ATI Inc. (NYSE:ATI) Q2 2024 Earnings Call Transcript

ATI Inc. (NYSE:ATI) Q2 2024 Earnings Call Transcript August 6, 2024

ATI Inc. misses on earnings expectations. Reported EPS is $ EPS, expectations were $0.58.

Operator: Hello, everyone. And welcome to the ATI Second Quarter 2024 Results Conference Call. My name is Seb, and I’ll be the operator for your call today [Operator Instructions]. I will now hand the floor over to David Weston, Vice President of Investor Relations to begin the call. Please go ahead.

David Weston: Thank you. Good morning. And welcome to ATI’s second quarter 2024 earnings call. Today’s discussion is being webcast online at atimaterials.com. Participating in today’s call to share key points from our second quarter results are Kim Fields, President and CEO; and Don Newman, Executive Vice President and CFO. Before starting our prepared remarks, I would like to draw your attention to the supplemental presentation that accompanies this call. Those slides provide additional color and details on our results and outlook and can also be found on our Web site at atimaterials.com. After our prepared remarks, we’ll open the line for questions. As a reminder, all forward-looking statements are subject to various assumptions and caveats. These are noted in the earnings release and in the accompanying presentation. Now I’ll turn the call over to Kim.

Kim Fields: Thanks, Dave. Good morning, everyone. Let’s dive in. ATI’s second quarter results represent another strong quarter of execution and performance. What excites me the most, here are three key highlights. First, revenue growth. Quarterly sales reached their highest level in nearly a decade, nearly $1.1 billion, reflecting 10% sequential increase in our strategic A&D and aero-like revenue categories. Second, strategic mix expansion. A&D sales made up 62% of our revenues this quarter, putting us on track toward our A&D mix target of 65%-plus. In total, 79% of our revenues comes from A&D and aero-like markets, markets where our differentiation is most valued. And third, strong financial results. Adjusted EPS hit $0.60 at the high end of our guidance and adjusted EBITDA came in at $183 million, exceeding the upper end of our guidance range.

So what is driving these results? Let me break it down to three main points. First, it’s about surging demand. At the Farnborough Air Show, the high demand for our products was clear. Interest has broadened beyond titanium to nickel, looking for commitments for the rest of this decade and into the 2030s. Customers are offering premiums for any available near term slot that opens up. We’re currently in discussions with multiple customers about investing their capital for added capacity. And why are they investing? To guarantee supplies available when they need it and secure their preferred position in line. They’re increasingly facing the wide body ramp while still supporting historic levels of shop visits and spare parts demand. In late July, we announced new sales commitments surpassing $4 billion, primarily for high value nickel products for jet engines.

These commitments not only support our 2025 and 2027 financial targets but also add approximately $100 million per year in incremental annual revenue. Some of these commitments extend as far as 2040, reflecting our customers’ long term confidence in sustained jet engine demand and ATI as a supplier to help them succeed. Second, as one ATI team, we are executing and delivering. Our strategy is clearly paying off. In the second quarter, ATI’s largest end market, jet engines, grew 13% sequentially to over $350 million, driven by specialty nickel. As the industry reaffirmed in its most recent quarterly reporting cycle, more growth will follow as the OEMs resolve their challenges and planned production increases through 2024 and beyond. Titanium revenue for airframe increased 11% sequentially this quarter to more than $210 million,that’s another all time high for ATI and a 28% increase over last year.

Our expanded titanium melt capacity is a key factor in this success. Defense sales rose 5% sequentially led by increased demand for exotic alloys and continued strong demand for titanium armor plate used in military ground vehicles. And here, I’d like to take a second to recognize the Specialty Rolled products team for the tremendous work they’ve done to earn that position,their hard work is paying off. Specialty energy was up 37% versus the prior quarter. We see building demand for nuclear and gas turbines for increased electricity consumption. We expect sustained global demand in this end market for the foreseeable future. And third, we’re well positioned for the future and more confident upside as possible. We are optimizing our operations to debottleneck flow path, reduce costs and drive productivity across our system from melt to ship.

Our focus on increasing specialty nickel melt demonstrates the strength of our integrated One ATI approach. Since last year, we have significantly increased nickel throughput by improving turnaround times, optimizing melt plans and implementing standard work, materials flowing faster and we expect to see the benefits of these actions towards the end of the year. It’s great to see the experts from across the business units collaborating to optimize production output. These results represent a lot of hard work and the team takes great pride in being able to work together to serve our customers’ needs. Great job team. We are seeing the impacts of this optimizing in both segments. In AA&S, we achieved over 16% adjusted EBITDA margins in the second quarter, reflecting the success of the Specialty Rolled products transformation.

