targets. I think for high performance at the investor day, you were talking about $3 billion and a 20% margin. Clearly, you've hived off about $200 million in sales right now. Can't really tell if those were indeed below the corporate average, but on balance, it seems like it. Should we be thinking about... 2021, assuming Boeing gets back on track to the high 50s, low 60s in the next 18 months that you can get to 2.8 with a 20% plus margin? Or how do we look at that? Because I know things tend to move around and they're moving around a lot right now, but that's a short-term issue given the backlog.

Bill, this is Pat. I'll take the revenue piece. So when we looked out to 21 on our long-term targets, There was about $225 million of revenue in total for the divested businesses. So you'd have to take that out of your target. And then I'll have John talk about margin targets.

Yeah, Phil, I think Pat's right. So on the revenue side, obviously we're going to have to look at ways to recoup the revenue that we divested. On the margin side, that's firm, we think. We're very confident about that. And I would say that there are several major contracts that we have that are coming due over the next couple of years that are going to have an impact on that, not only on the pricing side, but also on the share side. So we're looking forward to those, and we'll be able to give you some better guidance, we think, certainly maybe in the first quarter of 2020 as some of those are completed.

And just to be clear, when you say impact, you're thinking positive impact. I do think positive. Yeah, right. Thank you.

So when you say firm, John, you mean you're standing by 20% or is there an upside to that?

Well, I would say based on the expectations that I have here in the room with me, it's at least 20%.

Okay. That's helpful. And regarding some of the strategic actions, a lot of divested assets in the last, call it, month and a half, hitting the tape here, close to $250 million in sales through those. Should we be expecting more from you there, or has that been sufficient? And then also on the strategic side, Sing Shan, at least on a P&L basis, took ahead of about $4 million this quarter. What's the plan while the tariff effectively exemption was denied? Thanks.

All right, Phil. Good questions. And I'll go handle the first couple and then turn it over to Kim Fields to give you a little more flavor on where the joint venture is. So in terms of additional divestitures, we've got to close – the last piece of the oil and gas. We announced yesterday the close of the cast products. But beyond that, we don't have anything else in the hopper, really, for the balance of this year. In terms of the joint venture, I think one of the things I'd look at around the financial impact, I think we announced it was about $4 million IBT in the joint venture itself. There's two other things that are worthy of consideration that kind of get down to about a $2 million investment. cash hit, which is the depreciation, obviously, in the JV, as well as the benefit we get through utilization on the HRPF. So it's about a $2 million cash drag in the quarter. Our target is to get that to cash break-even. Candidly, we still see the strategic benefit of having a 60-inch wide stainless flow path for our customers. They're still asking for it. And, you know, so we're looking for alternatives to get to a neutral position and then obviously find the next best available option. So, Kim, as you think about the JV, do you want to add some color to what's going on in your life as we work through that?

Sure. You know, so as Bob just said, you know, our target is to get to that cash neutral position as we, you know, as we're in this period with the 232. And so we're continuing to work with the partner. to look for ways to minimize the impact from Section 232 until the tariffs aren't in place any longer. As Bob said, the 60-inch wide product is an important part of our customer's portfolio, and so it's strategic and an important part of our offering. And so we are looking. I think there's been some other calls. We are trialing some material from our competitors, although there isn't really a market for buying 60-inch slab. We are working through that so that we can continue to support and supply to our customers. And then lastly, we are talking, you know, as recently as last week, you know, with our partners in evaluating options for longer-term solutions as we work through this situation.

Yeah, I think there is a solution here. I think, you know, we look at the investment we're making to create this business. It's really for the long term. There's certainly a huge upside opportunity there. And we just have to find that route through a very uncertain trade environment at the moment.

Uncertain or crazy? Thanks.

I'll let you choose the words.

A lot of adjectives you can add here.

Right. Yeah, we're still politically correct on that piece, Phil. But, yeah, it's a challenge in this environment of trade. But, you know, I think the fact that the customer is still pulling for the product and it's a high-quality product, and our partner is still engaged. We are respecting the administration's desire to source domestically, and we're giving that a shot. And if we can find a solution that meets the needs of our customers, we'll do it. But if we can't, we're realists here. And we always honor the commitments we make to our customers. That's our track record, so we want to continue to do that. Yeah, I think we wake up in the morning making sure that the trade policy was the same as when we went to bed. So that's what we're all – I think collectively the industry is working through.

The next question comes from Josh Sullivan of Seaport Global. Please go ahead.

Hey, good morning. Good morning, Josh. Can you just talk about those long-term contract negotiations on the aerospace side? Where do you think you have the strongest hand on the isothermal side, powder side? Where do you feel the most confidence and maybe the biggest gains? And you mentioned maybe some pricing gains. Is that based on the assumption of higher volumes, or do you think you can argue just based on your performance that you can be compensated a little more?

