GRAFTECH INTERNATIONAL LTD - Quarter Report: 2022 March (Form 10-Q)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||||
for the quarterly period ended March 31, 2022
OR
| ☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the transition period from______ to ______ | ||||
Commission file number: 1-13888
GRAFTECH INTERNATIONAL LTD.
(Exact name of registrant as specified in its charter)
| Delaware | 27-2496053 | ||||
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) | ||||
| 982 Keynote Circle | 44131 | |||||||
| Brooklyn Heights, | OH | (Zip code) | ||||||
| (Address of principal executive offices) | ||||||||
Registrant’s telephone number, including area code: (216) 676-2000
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||
| Common stock, $0.01 par value per share | EAF | New York Stock Exchange | ||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
| Large Accelerated Filer | ☒ | Accelerated Filer | ☐ | Emerging Growth Company | ☐ | ||||||||||||
| Non-Accelerated Filer | ☐ | Smaller Reporting Company | ☐ | ||||||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o | |||||||||||||||||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
As of April 29, 2022, 260,223,933 shares of common stock outstanding.
TABLE OF CONTENTS
Item 1A. Risk Factors | |||||
Presentation of Financial, Market and Industry Data
We present our financial information on a consolidated basis. Unless otherwise noted, when we refer to dollars, we mean U.S. dollars.
Certain market and industry data included in this Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2022 (the "Report") has been obtained from third-party sources that we believe to be reliable. Market estimates are calculated by using independent industry publications, government publications and third-party forecasts in conjunction with our assumptions about our markets. We cannot guarantee the accuracy or completeness of this market and market share data and have not independently verified it. None of the sources consented to the disclosure or use of data in this Report. While we are not aware of any misstatements regarding any market, industry or similar data presented herein, such data involves risks and uncertainties and is subject to change based on various factors, including those discussed under the headings “Cautionary Note Regarding Forward-Looking Statements” in this Report and “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021 ("Annual Report on Form 10-K") filed on February 22, 2022.
Cautionary Note Regarding Forward-Looking Statements
This Report may contain forward-looking statements within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements reflect our current views with respect to, among other things, financial projections, plans and objectives of management for future operations, and future economic performance. Examples of forward-looking statements include, among others, statements we make regarding future estimated revenues and volumes derived from our take-or-pay agreements that had initial terms of three-to-five years ("LTA"), future pricing of short-term agreements and spot sales ("Non-LTA"), anticipated levels of capital expenditures, and guidance relating to earnings per share and adjusted EBITDA. You can identify these forward-looking statements by the use of forward-looking words such as “will,” “may,” “plan,” “estimate,” “project,” “believe,” “anticipate,” “expect,” “foresee,” “intend,” “should,” “would,” “could,” “target,” “goal,” “continue to,” “positioned to,” “are confident,” or the negative versions of those words or other comparable words. Any forward-looking statements contained in this Report are based upon our historical performance and on our current plans, estimates and expectations considering information currently available to us. The inclusion of this forward-looking information should not be regarded as a representation by us that the future plans, estimates, or expectations contemplated by us will be achieved. Our expectations and targets are not predictions of actual performance and historically our performance has deviated, often significantly, from our expectations and targets. These forward-looking statements are subject to various risks and uncertainties and assumptions relating to our operations, financial results, financial condition, business, prospects, growth
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strategy and liquidity. Accordingly, there are or will be important factors that could cause our actual results to differ materially from those indicated in these statements. We believe that these factors include, but are not limited to:
•the ultimate impact the COVID-19 pandemic has on our business, results of operations, financial condition and cash flows, including the duration and spread of any variants, the duration and scope of related government orders and restrictions, the impact on our employees, and the disruptions and inefficiencies in our supply chain;
•the ultimate impact the conflict between Russia and Ukraine has on our business, results of operations, financial condition and cash flows, including the duration and scope of such conflict, its impact on disruptions and inefficiencies in our supply chain and our ability to procure certain raw materials;
•the possibility that we may be unable to implement our business strategies, including our ability to secure and maintain longer-term customer contracts, in an effective manner;
•the cyclical nature of our business and the selling prices of our products, which may decline in the future, may lead to periods of reduced profitability and net losses in the future;
•the impact of inflation and our ability to mitigate the effect on our costs;
•the risks and uncertainties associated with litigation, arbitration, and like disputes, including disputes related to contractual commitments;
•the possibility that global graphite electrode overcapacity may adversely affect graphite electrode prices;
•our dependence on the global steel industry generally and the electric arc furnace steel industry in particular;
•the sensitivity of our business and operating results to economic conditions and the possibility others may not be able to fulfill their obligations to us in a timely fashion or at all;
•the competitiveness of the graphite electrode industry;
•our dependence on the supply of raw materials, including decant oil, petroleum needle coke, and energy, and disruptions in supply chains for these materials;
•our manufacturing operations are subject to hazards;
•changes in, or more stringent enforcement of, health, safety and environmental regulations applicable to our manufacturing operations and facilities;
•the legal, compliance, economic, social and political risks associated with our substantial operations in multiple countries;
•the possibility that fluctuation of foreign currency exchange rates could materially harm our financial results;
•the possibility that our results of operations could deteriorate if our manufacturing operations were substantially disrupted for an extended period, including as a result of equipment failure, climate change, regulatory issues, natural disasters, public health crises, such as the COVID-19 pandemic, political crises or other catastrophic events;
•our dependence on third parties for certain construction, maintenance, engineering, transportation, warehousing and logistics services;
•the possibility that we are unable to recruit or retain key management and plant operating personnel or successfully negotiate with the representatives of our employees, including labor unions;
•the sensitivity of goodwill on our balance sheet to changes in the market;
•the possibility that we are subject to information technology systems failures, cybersecurity attacks, network disruptions and breaches of data security;
•our dependence on protecting our intellectual property and the possibility that third parties may claim that our products or processes infringe their intellectual property rights;
•the possibility that our indebtedness could limit our financial and operating activities or that our cash flows may not be sufficient to service our indebtedness;
•the possibility that restrictive covenants in our financing agreements could restrict or limit our operations;
3
•the fact that borrowings under certain of our existing financing agreements subject us to interest rate risk;
•the possibility that disruptions in the capital and credit markets could adversely affect our results of operations, cash flows and financial condition, or those of our customers and suppliers;
•the possibility that the market price of our common stock could be negatively affected by sales of substantial amounts of our common stock in the public markets, including by Brookfield Asset Management Inc. and its affiliates (together, “Brookfield”);
•the possibility that we may not pay cash dividends on our common stock in the future; and
•the fact that our stockholders have the right to engage or invest in the same or similar businesses as us.
These factors should not be construed as exhaustive and should be read in conjunction with the Risk Factors and other cautionary statements that are included in our Annual Report on Form 10-K and other filings with the Securities and Exchange Commission ("SEC"). The forward-looking statements made in this Report relate only to events as of the date on which the statements are made. Except as required by law, we do not undertake any obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise.
If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, our actual results may vary materially from what we may have expressed or implied by these forward-looking statements. We caution that you should not place undue reliance on any of our forward-looking statements. You should specifically consider the factors identified in this Report that could cause actual results to differ before making an investment decision to purchase our common stock. Furthermore, new risks and uncertainties arise from time to time, and it is impossible for us to predict those events or how they may affect us.
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share data)
(Unaudited)
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| ASSETS | |||||||||||
| Current assets: | |||||||||||
| Cash and cash equivalents | $ | 85,053 | $ | 57,514 | |||||||
Accounts and notes receivable, net of allowance for doubtful accounts of $8,018 as of March 31, 2022 and $6,835 as of December 31, 2021 | 213,280 | 207,547 | |||||||||
| Inventories | 318,058 | 289,432 | |||||||||
| Prepaid expenses and other current assets | 86,538 | 73,364 | |||||||||
| Total current assets | 702,929 | 627,857 | |||||||||
| Property, plant and equipment | 819,163 | 815,298 | |||||||||
| Less: accumulated depreciation | 323,801 | 313,825 | |||||||||
| Net property, plant and equipment | 495,362 | 501,473 | |||||||||
| Deferred income taxes | 23,464 | 26,187 | |||||||||
| Goodwill | 171,117 | 171,117 | |||||||||
| Other assets | 90,932 | 85,684 | |||||||||
| Total assets | $ | 1,483,804 | $ | 1,412,318 | |||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||||||
| Current liabilities: | |||||||||||
| Accounts payable | $ | 123,381 | $ | 117,112 | |||||||
| Short-term debt | 125 | 127 | |||||||||
| Accrued income and other taxes | 42,029 | 57,097 | |||||||||
| Other accrued liabilities | 97,456 | 56,405 | |||||||||
| Related party payable - Tax Receivable Agreement | 4,481 | 3,828 | |||||||||
| Total current liabilities | 267,472 | 234,569 | |||||||||
| Long-term debt | 961,324 | 1,029,561 | |||||||||
| Other long-term obligations | 66,296 | 68,657 | |||||||||
| Deferred income taxes | 42,334 | 40,674 | |||||||||
| Related party payable - Tax Receivable Agreement long-term | 10,973 | 15,455 | |||||||||
| Commitments and contingencies - Note 7 | |||||||||||
| Stockholders’ equity: | |||||||||||
Preferred stock, par value $0.01, 300,000,000 shares authorized, none issued | — | — | |||||||||
Common stock, par value $0.01, 3,000,000,000 shares authorized, 260,222,585 and 263,255,708 shares issued and outstanding as of March 31, 2022 and December 31, 2021, respectively | 2,602 | 2,633 | |||||||||
| Additional paid-in capital | 753,509 | 761,412 | |||||||||
| Accumulated other comprehensive income (loss) | 12,541 | (7,444) | |||||||||
| Accumulated deficit | (633,247) | (733,199) | |||||||||
| Total stockholders’ equity | 135,405 | 23,402 | |||||||||
| Total liabilities and stockholders’ equity | $ | 1,483,804 | $ | 1,412,318 | |||||||
See accompanying Notes to the Condensed Consolidated Financial Statements
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GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Dollars in thousands, except per share data)
(Unaudited)
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS | |||||||||||
| Net sales | $ | 366,245 | $ | 304,397 | |||||||
| Cost of sales | 191,214 | 146,396 | |||||||||
| Gross profit | 175,031 | 158,001 | |||||||||
| Research and development | 880 | 969 | |||||||||
| Selling and administrative expenses | 21,254 | 20,153 | |||||||||
| Operating income | 152,897 | 136,879 | |||||||||
| Other income, net | (197) | (307) | |||||||||
| Interest expense | 9,212 | 22,167 | |||||||||
| Interest income | (98) | (37) | |||||||||
| Income before provision for income taxes | 143,980 | 115,056 | |||||||||
| Provision for income taxes | 19,797 | 16,257 | |||||||||
| Net income | $ | 124,183 | $ | 98,799 | |||||||
| Basic income per common share: | |||||||||||
| Net income per share | $ | 0.47 | $ | 0.37 | |||||||
| Weighted average common shares outstanding | 262,592,029 | 267,318,860 | |||||||||
| Diluted income per common share: | |||||||||||
| Net income per share | $ | 0.47 | $ | 0.37 | |||||||
| Weighted average common shares outstanding | 262,657,799 | 267,465,319 | |||||||||
| CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME | |||||||||||
| Net income | $ | 124,183 | $ | 98,799 | |||||||
| Other comprehensive income (loss): | |||||||||||
Foreign currency translation adjustments, net of tax of $1 and $0 respectively | 7,022 | (13,431) | |||||||||
Commodities, interest rate and foreign currency derivatives, net of tax of $(3,662) and $(3,332), respectively | 12,963 | 12,355 | |||||||||
| Other comprehensive income (loss), net of tax: | 19,985 | (1,076) | |||||||||
| Comprehensive income | $ | 144,168 | $ | 97,723 | |||||||
See accompanying Notes to the Condensed Consolidated Financial Statements
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GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| Cash flow from operating activities: | |||||||||||
| Net income | $ | 124,183 | $ | 98,799 | |||||||
| Adjustments to reconcile net income to cash provided by operations: | |||||||||||
| Depreciation and amortization | 14,434 | 16,539 | |||||||||
| Deferred income tax provision | 1,395 | (2,840) | |||||||||
| Non-cash stock-based compensation expense | 465 | 767 | |||||||||
| Non-cash interest expense | (2,146) | 5,309 | |||||||||
| Other adjustments | 403 | 1,582 | |||||||||
| Net change in working capital* | 12,590 | 25,187 | |||||||||
| Change in related party Tax Receivable Agreement | (3,828) | (21,752) | |||||||||
| Change in long-term assets and liabilities | (1,180) | (1,166) | |||||||||
| Net cash provided by operating activities | 146,316 | 122,425 | |||||||||
| Cash flow from investing activities: | |||||||||||
| Capital expenditures | (16,855) | (14,174) | |||||||||
| Proceeds from the sale of fixed assets | 73 | 151 | |||||||||
| Net cash used in investing activities | (16,782) | (14,023) | |||||||||
| Cash flow from financing activities: | |||||||||||