In HPMC, revenues grew 6% sequentially on level shipment volumes. What’s that telling me? We’re effectively capturing the impact of tougher product mix and equally important price. Overall, we are well positioned now and for the future. And with that, I’ll hand it over to Don.

Don Newman: Thanks, Kim. What really strikes me about Q2 is seeing the benefits of our strategy, sustained demand and operating improvements delivered to our bottom line. Kim shared some of the headlines related to Q2 financial results. I’ll add some color and then walk you through our outlook. The first area of highlighting is growth in our core aerospace and defense and aero-like end markets. Q2 revenue in those markets totaled 79% of our overall revenue, increasing 10% sequentially. Drilling in, our A&D sales were 62% in the quarter, putting us on track toward our A&D mix target of more than 65%, that’s 13% sequential growth in jet engine and 28% year-over-year growth in airframe. Both segments contributed to the mix improvement and Q2 margin expansion.

From the HPMC perspective, Q2 A&D sales were 85% of total segment revenue, continuing its upward movement. Jet engine accounted for 59% of segment revenue. The AA&S segment also saw mix improvement in the second quarter with 62% of total segment sales from A&D and aero-like markets. A&D sales representing 39% of Q2 revenue grew 19% sequentially led by growth in defense and airframe, that’s a record level A&D mix for AA&S. Aero-like grew 33% year-over-year and 8% sequentially. Metal movements may affect our revenue in a given period, but less so our bottom line, thanks to derisking pass-through mechanisms. We experienced that in Q2, which masked underlying growth. That created top line growth headwinds in the quarter of 6% for overall ATI, 2% for HPMC and 11% for AA&S year-over-year.

Overall adjusted EBITDA margin increased to 16.7% largely on improved mix, that’s an increase of 220 basis points sequentially and 100 basis points from Q2 of 2023. Adjusted EBITDA margins in the HPMC segment were back above the 20% threshold due largely to mix and operational improvements. We have hired more than 500 hourly workers in the HPMC segment year-to-date. This is part of our strategy to debottleneck production and leverage our existing assets. Q2’s margins of 20% reflects inefficiencies incurred while those new team members are being trained by our expert employees. We have also leveraged third party staffing firms in the short term to accelerate production, that brings incremental cost. HPMC margins will become progressively better in the second half of the year and production will increase as the new employees gain experience.

AA&S margins were 16.4% in the second quarter, reflecting strong A&D mix, largely through increased titanium sales. As expected, certain industrial markets remained stable in the second quarter. Cash generation continues to improve. Cash provided by operating activities is positive year-to-date, that’s an improvement of $219 million over the first six months of 2023. It’s also an improvement from our historical cash cycle. We are pleased with the positive free cash flow delivered in Q2 and our cash trending this year. We believe more opportunity lies ahead as we continue to lean out inventory cycles and improve production flows. With this improved cash generation comes stronger liquidity and reduced leverage. We closed the second quarter with almost $1 billion in total liquidity, including more than $425 million of cash on hand.

Our net debt ratio decreased in the second quarter to 2.7 times, a trend that will continue with our increasing profitability and cash generation. Now let’s look ahead to the second half of the year. We’re raising the midpoint of our full year guidance ranges for adjusted earnings per share and EBITDA while holding our free cash flow guidance range. We have strengthened diversity in our jet engine base and enduring demand in defense and growing aero-like markets. We’re expanding output and making progress on our ongoing debottlenecking efforts. This drives the meaningful growth we expect to see in the second half of the year. For the full year, we estimate adjusted EPS will be in the range of $2.40 to $2.60 per share. We estimate full year adjusted EBITDA will be in the range of $720 million to $750 million.

We are maintaining our full year estimated ranges for free cash flow and capital expenditures with free cash flow between $260 million to $340 million and CapEx at $190 million to $230 million. The midpoint of the free cash flow range represents an 82% year-over-year increase in this important metric. For the third quarter, we estimate adjusted EPS will be in the range of $0.63 to $0.69 per share and adjusted EBITDA between $189 million and $199 million. The Q3 and full year guidance provide clear insight into how we view potential Q4 performance. We see Q4 as another robust quarter of sequential growth. Ongoing demand in core markets and increasing production levels support our view. We anticipate overall ATI adjusted EBITDA margins will increase sequentially from Q2 to Q3 and again from Q3 to Q4 to reach 17% to 18% by year end.

On a segment level, HPMC margins will expand in the second half on A&D growth. AA&S margins will remain in the mid-teens for the balance of 2024. We remain confident in our near term outlook and the longer term growth and the increased profitability reflected in our 2025 and 2027 targets. In terms of those 2025 and 2027 targets, keep two things in mind. First, the recently announced $4.2 billion in new sales commitments include roughly $100 million in annual incremental revenue along with related EBITDA. That $100 million was not reflected in our targets. Second, our backlog continues to grow even with increased throughput and newly deployed capabilities reducing our lead times. Backlog reached $4.1 billion this quarter. Importantly, backlog in the second quarter is up 9% in HPMC, including a 14% increase in forgings.