Yeah, Josh, I'm going to answer it on the engine side, and then I'm going to turn it over to Kevin to talk about the airframe side, because we're actively negotiating both engine and airframe contracts right now, which is why the guidance I gave Phil that we'll probably have a better view towards the end of the year on updating that 3 billion and 20% question that I get a lot, thanks to Pat. We have several contracts that we're negotiating now. I would say that the pricing environment that we have today in this contract cycle is very different than it was four to five years ago when these contracts were negotiated. So we're seeing some uplift from a market standpoint, demand standpoint. We're also evaluating our share within those programs. So there's some opportunity for share gains in there as we work with our customer on how they're trying to balance their supply chains. And probably the most important factor that we talk about, and that's built into the strategic objective that Bob talked about in executing the aerospace ramp, we earn the right to grow with our customers with every order we ship. We ship it on time and on quality. We get the next call. And if we do that enough, Then we establish a reputation that gives the customers confidence that when they're in a jam and they absolutely have to have it, we're the guys they call. So we try to do that. So I would say we're seeing a lot of activity right now. In general, it's kind of an unprecedented contract season for us, not just in the aerospace market. But that's what we're working on. And I'll let Kevin provide you some color on the airframe side.

Sure. Josh, good morning. Specifically on Airbus, as we've shared before, we continue to make progress with regard to Convid. We've gone through the various reviews on rate readiness, the quality process, the supply chain support on a global basis. Airbus is looking for people like ATI to be able to supply regionally across Asia, Europe, and the United States, and we're trying to position ourselves for that opportunity as well as across the full product range of titanium products across billet, bar, plate, as well as some opportunities on value-add with regard to plate. So the process continues. We have additional meetings through the balance of the third quarter, and we expect to provide some feedback Again, hopefully positive feedback in the fourth quarter.

Great. Really, really appreciate that granularity. And then just one on the flat-rolled side, on the MLK carbon conversion relationship, can you give us an idea of how that relationship is evolving? How much more capacity can they absorb, and maybe on what timeline?

Hi, so this is Kim. So, yeah, so we're continuing. I mean, that partnership is strong. We're continuing to ramp up. They seem to have resolved their slab supply issue and their needs, and we've got material handling, processing in place, logistics systems in place, and so we are in the process of ramping up. We shipped more volume in the second quarter than we did in the first, and we anticipate to continue to ramp that through the rest of the year. So this is really a ramp issue. NMLK is working with their customers to get acceptance and penetration in the markets that will then be able to operationally ramp. So that seems to be, you know, it's moving in a very positive direction. I think it's going very well. We're getting great feedback from the customers and the applications they're using it in with the quality and performance that they're getting off the HRPF. So that's moving along very well.

The next question comes from Timnit Tanners of Bank of America Merrill Lynch. Please go ahead.

Hey, good morning. I wanted to just ask a really high-level question just to understand. And the tone of the first quarter call was definitely more, hey, second half is going to be improved on first half. And so just high-level as I go through the commentary, clearly we're trending into more value-add across, it seems like, across the segments. And clearly second quarter is better than the first quarter. But the tone of this conference call seems to be much more subdued in terms of the second half growth. How much of that, can you give us just a high-level top three reasons? How much of that is just the divested revenues? How much of that is cost changes or inefficiencies? And how much of that is sticky versus things that you think can be relieved as we head into next year? Thanks.

So, Tim, this is Pat. I'd say the first major area is just more of a move to the right. as opposed to anything negative that we're seeing in the second half. We do have that large jet engine OEM that has some internal inventory management goals. So what we're seeing there is more of a move into 2020 from the back half of this year. That's probably the most significant change that you're hearing on the call here this morning. When you look at flat roll products, we're just saying a modest decline. And the modest decline can be attributable to, again, ferrochrome pricing is down for the third quarter, so that's an impact to us on the raw materials side. And some of those end markets are soft or softer in the second half than we anticipated. You can guess which ones those are, mainly automotive related and then things around appliances and housing and that kind of thing. That's more of just a modest decline related more to the market conditions.

Just a little more color, Tim, I think. Pat talked about the demand shifting to the right. I do think the divestiture issue is a $200 million plus or minus divestiture of top line, so that re-indexes a little bit of the metrics. I think the fourth quarter trade conservatism automotive, appliances, what's really going on in the fourth quarter has our customer base apprehensive. So we're not seeing long-term commitments in the FRP side. On the stainless side, that's probably different this time of year than historically. We've actually done some things proactively to move our maintenance outages to Q4 because if the market's going to be softer, then let's take advantage of that. So I think we are seeing the conservatism related to trade and how long is this going to go on, so to speak. And I think the nickel price issue, I'd love to base my forward forecast on 650 nickel, but historically it's been at 550. So I think where all those things kind of wind up, do I think there's upside for us in Q4? I do. I think the emergent demand issues in aerospace will continue to play out. And I think Boeing's situation will resolve a lot of uncertainty as well. So I think it's more the uncertainty going into Q4 that we're taking a pragmatic view of making sure we got our cash in the right spot and that we're taking care of the things we can control going into that level of either conservatism or uncertainty.

