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AKS > SEC Filings for AKS > Form 10-Q on 3-May-2013All Recent SEC Filings

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Form 10-Q for AK STEEL HOLDING CORP


3-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
(dollars in millions, except per share and per ton data or as otherwise specifically noted)

Results of Operations

The Company's operations consist primarily of nine steelmaking and finishing plants and tubular production facilities located in Indiana, Kentucky, Ohio and Pennsylvania. The Company's operations produce flat-rolled value-added carbon steels, including premium-quality coated, cold-rolled and hot-rolled carbon steel products, and specialty stainless and electrical steels that are sold in sheet and strip form, as well as carbon and stainless steel that is finished into welded steel tubing. These products are sold to the automotive, infrastructure and manufacturing, and distributors and converters markets. The Company sells its carbon products principally to domestic customers. The Company's electrical and stainless steel products are sold both domestically and internationally. The Company also produces carbon and stainless steel that is finished into welded steel tubing used in the automotive, large truck, industrial and construction markets. The Company's operations include European trading companies that buy and sell steel and steel products and other materials, AK Coal Resources, Inc. ("AK Coal"), which controls and is developing metallurgical coal reserves in Pennsylvania, and a 49.9% equity interest in Magnetation LLC ("Magnetation"), a joint venture that produces iron ore concentrate from previously-mined ore reserves.

Overview

The challenging domestic and global economic conditions that the Company, and much of the steel industry, faced in 2012 continued in the first quarter of 2013. These conditions included a slower-than-expected economic recovery in the United States and in other parts of the world, continued weakness and uncertainty with regard to the economies of Western Europe and China, and continued strong competition in the United States from imports and from domestic producers with new or expanded facilities or under-utilized existing facilities. In addition, a seasonal increase in domestic demand for certain products, which in recent years has occurred during the first quarter, did not materialize in the first quarter of 2013. The aggregate effect of these conditions resulted in a significant oversupply of steel relative to demand, which had the effect of suppressing pricing for most of the Company's steel products. In addition, declines in carbon scrap pricing have benefited input costs for mini-mill steel producers more than for integrated producers such as AK Steel. The Company also continued to experience a decline in electrical steel pricing during the quarter, particularly with regard to international sales as a result of the weak global economic conditions.

As a result, in the first quarter of 2013, the Company reported a net loss of $9.9, or $0.07 per diluted share of common stock. Compared to the first quarter of 2012, revenue declined by approximately 9%. This was principally attributable to a decline in average selling prices compared to the first quarter of 2012, combined with a decline in shipments. The Company's average selling price for the first quarter of 2013 was $1,062 per ton, a decrease of approximately 7% from the Company's average selling price of $1,138 per ton for the first quarter of 2012, principally due to lower spot market prices for carbon steel products, reduced raw material surcharges and lower selling prices for electrical steel products. However, the Company benefited from lower raw material costs, primarily for carbon scrap and iron ore. The lower raw material costs also included the benefit of energy credits received during the first quarter of 2013 through the Company's contractual supplier arrangements with SunCoke Energy, Inc. pertaining to its Haverhill, Ohio, cokemaking facility. These first quarter improvements were partially offset by higher-than-planned operating costs associated with the Middletown Works blast furnace during the first quarter of 2013 and a lower LIFO credit. The Company recorded a LIFO credit of $6.0 for the first quarter of 2013, compared to a LIFO credit of $12.4 for the first quarter of 2012.

The Company has also continued to make progress with respect to its strategic vertical integration investments in iron ore and coal. In April 2013, Magnetation received the key environmental permit required for the construction and operation of its pellet plant in Reynolds, Indiana. That same month, Magnetation obtained its material environmental permits to construct and operate additional iron ore concentrate capacity in northern Minnesota to support the pellet plant's operations. With the significant recent accomplishments at Magnetation, the Company continues to anticipate that its iron ore pellet plant could commence production as early as late 2014. AK Coal also made significant strides during the quarter. AK Coal continues to work closely and collaboratively with the Pennsylvania Department of Environmental Protection and anticipates that its permit to mine will be approved in or shortly after the second quarter of 2013. In order to position itself to commence mining operations as soon as possible following its receipt of the permit to mine, AK Coal has undertaken significant site preparation for its initial underground mine in Somerset County, Pennsylvania. Subject to the timing of its permit issuance, AK Coal could commence mining operations as soon as the late second quarter or early third quarter of 2013.