Our strategy and transformation are delivering the performance and value creation intended. That’s driven by growth, expanding margins, robust cash generation and disciplined capital deployment. Our trajectory remains on track for 2024 and beyond with a lot of upside to look forward to. On that note, I will turn the call back over to Kim.

Kim Fields: Thanks, Don. Our performance underscores our leadership in aerospace and defense where our differentiated materials are valued the most. Today’s results reflect the power of our strategy and comes down to three things: one, strong demand for our specialty products, particularly nickel in addition to titanium; two, disciplined execution, meeting and exceeding our customer commitments; and third, we’re well positioned today and for the wide-body ramp that’s fast approaching. I’d like to close by recognizing the team’s exceptional work. The results we reported today are possible, thanks to their hard work. They’re delivering every day, discovering what’s possible, they’re pushing, innovating and challenging the status quo and then they go back and do it again.

Their commitment to always producing the highest quality products with a focus on our zero injury culture are the foundation of what we do. Thank you to every employee for your hard work and perseverance. We are indeed proven to perform. With that, let’s open the line for your questions.

Q&A Session

Operator: [Operator Instructions] Our first question comes from Seth Seifman at JP Morgan.

Seth Seifman: I wanted to ask — you guys spoke about the ramp-up in titanium and it’s clear that all of your new capacity is coming online. During the quarter, though, we heard about one of the 787 suppliers slowing down. We know there are some delays in terms of availability of other parts made by other people like interiors. When we think about the production ramp there, how do you think about the potential impact on your titanium ramp from other things going on in the widebody supply chain?

Don Newman: I’m going to take a shot at answering your question. First of all, in terms of what we’ve seen in our business tied to demand, we do see some scattered pushouts when it comes to orders. But because of the broad based demand in our business, if a slot opens up, we typically have a customer that steps in and says, hey, I want to take that slot. And that indicates a couple of things. Number one, we are continuing to see significant demand on our business from an aerospace and defense standpoint as well as through other key markets like our aero-like. And it also indicates that we’ve done, I think, a very good and purposeful job around diversifying our business that derisks some of the items or some of the risks that you’re talking about.

And what that looks like to us is we have diversified away from being more single threaded dependent upon a particular airframer, for example, or now we’ve got meaningful business with all of the major engine manufacturers. So I think that’s supporting our business quite well. It also gives us a lot of confidence when you think about our outlook, whether it’s 2024, 2025 or 2027. So that’s something that I would share in regard to what we’re seeing on a current basis.

Seth Seifman: And then maybe just a follow-up on the engine side. You spoke about the new business that you announced at Farnborough. When we think about the growth rates on the engine side of the business, maybe if you could talk about kind of the progression there. I assume we’ll start to see pickup from this kind of mid single digit pace in the second half as that work kind of ramps up and as new employees become more productive. But maybe you talk about the time frame and just the progression of improvement there over the course of your planning period.

Don Newman: So first of all, we are continuing to see some very, very strong jet engine signals. And it wasn’t just at Farnborough, by the way, it’s — these are conversations that are happening with our OEM customers on a regular basis. Farnborough certainly reinforced it. As far as how we see demand continuing to expand there, I think we’ve heard some pretty good and positive feedback or announcements rather from folks like GE, who — they made some pretty clear and strong statements around how they’re going to run the supply chain and meet the demand that they see coming towards them. That demand profile, by the way, is not unique to GE. We’re seeing that those signals of a very broad based engine demand across all of the major engine manufacturers, and there’s a couple of drivers to it.

One driver that we all think about because we read the headlines from the airframers and think about build rates, that’s a key driver. However, there is this thing called MRO and that MRO demand is certainly driving growth on the engine side of the business. So as we look at our positions and align that to what we’re hearing from our customers, we are seeing some sustained growth and we’re seeing that’s not just the 2024 and 2025 situation as the build rates do ramp up as I think we collectively expect them to, that’s going to create another step change in demand. In that regard, there’s a couple of triggers that we monitor. And we think when they are triggered, it’s going to create a step change in demand, whether it’s for airframe but certainly for engine.

Those two triggers are really related to the 777X certification and then the FAA dropping the limitations on the 737 build rates. When those two items are cleared off the deck, what we suspect is the good growth that we’re expecting under the current circumstances we’ll potentially see a step change in a positive way. And so at that point, we’ll be kind of reassessing how we think about the trajectory of our business and see if we need to make some positive adjustments to that. Does that answer your question?