| Debt issuance and modification costs | — | (2,971) | |||||||||
| Principal payments on long-term debt | (70,000) | (150,000) | |||||||||
| Repurchase of common stock - non-related party | (30,000) | — | |||||||||
| Payments for taxes related to net share settlement of equity awards | (230) | (273) | |||||||||
| Proceeds from exercise of stock options | 225 | — | |||||||||
| Dividends paid to non-related party | (1,985) | (1,394) | |||||||||
| Dividends paid to related party | (640) | (1,277) | |||||||||
| Interest rate swap settlements | (887) | (847) | |||||||||
| Net cash used in financing activities | (103,517) | (156,762) | |||||||||
| Net change in cash and cash equivalents | 26,017 | (48,360) | |||||||||
| Effect of exchange rate changes on cash and cash equivalents | 1,522 | (636) | |||||||||
| Cash and cash equivalents at beginning of period | 57,514 | 145,442 | |||||||||
| Cash and cash equivalents at end of period | $ | 85,053 | $ | 96,446 | |||||||
| * Net change in working capital due to changes in the following components: | |||||||||||
| Accounts and notes receivable, net | $ | (1,221) | $ | (16,643) | |||||||
| Inventories | (24,215) | 11,648 | |||||||||
| Prepaid expenses and other current assets | (5,298) | (1,510) | |||||||||
| Income taxes payable | (19,419) | (18,368) | |||||||||
| Accounts payable and accruals | 56,958 | 44,333 | |||||||||
| Interest payable | 5,785 | 5,727 | |||||||||
| Net change in working capital | $ | 12,590 | $ | 25,187 | |||||||
| Net cash paid during the periods for: | |||||||||||
| Interest | $ | 22,591 | $ | 25,305 | |||||||
| Income taxes | $ | 37,733 | $ | 35,796 | |||||||
See accompanying Notes to the Condensed Consolidated Financial Statements
7
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) (Dollars in thousands, except per share data) (Unaudited) | |||||||||||||||||||||||||||||||||||
| Issued Shares of Common Stock | Common Stock | Additional Paid-in Capital | Accumulated Other Comprehensive Income (Loss) | Retained Earnings (Accumulated Deficit) | Total Stockholders’ Equity (Deficit) | ||||||||||||||||||||||||||||||
| Balance as of December 31, 2021 | 263,255,708 | $ | 2,633 | $ | 761,412 | $ | (7,444) | $ | (733,199) | $ | 23,402 | ||||||||||||||||||||||||
| Net income | — | — | — | — | 124,183 | 124,183 | |||||||||||||||||||||||||||||
| Other comprehensive income (loss): | |||||||||||||||||||||||||||||||||||
Commodity, interest rate and foreign currency derivatives income, net of tax of $(4,181) | — | — | — | 14,800 | — | 14,800 | |||||||||||||||||||||||||||||
Commodity, interest rate and foreign currency derivatives reclassification adjustments, net of tax of $519 | — | — | — | (1,837) | — | (1,837) | |||||||||||||||||||||||||||||
Foreign currency translation adjustments, net of tax of $1 | — | — | — | 7,022 | — | 7,022 | |||||||||||||||||||||||||||||
| Total other comprehensive income | — | — | — | 19,985 | — | 19,985 | |||||||||||||||||||||||||||||
| Repurchase of common stock - non-related party | (3,035,830) | (31) | (8,530) | — | (21,439) | (30,000) | |||||||||||||||||||||||||||||
| Stock-based compensation | — | — | 465 | — | — | 465 | |||||||||||||||||||||||||||||
| Options exercised | 25,000 | — | 225 | — | — | 225 | |||||||||||||||||||||||||||||
| Payments for taxes related to net share settlement of equity awards | (22,293) | — | (63) | — | (167) | (230) | |||||||||||||||||||||||||||||
Dividends paid to related party ($0.01 per share) | — | — | — | — | (640) | (640) | |||||||||||||||||||||||||||||
Dividends paid to non-related party ($0.01 per share) | — | — | — | — | (1,985) | (1,985) | |||||||||||||||||||||||||||||
| Balance as of March 31, 2022 | 260,222,585 | $ | 2,602 | $ | 753,509 | $ | 12,541 | $ | (633,247) | $ | 135,405 | ||||||||||||||||||||||||
| Balance as of December 31, 2020 | 267,188,547 | $ | 2,672 | $ | 758,354 | $ | (19,641) | $ | (1,070,770) | $ | (329,385) | ||||||||||||||||||||||||
| Net income | — | — | — | — | 98,799 | 98,799 | |||||||||||||||||||||||||||||
| Other comprehensive income (loss): | |||||||||||||||||||||||||||||||||||
Commodity, interest rate and foreign currency derivatives income, net of tax of $(3,144) | — | — | — | 11,660 | — | 11,660 | |||||||||||||||||||||||||||||
Commodity, interest rate and foreign currency derivatives reclassification adjustments, net of tax of $(187) | — | — | — | 695 | — | 695 | |||||||||||||||||||||||||||||
Foreign currency translation adjustments, net of tax $0 | — | — | — | (13,431) | — | (13,431) | |||||||||||||||||||||||||||||
| Total other comprehensive loss | — | — | — | (1,076) | — | (1,076) | |||||||||||||||||||||||||||||
| Repurchase of common stock - non-related party | — | — | — | — | — | — | |||||||||||||||||||||||||||||
| Stock-based compensation | 92,135 | 1 | 766 | — | — | 767 | |||||||||||||||||||||||||||||
| Payments for taxes related to net share settlement of equity awards | (23,090) | — | (65) | — | (210) | (275) | |||||||||||||||||||||||||||||
Dividends paid to related party ($0.01 per share) | — | — | — | — | (1,277) | (1,277) | |||||||||||||||||||||||||||||
Dividends paid to non-related party ($0.01 per share) | — | — | — | — | (1,394) | (1,394) | |||||||||||||||||||||||||||||
| Balance as of March 31, 2021 | 267,257,592 | $ | 2,673 | $ | 759,055 | $ | (20,717) | $ | (974,852) | $ | (233,841) | ||||||||||||||||||||||||
See accompanying Notes to the Condensed Consolidated Financial Statements
8
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1)Organization and Summary of Significant Accounting Policies
A. Organization
GrafTech International Ltd. (the “Company”) is a leading manufacturer of high-quality graphite electrode products essential to the production of electric arc furnace ("EAF") steel and other ferrous and non-ferrous metals. References herein to “GTI,” “we,” “our,” or “us” refer collectively to the Company and its subsidiaries. On August 15, 2015, GTI became an indirect wholly owned subsidiary of Brookfield. In April 2018, we completed our initial public offering ("IPO") of 38,097,525 shares of our common stock held by Brookfield at a price of $15.00 per share. We did not receive any proceeds related to the IPO. Our common stock is listed on the New York Stock Exchange under the symbol “EAF.” Brookfield has since distributed a portion of its GrafTech common stock to the owners in the Brookfield consortium and sold shares of GrafTech common stock in public and private transactions, resulting in a reduction of Brookfield's ownership of outstanding shares of GrafTech common stock to 24.3% as of December 31, 2021 and 24.6% as of March 31, 2022.
The Company’s only reportable segment, Industrial Materials, is comprised of our two major product categories: graphite electrodes and petroleum needle coke products. Petroleum needle coke is a key raw material used in the production of graphite electrodes. The Company's vision is to provide highly engineered graphite electrode products, services and solutions to electric arc furnace operators.
B. Basis of Presentation
The interim condensed consolidated financial statements are unaudited; however, in the opinion of management, they have been prepared in accordance with Rule 10-01 of Regulation S-X and in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The December 31, 2021 Consolidated Balance Sheet data included herein was derived from the audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2021, filed on February 22, 2022, but does not include all disclosures required by GAAP in audited financial statements. These interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements, including the accompanying notes, contained in our Annual Report on Form 10-K.
The unaudited condensed consolidated financial statements reflect all adjustments (all of which are of a normal, recurring nature) which management considers necessary for a fair presentation of our financial statements for the interim periods presented. The results for the interim periods are not necessarily indicative of results which may be expected for any other interim period or for the full year.
Certain items previously reported in specific financial statement captions within the Condensed Consolidated Statements of Cash Flows have been reclassified between lines within cash flow from operations and between lines within financing activities to conform to the current presentation. In addition, items previously presented under Related party Tax Receivable Agreement expense (benefit) on the Condensed Consolidated Statement of Operations have been collapsed into "Other income, net" to conform to the current year presentation.
C. New Accounting Standards
Recently Adopted Accounting Standards
In January 2021, the Financial Accounting Standards Board issued Accounting Standards Update 2021-01, Reference Rate Reform (Topic 848): Scope, which amended Topic 848 reference rate reform to clarify the scope and availability of expedients for certain derivative instruments affected by reference rate reform. We have elected various optional expedients in Topic 848 related to hedging relationships and expect to make future elections related to contract modifications and other hedging relationships. The future election and application of these expedients are not expected to have a material impact on our financial position, results of operations and cash flows.
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(2)Revenue from Contracts with Customers
Disaggregation of Revenue
The following table provides information about disaggregated revenue by type of product and contract:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Graphite Electrodes - LTAs | $ | 242,481 | $ | 245,565 | |||||||
| Graphite Electrodes - Non-LTAs | 108,050 | 47,255 | |||||||||
| By-products and other | 15,714 | 11,577 | |||||||||
| Total Revenues | $ | 366,245 | $ | 304,397 | |||||||
The Graphite Electrodes revenue categories include only graphite electrodes manufactured by GrafTech. The revenue category “By-products and other" also includes resales of low-grade electrodes purchased from third-party suppliers, which represent a minimal contribution to our profitability.
Contract Balances
Substantially all of the Company's receivables relate to contracts with customers. Accounts receivables are recorded when the right to consideration becomes unconditional. Payment terms on invoices range from 30 to 120 days depending on the customary business practices of the jurisdictions in which we do business.
Certain short-term and longer-term sales contracts require up-front payments prior to the Company’s fulfillment of any performance obligation. These contract liabilities are recorded as current or long-term deferred revenue, depending on the lag between the pre-payment and the expected delivery of the related products. Additionally, deferred revenue or contract assets originate from contracts where the allocation of the transaction price to the performance obligations based on their relative stand-alone selling prices results in the timing of revenue recognition being different from the timing of the invoicing. In this case, deferred revenue is amortized into revenue based on the transaction price allocated to the remaining performance obligations and contract assets are realized through the contract invoicing.
Contract assets which are included in "Prepaid expenses and other current assets," on the Condensed Consolidated Balance Sheets were $0.8 million as of March 31, 2022 and $1.2 million as of December 31, 2021.
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GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following table provides information about deferred revenue from contracts with customers. Current deferred revenue is included in "Other accrued liabilities" and long-term deferred revenue is included in "Other long-term obligations" on the Condensed Consolidated Balance Sheets:
| Current Deferred Revenue | Long-Term Deferred Revenue | ||||||||||
| (Dollars in thousands) | |||||||||||
Balance as of December 31, 2021 | $ | 9,840 | $ | 4,303 | |||||||
| Revenue recognized | (1,549) | — | |||||||||
| Increases due to net cash received | 37,429 | — | |||||||||
| Reclassifications between long-term and current | 143 | (143) | |||||||||
Balance as of March 31, 2022 | $ | 45,863 | $ | 4,160 | |||||||
Transaction Price Allocated to the Remaining Performance Obligations
The following table presents estimated revenues expected to be recognized in the future related to performance obligations that are unsatisfied (or partially unsatisfied) at the end of reporting period. The estimated revenues do not include contracts with original duration of one year or less. The revenue associated with our LTAs is expected to be approximately as follows:
| 2022 | 2023 through 2024 | ||||||||||
| (Dollars in millions) | |||||||||||
| Estimated LTA revenue | $860-$960 | $400-$500(1) | |||||||||
(1) Includes expected termination fees from a few customers that have failed to meet certain obligations under their LTAs.
We recorded $242 million of LTA revenue in the three months ended March 31, 2022, and we expect to record approximately $618 million to $718 million of LTA revenue for the remainder of 2022.
The majority of the LTAs are defined as pre-determined fixed annual volume contracts while a small portion are defined with a specified volume range. For the years 2023 and through 2024, the contractual revenue amounts above are based upon the minimum volume for those contracts with specified ranges. The actual revenue realized from these contracted volumes may vary in timing and total due to contract non-performance, arbitrations, credit risk associated with certain customers facing financial challenges and customer demand related to contracted volume ranges. As it relates to the conflict between Ukraine and Russia, we have provided force majeure notices with respect to certain LTAs serving customers in Russia. The estimates of graphite electrodes under our LTAs as set forth in the immediately preceding table take into account such force majeure notices.
(3)Goodwill and Other Intangible Assets
The goodwill balance was $171.1 million as of both March 31, 2022 and December 31, 2021.
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PART I (CONT'D)
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following table summarizes intangible assets with determinable useful lives by major category, which are included in "Other Assets" on our Condensed Consolidated Balance Sheets:
| Intangible Assets | |||||||||||||||||||||||||||||||||||
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||||||||||||||||||||||||||
| Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | ||||||||||||||||||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||||||||||||||||||
| Trade names | $ | 22,500 | $ | (14,425) | $ | 8,075 | $ | 22,500 | $ | (13,935) | $ | 8,565 | |||||||||||||||||||||||
| Technology and know-how | 55,300 | (39,505) | 15,795 | 55,300 | (38,486) | 16,814 | |||||||||||||||||||||||||||||
| Customer-related intangibles | 64,500 | (29,277) | 35,223 | 64,500 | (28,195) | 36,305 | |||||||||||||||||||||||||||||
| Total finite-lived intangible assets | $ | 142,300 | $ | (83,207) | $ | 59,093 | $ | 142,300 | $ | (80,616) | $ | 61,684 | |||||||||||||||||||||||
Amortization expense of intangible assets was $2.6 million and $2.7 million in the three months ended March 31, 2022 and 2021, respectively. Estimated amortization expense will be approximately $7.5 million for the remainder of 2022, $9.2 million in 2023, $8.0 million in 2024, $7.3 million in 2025 and $6.7 million in 2026. Amortization expense is included in Cost of sales on the Condensed Consolidated Statement of Operations.