Steel Shipments

Total shipments were 1,289,800 tons and 1,325,900 tons for the three months ended March 31, 2013 and 2012, respectively. The decline in total shipments in the first quarter of 2013 compared to the prior year was attributable principally to unfavorable

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carbon spot market and stainless/electrical steel shipments, partially offset by increased automotive shipments. For the three months ended March 31, 2013, value-added products comprised 84.5% of total shipments, comparable to the proportion of such products to total shipments in the three months ended March 31, 2012. The Company continued to focus on maximizing profitability through product mix adjustments based on current and projected market demands-both domestically and internationally. The following table presents net shipments by product line:

                                        Three Months Ended March 31,
                                           2013              2012
Value-added Shipments                       (tons in thousands)
Stainless/electrical                    204.4  15.8 %     214.9  16.2 %
Coated                                  577.1  44.8 %     583.2  44.0 %
Cold-rolled                             277.4  21.5 %     286.0  21.6 %
Tubular                                  31.5   2.4 %      36.3   2.7 %
Subtotal value-added shipments        1,090.4  84.5 %   1,120.4  84.5 %
Non Value-added Shipments
Hot-rolled                              172.3  13.4 %     170.5  12.9 %
Secondary                                27.1   2.1 %      35.0   2.6 %
Subtotal non value-added shipments      199.4  15.5 %     205.5  15.5 %
Total shipments                       1,289.8 100.0 %   1,325.9 100.0 %

Sales

For the three months ended March 31, 2013, net sales were $1,369.8, a 9% decrease from net sales of $1,508.7 for the three months ended March 31, 2012. The Company's average selling price for the first quarter of 2013 was $1,062 per ton, a decrease of approximately 7% from the Company's average selling price of $1,138 per ton for the first quarter of 2012. The lower average selling price for the first quarter 2013 compared to the first quarter 2012 was driven principally by lower selling prices for spot market carbon sales, lower selling prices for sales of electrical steel, particularly to the international market, and reduced raw material surcharges as a result of lower raw material costs. Net sales to customers outside the United States for the three months ended March 31, 2013 totaled $186.6, compared to $225.2 for the three months ended March 31, 2012. This decline was primarily the result of continued weak economic conditions in Europe.

Cost of Products Sold

For the three months ended March 31, 2013, the Company experienced lower steelmaking costs, primarily as a result of lower costs for iron ore, carbon scrap, coal and coke, partially offset by higher operating costs associated with the Middletown Works blast furnace during the quarter, compared to the same period in 2012. The increased operating costs for the Middletown Works blast furnace related principally to a temporary increase in the rate of fuel consumption caused by a wear condition within the furnace. That condition was addressed during an outage that occurred early in the second quarter. In addition, the Company recorded a benefit of $11.8 in the three months ended March 31, 2013, from the receipt of energy credits through the Company's contractual supplier arrangements with SunCoke pertaining to its Haverhill, Ohio, cokemaking facility. A LIFO credit of $6.0 was recorded for the three months ended March 31, 2013, compared to a LIFO credit of $12.4 for the three months ended March 31, 2012.

Selling and Administrative Expenses

Selling and administrative expenses for the three months ended March 31, 2013 were $51.6, compared to $55.8 for the three months ended March 31, 2012. The decrease was primarily the result of lower stock compensation costs for the three months ended March 31, 2013.

Depreciation

Depreciation expense for the three months ended March 31, 2013 was $48.6, compared to $48.3 for the corresponding period in 2012.

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Pension and Other Postretirement Employee Benefit ("OPEB") Expense (Income)

The Company recorded pension and OPEB income of $15.9 and $8.5 for the three months ended March 31, 2013 and 2012, respectively. The increase in income for the three months ended March 31, 2013 compared to the prior year was largely a result of a decrease in the interest rate on the Company's pension and OPEB obligations resulting in a lower interest cost on this liability.

Operating Profit

The Company reported an operating profit of $33.2 in the three months ended March 31, 2013, compared to operating profit of $4.1 in the three months ended March 31, 2012. For the three months ended March 31, 2013, the Company experienced year-over-year decreases in its cost for iron ore, carbon scrap, coal and coke, partially offset by lower average selling prices and lower sales volumes. Included in operating profit was operating profit related to SunCoke Middletown of $16.9 and $7.9 for the three months ended March 31, 2013 and 2012, respectively.