Operator: Our next question is from Gautam Khanna from TD Cowen.

Gautam Khanna: I was wondering, do you guys have any fidelity on whether the products are shipping or being consumed and/or used as opposed to inventoried? Because obviously, one of the concerns that we hear a lot about is the risk of a destock or a shallower ramp that, in fact, the aerospace build rates don’t ramp according to plan. But do you guys have visibility downstream as to — are these — are the mill products and the like that you’re selling being actually used right now, consumed?

Kim Fields: I think, as you’re asking here, we stay pretty closely aligned with our customers. And so we do have some insights to what is their true demand signals and what’s happening with each part. Forecasting and changing of backlogs is a very active process these days and as Don mentioned, we almost talk about that weekly with each of our customers. So we do have some insight into that. And I would just emphasize, as Don said, we haven’t seen any destocking or pushouts. It’s been more smoothing quarter-to-quarter. And I think to your specific question, there’s a couple of very targeted areas with one air framer around maybe plate, titanium plate that might be slightly or inventory that frankly, as we look at our other markets, both defense and our other aerospace airframe customers, those more than absorb any capacity.

Although to be honest with you, we have not seen any pushouts. I think there’s commitment to smoothing and maintaining the momentum in the supply chain by all the customers. So we’re working pretty closely together. So the other thing I’d mention, just on the engine side, as you know, most of our products go directly into the hot section. And so you’ve heard from others in the last couple of weeks that there’s really strong demand around MRO and shop visits. And so a lot of those products go into those MRO visits and are driving much higher in some cases, 2x the MRO that we’ve seen in the past. And then if you layer on top of that some of the challenges that GTF has had on accelerating their shop visits, we are a significant partner in that work with them and ramping up to meet that increased demand over the next several years as they work through those aircraft on ground.

And I’d say lastly, I just want to touch on, we did the announcement a couple of weeks ago. We do continue to sign new contracts and gain share either through our competitors where there may not be performing to the level our customers are looking for or as customers look to diversify wave from single source of risk in their supply chain. So lots of moving parts in there but we do stay pretty close. I’m not seeing high inventory levels in any one particular area. And we’re pretty nimble as a company and we’re adjusting as we need to respond to where the demand is and where things may be smoothing out.

Operator: Our next question is from Scott Deuschle from Deutsche Bank.

Scott Deuschle: Don, sorry if I missed this, but can you give us an update on your assumptions for the non-A&D and medical markets in the second half here, or are you still expecting those more cyclical industrial markets to trough out in the second half or are you embedding any incremental conservatism there?

Don Newman: Now when you — just to be clear, I’ll talk about the aero-like as well as the industrial, if you don’t mind, because we spend a lot of time talking about aerospace and defense as we should. It’s our core. And I want to make sure that I touch on both, so you have the benefit of that thinking. In terms of our aero-like, that would be medical specialty, energy as well as electronics. We’re expecting to see some continued healthy, broad based growth on that side of the business in the second half, that’s going to continue through 2025 and beyond. In terms of the industrial part of our portfolio that’s something that we’ve been continuing to reduce over time. It’s part of our transformation. And as you know, we saw starting in the second half of last year a pullback and certainly a softening around those end markets.

And so what we saw in Q2 was really stabilization around those end markets. And that’s encouraging, it’s got to become stable before it starts to turn around and go the other way. But as you think about what we’ve assumed in our second half guidance, what we’ve assumed is being that we haven’t started to see any meaningful recovery in that — in those industrial end markets like oil and gas, for example, because we haven’t started to see it, we have not built in any significant growth in those parts of our portfolio for the second half. So the really strong growth that you’re seeing in our guidance is really about aerospace and defense and aero-like. And so that’s very encouraging, because you’re seeing that 80% of our business is really driving some robust outcomes, some robust top line and bottom line.

Same thing would be true by the way, if we drilled in a little bit and talked about our Precision Rolled Strip business in Asia. Sometimes we talk about that at the same time we’re talking the general industrials and there, again, just like with the other industrial parts of our portfolio, we’ve seen it pretty stable, pretty flattish. And I think that’s largely tied to the lethargic Chinese economy. And our guys have done a really good job diversifying the sales mix with selling outside of China, but it’s — the issue is that’s not enough to really increase the performance of that business. And so it’s steady, generating probably around $250 million a year in revenue. And it produces accretive margins, which are nice, but it’s not part of our — really our growth profile.

Scott Deuschle: And then, Don, at the Investor Day, I think you said that no one else in the industry is taking more price than ATI is and it’s becoming very clear from the results of the other companies that they’re taking large amounts of price and they’re seeing it in their numbers. So I guess my question is, is it still true that ATI is taking more price than them and then if you are, why isn’t that flowing through more particularly at HPMC?