(4)Debt and Liquidity
The following table presents our long-term debt:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| 2018 Term Loan Facility | $ | 473,708 | $ | 543,708 | |||||||
| 2020 Senior Secured Notes | 500,000 | 500,000 | |||||||||
| Other debt | 419 | 429 | |||||||||
| Unamortized debt discount and issuance costs | (12,678) | (14,449) | |||||||||
| Total debt | 961,449 | 1,029,688 | |||||||||
| Less: Short-term debt | (125) | (127) | |||||||||
| Long-term debt | $ | 961,324 | $ | 1,029,561 | |||||||
In the three months ended March 31, 2022, we repaid $70.0 million of principal of our 2018 Term Loan Facility (as defined below). The fair value of our debt was approximately $933.1 million and $1,051.6 million as of March 31, 2022 and December 31, 2021, respectively. The fair value of our debt is measured using Level 3 inputs.
2018 Term Loan and 2018 Revolving Credit Facility
In February 2018, the Company entered into a credit agreement (the “2018 Credit Agreement”), which provides for (i) a $2,250 million senior secured term facility (the “2018 Term Loan Facility”) after giving effect to the June 2018 amendment (the “First Amendment”) that increased the aggregate principal amount of the 2018 Term Loan Facility from $1,500 million to $2,250 million and (ii) a $250 million senior secured revolving credit facility (the “2018 Revolving Credit Facility” and, together with the 2018 Term Loan Facility, the “Senior Secured Credit Facilities”). GrafTech Finance Inc. (“GrafTech Finance”) is the sole borrower under the 2018 Term Loan Facility while GrafTech Finance, GrafTech Switzerland SA (“Swissco”) and GrafTech Luxembourg II S.à.r.l. (“Luxembourg Holdco” and, together with GrafTech Finance and Swissco, the “Co-Borrowers”) are co-borrowers under the 2018 Revolving Credit Facility. The 2018 Term Loan Facility and the 2018 Revolving Credit Facility mature on February 12, 2025 and February 12, 2023, respectively. As of March 31, 2022 and December 31, 2021, there was no debt outstanding on the 2018 Revolving Credit Facility and there was $4.3 million and $3.3 million of letters of credit drawn against the 2018 Revolving Credit Facility, respectively.
The 2018 Term Loan Facility bears interest, at our option, at a rate equal to either (i) the Adjusted LIBO Rate (as defined in the 2018 Credit Agreement), plus an applicable margin equal to 3.00% per annum following an amendment in February 2021 (the “Second Amendment”) that decreased the Applicable Rate (as defined in the 2018 Credit Agreement) by
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
0.50% for each pricing level or (ii) the ABR Rate (as defined in the 2018 Credit Agreement), plus an applicable margin equal to 2.00% per annum following the Second Amendment, in each case with one step down of 25 basis points based on achievement of certain public ratings of the 2018 Term Loan Facility. The Second Amendment also decreased the interest rate floor from 1.00% to 0.50% for the 2018 Term Loan Facility.
The 2018 Revolving Credit Facility bears interest, at our option, at a rate equal to either (i) the Adjusted LIBO Rate, plus an applicable margin initially equal to 3.75% per annum or (ii) the ABR Rate, plus an applicable margin initially equal to 2.75% per annum, in each case with two 25 basis point step downs based on achievement of certain senior secured first lien net leverage ratios. In addition, we are required to pay a quarterly commitment fee on the unused commitments under the 2018 Revolving Credit Facility in an amount equal to 0.25% per annum.
The Senior Secured Credit Facilities are guaranteed by each of our domestic subsidiaries, subject to certain customary exceptions, and by GrafTech Luxembourg I S.à.r.l., a Luxembourg société à responsabilité limitée and an indirect wholly owned subsidiary of GrafTech, Luxembourg HoldCo, and Swissco (collectively, the “Guarantors”) with respect to all obligations under the 2018 Credit Agreement of each of our foreign subsidiaries that is a Controlled Foreign Corporation (within the meaning of Section 956 of the Internal Revenue Code of 1986, as amended from time to time (the “Code”)).
All obligations under the 2018 Credit Agreement are secured, subject to certain exceptions, by: (i) a pledge of all of the equity securities of each domestic Guarantor and of each other direct, wholly owned domestic subsidiary of GrafTech and any Guarantor, (ii) a pledge on no more than 65% of the equity interests of each subsidiary that is a Controlled Foreign Corporation (within the meaning of Section 956 of the Code), and (iii) security interests in, and mortgages on, personal property and material real property of each domestic Guarantor, subject to permitted liens and certain exceptions specified in the 2018 Credit Agreement. The obligations of each foreign subsidiary of GrafTech that is a Controlled Foreign Corporation under the 2018 Revolving Credit Facility are secured by (i) a pledge of all of the equity securities of each Guarantor that is a Controlled Foreign Corporation and of each direct, wholly owned subsidiary of any Guarantor that is a Controlled Foreign Corporation, and (ii) security interests in certain receivables and personal property of each Guarantor that is a Controlled Foreign Corporation, subject to permitted liens and certain exceptions specified in the 2018 Credit Agreement.
The 2018 Term Loan Facility amortizes at a rate of $112.5 million a year payable in equal quarterly installments, with the remainder due at maturity. The Co-Borrowers are permitted to make voluntary prepayments at any time without premium or penalty. GrafTech Finance is required to make prepayments under the 2018 Term Loan Facility (without payment of a premium) with (i) net cash proceeds from non-ordinary course asset sales (subject to customary reinvestment rights and other customary exceptions and exclusions), and (ii) commencing with the Company’s fiscal year ended December 31, 2019, 75% of Excess Cash Flow (as defined in the 2018 Credit Agreement), subject to step-downs to 50% and 0% of Excess Cash Flow based on achievement of a senior secured first lien net leverage ratio greater than 1.25 to 1.00 but less than or equal to 1.75 to 1.00 and less than or equal to 1.25 to 1.00, respectively. Scheduled quarterly amortization payments of the 2018 Term Loan Facility during any calendar year reduce, on a dollar-for-dollar basis, the amount of the required Excess Cash Flow prepayment for such calendar year, and the aggregate amount of Excess Cash Flow prepayments for any calendar year reduce subsequent quarterly amortization payments of the 2018 Term Loan Facility as directed by GrafTech Finance. As of March 31, 2022, we have satisfied all required amortization installments through the maturity date.
The 2018 Credit Agreement contains customary representations and warranties and customary affirmative and negative covenants applicable to GrafTech and restricted subsidiaries, including, among other things, restrictions on indebtedness, liens, investments, fundamental changes, dispositions, and dividends and other distributions. The 2018 Credit Agreement contains a financial covenant that requires GrafTech to maintain a senior secured first lien net leverage ratio not greater than 4.00:1.00 when the aggregate principal amount of borrowings under the 2018 Revolving Credit Facility and outstanding letters of credit issued under the 2018 Revolving Credit Facility (except for undrawn letters of credit in an aggregate amount equal to or less than $35 million), taken together, exceed 35% of the total amount of commitments under the 2018 Revolving Credit Facility. The 2018 Credit Agreement also contains customary events of default.
2020 Senior Secured Notes
In December 2020, GrafTech Finance issued $500 million aggregate principal amount of 4.625% senior secured notes due 2028 (the “2020 Senior Secured Notes”) in a private offering. The 2020 Senior Secured Notes and related guarantees are secured on a pari passu basis by the collateral securing the Senior Secured Credit Facilities. All of the proceeds from the 2020 Senior Secured Notes were used to partially repay borrowings under our 2018 Term Loan Facility.
The 2020 Senior Secured Notes pay interest in arrears on June 15 and December 15 of each year, with the principal due in full on December 15, 2028. Prior to December 15, 2023, up to 40% of the 2020 Senior Secured Notes may be redeemed with the net cash proceeds of certain equity offerings at a price equal to 104.625% of the principal amount thereof, together
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PART I (CONT'D)
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
with accrued and unpaid interest, if any. The 2020 Senior Secured Notes may be redeemed, in whole or in part, at any time prior to December 15, 2023 at a price equal to 100% of the principal amount of the notes redeemed plus a premium together with accrued and unpaid interest, if any, to, but not including, the redemption date. Thereafter, the 2020 Senior Secured Notes may be redeemed, in whole or in part, at various prices depending on the date redeemed.
The indenture governing the 2020 Senior Secured Notes (the “Indenture”) contains certain covenants that, among other things, limit the Company’s ability, and the ability of certain of its subsidiaries, to incur or guarantee additional indebtedness or issue preferred stock, pay distributions on, redeem or repurchase capital stock or redeem or repurchase subordinated debt, incur or suffer to exist liens securing indebtedness, make certain investments, engage in certain transactions with affiliates, consummate certain asset sales and effect a consolidation or merger, or sell, transfer, lease or otherwise dispose of all or substantially all assets. Pursuant to the Indenture, if our pro forma consolidated first lien net leverage ratio is no greater than 2.00 to 1.00, we can make restricted payments so long as no default or event of default has occurred and is continuing. If our pro forma consolidated first lien net leverage ratio is greater than 2.00 to 1.00, we can make restricted payments pursuant to certain baskets.
The Indenture contains events of default customary for agreements of its type (with customary grace periods, as applicable) and provides that, upon the occurrence of an event of default arising from certain events of bankruptcy or insolvency with respect to the Company or GrafTech Finance, all outstanding 2020 Senior Secured Notes will become due and payable immediately without further action or notice. If any other type of event of default occurs and is continuing, then the trustee or the holders of at least 30% in principal amount of the then outstanding 2020 Senior Secured Notes may declare all of the 2020 Senior Secured Notes to be due and payable immediately.
(5)Inventories
Inventories are comprised of the following:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Inventories: | |||||||||||
| Raw materials and supplies | $ | 143,967 | $ | 132,113 | |||||||
| Work in process | 129,859 | 127,127 | |||||||||
| Finished goods | 44,232 | 30,192 | |||||||||
| Total | $ | 318,058 | $ | 289,432 | |||||||
(6)Interest Expense
The following table presents the components of interest expense:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Interest incurred on debt | $ | 11,358 | $ | 16,865 | |||||||
| Accretion of original issue discount on 2018 Term Loan Facility | 527 | 1,271 | |||||||||
| Amortization of debt issuance and modification costs | 1,244 | 4,031 | |||||||||
| Mark-to-market gain on de-designated interest rate swap | (3,917) | — | |||||||||
| Total interest expense | $ | 9,212 | $ | 22,167 | |||||||
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Interest Rates
The 2020 Senior Secured Notes carry a fixed interest rate of 4.625%. The 2018 Term Loan Facility had an effective interest rate of 3.50% as of March 31, 2022 and December 31, 2021. See Note 4, "Debt and Liquidity" for details of these transactions.
During the three months ended March 31, 2022 we made prepayments for a total of $70.0 million, under our 2018 Term Loan Facility. In connection with this, we recorded $0.3 million of accelerated accretion of the original issue discount and we recorded $0.5 million of accelerated amortization of the debt issuance costs.
During the three months ended March 31, 2021 we made prepayments for a total of $150.0 million under our 2018 Term Loan Facility. In connection with this, we recorded $0.9 million of accelerated accretion of the original issue discount and $1.5 million accelerated amortization of the debt issuance cost. We also recorded $1.6 million of modification costs related to the 2018 Term Loan Facility repricing in the first quarter of 2021. See Note 4, "Debt and Liquidity" for details of the Second Amendment.
The Company has several interest rate swap contracts to fix the cash flows associated with the risk in variability in the one-month USD London Interbank Offered Rate for the 2018 Term Loan Facility. See Note 9, "Fair Value Measurements and Derivative Instruments" for details of these transactions.
(7) Commitments and Contingencies
Legal Proceedings
We are involved in various investigations, lawsuits, claims, demands, environmental compliance programs and other legal proceedings arising out of or incidental to the conduct of our business. While it is not possible to determine the ultimate disposition of each of these matters, we do not believe that their ultimate disposition will have a material adverse effect on our financial position, results of operations or cash flows. Additionally, we are involved in the following legal proceedings described below.
We are involved in various arbitrations, sometimes as claimants and other times as respondents/counterclaimants, pending before the International Chamber of Commerce with several customers who, among other things, have failed to perform under their LTAs and in certain instances are seeking to modify or frustrate their contractual commitments to us. In particular, Aperam South America LTDA, Aperam Sourcing S.C.A., ArcelorMittal Sourcing S.C.A., and ArcelorMittal Brasil S.A. (collectively, the “Claimants”) initiated a single arbitration proceeding against two of the Company’s subsidiaries in the International Chamber of Commerce in June 2020. In June 2021, the Claimants filed their statement of claim, seeking approximately $61 million plus interest in monetary relief and/or reimbursement in respect of several fixed price LTAs that were executed between such subsidiaries and the Claimants in 2017 and 2018. The Claimants argue, among other things, that they should no longer be required to comply with the terms of the LTAs that they signed due to an alleged drop in market prices for graphite electrodes in January 2020. Alternatively, the Claimants argue that they should not be required to comply with the LTAs that they signed due to alleged market circumstances at the time of execution. We believe we have valid defenses to these claims. We intend to vigorously defend them and enforce our rights under the LTAs.
