Valhi, Inc 2017 Review

Summary

Total sales increased 24% due to improved volumes and pricing leading to strong net income and free cash flow.

The Chemicals Segment total sales increased 27% and operating profit increased 275%.

Notable increase in long-term debt year-over-year.

Company Overview

Valhi, Inc. (VHI) is primarily a holding company. VHI operates through their wholly-owned and majority-owned subsidiaries, including NL Industries, Inc., Kronos Worldwide, Inc., CompX International Inc. and Waste Control Specialists LLC (“WCS”). Kronos (KRO), NL (NL) and CompX (CIX) each file periodic reports with the U.S. Securities and Exchange Commission. Valhi is in turn controlled by private Contran Corporation, who owns 93% of the common stock.

Operating Segments

Valhi had three business segments at FYE17.

Kronos Worldwide

Including their predecessors, Kronos has produced and marketed TiO 2 in North America and Europe for over 100 years. They believe they are the largest producer of TiO 2 in Europe with approximately one-half of their sales volumes attributable to markets in Europe. The table below shows their market share for their significant markets, Europe and North America, for the last three years.

The following tables show the approximate TiO 2 sales volume by geographic region and end use for the year ended December 31, 2017:

The TiO 2 industry is highly competitive and the principal competitors are The Chemours Company (CC); Cristal Global; Venator Materials PLC (VNTR); Tronox Incorporated (TROX); and Lomon Billions. The top six TiO 2 producers (including VHI) accounted for approximately 66% of the world’s production capacity. Chemours added a new 200,000 metric ton capacity line at its plant in Mexico which commenced production in the second quarter of 2016. In 2016, Venator announced it was closing its sulfate process facility in South Africa, reducing its overall capacity by 25,000 metric tons. In 2017, one of Venator’s European sulfate plants, which has a capacity of 130,000 metric tons, operated at significantly reduced rates due to a fire at the facility.

CompX International

In addition to sales to large OEM customers, a substantial portion of security product sales are made through distributors. CompX has a significant North American market share of cabinet lock security product sales as a result of the locksmith distribution channel. CompX offers a line of standardized products used by the largest segments of the marketplace. These products are packaged and merchandised for easy availability and handling by distributors and end users.

CompX sells to a diverse customer base with only one customer representing 10% or more of sales in 2017 (United States Postal Service representing 16%). The largest ten customers accounted for approximately 44% of sales in 2017.

Basic Management and The Landwell Company

Through December 31, 2017, LandWell has closed or entered into escrow on approximately 480 acres of the residential/planned community and certain other acreage.

Real Estate Management and Development Segment’s sales consist principally of land sales and water and electric delivery fees. During 2017 sales to three customers that each exceeded 10% of the Real Estate Management and Development Segment’s net sales: Richmond Homes of Nevada (37%), Grey Stone Nevada LLC (22%) both related to land sales, and the City of Henderson (11%) related to water delivery sales.

There are multiple new construction residential communities in the greater Las Vegas, Nevada area. They compete with these communities on the basis of location; planned community amenities and features; proximity to major retail and recreational activities; and the perception of quality of life within the new community.

Other

NL Industries, Inc .— At December 31, 2017, NL owned 87% of CompX and 30% of Kronos. NL also owns 100% of EWI RE, Inc., an insurance brokerage and risk management services company and also holds certain marketable securities and other investments.

Tremont LLC — Tremont is primarily a holding company through which VHI holds their 63% ownership interest in BMI and their 77% ownership interest in LandWell. Such 77% ownership interest in LandWell includes 27% VHI holds through their ownership of Tremont and 50% held by a subsidiary of BMI. Tremont also owns 100% of Tall Pines Insurance Company, an insurance company that also holds certain marketable securities and other investments.

Discontinued Operations — On January 26, 2018, VHI completed the sale of the Waste Management Segment to JFL-WCS Partners, LLC, an entity sponsored by certain investment affiliates of J.F. Lehman & Company, for consideration consisting of the assumption of all of the Waste Management Segment’s third-party indebtedness and other liabilities. VHI is expected to recognize a pre-tax gain of approximately $57MM on the transaction in the first quarter of 2018.

Sales by Geography

Majority of sales are originated in the U.S. and Germany and both regions had solid growth yoy.