Don Newman: Well, let me answer it this way. What I would say is, first of all, we all understand it’s tough to compare one company to another company. You’re talking, every company has some overlap in our industry, but at the same time, there are differences, right? Differences in products that are offered, differences in end markets, differences in customer base. And that ultimately results in differences in, I believe, growth rates and how the businesses perform in the short term. In the long term, it’s a bit different. So to answer your specific question, we are absolutely getting price. And what I would say is we are getting our fair share of price. How does that — how do you see that? Well, first of all, the specific areas that we know quite strongly that we’re getting price are in things like titanium.

If you drill in and you look at performance around our portfolio — our titanium portfolio, you would see that both on the HPMC side of the business as well as the AA&S side of the business, our titanium offerings have seen meaningful increases in price. And we believe that we are absolutely keeping pace with anybody out there when it comes to that. On the nickel side, nickel side for HPMC, so I think in terms of engine applications, for example, we know we have absolutely gotten price. Now the price that we’re getting is there’s something to keep in mind. We are a company that has a significant amount of LTAs and so those LTAs can affect the timing of when you see those price increases hit your financials. What do I mean by that? Well, even though we have a lot of LTAs and those LTAs can expire over various length of time.

We’ve been very, very active. When there’s an opportunity to sit down with the customer to really address pricing even in existing LTAs. And so we also do that, by the way, with renewals. And so what we know is that part of that price increase that we’re getting is coming. It’s coming in the form of when that new contract begins, it might be in ’25, in some cases, ’26 in other cases, it comes with higher pricing. So that’s on its way. And then beyond that, transactionally, we’re very confident that we’re getting our fair share of pricing increases. Now that’s on the aerospace and defense that part of our core business. We’re also getting our fair share and more of pricing in our aero-like end markets, things like — we sell a hafnium and it’s a fantastic product, it has very unique characteristics.

And we understand the value that we bring to our customers in medical and specialty energy and electronics. And we have seen significant opportunity for adding price in that space. So we know we’re getting it. It’s not just about volume increases in this business. And we believe that — we strongly believe that we are getting our fair share across our portfolio.

Operator: Our next question comes from Richard Safran at Seaport Research Partners.

Richard Safran: So I wanted to ask you a bit more about this press release from Farnborough where you talked about share gains and solutions. Did solutions really mean forgings and also — so RTX said it was doubling or increasing, I forgot which it’s forgings capacity. Now you had a long term agreement with Pratt. So is RTX’s comments about increasing forging capacity really you? Are they the ones, for example, that are thinking about making investments to increase capacity at ATI?

Kim Fields: So while we don’t talk about any specific customer contracts or agreements, I shared first quarter in the earnings call that we are a significant partner and it’s supporting the GTF accelerated shop visits. So we’re working very closely with them to look across the full value chain and all of the assets and saying, how do we work together to optimize all of the different assets that we have. And so I think I shared in the last call that our plan is to double our forging output and participation next year. And so we are on a path to help support them and help accelerate that work. The other thing I’d mention, though, we’ve already been working with them on, and I mentioned this again last quarter to increase our machining output by 10% to 20% and our ultrasonic inspection capacity by 3 times, and this is important not just for the GTF and the challenges there but for the industry overall.

We’re seeing increased inspection protocols and testing that’s being done to ensure the safety, which is good, but is a bottleneck in the industry and are continuing to work with them so that we have excess capacity to help offset any kind of bottlenecks or any issue that may come. I do believe as we continue to work together and partner, we have a very close relationship with them that we’re going to continue to find new opportunities to grow and work together and grow our participation. Just as an aside, the $4 billion announcement that we made on sales a couple of weeks ago, about 20% of that, just to your earlier question, 20% of that is probably Forged Products, comes from Forged Products.

Richard Safran: And just quickly, Don, you took up your EBITDA guide roughly $10 million. You left your free cash flow guide intact. Just wondering why they go up as well? I’m just wondering if there’s — if that’s just conservatism or maybe you’re thinking about you have some other working capital headwind in the second half?

Don Newman: Straight up, I would call it conservatism. We tend to be conservative, Rich, in general, around our guidance and even more so when we get past the current period. But when you look at our — that correlation between the EBITDA guide and the free cash flow guide, clearly, the EBITDA was rising. We had overperformance in Q2 that would — we didn’t want to ignore and send a negative message by not rolling that into our full year guidance. So that seem quite clear. When it comes to our free cash flow, we do guide on an annualized basis, but we have some really positive data points. One positive data point is the cash performance year-to-date. When you look at our cash from operations and improving — more than $200 million year-over-year, that is a really good fact.