Pending litigation in Brazil has been brought by employees seeking to recover additional amounts and interest thereon under certain wage increase provisions applicable in 1989 and 1990 under collective bargaining agreements to which employers in the Bahia region of Brazil were a party (including our subsidiary in Brazil). Companies in Brazil have settled claims arising out of these provisions and, in May 2015, the litigation was remanded by the Brazilian Supreme Court in favor of the employees union. After denying an interim appeal by the Bahia region employers on June 26, 2019, the Brazilian Supreme Court finally ruled in favor of the employees union on September 26, 2019. The employers union has determined not to seek annulment of such decision. Separately, on October 1, 2015, a related action was filed by current and former employees against our subsidiary in Brazil to recover amounts under such provisions, plus interest thereon, which amounts together with interest could be material to us. If the Brazilian Supreme Court proceeding above had been determined in favor of the employers union, it would also have resolved this proceeding in our favor. In the first quarter of 2017, the state court initially ruled in favor of the employees. We appealed this state court ruling, and the appellate court issued a decision in our favor on May 19, 2020. The employees have further appealed and, on December 16, 2020, the court upheld the decision in favor of GrafTech Brazil. On February 22, 2021, the employees filed a further appeal and, on April 28, 2021, the court rejected the employees' appeal in favor of GrafTech Brazil. The employees filed a further appeal and we intend to vigorously defend our position. As of March
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
31, 2022, we are unable to assess the potential loss associated with these proceedings as the claims do not currently specify the number of employees seeking damages or the amount of damages being sought.
Product Warranties
We generally sell products with a limited warranty. We accrue for known warranty claims if a loss is probable and can be reasonably estimated. We also accrue for estimated warranty claims incurred based on a historical claims charge analysis. Claims accrued but not yet paid and the related activity within the accrual for the three months ended March 31, 2022, are presented below:
(Dollars in thousands) | |||||
| Balance as of December 31, 2021 | $ | 1,088 | |||
| Product warranty charges/ adjustments | 205 | ||||
| Payments and settlements | (162) | ||||
| Balance as of March 31, 2022 | $ | 1,131 | |||
Related Party Tax Receivable Agreement
On April 23, 2018, the Company entered into the tax receivable agreement ("Tax Receivable Agreement") that provides Brookfield, as the sole pre-IPO stockholder, the right to receive future payments from us for 85% of the amount of cash savings, if any, in U.S. federal income tax and Swiss tax that we and our subsidiaries realize as a result of the utilization of the pre-IPO tax assets. In addition, we will pay interest on the payments we will make to Brookfield with respect to the amount of these cash savings from the due date (without extensions) of our tax return where we realize these savings to the payment date at a rate equal to the London Interbank Offered Rate ("LIBOR") plus 1.00% per annum. The term of the Tax Receivable Agreement commenced on April 23, 2018 and will continue until there is no potential for any future tax benefit payments.
As of March 31, 2022, the total Tax Receivable Agreement liability was $15.5 million, of which $4.5 million was classified as current liability "Related party payable - Tax Receivable Agreement" on the Condensed Consolidated Balance Sheets, as we expect this portion to be settled within 12 months, and $11.0 million of the liability remained as a long-term liability in "Related party payable - Tax Receivable Agreement long-term" on the Condensed Consolidated Balance Sheets. As of December 31, 2021, the total Tax Receivable Agreement liability was $19.3 million, of which $3.8 million was classified as a current liability "Related party payable - Tax Receivable Agreement" on the Condensed Consolidated Balance Sheets, and $15.5 million of the liability was classified as a long-term liability in "Related party payable - Tax Receivable Agreement long-term" on the Condensed Consolidated Balance Sheets. The 2021 current liability was settled in the first quarter of 2022.
(8) Income Taxes
We compute and apply to ordinary income an estimated annual effective tax rate on a quarterly basis based on current and forecasted business levels and activities, including the mix of domestic and foreign results and enacted tax laws. The estimated annual effective tax rate is updated quarterly based on actual results and updated operating forecasts. Ordinary income refers to income before the provision for income taxes excluding significant, unusual or infrequently occurring items. The tax effect of an unusual or infrequently occurring item is recorded in the interim period in which it occurs as a discrete item of tax.
16
PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following table summarizes the provision for income taxes:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Provision for income taxes | $ | 19,797 | $ | 16,257 | |||||||
| Pre-tax income | 143,980 | 115,056 | |||||||||
| Effective tax rates | 13.7 | % | 14.1 | % | |||||||
The effective tax rate for the three months ended March 31, 2022 was 13.7%. This rate differs from the U.S. statutory rate of 21% primarily due to worldwide earnings from various countries taxed at different rates, which is partially offset by the net combined impact related to the U.S. taxation of global intangible low taxed income ("GILTI") and Foreign Tax Credits ("FTCs").
The effective tax rate for the three months ended March 31, 2021 was 14.1%. This rate differs from the U.S. statutory rate of 21% primarily due to worldwide earnings from various countries taxed at lower rates, the Section 250 Deduction and FTCs offset by the net increase related to GILTI.
The provision for income tax increased from $16.3 million for the three months ended March 31, 2021 to $19.8 million for the three months ended March 31, 2022. This change is primarily related to an increase in pre-tax income, partially offset by a decrease in the effective tax rate due to the mix of worldwide earnings from various countries taxed at different rates and U.S. taxation of GILTI.
As of March 31, 2022, we had unrecognized tax positions of $0.1 million, which, if recognized, would have an immaterial, favorable, impact on our effective tax rate.
We file income tax returns in the U.S. federal jurisdiction, and various state and foreign jurisdictions. All U.S. federal tax years prior to 2018 are generally closed by statute or have been audited and settled with the applicable domestic tax authorities. Other jurisdictions are generally closed for years prior to 2016.
We continue to assess the realization of our deferred tax assets based on determinations of whether it is more likely than not that deferred tax benefits will be realized through the generation of future taxable income. Appropriate consideration is given to all available evidence, both positive and negative, in assessing the need for a valuation allowance. Examples of positive evidence would include a strong earnings history, an event or events that would increase our taxable income through a continued reduction of expenses, and tax planning strategies that would indicate an ability to realize deferred tax assets. In circumstances where the significant positive evidence does not outweigh the negative evidence in regards to whether or not a valuation allowance is required, we have established and maintained valuation allowances on those net deferred tax assets.
(9) Fair Value Measurements and Derivative Instruments
In the normal course of business, we are exposed to certain risks related to fluctuations in currency exchange rates, commodity prices and interest rates. We use various derivative financial instruments, primarily foreign currency derivatives, commodity derivative contracts, and interest rate swaps as part of our overall strategy to manage risks from these market fluctuations.
Certain of our derivative contracts contain provisions that require us to provide collateral. Since the counterparties to these financial instruments are large commercial banks and similar financial institutions, we do not believe that we are exposed to material counterparty credit risk. We do not anticipate nonperformance by any of the counterparties to our instruments.
Foreign currency derivatives
We enter into foreign currency derivatives from time to time to attempt to manage exposure to changes in currency exchange rates. These foreign currency instruments, which include, but are not limited to, forward exchange contracts and purchased currency options, are used to hedge global currency exposures such as foreign currency denominated debt, receivables, payables, sales and purchases.
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PART I (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Foreign currency forward and swap contracts are used to mitigate the foreign exchange risk of balance sheet items. These derivatives are fair value hedges. Gains and losses from these derivatives are recorded in cost of sales and they are largely offset by the financial impact of translating foreign currency-denominated payables and receivables.
In the first quarter of 2022, we entered into foreign currency derivatives with maturities of one to 12 months in order to protect against the risk that cash flows associated with certain sales and purchases denominated in a currency other than the U.S. dollar will be adversely affected by future changes in foreign exchange rates. These derivatives are designated as cash flow hedges. The resulting unrealized gains or losses from these derivatives are recorded in accumulated other comprehensive income ("AOCI") and subsequently, when realized, are reclassified to net sales or cost of sales in the Condensed Consolidated Statement of Operations when the hedged exposures affect earnings.
Commodity derivative contracts
We enter into commodity derivative contracts for refined oil products. These contracts are entered into to protect against the risk that eventual cash flows related to these products will be adversely affected by future changes in prices. In the fourth quarter of 2017, we began to enter into LTAs, with many of our customers and began to hedge the cash flows related to these contracts. The unrealized gains or losses related to commodity derivative contracts designated as cash flow hedges are recorded in AOCI and subsequently, when realized, are reclassified to the Condensed Consolidated Statement of Operations when the hedged item impacts earnings, which is when the finished product is sold.
Interest rate swap contracts
We utilize interest rate swaps to limit exposure to market fluctuations on our variable-rate debt. Each derivative agreement's unrealized gain or loss is recorded in AOCI and, when realized, is recorded to interest expense.
We entered into interest rate swap contracts that are "pay fixed, receive variable." Our risk management objective was to fix our cash flows associated with the risk in variability in the one-month USD LIBOR for a portion of our outstanding debt. It was expected that the swaps would fix the cash flows associated with the forecasted interest payments on our debt to an effective fixed interest rate of 4.2%, which could be lowered to 3.95% depending on credit ratings. Since their modification concurrent with the 2018 Term Loan Facility modification in the first quarter of 2021, the swaps contain an other-than-insignificant financing element. As such, they are considered hybrid instruments composed of a debt host and an embedded derivative and the associated cash (outflows)/inflows are classified as financing (use)/source of cash.
The debt host portion amounted to a liability of $6.4 million as of March 31, 2022 with $2.6 million included in "Other accrued liabilities" and $3.8 million in "Other long-term obligations" on the Condensed Consolidated Balance Sheets. As of December 31, 2021, the debt host portion amounted to a liability of $7.0 million, with $2.6 million included in "Other accrued liabilities" and $4.4 million included in "Other long-term obligations" on the Condensed Consolidated Balance Sheets. The corresponding loss is accounted for in AOCI and is being amortized over the remaining life of the swaps. The embedded derivative is treated as a cash flow hedge.
In the first quarter of 2022, in connection with the $70.0 million principal repayment of the 2018 Term Loan Facility discussed in Note 4, "Debt and Liquidity," and our probability assessment of the variable-rate debt remaining outstanding through the term of the swaps, we de-designated one interest rate swap contract with a $250.0 million notional amount, maturing in the third quarter of 2024. The fair value of the embedded derivative at the de-designation date was $6.6 million and was recorded in AOCI and will be amortized into interest expense over the remaining life of the swap. The change in fair value of the embedded derivative from the de-designation date to March 31, 2022 was a gain of $3.9 million and was recorded in interest expense in the Condensed Consolidated Statement of Operations.
All derivatives are recorded on the balance sheet at fair value. If the derivative is designated and effective as a cash flow hedge, changes in the fair value of the derivative are recognized in AOCI until the hedged item is recognized in earnings. The ineffective portion of a derivative's fair value, if any, is recognized in earnings immediately. If a derivative is not a hedge, changes in the fair value are adjusted through earnings. The fair values of the outstanding derivatives are recorded on the balance sheet as assets (if the derivatives are in a gain position) or liabilities (if the derivatives are in a loss position). The fair values will also be classified as short-term or long-term depending upon their maturity dates. The fair value of all of our derivatives was determined using Level 2 inputs.
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The notional amounts of our outstanding derivative instruments as of March 31, 2022 and December 31, 2021 were as follows:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| Notional Amount | Notional Amount | ||||||||||
| (Dollars in thousands) | |||||||||||
| Derivative instruments designated as hedges: | |||||||||||
| Foreign currency derivatives | $ | 85,664 | $ | — | |||||||
| Commodity derivative contracts | 9,737 | 19,474 | |||||||||
| Interest rate swap contracts | 250,000 | 500,000 | |||||||||
| Derivative instruments not designated as hedges: | |||||||||||
| Foreign currency derivatives | $ | 69,184 | $ | 99,260 | |||||||
| Interest rate swap contracts | 250,000 | — | |||||||||
The following table summarizes the fair value of our outstanding derivatives designated as hedges (on a gross basis) and balance sheet classification as of March 31, 2022 and December 31, 2021:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| Fair Value | Fair Value | ||||||||||
| (Dollars in thousands) | |||||||||||
| Prepaid and other current assets | |||||||||||
| Commodity derivative contracts | $ | 9,509 | $ | 8,469 | |||||||
| Interest rate swap contracts | 2,740 | — | |||||||||
| Total | $ | 12,249 | $ | 8,469 | |||||||
| Other assets | |||||||||||
| Interest rate swap contracts | $ | 7,649 | $ | 6,060 | |||||||
| Total | $ | 7,649 | $ | 6,060 | |||||||
| Other accrued liabilities | |||||||||||
| Foreign currency derivatives | $ | (963) | $ | — | |||||||
| Interest rate swap contracts | — | (140) | |||||||||
| Total | $ | (963) | $ | (140) | |||||||
| Net asset (liability) | $ | 18,935 | $ | 14,389 | |||||||
As a result of the settlement of commodity derivative contracts, as of March 31, 2022 and 2021, net realized pre-tax gains of $16.5 million and net realized pre-tax losses of $5.0 million, respectively, were reported in AOCI and will be (were) released to earnings within the following 12 months. See the table below for amounts recognized in the Statement of Operations.