Risk Factors

Financial Overview

Revenue growth was strong within the Chemicals segment and the segment largely supported the improvement in financial performance.

Chemicals

Sales improvement is due to the previously announced increase in sales and higher volumes. Chemicals Segment’s production volumes in 2017 set a new overall record for a full-year period.

Gross margin increased to 32% in 2017 compared to 19% in 2016. Gross margin increased primarily due to the net effect of higher average selling prices, higher sales and production volumes and higher raw materials and other production costs.

Operating income increased 275% in 2017 compared to 2016 and operating income margin increased to 20% in 2017 from 7% in 2016. The increase in part due to the net effects of higher selling prices, higher shipping and handling costs.

During 2017, the Chemicals Segment operated its production facilities at full practical capacity compared to 98% of practical capacity in 2016. Management expects TiO 2 production volumes in 2018 to be slightly lower as compared to the record 2017 production volumes. Assuming current global economic conditions continue, and based on anticipated production levels, 2018 Chemicals Segment sales volumes are expected to be slightly lower as compared to record 2017 sales volumes.

Component Products

The Component Products Segment’s net sales increased approximately $3.1MM in 2017 compared to 2016 primarily due to higher security products sales volumes to government security, electronic lock and other markets, partially offset by a decrease in sales of security products to an original equipment manufacturer of recreational transportation products.

Gross margin for 2017 decreased compared to 2016 due primarily to unfavorable relative changes in customer and product mix, higher raw material prices and increased employee medical costs in the security products reporting unit, as well as higher manufacturing costs for the marine components reporting unit.

Operating income declined slightly in 2017 compared to primarily due to the slight decline in gross margin noted above.

The strong demand for the Component Products Segment’s products in 2017 was supported by continued high demand from existing customers for government security applications, as well as continued growth in electronic lock sales. In 2017, the impact of strong demand for these products was somewhat offset by lower sales to the transportation market, where a significant customer of the segment experienced weakened sales in 2017, which is expected to continue into 2018.

Real Estate Management & Development

A substantial portion of the net sales from the Real Estate Management and Development segment in 2017 consisted of revenues from land sales. VHI recognized $29.9MM in revenues on land sales during 2017 compared to $37.8MM in 2016. Cost of sales related to land sales revenues was $22.2MM in 2017 and $30.3MM in 2016.

In the near term, the focus is on developing and selling land they manage, primarily to residential builders, for the approximately 2,100 acres zoned for residential/planned community in Henderson, Nevada. It is expected that the development work for the residential/planned community to continue over the next several years, including those parcels currently under contract for which the development work is expected to be completed in 2018.

Outstanding Debt Facilities & Liquidity

Company was in covenant compliance at FYE17.

Valhi had $282MM in aggregate liquidity under existing facilities at FYE17.

Balance Sheet

Note: Because Valhi is a holding company, its balance sheet, income statement, and cash flow statement all reflect the consolidated company, inclusive of all non-controlling interests. Please see footnote 15 of the 10-K for a detailed breakdown of the companies non-controlling interest.

Total assets remained relatively stable year-over-year at $1.1Bn. Notable yoy changes include cash increasing from $160MM at FYE16 to $436MM, A/R from $254MM to $333MM and inclusion of $120MM in deferred income taxes at FYE17.

Long-term debt increased from $889MM at FYE16 to $1Bn at FYE17. Total equity improved from $444M to $767MM due to the improvement in retained deficit that was supported by net profit in FY17.

Income Statement

Total revenue were supported by strong growth in the Chemicals segment. Net income was supported by improved income from continued operations and an income tax benefit.

Statement of Cash Flows

Operating Cash Flow

Operating cash flow was supported by net income of $303MM, partially offset by deferred income taxes.

Investing Cash Flow

Increase in cash usage due largely due to the increase in CapEx yoy. FCF as defined as Operating Cash Flow less CapEx was $188MM at FYE17, compared to $21MM at FYE16.

Financing Cash Flow

Financing cash flow was a cash source of $94MM due to borrowings of $748MM, partially offset by principal payments of $600MM. Cash from the aforementioned activities increased the cash position by $279MM at FYE17.

2018 Outlook

Operating performance is expected to improve due to higher income from the Chemicals Segment and the Real Estate Management and Development Segment, offset by the lack of favorable income tax benefit experience in 2017 that is not expected to continue in 2018.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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