Another thing that we’re seeing is a meaningful improvement in our inventory efficiency, which is really encouraging. So the fair question is, all that’s good news, Don. Why didn’t you tighten your free cash flow range or raise your free cash flow range? What I would say is the majority of our free cash flow is generated in Q4 and some in Q3, but some in Q4. And so at this point, I do not interpret that we are softening in our belief of delivering something certainly in the middle of that guidance range, because that is absolutely the target that we have in mind. But we felt at this point after getting halfway through the year, it would be the right thing at the moment to keep that free cash flow range where it was. Keep in mind, at the midpoint of that guidance, Rich, it’s an 82% increase in year-over-year free cash flow.

And so there are a lot of good things that the team is delivering to accomplish that, but it is a significant increase and we acknowledge that. Again, things are progressing really well. It’s going in the right direction where we need it to be to deliver, but that’s just one data point on the significant improvement that we’re pursuing. And yes, hopefully that give you what you need.

Operator: Our next question is from David Strauss at Barclays.

David Strauss: Just wanted to ask about how far the way we’re through the titanium capacity expansion in terms of it manifesting itself actually in the numbers. I know titanium was up a lot year-over-year but that was a really easy comp relative to last year. It looks like sequentially the last couple of quarters titanium revenue has been in a relatively tight range. So just — I know the new capacity is still to come, that’s still to come online. But in terms of the restarting the existing capacity, how much of that has actually manifested itself at this point?

Don Newman: I’ll take a shot at answering that, and Kim may add something at the end. So first of all, from a production standpoint, let me actually step back for a second, David, just for other people’s benefits. So we’re increasing our titanium melt capacity by 80%. There’s two baskets. The first basket is 45% and that’s what David is asking about. That 45% is tied to production off of existing assets. The second basket is something that’s in process, on time, on budget, but doesn’t really hit until 2025 and 2026. So let’s focus on the first 45%. From a production standpoint, the restart of that facility that underpins most of the 45% has gone really, really well. It has ramped really on schedule. It has — the cost to restart has been on budget, that was roughly $10 million.

That facility should, at run rate, contribute between $10 million and $15 million a quarter in EBITDA, that has been ramping. And so we don’t expect to hit the full run rate related to the benefit of that 45% basket until we get into Q4 of this year. So when you look at the overall titanium revenue growth and performance, there’s — we do see where our volumes are increasing on titanium. We’ve seen very clear pick up on average price, which is, I think, an indication of capturing price and of mix. And we remain very confident that our titanium capacity, which is largely under contract, is going to contribute in the magnitudes that I described.

Kim Fields: And I think all I would add, David, to that is as we’ve seen, depending on what flow path it goes, there is extended lead times or cycle times as things move through if they’re going to a forge product part. If you look at just Slide 4 in the deck, you can see we are seeing the titanium flow through on the AA&S side, particularly around airframe and you see that growth starting to come through. On the HPMC side, those cycle times are a little bit longer as they work through SM, specialty materials or — and then through forged products. And as we’ve been talking about, there’s multiple — that bottleneck moves around as we put more melt in, melt is the first step. And then you’ve got — we’ve talked about the new press that’s come online down in Monroe as well as some of the new testing capabilities that we bring — brought on to relieve and eliminate those bottlenecks.

And so we’re continuing to do that, as Don said, we anticipate to see on the HPMC side, the impact of that in the fourth quarter, and that’s progressing well.

David Strauss: And just a follow-up there. The AA&S margins gone, it sounds like you’re assuming it’s going to be relatively in line in the second half with Q2, which was really strong. But as I understand, a lot of the titanium upside will run free and I believe it’s margin accretive to AA&S. So kind of — if you could just kind of walk through that and your thinking around AA&S margins in the second half?

Don Newman: I appreciate you asking that question, because it’s good for us to clarify a bit. So first, really strong margin performance from AA&S in the quarter, 16.4%, so significant uptick year-over-year and sequentially. So how should you think about that 16.4% from a sustainment standpoint, right? So let’s unpack it a little bit. So first of all, one of the benefits that helped to deliver that 16.4% was mix. The team has done an incredibly good job in shifting that business to more concentrated in the aerospace and defense end market to the point where AA&S, A&D was 38 — almost 39% of the overall share of AA&S revenues, that grew at 19%. It was very healthy. If you drill in a little bit on that just for a perspective. So when you think about AA&S, there’s two business units, SRP, Specialty Rolled Products, is a large portion of AA&S.