Interest Expense

Interest expense for the three months ended March 31, 2013 was $31.0, compared to $16.2 for the same period in 2012. The increase over 2012 was primarily related to the late 2012 issuance of indebtedness with interest rates higher than the revolver borrowings outstanding during the first quarter of 2012.

Other Income (Expense)

Other income (expense) was $1.8 for the three months ended March 31, 2013, compared to other income (expense) of $0.9 for the three months ended March 31, 2012. Other income (expense) is primarily related to foreign exchange gains and losses and the Company's share of income related to Magnetation. Included in other income (expense) was the Company's share of income (loss) related to Magnetation of $2.3 and $(0.4) for the three months ended March 31, 2013 and 2012, respectively.

Income Taxes
Income taxes recorded for the three months ended March 31, 2013, have been estimated based on year-to-date income and projected results for the full year, as well as the expected related change in the valuation allowance. Included in income tax provision (benefit) are non-cash charges of $1.1 in the three months ended March 31, 2013, for changes in the valuation allowance on the Company's deferred tax assets. In the first quarter of 2013, SunCoke completed an initial public offering of an affiliate, SunCoke Energy Partners, L.P., a master limited partnership. As a result of a change in the legal structure of the SunCoke entities that own SunCoke Middletown made in connection with the offering, income taxes are no longer allocated to net income attributable to SunCoke Middletown beginning in the first quarter of 2013. Thus, effective January 1, 2013 the Company's income tax provision (benefit) no longer includes the effect of that allocation. However, for the three months ended March 31, 2012, the consolidated income tax provision (benefit) included $3.0 associated with SunCoke Middletown. Neither the former tax allocation nor the January 1, 2013 change eliminating that allocation had any effect on the net income (loss) attributable to AK Holding in any period.

Net Income (Loss)

As a result of the various factors and conditions described above, the Company reported a net loss attributable to AK Holding in the three months ended March 31, 2013, of $9.9, or $0.07 per diluted share, compared to a net loss of $11.8, or $0.11 per diluted share, in the three months ended March 31, 2012.

Adjusted EBITDA

Adjusted EBITDA (as defined below under Non-GAAP Financial Measures) was $66.8, or $52 per ton, and $48.9, or $37 per ton, for the first quarter of 2013 and 2012, respectively.

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Non-GAAP Financial Measures

EBITDA is an acronym for earnings before interest, taxes, depreciation and amortization. It is a metric that is sometimes used to compare the results of different companies by removing the effects of different factors that might otherwise make comparisons inaccurate or inappropriate. For purposes of this report, the Company has made an adjustment to EBITDA in order to exclude the effect of noncontrolling interests. The adjusted results, although not financial measures under U.S. generally accepted accounting principles ("GAAP") and not identically applied by other companies, facilitate the ability to analyze the Company's financial results in relation to those of its competitors and to the Company's prior financial performance by excluding items that otherwise would distort the comparison. Adjusted EBITDA is not, however, intended as an alternative measure of operating results or cash flow from operations as determined in accordance with GAAP and is not necessarily comparable to similarly titled measures used by other companies.

Neither current shareholders nor potential investors in the Company's securities should rely on adjusted EBITDA as a substitute for any GAAP financial measure and the Company encourages investors and potential investors to review the following reconciliation of net income (loss) attributable to AK Holding to adjusted EBITDA.

                                                  Three Months Ended March 31,
                                                    2013               2012
Net income (loss) attributable to AK Holding   $      (9.9 )     $       (11.8 )
Noncontrolling interests                              16.7                 4.9
Income tax provision (benefit)                        (2.8 )              (4.3 )
Interest expense                                      31.0                16.2
Interest income                                       (0.7 )              (0.1 )
Depreciation                                          48.6                48.3
Amortization                                           4.1                 6.9
EBITDA                                                87.0                60.1
Less: EBITDA of noncontrolling interests              20.2                11.2
Adjusted EBITDA                                $      66.8       $        48.9

Outlook

All of the statements in this Outlook section are subject to, and qualified by, the information in the Forward-Looking Statements section.

Consistent with its current practice, AK Steel will provide detailed guidance for the Company's second quarter results in June. The Company notes, however, that its second quarter results will include the effect of a planned seven-day maintenance outage at its Middletown blast furnace, which is the first major maintenance outage that has been required for that furnace since a major reline in 2009. Total maintenance outage costs, including the Middletown blast furnace, are expected to be about $21.0 in the second quarter, compared to $1.0 in the first quarter.