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PART I (CONT'D)
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The realized (gains) losses on cash flow hedges are recognized in the Statements of Operations when the hedged item impacts earnings and are as follows for the periods ended March 31, 2022 and 2021:
| Amount of (Gain)/Loss Recognized | ||||||||||||||||||||
| Location of Realized (Gain)/Loss Recognized in the Condensed Consolidated Statement of Operations | For the Three Months Ended March 31, | |||||||||||||||||||
| 2022 | 2021 | |||||||||||||||||||
| Derivatives designated as cash flow hedges: | (Dollars in thousands) | |||||||||||||||||||
| Commodity derivative contracts | Cost of sales | $ | (2,978) | $ | 549 | |||||||||||||||
| Interest rate swap contracts | Interest expense | 421 | 1,330 | |||||||||||||||||
The following table summarizes the fair value of our outstanding derivatives not designated as hedging instruments (on a gross basis) and balance sheet classification as of March 31, 2022 and December 31, 2021:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| Fair Value | Fair Value | ||||||||||
| (Dollars in thousands) | |||||||||||
| Prepaid and other current assets | |||||||||||
| Interest rate swap contracts | $ | 2,735 | $ | — | |||||||
| Foreign currency derivatives | 474 | 388 | |||||||||
| Other assets | |||||||||||
| Interest rate swap contracts | 7,605 | — | |||||||||
| Other accrued liabilities | |||||||||||
| Foreign currency derivatives | (154) | (2) | |||||||||
| Net asset (liability) | $ | 10,660 | $ | 386 | |||||||
(10) Accumulated Other Comprehensive Income (Loss)
The balance in our Accumulated other comprehensive income (loss) is set forth in the following table:
| As of March 31, 2022 | As of December 31, 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Foreign currency translation adjustments, net of tax | $ | (15,308) | $ | (22,330) | |||||||
| Commodity, interest rate, and foreign currency derivatives, net of tax | 27,849 | 14,886 | |||||||||
| Total accumulated other comprehensive income (loss) | $ | 12,541 | $ | (7,444) | |||||||
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PART I (CONT'D)
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(11) Earnings per Share (EPS)
During the first quarter of 2022, we repurchased and subsequently retired 3,035,830 shares of our common stock for $30.0 million under our common stock repurchase program. We did not repurchase any shares of our common stock under this program during the first quarter of 2021.
The following table presents a reconciliation of the numerator and denominator of basic and diluted EPS for the three months ended March 31, 2022 and 2021:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (Dollars in thousands, except per share amounts) | |||||||||||
| Numerator for basic and diluted EPS: | |||||||||||
| Net income | $ | 124,183 | $ | 98,799 | |||||||
| Denominator: | |||||||||||
| Weighted average common shares outstanding for basic calculation | 262,592,029 | 267,318,860 | |||||||||
| Add: Effect of equity awards | 65,770 | 146,459 | |||||||||
| Weighted average common shares outstanding for diluted calculation | 262,657,799 | 267,465,319 | |||||||||
| Basic EPS | $ | 0.47 | $ | 0.37 | |||||||
| Diluted EPS | $ | 0.47 | $ | 0.37 | |||||||
Basic EPS is calculated by dividing net income by the weighted average number of common shares outstanding, which included 172,010 and 110,647 shares of participating securities in the three months ended March 31, 2022 and 2021 respectively. Diluted EPS is calculated by dividing net income by the sum of the weighted average number of common shares outstanding plus the additional common shares that would have been outstanding if potentially dilutive securities had been issued.
The weighted average common shares outstanding for the diluted EPS calculation excludes consideration of 1,479,638 and 1,106,823 equivalent shares for the three months ended March 31, 2022 and 2021, respectively, as their effect would have been anti-dilutive.
(12) Stock-Based Compensation
Our Compensation Committee of our Board of Directors granted 385,688 stock options and 489,252 restricted stock units ("RSUs"), and our electing non-employee directors received 25,682 deferred share units ("DSUs") during the three months ended March 31, 2022 under our Omnibus Equity Incentive Plan. The weighted average exercise price per share and weighted average fair value per share of the stock options granted during the three months ended March 31, 2022 and 2021, was $10.08 and $5.55, respectively. We estimated the fair value of the stock options using the following assumptions in our Black-Scholes model:
| Dividend yield | 0.40% | ||||
| Expected volatility | 58.28% | ||||
| Risk-free interest rate | 1.93% | ||||
| Expected term (in years) | 6.5 years | ||||
We measure the fair value of grants of RSUs and DSUs based on the closing market price of a share of our common stock on the date of the grant. The weighted average fair value per share was $10.08 for RSUs and $9.63 for DSUs granted during the three months ended March 31, 2022.
In the three months ended March 31, 2022 and 2021, we recognized $0.5 million and $0.8 million, respectively, of stock-based compensation expense. The majority of the expense, $0.4 million and $0.7 million, respectively, was recorded in selling and administrative expense in the Condensed Consolidated Statement of Operations, with the remaining expense recorded in cost of sales.
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NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
As of March 31, 2022, the unrecognized compensation cost related to the unvested portion of all stock-based awards was approximately $7.4 million and is expected to be recognized over the remaining vesting period of the respective grants.
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PART I (CONT’D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The Company
We are a leading manufacturer of high-quality graphite electrode products essential to the production of EAF steel and other ferrous and non‑ferrous metals. We believe that we have the most competitive portfolio of low‑cost ultra-high power graphite electrode manufacturing facilities in the industry, including three of the highest capacity facilities in the world. We are the only large scale graphite electrode producer that is substantially vertically integrated into petroleum needle coke, a key raw material for graphite electrode manufacturing. This vertical integration allows GrafTech to enter into longer term agreements with its customers. These agreements have a duration of more than 12 months and include pre-determined ranges of volumes and prices. This provides greater earnings stability and visibility for GrafTech and a committed, secure source of supply for our customers.
The environmental and economic advantages of electric arc furnace steel production positions both that industry and the graphite electrode industry for continued long-term growth.
We believe GrafTech's leadership position, strong cash flows, advantaged low cost structure and vertical integration are sustainable competitive advantages. The services and solutions we provide will position our customers and us for a better future.
Commercial Update and Outlook
GrafTech reported solid results in the first quarter of 2022 with sales volume of 43 thousand metric tons ("MT"), consisting of LTA volume of 25 thousand MT at an average realized price of $9,600 per MT and non-LTA volume of 18 thousand MT at an average realized price of $6,000 per MT.
Consistent with our expectations, the non-LTA prices for graphite electrodes delivered and recognized in revenue in the first quarter of 2022 increased 19% compared to the average non-LTA price for the fourth quarter of 2021 as prices for virtually all of our non-LTA business were reset on January 1, 2022. We expect our average non-LTA pricing for the second quarter of 2022 to be consistent with our first quarter 2022 average.
In parallel, our costs in the first quarter of 2022 increased, driven by recent global inflationary pressures, particularly for third party needle coke, energy and freight. We expect further increases throughout the remainder of 2022 to be lower in magnitude as we continue to take steps to mitigate these cost increases.
Production volume in the first quarter of 2022 increased 28% compared to the first quarter of 2021.
Globally, steel market capacity utilization rates continue to be strong:
| Q1 2022 | Q4 2021 | Q1 2021 | |||||||||
Global (ex-China) capacity utilization rate(1) | 72% | 75% | 73% | ||||||||
U.S. steel market capacity utilization rate(2) | 81% | 83% | 77% | ||||||||
(1) Source: World Steel Association, Metal Expert, Organisation for Economic Co-operation and Development and GrafTech analysis
(2) Source: American Iron and Steel Institute
The estimated shipments of graphite electrodes under our LTAs for 2022 through 2024 have been updated as follows:
| 2022 | 2023 through 2024 | |||||||||||||
Estimated LTA volume(1) | 90-100 | 40-50 | ||||||||||||
Estimated LTA revenue(2) | $860-$960 | $400-$500(3) | ||||||||||||
(1) In thousands of MT
(2) In millions
(3) Includes expected termination fees from a few customers that have failed to meet certain obligations under their LTAs
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As it relates to the conflict between Ukraine and Russia, we have provided force majeure notices with respect to certain LTAs serving customers in Russia. The estimates of graphite electrodes under our LTAs as set forth in the immediately preceding table take into account such force majeure notices.
Capital Structure and Capital Allocation
As of March 31, 2022, GrafTech had cash and cash equivalents of $85.1 million and total debt of approximately $961.4 million. We continue to make progress in reducing our long-term debt, repaying $70.0 million in the first quarter of 2022. We continue to expect our primary use of cash to be debt repayment. We also have $129.0 million available under our stock repurchase authorization.
We repurchased 3.0 million shares of our common stock in the first quarter of 2022 at an average price of $9.88 per share, for an aggregate of $30.0 million under our common stock repurchase authorization.
We continue to expect full-year capital expenditures to be in the range of $70 to $80 million for 2022.
Key metrics used by management to measure performance
In addition to measures of financial performance presented in our Condensed Consolidated Financial Statements in accordance with generally accepted accounting principles in the United States ("GAAP"), we use certain other financial measures and operating metrics to analyze the performance of our Company. Our “non-GAAP” financial measures consist of EBITDA, adjusted EBITDA, adjusted net income and adjusted earnings per share, which help us evaluate growth trends, establish budgets, assess operational efficiencies and evaluate our overall financial performance. Our key operating metrics consist of sales volume, production volume, production capacity and capacity utilization.
Key financial measures
| For the Three Months Ended March 31, | ||||||||
| (in thousands, except per share data) | 2022 | 2021 | ||||||
| Net sales | $ | 366,245 | $ | 304,397 | ||||
| Net income | 124,183 | 98,799 | ||||||
Earnings per share(1) | 0.47 | 0.37 | ||||||
EBITDA(2) | 167,528 | 153,725 | ||||||
Adjusted net income(2) | 125,920 | 99,880 | ||||||
Adjusted earnings per share(1)(2) | 0.48 | 0.37 | ||||||
Adjusted EBITDA(2) | 169,600 | 155,045 | ||||||
(1) Earnings per share represents diluted earnings per share. Adjusted earnings per share represents adjusted diluted earnings per share.
(2) Non-GAAP financial measure; see below for information and reconciliations of EBITDA, adjusted EBITDA and adjusted net income to net income and adjusted EPS to EPS, the most directly comparable financial measures calculated and presented in accordance with GAAP.
Key operating measures
In addition to measures of financial performance presented in accordance with GAAP, we use certain operating metrics to analyze the performance of our Company. The key operating metrics consist of sales volume, production volume, production capacity and capacity utilization. These metrics align with management's assessment of our revenue performance and profit margin, and will help investors understand the factors that drive our profitability.
Sales volume reflects the total volume of graphite electrodes sold for which revenue has been recognized during the period. For a discussion of our revenue recognition policy, see “—Critical accounting policies—Revenue recognition” in our Annual Report on Form 10-K. Sales volume helps investors understand the factors that drive our net sales.
Production volume reflects graphite electrodes produced during the period. Production capacity reflects expected maximum production volume during the period depending on product mix and expected maintenance outage. Actual production may vary. Capacity utilization reflects production volume as a percentage of production capacity. Production volume,
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production capacity and capacity utilization help us understand the efficiency of our production, evaluate cost of sales and consider how to approach our contract initiative.
| For the Three Months Ended March 31, | ||||||||
| (in thousands, except utilization) | 2022 | 2021 | ||||||
Sales volume (MT)(1) | 43 | 37 | ||||||
Production volume (MT)(2) | 46 | 36 | ||||||
Total production capacity (MT)(3)(4) | 58 | 58 | ||||||
Total capacity utilization(4)(5) | 79 | % | 62 | % | ||||
Production capacity excluding St. Marys (MT)(3)(6) | 51 | 51 | ||||||
Capacity utilization excluding St. Marys(5)(6) | 90 | % | 71 | % | ||||
(1) Sales volume reflects only graphite electrodes manufactured by us.
(2) Production volume reflects graphite electrodes we produced during the period.
(3) Production capacity reflects expected maximum production volume during the period depending on product mix and expected maintenance outage. Actual production may vary.
(4) Includes graphite electrode facilities in Calais, France; Monterrey, Mexico; Pamplona, Spain; and St. Marys, Pennsylvania.
(5) Capacity utilization reflects production volume as a percentage of production capacity.
(6) In the first quarter of 2018, our St. Marys, Pennsylvania facility began graphitizing a limited amount of electrodes sourced from our Monterrey, Mexico facility.
Non-GAAP financial measures
In addition to providing results that are determined in accordance with GAAP, we have provided certain financial measures that are not in accordance with GAAP. EBITDA, adjusted EBITDA, adjusted net income and adjusted EPS are non-GAAP financial measures. We define EBITDA, a non‑GAAP financial measure, as net income or loss plus interest expense, minus interest income, plus income taxes and depreciation and amortization. We define adjusted EBITDA as EBITDA plus any pension and other post-employment benefit ("OPEB") plan expenses, adjustments for public offerings and related expenses, non‑cash gains or losses from foreign currency remeasurement of non‑operating assets and liabilities in our foreign subsidiaries where the functional currency is the U.S. dollar, stock-based compensation expense and related party payable - Tax Receivable Agreement adjustments. Adjusted EBITDA is the primary metric used by our management and our Board of Directors to establish budgets and operational goals for managing our business and evaluating our performance.
We monitor adjusted EBITDA as a supplement to our GAAP measures, and believe it is useful to present to investors, because we believe that it facilitates evaluation of our period‑to‑period operating performance by eliminating items that are not operational in nature, allowing comparison of our recurring core business operating results over multiple periods unaffected by differences in capital structure, capital investment cycles and fixed asset base. In addition, we believe adjusted EBITDA and similar measures are widely used by investors, securities analysts, ratings agencies, and other parties in evaluating companies in our industry as a measure of financial performance and debt‑service capabilities.
Our use of adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:
•adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
•adjusted EBITDA does not reflect our cash expenditures for capital equipment or other contractual commitments, including any capital expenditure requirements to augment or replace our capital assets;
•adjusted EBITDA does not reflect the interest expense or the cash requirements necessary to service interest or principal payments on our indebtedness;
•adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us;
•adjusted EBITDA does not reflect expenses relating to our pension and OPEB plans;
•adjusted EBITDA does not reflect the non‑cash gains or losses from foreign currency remeasurement of non‑operating assets and liabilities in our foreign subsidiaries where the functional currency is the U.S. dollar;
•adjusted EBITDA does not reflect public offerings and related expenses;
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•adjusted EBITDA does not reflect related party payable - Tax Receivable Agreement adjustments;
•adjusted EBITDA does not reflect stock-based compensation expense; and
•other companies, including companies in our industry, may calculate EBITDA and adjusted EBITDA differently, which reduces its usefulness as a comparative measure.