This is a business we’ve been transforming and moving away from commodity products, moving away from selling through distributors and instead selling more and more through OEMs. That business, which a few years ago would have been mid-teens A&D exposure, we saw it hit over 40% this last quarter, incredibly strong, growing in the right direction, and they’re not done. They are going to continue to push that business toward value add, higher margin opportunities. So that’s encouraging. But it doesn’t actually answer your question. I see you think about it in the near term. Well, one of the other things that’s driving the Q2 margins, that is important to understand, we did include in my scripted portion of the call, it’s also in the deck that you guys can see online.

We noted that pass through revenues did have an impact in our revenue year-over-year. It’s much less sequentially but certainly year-over-year. What am I talking about? Well, we’ve really reduced our sensitivity to metal impacts, especially to the bottom line through the transformation that we’ve been executing, but we do have pass through mechanisms that derisk our business. We like the mechanisms. They allow us to pass through changes and now prices to our customers. But they can create some pretty wonky math year-over-year when you’re looking at growth rates or you’re looking at incremental margins, et cetera. So here, let me cut to the chase. So when you look at Q2, there was about a $55 million reduction, year-over-year reduction in pass-through revenues and that served to actually lift the Q2 EBITDA margins for AA&S and to a lesser degree, the overall business.

And so let me rightsize it. If you ran the math, and said, okay, well, if I stripped out that part of that element of AA&S performance, the 16.4% would go to about 15.9%. So that right there is a good way to think about where did AA&S perform when you kind of look through the pass throughs. Then how should you think about it going forward? I’ll be honest, in my numbers, where I project, I view AA&S delivering something closer to 15% EBITDA margins in Q3, Q4. Part of that has to do with — we did have some really strong mix in Q2, I think it’s going to be challenging for the team to replicate some of those elements of the rich mix from Q2 in the future quarter. So my thought is when I say mid-teens, I’m actually saying, hey, I think around 15%.

Operator: Our next question is from Andre Madrid from BTIG.

Andre Madrid: I know you called it out in the remarks and a little bit in the Q&A. But I kind of wanted to parse it out a little bit further and just see how much MRO demand contributed to jet engine growth in the quarter and how much you kind of anticipate that to contribute moving forward?

Kim Fields: So it’s significant. You’ve heard from all of our customers have talked about it in their earnings calls, there’s a significant amount of MRO coming through. I’d say historically, we’ve typically — we don’t have — so let me start with this. We don’t have full visibility of does it go into an MRO part or a newbuild engine. As I mentioned, our products and our forgings go into the hot section, the disks in the engine, and they can be in either place. But we historically estimate that MRO being 25% and today, it’s closer to 40%, 50%, sometimes higher than that. And when I look at the demand and look at our order book, we are seeing increased demand across all of the engine OEMs for both the materials as well as the forgings as they continue to ramp the OE rates as well as keep pace with the shop visit.

So I’d say it’s a significant portion. It’s hard for me to give you a precise number to that. But talking with our customers, it does seem like there is very heavy demand on both sides and more upside. Frankly, if we could continue to increase the capacities and reduce the bottlenecks as we’ve been talking about, there’s more upside and more demand than we are currently put into our outlook and our forecast today.

Andre Madrid: And I guess, moving or pivoting to the electronic side of the business. I know hafnium was kind of dampened in the first half of the winter storm outage. But do you expect to make that up to the balance of the year or is this kind of being pushed out?

Kim Fields: So the team is working very hard to close that gap. Demand is overwhelming on the electronic side. I just bought a new appliance that has a chip in it that can tell me, and the washing machines and so forth, all of our — everything around us is getting smarter every day. And I will say that our business out in Oregon is one of very few, maybe one or two in the world that can provide and produce the purity at scale needed for these electronic chip manufacturing. So we are working. We’ve got some investments that are ongoing right now. We anticipate to see those coming online as we come into the fourth quarter. And that’s just Phase 1. We’ve got two Phase 2, Phase 3 that we’re also working on increasing our capacity and outputs of hafnium.

The other thing I’d mention here with hafnium is, in addition to electronics, it goes into several other really important industries for us. One being the hypersonics industry and space industry, that is a really critical component that goes into a material that’s used for very, very high temperature, I think kind of second stage rockets from a space standpoint that maintain their strength at these very high temperatures. And so that’s another pull on that hafnium supply that we’re continuing to maintain. And again, we’ve been told by a couple of customers that we’re the only ones in the world that are able to make the quality and purity that withstand that type of application. So as I mentioned, we’ll be — we’re doing investments, one is ongoing today, we’ve got two more phases.

All of those are contemplated and included in our CapEx guidance. But we’re working very hard and that team is working very hard out there to increase our output and capacities.

Operator: Our next question is from Phil Gibbs at KeyBanc Capital Markets.

Phil Gibbs: So the increase in headcount of 500, was that all in the quarter? And what production locations were that at specifically, and do you expect more hiring?