Liquidity and Capital Resources

At March 31, 2013, the Company had total liquidity of $1,052.6, consisting of $178.2 of cash and cash equivalents of the Company and $874.4 of availability under the Company's $1.1 billion asset-backed revolving credit facility ("Credit Facility"). Availability under the Credit Facility fluctuates monthly based on the varying levels of eligible collateral. As of March 31, 2013, the Company's eligible collateral, after application of applicable advance rates, was $952.6. The Credit Facility is secured by the Company's inventory and accounts receivable. At March 31, 2013, availability was further reduced by $78.2 due to outstanding letters of credit. During the three-month period ended March 31, 2013, the Company did not have any borrowings under the Credit Facility. The Company anticipates utilizing the Credit Facility as it deems necessary to fund requirements for working capital, capital investments and other general corporate purposes. Consolidated cash and cash equivalents of $191.8 at March 31, 2013, includes $13.6 of cash and cash equivalents of SunCoke Middletown, which is not available for the Company's use.

Cash used by operations totaled $7.0 for the three months ended March 31, 2013. This total included cash generated by SunCoke Middletown of $23.7, which can only be used by SunCoke Middletown for their operations or distributed to SunCoke. Primary

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uses of cash were $30.0 for pension contributions, $18.1 for OPEB payments and an increase in working capital of $6.3, partially offset by cash generated from normal business activities. The increase in working capital resulted primarily from an increase in accounts receivable and inventory quantities based on seasonal trends. An increase in accounts payable due to higher inventory levels partially offset this use of cash.

The Company believes that its current sources of liquidity will be adequate to meet its obligations for the foreseeable future. Future liquidity requirements for employee benefit plan contributions, scheduled debt maturities, debt redemptions and capital investments are expected to be funded by internally-generated cash and other financing sources. To the extent, if at all, that the Company would need to fund any of its working capital or planned capital investments other than through internally-generated cash, the Company has available its Credit Facility. The Company also could seek to access the capital markets if and when it perceives conditions are favorable. The Credit Facility expires in April 2016 and any amounts outstanding under it at that time would need to be repaid or refinanced. Otherwise, the Company has no significant scheduled debt maturities until December 2018, when its 8.75% Senior Secured Notes due December 2018 ("Secured Notes") are due. The Company's forward-looking statements on liquidity are based on currently available information and expectations and, to the extent the information or expectations are inaccurate or conditions deteriorate, there could be a material adverse effect on the Company's liquidity.

Pension- and Retiree Healthcare Benefit-related Matters

The Company expects to contribute $181.5 to the master pension trust during 2013. Of this total, $30.0 was made in the first quarter of 2013 and $41.3 was made in April 2013, leaving $110.2 to be made during the second half of 2013. The Company expects to make payments to Voluntary Employees Beneficiary Association ("VEBA") trusts of $30.8 in 2013 pursuant to settlements of class actions filed on behalf of certain retirees from the Company's Butler Works and Zanesville Works relating to the Company's OPEB obligations to such retirees. Based on current actuarial valuations, the Company estimates that its required annual pension contributions will be approximately $210.0 in 2014 and $125.0 in 2015.

Investing and Financing Activities

During the three months ended March 31, 2013, net cash used by investing activities totaled $15.7, primarily for capital investments of $16.5.

For 2013, the Company anticipates making capital investments of approximately $60.0 in its steelmaking and finishing operations. AK Steel also expects to make capital investments during 2013 of approximately $20.0 in AK Coal and the development of its coal reserves. In addition, strategic investments in Magnetation may be required during 2013 based on Magnetation's liquidity requirements, as discussed in the Strategic Investments-Magnetation section below. In the near-term, the Company expects to fund these investments from cash generated from operations or from borrowings under its Credit Facility.

During the three months ended March 31, 2013, cash used by financing activities totaled $12.5, consisting primarily of $9.1 of distributions from SunCoke Middletown to its noncontrolling interest owners.

Dividends

The Company's Credit Facility contains certain restrictive covenants with respect to the Company's payment of dividends. Under these covenants, dividends are permitted provided (i) availability under the Credit Facility exceeds $247.5 or (ii) availability exceeds $192.5 and the Company meets a fixed charge coverage ratio of one to one as of the most recently ended fiscal quarter. If the Company cannot meet either of these thresholds, dividends would be limited to $12.0 annually. At March 31, 2013, the availability under the Credit Facility significantly exceeded $247.5. Accordingly, although the Company has elected to suspend its dividend program, there currently are no covenants that would restrict the Company's ability to declare and pay a dividend to its stockholders.