We define adjusted net income, a non‑GAAP financial measure, as net income or loss and exclude the items used to calculate adjusted EBITDA, less the tax effect of those adjustments. We define adjusted EPS, a non‑GAAP financial measure, as adjusted net income divided by the weighted average diluted common shares outstanding during the period. We believe adjusted net income and adjusted EPS are useful to present to investors because we believe that they assist investors’ understanding of the underlying operational profitability of the Company.
In evaluating EBITDA, adjusted EBITDA, adjusted net income and adjusted EPS, you should be aware that in the future, we will incur expenses similar to the adjustments in the reconciliations presented below. Our presentations of EBITDA, adjusted EBITDA, adjusted net income and adjusted EPS, should not be construed as suggesting that our future results will be unaffected by these expenses or any unusual or non‑recurring items. When evaluating our performance, you should consider EBITDA, adjusted EBITDA, adjusted net income and adjusted EPS, alongside other measures of financial performance and liquidity, including our net income and EPS, respectively, and other GAAP measures.
The following tables reconcile our non-GAAP key financial measures to the most directly comparable GAAP measures:
| Reconciliation of Net Income to Adjusted Net Income | ||||||||
| For the Three Months Ended March 31, | ||||||||
| 2022 | 2021 | |||||||
| (Dollars in thousands, except per share data) | ||||||||
| Net income | $ | 124,183 | $ | 98,799 | ||||
| Diluted income per common share: | ||||||||
| Net income per share | $ | 0.47 | $ | 0.37 | ||||
| Weighted average shares outstanding | 262,657,799 | 267,465,319 | ||||||
| Adjustments, pre-tax: | ||||||||
Pension and OPEB plan expenses(1) | 551 | 431 | ||||||
Public offerings and related expenses(2) | — | 422 | ||||||
Non-cash losses (gains) on foreign currency remeasurement(3) | 1,236 | (348) | ||||||
Stock-based compensation expense(4) | 465 | 768 | ||||||
Related party payable - Tax Receivable Agreement adjustment(5) | (180) | 47 | ||||||
| Total non-GAAP adjustments pre-tax | 2,072 | 1,320 | ||||||
Income tax impact on non-GAAP adjustments(6) | 335 | 239 | ||||||
| Adjusted net income | $ | 125,920 | $ | 99,880 | ||||
(1)Net periodic benefit cost for our pension and OPEB plans.
(2)Legal, accounting, printing and registration fees associated with the public offerings and related expenses.
(3)Non-cash losses (gains) from foreign currency remeasurement of non-operating assets and liabilities of our non-U.S. subsidiaries where the functional currency is the U.S. dollar.
(4)Non-cash expense for stock-based compensation grants.
(5)Non-cash expense adjustment for future payment to our sole pre-IPO stockholder for tax assets that are expected to be utilized.
(6)The tax impact on the non-GAAP adjustments is affected by their tax deductibility and the applicable jurisdictional tax rates.
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| Reconciliation of EPS to Adjusted EPS | ||||||||
| For the Three Months Ended March 31, | ||||||||
| 2022 | 2021 | |||||||
| EPS | $ | 0.47 | $ | 0.37 | ||||
| Adjustments per share: | ||||||||
Pension and OPEB plan expenses(1) | — | — | ||||||
Public offerings and related expenses(2) | — | — | ||||||
Non-cash losses (gains) on foreign currency remeasurement(3) | 0.01 | — | ||||||
Stock-based compensation expense(4) | — | — | ||||||
Related party payable - Tax Receivable Agreement adjustment(5) | — | — | ||||||
| Total non-GAAP adjustments pre-tax per share | 0.01 | — | ||||||
Income tax impact on non-GAAP adjustments per share(6) | — | — | ||||||
| Adjusted EPS | $ | 0.48 | $ | 0.37 | ||||
(1)Net periodic benefit cost for our pension and OPEB plans.
(2)Legal, accounting, printing and registration fees associated with the public offerings and related expenses.
(3)Non-cash losses (gains) from foreign currency remeasurement of non-operating assets and liabilities of our non-U.S. subsidiaries where the functional currency is the U.S. dollar.
(4)Non-cash expense for stock-based compensation grants.
(5)Non-cash expense adjustment for future payment to our sole pre-IPO stockholder for tax assets that are expected to be utilized.
(6)The tax impact on the non-GAAP adjustments is affected by their tax deductibility and the applicable jurisdictional tax rates.
| Reconciliation of Net Income to Adjusted EBITDA | For the Three Months Ended March 31, | |||||||
| 2022 | 2021 | |||||||
| (Dollars in thousands) | ||||||||
| Net income | $ | 124,183 | $ | 98,799 | ||||
| Add: | ||||||||
| Depreciation and amortization | 14,434 | 16,539 | ||||||
| Interest expense | 9,212 | 22,167 | ||||||
| Interest income | (98) | (37) | ||||||
| Income taxes | 19,797 | 16,257 | ||||||
| EBITDA | 167,528 | 153,725 | ||||||
| Adjustments: | ||||||||
Pension and OPEB plan expenses(1) | 551 | 431 | ||||||
Public offerings and related expenses(2) | — | 422 | ||||||
Non-cash losses (gains) on foreign currency remeasurement(3) | 1,236 | (348) | ||||||
Stock-based compensation expense(4) | 465 | 768 | ||||||
Related party payable - Tax Receivable Agreement adjustment(5) | (180) | 47 | ||||||
| Adjusted EBITDA | $ | 169,600 | $ | 155,045 | ||||
(1)Net periodic benefit cost for our pension and OPEB plans.
(2)Legal, accounting, printing and registration fees associated with the public offerings and related expenses.
(3)Non-cash losses (gains) from foreign currency remeasurement of non-operating assets and liabilities of our non-U.S. subsidiaries where the functional currency is the U.S. dollar.
(4)Non-cash expense for stock-based compensation grants.
(5)Non-cash expense adjustment for future payment to our sole pre-IPO stockholder for tax assets that are expected to be utilized.
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PART I (CONT’D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Results of Operations
The Three Months Ended March 31, 2022 Compared to the Three Months Ended March 31, 2021
The tables presented in our period-over-period comparisons summarize our Condensed Consolidated Statements of Operations and illustrate key financial indicators used to assess the consolidated financial results. Throughout this "Management's Discussion and Analysis of Financial Condition and Results of Operations" in this Report ("MD&A"), insignificant changes may be deemed not meaningful and are generally excluded from the discussion.
| For the Three Months Ended March 31, | Increase/ Decrease | % Change | ||||||||||||||||||||||||
| 2022 | 2021 | |||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||
| Net sales | $ | 366,245 | $ | 304,397 | $ | 61,848 | 20 | % | ||||||||||||||||||
| Cost of sales | 191,214 | 146,396 | 44,818 | 31 | % | |||||||||||||||||||||
| Gross profit | 175,031 | 158,001 | 17,030 | 11 | % | |||||||||||||||||||||
| Research and development | 880 | 969 | (89) | (9) | % | |||||||||||||||||||||
| Selling and administrative expenses | 21,254 | 20,153 | 1,101 | 5 | % | |||||||||||||||||||||
| Operating income | 152,897 | 136,879 | 16,018 | 12 | % | |||||||||||||||||||||
| Other income, net | (197) | (307) | 110 | (36) | % | |||||||||||||||||||||
| Interest expense | 9,212 | 22,167 | (12,955) | (58) | % | |||||||||||||||||||||
| Interest income | (98) | (37) | (61) | 165 | % | |||||||||||||||||||||
| Income before provision for income taxes | 143,980 | 115,056 | 28,924 | 25 | % | |||||||||||||||||||||
| Provision for income taxes | 19,797 | 16,257 | 3,540 | 22 | % | |||||||||||||||||||||
| Net income | $ | 124,183 | $ | 98,799 | $ | 25,384 | 26 | % | ||||||||||||||||||
Net sales. Net sales increased $61.8 million, or 20%, from $304.4 million in the three months ended March 31, 2021 to $366.2 million in the three months ended March 31, 2022. Prices for non-LTA business reset on January 1, 2022 and our average realized price increased 19% compared to the average realized price for the fourth quarter of 2021 and 43% compared to the average realized price for the first quarter of 2021. In addition, stronger demand for our products in the first quarter of 2022 resulted in a 16% increase in sales volume compared to the first quarter of 2021.
Cost of sales. Cost of sales increased $44.8 million, or 31%, from $146.4 million in the three months ended March 31, 2021 to $191.2 million in the three months ended March 31, 2022, due to a 16% increase in sales volume of manufactured electrodes, as well as a 15% increase in our costs. We expect our costs to continue to increase throughout the remainder of 2022, driven by recent global inflationary pressures, particularly for carbon-based inputs, energy and freight, but we expect these increases to be lower in magnitude than the first quarter of 2022 as we continue to take steps to mitigate these cost increases.
Selling and administrative expenses. Selling and administrative expenses increased $1.1 million, or 5%, from $20.2 million in the three months ended March 31, 2021 to $21.3 million in the three months ended March 31, 2022. The increase is due to higher employment-related costs and additions to the bad debt reserve.
Interest expense. Interest expense decreased $13.0 million, or 58%, from $22.2 million in the three months ended March 31, 2021 to $9.2 million in the three months ended March 31, 2022 primarily due to reductions to our variable-rate debt over the past year, as well as a $3.9 million mark-to-market gain due to the de-designation of one of our $250.0 million interest rate swaps.
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Provision for income taxes. The following table summarizes the provision for income taxes:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (Dollars in thousands) | |||||||||||
| Provision for income taxes | $ | 19,797 | $ | 16,257 | |||||||
| Pre-tax income | 143,980 | 115,056 | |||||||||
| Effective tax rate | 13.7 | % | 14.1 | % | |||||||
The effective tax rate for the three months ended March 31, 2022 was 13.7%. This rate differs from the U.S. statutory rate of 21% primarily due to worldwide earnings from various countries taxed at different rates, which was partially offset by the net combined impact related to the U.S. taxation of GILTI and FTCs.
The effective tax rate for the three months ended March 31, 2021 was 14.1%. This rate differs from the U.S. statutory rate of 21% primarily due to worldwide earnings from various countries taxed at lower rates, the Section 250 Deduction and FTCs, offset by the net increase related to GILTI.
The provision for income taxes increased from $16.3 million for the three months ended March 31, 2021 to $19.8 million for the three months ended March 31, 2022. This change is primarily due to an increase in pre-tax income, partially offset by a decrease in the effective tax rate due to the mix of worldwide earnings from various countries taxed at different rates and U.S. taxation of GILTI.
Effects of Changes in Currency Exchange Rates
When the currencies of non-U.S. countries in which we have a manufacturing facility decline (or increase) in value relative to the U.S. dollar, this has the effect of reducing (or increasing) the U.S. dollar equivalent cost of sales and other expenses with respect to those facilities. In certain countries in which we have manufacturing facilities, and in certain export markets, we sell in currencies other than the U.S. dollar. Accordingly, when these currencies increase (or decline) in value relative to the U.S. dollar, this has the effect of increasing (or reducing) net sales. The result of these effects is to increase (or decrease) operating and net income.
Many of the non-U.S. countries in which we have a manufacturing facility have been subject to significant economic and political changes, which have significantly impacted currency exchange rates. We cannot predict changes in currency exchange rates in the future or whether those changes will have net positive or negative impacts on our net sales, cost of sales or net income.
The impact of these changes in the average exchange rates of other currencies against the U.S. dollar on our net sales was a decrease of $1.8 million for the three months ended March 31, 2022, compared to the same period of 2021. The impact of these changes on our cost of sales was a decrease of $5.2 million for the three months ended March 31, 2022, compared to the same period of 2021.
We have in the past and may in the future use various financial instruments to manage certain exposures to risks caused by currency exchange rate changes, as described under “Part I, Item 3–Quantitative and Qualitative Disclosures about Market Risk.”
Liquidity and Capital Resources
Our sources of funds have consisted principally of cash flow from operations and debt, including our credit facilities (subject to continued compliance with the financial covenants and representations). Our uses of those funds (other than for operations) have consisted principally of dividends, capital expenditures, scheduled debt repayments, optional debt repayments, share repurchases and other obligations. Disruptions in the U.S. and international financial markets could adversely affect our liquidity and the cost and availability of financing to us in the future.
We believe that we have adequate liquidity to meet our needs for at least the next twelve months and for the foreseeable future hereafter. As of March 31, 2022, we had liquidity of $330.8 million, consisting of $245.7 million of availability under our 2018 Revolving Credit Facility (subject to continued compliance with the financial covenants and
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representations) and cash and cash equivalents of $85.1 million. We had long-term debt of $961.3 million and short-term debt of $0.1 million as of March 31, 2022. As of December 31, 2021, we had liquidity of $304.2 million consisting of $246.7 million available under our 2018 Revolving Credit Facility (subject to continued compliance with the financial covenants and representations) and cash and cash equivalents of $57.5 million. We had long-term debt of $1.0 billion and short-term debt of $0.1 million as of December 31, 2021.