OK, that's super helpful. Just to follow up on the flat rolled side, one small question. Just when you talk about the big LATAM order for the pipeline, can you give us a little bit more color on the duration of that so we don't get surprised by some big drop off imminently? Is that a big portion and how much of that should we continue for how long? And then along those same lines within flat rolled, The questions of whether or not this is core and whether or not this could be a separate business keep coming up over the years. And the answer seems to be when FlatWorld can stand on its own feet, it will be divested. So just wondering if there's any change in thinking there. Is it enough to be breakeven, or are you still looking for $100 million? I think it was EBIT target in the past. Thanks.

Okay, good. Both good questions. I'm going to let Kevin and Kim kind of talk through the nickel alloy question, and I'll come back and talk to your second question on the role of FRP strategically within ATI.

Okay, great. So the current Latin America project, we are in the process of shipping that. We'll continue to ship that into the fourth quarter of this year. There's additional projects in the pipeline. So, you know, as you know, in the oil and gas space, you know, this is a fairly lumpy type of business. You win these projects and they come in groups. But we do have a very robust opportunity pipeline as much as we've had or more than the last 18 months. We'll continue to work on that. We can't anticipate when those wins will come in. But again, we're continuing to manage that funnel. And as we continue to win, grow over time as you average it. We're getting great feedback from the customers on the product and the service. And so we are very positive and encouraged that we'll continue to win in this space. Kevin?

Yeah, one additional comment. Again, because of the HRPS capability, what we're finding is the primary benefit for us is on nickel clad pipe projects. So, as Kim said, as we start to look into 2020, as these projects start to firm up, we really have a different value proposition with long length nickel cheat to help facilitate something that really drives a different value conversation. with all the way to the major oils as well as our fabricating partners.

Thanks, Kevin and Kim. In terms of the other question, Tim, I think the question was are we backing off our long-term target, and the answer is we're not. We still believe that the potential of the business to get to $100 million is doable. Now, what are we doing about it is really the question. So number one is what Kim talked about, driving continued growth in the value products that are nickel, titanium, specialty stainless, leveraging the HRPF across our business to drive as close to 80% utilization as we can get, which we believe we have a line of sight to do with the products that we're growing, as well as the NLMK relationship. And clearly, it's in our minds as a management team to reduce the volatility exposure to stainless. And what we need to do there is I think the joint venture that we created with Sengchong, it had the great potential. We got a little derailed by our president, but we're not giving up on that. And I think there are other opportunities that we can pursue on the stainless side that continue to provide the base load for the HRPF and the base load for our melt shot, but over time minimize the exposure that we have to the nickel volatility. both in terms of pricing as well as the inventory. I think that's all within the possibility of doing that within the near term. After that, we'll let our shareholders hold us accountable to delivering more value out of FRP. At the end of the day, I think we've said for probably a decade that we're here to drive shareholder value and meet the needs of our customers. We're going to do both. I think let us do our thing here for the next period of time, and results will be the judge.

The last question will come from Paritosh Mishra of Berenberg. Please go ahead.

Thank you. Just going back to the HRP facility, and I apologize if I missed this, but what's your current utilization rate?

Yeah, our current utilization rate is about 30%.

Got it. And it sounds like directionally you expect some improvement through the year. So any target were you looking to get to by the end of this year?

Yeah, so as Bob said, our target longer, you know, over the near-term, the mid-term would be 80%. And I think we've got plans and conversations in place between the joint venture, the NMLK relationship, and then the growth in the specialty material space that we're continuing to drive to get to that 80. By the end of this year, again, given the situation with the tariffs, which have slowed down some of our plans, we'll probably be close to 40%, maybe slightly over that by the end of this year.

And if I could just ask one last quick one, are your CapEx running at about $50 million or so in first half? Do you still think you'll meet the full-year guidance or it might be a little bit lower than that?

No, we do. We do expect to meet the full-year guidance. We still have some commitments in the second half for the large projects up in Cuyahoga, the new isothermal press and the heat treat expansion. So we're on track to meet our full-year target.

Okay, and apologies that we cannot get to all the questions. I would like to turn the conference back over to Bob Weatherby for any closing remarks.

All right, thank you. Thanks for joining us on the call today. Great questions. Appreciate your interest in ATI, and we'll look forward to demonstrating our progress in about 90 days.

Thank you, Bob, and thank you to all the participants and listeners for joining us today. That concludes our second quarter 2019 conference call.

Once again the conference has ended. You may disconnect your line. Thank you.