Restrictions under Debt Agreements

The Credit Facility and indentures governing the Company's senior indebtedness and tax-exempt fixed-rate Industrial Revenue Bonds (collectively, the "Notes") contain restrictions and covenants that may limit the Company's operating flexibility.

The indentures governing the Notes, other than the 5.00% Exchangeable Senior Notes due November 2019 (the "Exchangeable Notes"), include customary restrictions on (a) the incurrence of additional debt by certain AK Steel subsidiaries, (b) the incurrence of liens by AK Steel and AK Holding's other subsidiaries, (c) the amount of sale/leaseback transactions, and (d) the ability of AK Steel and AK Holding to merge or consolidate with other entities or to sell, lease or transfer all or substantially all of the assets of AK Steel and AK Holding to another entity. They also contain customary events of default. In addition, the indenture

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governing the Secured Notes includes covenants with customary restrictions on the use of proceeds from the sale of collateral. The indenture governing the Exchangeable Notes does not contain any financial or operating covenants or restrictions on the payments of dividends, the incurrence of indebtedness or the issuance or repurchase of securities by the Company or its subsidiaries.

The Credit Facility contains restrictions, including limitations on, among other things, distributions and dividends, acquisitions and investments, indebtedness, liens and affiliate transactions. In addition, the Credit Facility requires maintenance of a minimum fixed charge coverage ratio of one to one if availability under the Credit Facility is less than $137.5. The Company does not expect any of these restrictions to affect or limit its ability to conduct its business in the ordinary course.

During the period, the Company was in compliance with all the terms and conditions of its debt agreements.

Strategic Investments

AK Coal

During the first quarter of 2013, AK Coal, a wholly-owned subsidiary of AK Steel that controls (through ownership or lease) significant reserves of low-volatile metallurgical coal, continued to make substantial progress in moving toward its goal of commencing active mining activities during the second quarter of 2013. In the first quarter AK Coal completed the public comment period for its permit to mine and continues to work closely and collaboratively with the Pennsylvania Department of Environmental Protection to obtain the permit's issuance. Barring any unanticipated setbacks, AK Coal anticipates that its permit will be approved in or shortly after the second quarter of 2013. In order to position itself to commence mining operations as soon as possible following its receipt of the permit to mine, AK Coal has undertaken significant site preparation for its initial underground mine in Somerset County, Pennsylvania. In addition, the necessary underground mining and related equipment has been ordered and it is expected to be received in time to commence operations soon after receiving permit approval. Subject to the timing of the permit's approval, AK Coal currently estimates that it could commence mining operations at its initial mine as soon as late second quarter or early third quarter of 2013. AK Coal also continues to develop and refine its mine development plan, which will provide its planned approach to mining coal in the area for years to come.

AK Steel continues to anticipate that it will invest approximately $96.0 in total to acquire and develop its mining operations and begin coal production. Of this total, the Company has expended approximately $47.0 through March 31, 2013. The Company expects to invest approximately $18.0 in the remainder of 2013. The timing of the remaining capital expenditures will be driven principally by the Company's decisions as to how quickly to open up additional mines to increase coal production. Those decisions will be driven by a variety of factors, including the Company's capital deployment decisions and the then-market prices at which the Company may purchase third-party coal.

Magnetation

Phase I of the joint venture involved the development and operation of Magnetation's two existing iron ore concentrate plants, which together are able to produce a total of approximately 1.2 million short tons of iron ore concentrate annually. Magnetation loads iron ore concentrate onto railcars at its wholly-owned loadout facility, which enables it to ship its iron ore concentrate in a controlled and cost-effective manner. These concentrate operations effectively already provide AK Steel with a partial hedge to the global price of iron ore, as the Company will recognize its share of net income from the joint venture's sale of its iron ore concentrate to third parties at pricing based on iron ore market prices. If the global price of iron ore increases, AK Steel will benefit from the higher Magnetation net income caused by that price increase thereby partially offsetting AK Steel's own higher raw material costs resulting from the higher iron ore prices. Even absent future iron ore price increases, Magnetation's ability to produce iron ore concentrate at a relatively low cost is expected to permit it to generate net income on sales. Indeed, AK Steel anticipates benefiting from Phase I even if current . . .

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