As of March 31, 2022 and December 31, 2021, $65.8 million and $49.1 million, respectively, of our cash and cash equivalents were located outside of the U.S. We repatriate funds from our foreign subsidiaries through dividends. All of our subsidiaries face the customary statutory limitation that distributed dividends cannot exceed the amount of retained and current earnings. In addition, for our subsidiary in South Africa, the South Africa Central Bank imposes that certain solvency and liquidity ratios remain above defined levels after the dividend distribution, which historically has not materially affected our ability to repatriate cash from this jurisdiction. The cash and cash equivalents balances in South Africa were $0.4 million and $0.5 million as of March 31, 2022 and December 31, 2021, respectively. Upon repatriation to the U.S., the foreign source portion of dividends we receive from our foreign subsidiaries are not subject to U.S. federal income tax because the amounts were either previously taxed or are exempted from tax by Internal Revenue Service Code Section 245A.
Cash flow and plans to manage liquidity. Our cash flow typically fluctuates significantly between quarters due to various factors. These factors include customer order patterns, fluctuations in working capital requirements, timing of tax and interest payments and other factors. Cash from operations is expected to remain at positive sustained levels.
Debt Structure
We had total availability under the 2018 Revolving Credit Facility of $245.7 million as of March 31, 2022 and $246.7 million as of December 31, 2021, which consisted of the $250.0 million limit reduced by $4.3 million and $3.3 million of outstanding letters of credit, respectively.
2018 Term Loan and 2018 Revolving Credit Facility
In February 2018, the Company entered into the 2018 Credit Agreement, which provides for (i) the $2.3 billion 2018 Term Loan Facility after giving effect to the June 2018 amendment (the “First Amendment”) that increased the aggregate principal amount of the 2018 Term Loan Facility from $1.5 billion to $2.3 billion and (ii) the $250 million 2018 Revolving Credit Facility. GrafTech Finance is the sole borrower under the 2018 Term Loan Facility while GrafTech Finance, GrafTech Switzerland SA (“Swissco”) and GrafTech Luxembourg II S.à.r.l. (“Luxembourg Holdco” and, together with GrafTech Finance and Swissco, the “Co-Borrowers”) are co-borrowers under the 2018 Revolving Credit Facility. The 2018 Term Loan Facility and the 2018 Revolving Credit Facility mature on February 12, 2025 and February 12, 2023, respectively.
The 2018 Term Loan Facility bears interest, at our option, at a rate equal to either (i) the Adjusted LIBO Rate (as defined in the 2018 Credit Agreement), plus an applicable margin equal to 3.00% per annum following an amendment in February 2021 (the “Second Amendment”) that decreased the Applicable Rate (as defined in the 2018 Credit Agreement) by 0.50% for each pricing level or (ii) the ABR Rate (as defined in the 2018 Credit Agreement), plus an applicable margin equal to 2.00% per annum following the Second Amendment, in each case with one step down of 25 basis points based on achievement of certain public ratings of the 2018 Term Loan Facility. The Second Amendment also decreased the interest rate floor from 1.0% to 0.50% for the 2018 Term Loan Facility.
The 2018 Revolving Credit Facility bears interest, at our option, at a rate equal to either (i) the Adjusted LIBO Rate, plus an applicable margin initially equal to 3.75% per annum or (ii) the ABR Rate, plus an applicable margin initially equal to 2.75% per annum, in each case with two 25 basis point step downs based on achievement of certain senior secured first lien net leverage ratios. In addition, we are required to pay a quarterly commitment fee on the unused commitments under the 2018 Revolving Credit Facility in an amount equal to 0.25% per annum.
The Senior Secured Credit Facilities are guaranteed by each of our domestic subsidiaries, subject to certain customary exceptions, and by GrafTech Luxembourg I S.à.r.l., a Luxembourg société à responsabilité limitée and an indirect wholly owned subsidiary of GrafTech, Luxembourg HoldCo, and Swissco (collectively, the “Guarantors”) with respect to all obligations under the 2018 Credit Agreement of each of our foreign subsidiaries that is a Controlled Foreign Corporation (within the meaning of Section 956 of the Code).
All obligations under the 2018 Credit Agreement are secured, subject to certain exceptions, by: (i) a pledge of all of the equity securities of each domestic Guarantor and of each other direct, wholly owned domestic subsidiary of GrafTech and any Guarantor, (ii) a pledge on no more than 65% of the equity interests of each subsidiary that is a Controlled Foreign
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Corporation (within the meaning of Section 956 of the Code), and (iii) security interests in, and mortgages on, personal property and material real property of each domestic Guarantor, subject to permitted liens and certain exceptions specified in the 2018 Credit Agreement. The obligations of each foreign subsidiary of GrafTech that is a Controlled Foreign Corporation under the 2018 Revolving Credit Facility are secured by (i) a pledge of all of the equity securities of each Guarantor that is a Controlled Foreign Corporation and of each direct, wholly owned subsidiary of any Guarantor that is a Controlled Foreign Corporation, and (ii) security interests in certain receivables and personal property of each Guarantor that is a Controlled Foreign Corporation, subject to permitted liens and certain exceptions specified in the 2018 Credit Agreement.
The 2018 Term Loan Facility amortizes at a rate of $112.5 million a year payable in equal quarterly installments, with the remainder due at maturity. The Co-Borrowers are permitted to make voluntary prepayments at any time without premium or penalty. GrafTech Finance is required to make prepayments under the 2018 Term Loan Facility (without payment of a premium) with (i) net cash proceeds from non-ordinary course asset sales (subject to customary reinvestment rights and other customary exceptions and exclusions), and (ii) commencing with the Company’s fiscal year ended December 31, 2019, 75% of Excess Cash Flow (as defined in the 2018 Credit Agreement), subject to step-downs to 50% and 0% of Excess Cash Flow based on achievement of a senior secured first lien net leverage ratio greater than 1.25 to 1.00 but less than or equal to 1.75 to 1.00 and less than or equal to 1.25 to 1.00, respectively. Scheduled quarterly amortization payments of the 2018 Term Loan Facility during any calendar year reduce, on a dollar-for-dollar basis, the amount of the required Excess Cash Flow prepayment for such calendar year, and the aggregate amount of Excess Cash Flow prepayments for any calendar year reduce subsequent quarterly amortization payments of the 2018 Term Loan Facility as directed by GrafTech Finance. As of March 31, 2022, we have satisfied all required amortization installments through the maturity date.
The 2018 Credit Agreement contains customary representations and warranties and customary affirmative and negative covenants applicable to GrafTech and restricted subsidiaries, including, among other things, restrictions on indebtedness, liens, investments, fundamental changes, dispositions, and dividends and other distributions. The 2018 Credit Agreement contains a financial covenant that requires GrafTech to maintain a senior secured first lien net leverage ratio not greater than 4.00:1.00 when the aggregate principal amount of borrowings under the 2018 Revolving Credit Facility and outstanding letters of credit issued under the 2018 Revolving Credit Facility (except for undrawn letters of credit in an aggregate amount equal to or less than $35 million), taken together, exceed 35% of the total amount of commitments under the 2018 Revolving Credit Facility. The 2018 Credit Agreement also contains customary events of default.
2020 Senior Secured Notes
In December 2020, GrafTech Finance issued $500 million aggregate principal amount of the 2020 Senior Secured Notes at an issue price of 100% of the principal amount thereof in a private offering to qualified institutional buyers in accordance with Rule 144A under the Securities Act of 1933 (the "Securities Act") and to non-U.S. persons outside the United States under Regulation S under the Securities Act.
The 2020 Senior Secured Notes were issued pursuant to the Indenture among GrafTech Finance, as issuer, the Company, as a guarantor, the other subsidiaries of the Company named therein as guarantors and U.S. Bank National Association, as trustee and notes collateral agent.
The 2020 Senior Secured Notes are guaranteed on a senior secured basis by the Company and all of its existing and future direct and indirect U.S. subsidiaries that guarantee, or borrow under, the credit facilities under its 2018 Credit Agreement. The 2020 Senior Secured Notes are secured on a pari passu basis by the collateral securing the term loans under the 2018 Credit Agreement. GrafTech Finance, the Company and the other guarantors granted a security interest in such collateral, consisting of substantially all of their respective assets, as security for the obligations of GrafTech Finance, the Company and the other guarantors under the 2020 Senior Secured Notes and the Indenture pursuant to a collateral agreement, dated as of December 22, 2020 (the “Collateral Agreement”), among GrafTech Finance, the Company, the other subsidiaries of the Company named therein as grantors and U.S. Bank National Association, as collateral agent.
The 2020 Senior Secured Notes bear interest at the rate of 4.625% per annum, which accrues from December 22, 2020 and is payable in arrears on June 15 and December 15 of each year, commencing on June 15, 2021. The 2020 Senior Secured Notes will mature on December 15, 2028, unless earlier redeemed or repurchased, and are subject to the terms and conditions set forth in the Indenture.
GrafTech Finance may redeem some or all of the 2020 Senior Secured Notes at the redemption prices and on the terms specified in the Indenture. If the Company or GrafTech Finance experiences specific kinds of changes in control or the
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Company or any of its restricted subsidiaries sells certain of its assets, then GrafTech Finance must offer to repurchase the 2020 Senior Secured Notes on the terms set forth in the Indenture.
The Indenture contains certain covenants that, among other things, limit the Company’s ability, and the ability of certain of its subsidiaries, to incur or guarantee additional indebtedness or issue preferred stock, pay distributions on, redeem or repurchase capital stock or redeem or repurchase subordinated debt, incur or suffer to exist liens securing indebtedness, make certain investments, engage in certain transactions with affiliates, consummate certain asset sales and effect a consolidation or merger, or sell, transfer, lease or otherwise dispose of all or substantially all assets. The Indenture contains events of default customary for agreements of its type (with customary grace periods, as applicable) and provides that, upon the occurrence of an event of default arising from certain events of bankruptcy or insolvency with respect to the Company or GrafTech Finance, all outstanding 2020 Senior Secured Notes will become due and payable immediately without further action or notice. If any other type of event of default occurs and is continuing, then the trustee or the holders of at least 30% in principal amount of the then outstanding 2020 Senior Secured Notes may declare all of the 2020 Senior Secured Notes to be due and payable immediately.
The entirety of the 2020 Senior Secured Notes proceeds was used to pay down a portion of our 2018 Term Loan Facility.
Uses of Liquidity
In July 2019, our Board of Directors authorized a program to repurchase up to $100 million of our outstanding common stock. In November 2021, our Board of Directors authorized the repurchase of an additional $150 million of stock repurchases under this program. We may purchase shares from time to time on the open market, including under Rule 10b5-1 and/or Rule 10b-18 plans. The amount and timing of repurchases are subject to a variety of factors including liquidity, stock price, applicable legal requirements, other business objectives and market conditions. During the first quarter of 2022, we repurchased 3.0 million shares of our common stock at an average purchase price of $9.88 per share, or $30.0 million in the aggregate. As of March 31, 2022, we had $129.0 million remaining under this authorization.
We currently pay a quarterly dividend of $0.01 per share, or $0.04 on an annualized basis. There can be no assurance that we will pay dividends in the future in these amounts or at all. Our Board of Directors may change the timing and amount of any future dividend payments or eliminate the payment of future dividends in its sole discretion, without any prior notice to our stockholders. Our ability to pay dividends will depend upon many factors, including our financial position and liquidity, results of operations, legal requirements, restrictions that may be imposed by the terms of our current and future credit facilities and other debt obligations and other factors deemed relevant by our Board of Directors.
During 2021, we reduced our long-term debt principal by $400.0 million. During the three months ended March 31, 2022, we repaid an additional $70.0 million of principal of our 2018 Term Loan Facility. For the remainder of 2022, we continue to expect our primary use of cash to be debt repayment. We also have $129.0 million available under our stock repurchase authorization.
Potential uses of our liquidity include dividends, share repurchases, capital expenditures, scheduled debt repayments, optional debt repayments, and other general purposes. An improving economy, while resulting in improved results of operations, could increase our cash requirements to purchase inventories, make capital expenditures and fund payables and other obligations until increased accounts receivable are converted into cash. A downturn, including any potential resurgence of the COVID-19 pandemic, could significantly and negatively impact our results of operations and cash flows, which, coupled with increased borrowings, could negatively impact our credit ratings, our ability to comply with debt covenants, our ability to secure additional financing and the cost of such financing, if available.
In order to seek to minimize our credit risks, we may reduce our sales of, or refuse to sell (except for prepayment, cash on delivery or under letters of credit or parent guarantees), our products to some customers and potential customers. Our unrecovered trade receivables worldwide have not been material during the last two years individually or in the aggregate.
We manage our capital expenditures by taking into account quality, plant reliability, safety, environmental and regulatory requirements, prudent or essential maintenance requirements, global economic conditions, available capital resources, liquidity, long-term business strategy and return on invested capital for the relevant expenditures, cost of capital and return on invested capital of the Company as a whole and other factors. Capital expenditures totaled $16.9 million in the three months ended March 31, 2022. We continue to expect full-year capital expenditures to be in the range of $70 to $80 million for 2022.
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In the event that operating cash flows fail to provide sufficient liquidity to meet our business needs, including capital expenditures, any such shortfall would need to be made up by increased borrowings under our 2018 Revolving Credit Facility, to the extent available.