Kim Fields: I’ll take a stab at that, Phil. So the 500 are all in the first half of the year. I’d say you can look across the two businesses, that is probably 60-40 down Carolina, 60-40 up in Wisconsin. We are continuing to hire. As we’ve talked about, a lot of this is looking at our assets and saying, how can we increase the output and debottleneck some of these downstream activities. We’ve talked a lot about melts and melt capacity but that’s really just step one of this debottlenecking story. And we are looking at the assets that we have on the ground today since new capital takes two years minimum to get put in place and we’re saying, how do we increase the outputting capacity here. So we are adding ships. We are adding crews.

In the case of Forged Products, we talked about that ultrasonic capacity that we’re expanding 3 times. Those folks take about six months to get qualified to a Level 2 or Level 3 inspector that’s required for the inspection protocols for the jet engine parts. So we’ve been working very hard at that. This is probably the third year in a row that we’ve added — we’re anticipating 1,000 or more employees. But we’re getting really good throughput and productivity. You’re hearing it from some of the other OEMs in the industry. We talked a little bit about the GTF and things we’re doing there. So we are seeing the benefits of that starting to come through and that will continue as we get into the back half of the year and we get up the learning curve.

Don, do you want to add some color on that?

Don Newman: It might be helpful to just dimensionalize a little bit how to think about the cost, the incremental cost and the inefficiencies that I talked about earlier in the call. So the investment in the additional heads is not new to us, right? We were doing that as we exited COVID and we learned how to do it quite well. The learning — setting up processes for our expert — current expert employees to teach new employees, how to become excellent at our production methodologies. But inefficiencies exist in a transitory way. So that 500 employees, that is a first half number, not specifically tied to the second quarter. But how should you think about the dollar magnitude of the inefficiencies that we carried in that 20.2% margin for HPMC.

I think in terms of probably between $5 million and $10 million of inefficiency, higher costs in the quarter. A fair question is, well, how long is that going to be with us, Don? And the way to probably think about it is, we would expect that, that — those inefficiencies would largely be behind us by Q4. And so our guidance contemplates these additional heads and the training and inefficiency costs related to it.

Phil Gibbs: And just a follow-up for me. Regarding your 2025 financial targets, are you maintaining that or are you increasing that this morning when considering the new air show wins in the nickel alloy arena, how would you kind of square that up?

Don Newman: So what I would say is we’re not officially changing our guide, but it would be [irrational] thing to add roughly $40 million to our prior guidance range. How do we get there? I know Phil you’ve already done the math. We said that $100 million a year is the incremental revenue that we expect will be added as a result of these new sales commitments, $100 million every year. And these are richer margin products that are being encompassed. The nickel mix here is quite strong, it’s pointed toward jet engines. So we would expect higher than typical incremental margins, and I think a good placeholder to use is something in the 40% range, $100 million, times 40%, $40 million of EBITDA. If you layer that on to the previous 2025 guidance range, which we guided at $800 million to $900 million of EBITDA in 2025, I don’t think that’s an irrational thing for you to do.

Now it’s worth adding one more point to that. And that is there are a couple of data points or triggers that we do look for as we think about our 2025 and 2027 targets.We believe those targets, by the way, are generally conservative. But the two triggers are the 777X and the current FAA limits on 737 build rates. So when those two triggers are pulled, I would expect that we’ll — it will be another opportunity for us to assess our outlook targets and see if it’s appropriate to adjust them. At the latest, what I would say is those 2025 numbers, we’re going to be talking about when we talk about our Q4 performance and full year 2024 performance. But that, again, would be the latest we would probably give a fresh look at those.

Phil Gibbs: Can I just squeeze one more in here, just on the buyback. I don’t know if it was talked about, but I think you’re effectively exhausted there and I think your last comment was that it needed to see some Board approval. You’re obviously going to have pretty good free cash flow here for the next 18 months. Where do we stand on that? That’s my last one.

Don Newman: So first, we’re deploying — we have a very consistent capital deployment strategy and that includes returning capital to shareholders. We’ve completed the current program, to your point, I don’t want to get ahead of my Board. But what I would point to is that we are expecting to generate a healthy amount of cash flow, that’s largely going to be in the fourth quarter that our cash rhythm at the current time. Our Board is pretty supportive of returning capital to shareholders. Our bias has been toward share repurchases. So I don’t think you’ve seen the last share repurchase program in the ATI organization. So I’m sure the Board will take that up as a topic in the coming quarters.

Operator: This now concludes the Q&A session. I’ll hand the floor back to David Weston for closing remarks.

David Weston: Thank you for joining the call today. We appreciate your attention to ATI. With any follow-up questions, please reach out to our Investor Relations team. With that, thank you, and have a great day.