Cash Flows
The following table summarizes our cash flow activities:
| For the Three Months Ended March 31, | |||||||||||
| 2022 | 2021 | ||||||||||
| (in thousands) | |||||||||||
| Cash flow provided by (used in): | |||||||||||
| Operating activities | $ | 146,316 | $ | 122,425 | |||||||
| Investing activities | (16,782) | (14,023) | |||||||||
| Financing activities | (103,517) | (156,762) | |||||||||
| Net change in cash and cash equivalents | $ | 26,017 | $ | (48,360) | |||||||
Operating Activities
Cash provided by operating activities totaled $146.3 million in the first three months of 2022 compared to $122.4 million in the prior-year period. The increase in operating cash flow was primarily due to reductions of $24.7 million in the first three months of 2022 in the combined impact of cash paid for our Tax Receivable Agreement and interest, as well as $14.6 million of increased adjusted EBITDA. Partially offsetting these increases, was a decrease of $12.6 million in cash provided by working capital, primarily driven by increased sales and production levels in the first three months of 2022. Cash flow used for inventories was $24.2 million in the first quarter of 2022 compared to providing $11.6 million of cash in the first quarter of 2021, driven by increased production levels in the first three months of 2022. Cash flow used for accounts receivable decreased $15.4 million versus the prior-year period due to increased sales in the first three months of 2022. In addition, cash flow provided by accounts payable and accruals increased $12.7 million compared to the first three months of 2021, driven by increased customer prepayments.
Investing Activities
Net cash used in investing activities was $16.8 million in the three months ended March 31, 2022 compared to $14.0 million in the three months ended March 31, 2021. The increase is primarily due to increased capital expenditures.
Financing Activities
Net cash used in financing activities was $103.5 million during the three months ended March 31, 2022 compared to $156.8 million in the three months ended March 31, 2021. The decrease was primarily due to $80.0 million of less debt repayments in the first three months of 2022 compared to the first three months of 2021, partially offset by an increase due to $30.0 million of stock repurchases made in the first three months of 2022.
Related Party Transactions
We have engaged in transactions with affiliates or related parties during the first three months of 2022 and we expect to continue to do so in the future. These transactions include ongoing obligations under the Tax Receivable Agreement, Stockholders Rights Agreement and Registration Rights Agreement, each with Brookfield.
Description of Our Financing Structure
We discuss our financing structure in more detail in Note 4, "Debt and Liquidity" in the Notes to the Condensed Consolidated Financial Statements.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risks, primarily from changes in interest rates, currency exchange rates, energy commodity prices and commercial energy rates. From time to time, we enter into transactions that have been authorized according to documented policies and procedures in order to manage these risks. These transactions primarily relate to financial instruments described below. Since the counterparties to these financial instruments are large commercial banks and similar financial institutions, we do not believe that we are exposed to material counterparty credit risk. We do not use financial instruments for trading purposes.
Our exposure to changes in interest rates results primarily from floating rate long-term debt tied to the LIBO Rate or the Euro LIBO Rate.
Our exposure to changes in currency exchange rates results primarily from:
•sales made by our subsidiaries in currencies other than local currencies;
•raw material purchases made by our foreign subsidiaries in currencies other than local currencies; and
•investments in and intercompany loans to our foreign subsidiaries and our share of the earnings of those subsidiaries, to the extent denominated in currencies other than the U.S. dollar.
Our exposure to changes in energy commodity prices and commercial energy rates results primarily from the purchase or sale of refined oil products and the purchase of natural gas and electricity for use in our manufacturing operations.
Interest rate risk management. We periodically enter into agreements with financial institutions that are intended to limit our exposure to additional interest expense due to increases in variable interest rates. These instruments effectively cap our interest rate exposure. As of March 31, 2022 and December 31, 2021, we recorded unrealized pre-tax gains of $10.4 million and $5.9 million, respectively, on our interest rate swaps designated as hedges. The debt host portion amounted to an unrealized pre-tax loss of $6.4 million and $7.0 million as of March 31, 2022 and December 31, 2021, respectively, which is amortized over the remaining life of the swaps.
Currency rate management. We enter into foreign currency derivatives from time to time to attempt to manage exposure to changes in currency exchange rates. These foreign currency derivatives, which include, but are not limited to, forward exchange contracts and purchased currency options, attempt to hedge global currency exposures. Forward exchange contracts are agreements to exchange different currencies at a specified future date and at a specified rate. Purchased currency options are instruments which give the holder the right, but not the obligation, to exchange different currencies at a specified rate at a specified date or over a range of specified dates. Forward exchange contracts and purchased currency options are carried at fair value.
The outstanding foreign currency derivatives represented a $0.6 million unrealized pre-tax net loss as of March 31, 2022 and a net unrealized pre-tax loss of $0.4 million as of December 31, 2021.
Energy commodity management. We have entered into commodity derivative contracts to effectively fix some or all of our exposure to refined oil products. The outstanding commodity derivative contracts represented net unrealized gains of $9.5 million and $8.5 million as of March 31, 2022 and December 31, 2021, respectively.
Sensitivity analysis. We use sensitivity analysis to quantify potential impacts that market rate changes may have on the underlying exposures as well as on the fair values of our derivatives. The sensitivity analysis for the derivatives represents the hypothetical changes in value of the hedge position and does not reflect the related gain or loss on the forecasted underlying transaction.
A hypothetical increase in interest rates of 100 basis points (1%) would have increased our interest expense by less than $0.1 million, net of the impact of our interest rate swap, for the three months ended March 31, 2022. The same 100 basis point increase would have resulted in an increase of $5.3 million in the fair value of our interest rate swap portfolio.
As of March 31, 2022, a 10% appreciation or depreciation in the value of the U.S. dollar against foreign currencies from the prevailing market rates would have resulted in a corresponding decrease of $12.2 million or a corresponding increase of $12.2 million, respectively, in the fair value of the foreign currency hedge portfolio.
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A 10% increase or decrease in the value of the underlying commodity prices that we hedge would have resulted in a corresponding increase or decrease of $1.3 million in the fair value of the commodity hedge portfolio as of March 31, 2022. Because of the high correlation between the hedging instrument and the underlying exposure, fluctuations in the value of the instruments are generally offset by reciprocal changes in the value of the underlying exposure.
For further information related to the financial instruments described above, see Note 9, "Fair Value Measurements and Derivative Instruments" in the Notes to the Condensed Consolidated Financial Statements.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures. Management is responsible for establishing and maintaining adequate disclosure controls and procedures at the reasonable assurance level. Disclosure controls and procedures are designed at the reasonable assurance level to ensure that information required to be disclosed by a reporting company in the reports that it files or submits under Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by it in the reports that it files under the Exchange Act is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we have evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of March 31, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that these controls and procedures were effective at the reasonable assurance level as of March 31, 2022.
Changes in Internal Control over Financial Reporting. There have been no changes in our internal control over financial reporting that occurred during the three months ended March 31, 2022 that materially affected or are reasonably likely to materially affect our internal control over financial reporting.
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PART II. OTHER INFORMATION
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Item 1. Legal Proceedings
We are involved in various investigations, lawsuits, claims, demands, labor disputes and other legal proceedings, including with respect to environmental and human exposure or other personal injury matters, arising out of or incidental to the conduct of our business. While it is not possible to determine the ultimate disposition of each of these matters and proceedings, we do not believe that their ultimate disposition will have a material adverse effect on our financial position, results of operations or cash flows. Additionally, we are involved in the following legal proceedings.
We are involved in various arbitrations, sometimes as claimants and other times as respondents/counterclaimants, pending before the International Chamber of Commerce with several customers who, among other things, have failed to perform under their LTAs and in certain instances are seeking to modify or frustrate their contractual commitments to us. In particular, Aperam South America LTDA, Aperam Sourcing S.C.A., ArcelorMittal Sourcing S.C.A., and ArcelorMittal Brasil S.A. (collectively, the “Claimants”) initiated a single arbitration proceeding against two of the Company’s subsidiaries in the International Chamber of Commerce in June 2020. In June 2021, the Claimants filed their statement of claim, seeking approximately $61 million plus interest in monetary relief and/or reimbursement in respect of several fixed price LTAs that were executed between such subsidiaries and the Claimants in 2017 and 2018. The Claimants argue, among other things, that they should no longer be required to comply with the terms of the LTAs that they signed due to an alleged drop in market prices for graphite electrodes in January 2020. Alternatively, the Claimants argue that they should not be required to comply with the LTAs that they signed due to alleged market circumstances at the time of execution. We believe we have valid defenses to these claims. We intend to vigorously defend them and enforce our rights under the LTAs.
Pending litigation in Brazil has been brought by employees seeking to recover additional amounts and interest thereon under certain wage increase provisions applicable in 1989 and 1990 under collective bargaining agreements to which employers in the Bahia region of Brazil were a party (including our subsidiary in Brazil). Companies in Brazil have settled claims arising out of these provisions and, in May 2015, the litigation was remanded by the Brazilian Supreme Court in favor of the employees union. After denying an interim appeal by the Bahia region employers on June 26, 2019, the Brazilian Supreme Court finally ruled in favor of the employees union on September 26, 2019. The employers union has determined not to seek annulment of such decision. Separately, on October 1, 2015, a related action was filed by current and former employees against our subsidiary in Brazil to recover amounts under such provisions, plus interest thereon, which amounts together with interest could be material to us. If the Brazilian Supreme Court proceeding above had been determined in favor of the employers union, it would also have resolved this proceeding in our favor. In the first quarter of 2017, the state court initially ruled in favor of the employees. We appealed this state court ruling, and the appellate court issued a decision in our favor on May 19, 2020. The employees have further appealed and, on December 16, 2020, the court upheld the decision in favor of GrafTech Brazil. On February 22, 2021, the employees filed a further appeal and, on April 28, 2021, the court rejected the employees' appeal in favor of GrafTech Brazil. The employees filed a further appeal and we intend to vigorously defend our position. As of March 31, 2022, we are unable to assess the potential loss associated with these proceedings as the claims do not currently specify the number of employees seeking damages or the amount of damages being sought.
On September 30, 2020, a stockholder of the Company filed a lawsuit in the Delaware Court of Chancery. The stockholder filed an amended complaint on February 5, 2021, in response to the defendants' motion to dismiss. The amended complaint challenges the fairness of the Company’s repurchase of shares of its common stock from Brookfield for $250 million pursuant to a December 3, 2019 share repurchase agreement and also a related block trade by Brookfield of shares of the Company’s common stock. The stockholder, on behalf of an alleged class of holders of shares of the Company’s common stock as of December 3, 2019 and also purportedly on behalf of the Company, asserts claims for breach of fiduciary duty against certain members of the Company’s Board of Directors and Brookfield. The stockholder also challenges the appointment of the independent director who was appointed to the Company’s Board of Directors on August 5, 2020, as allegedly in violation of the Company’s Amended and Restated Certificate of Incorporation and the Stockholder Rights Agreement with certain Brookfield entities and affiliates. The stockholder seeks, among other things, an award of monetary relief to the Company and a declaration that the appointment of the independent director to the Board of Directors is invalid. On March 22, 2021, the defendants filed a motion to dismiss the amended complaint. On September 29, 2021, the stockholder voluntarily abandoned the stockholder's direct individual and class action claims challenging the share repurchase. On October 4, 2021, the Delaware Court of Chancery heard oral argument on the defendants' motion to dismiss the stockholder's remaining claims and took the matter under advisement. On January 21, 2022, the motion to dismiss was granted in favor of the defendants.
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Table of PART II. OTHER INFORMATION (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Item 1A. Risk Factors
There have been no material changes to the Risk Factors disclosed in Part I - Item 1A of our Annual Report on Form 10-K filed February 22, 2022. You should not interpret the disclosure of any risk factor to imply that the risk has not already materialized.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The table below sets forth the information on a monthly basis regarding GrafTech's purchases of its common stock, par value $0.01 per share, during the first quarter of 2022.
Issuer Purchases of Equity Securities
| Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) | Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (1) | |||||||||||||||||||
| January 1 through January 31, 2022 | — | $ | — | — | $ | 159,030,314 | |||||||||||||||||
| February 1 through February 28, 2022 | 1,015,036 | 9.79 | 1,015,036 | 149,093,284 | |||||||||||||||||||
| March 1 through March 31, 2022 | 2,020,794 | 9.93 | 2,020,794 | 129,030,315 | |||||||||||||||||||
| Total | 3,035,830 | $ | 9.88 | 3,035,830 | $ | 129,030,315 | |||||||||||||||||
(1) On July 31, 2019, the Company announced that its Board of Directors approved the repurchase of up to $100 million of its common stock in open market purchases, including under Rule 10b5-1 and/or Rule 10b-18 plans. On November 4, 2021, the Company's Board of Directors approved the repurchase of an additional $150 million of its common stock under this program. Approximately $129.0 million of the total $250 million authorized remained available for stock repurchases at March 31, 2022. The stock repurchase program does not have an expiration date.
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Table of PART II. OTHER INFORMATION (CONT'D)
GRAFTECH INTERNATIONAL LTD. AND SUBSIDIARIES
Item 6. Exhibits
Exhibit Number | Description of Exhibit | ||||
| 3.1 | |||||
| 3.2 | |||||
| 10.1 | |||||
| 31.1* | |||||
| 31.2* | |||||
| 32.1** | |||||
| 32.2** | |||||
| 101 | The following financial information from GrafTech International Ltd.'s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2022 formatted in Inline XBRL (Extensible Business Reporting Language) includes: (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Operations and Comprehensive Income, (iii) the Condensed Consolidated Statements of Cash Flows, (iv) the Consolidated Statements of Stockholders' Equity (Deficit), and (v) Notes to the Condensed Consolidated Financial Statements. | ||||
| 104 | Cover Page Interactive Data file (formatted as Inline XBRL and contained in Exhibit 101). | ||||
____________________________
* Filed herewith
** Furnished herewith
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.
| GRAFTECH INTERNATIONAL LTD. | |||||||||||
| Date: | May 6, 2022 | By: | /s/ Timothy K. Flanagan | ||||||||
| Timothy K. Flanagan | |||||||||||
| Chief Financial Officer, Vice President Finance and Treasurer (Principal Financial and Accounting Officer) | |||||||||||
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