How AK Steel Beats Earnings Without Generating Cash

Gordon Johnson of Axiom Capital put out a bearish note on AK Steel Holding Corporation AKS highlighting the cash flow aspect of the company, sending the shares down as much as about 8 percent after recording gains on EPS beat.

Change Of Tune

Earlier, investors were upbeat on AK Steel once the company’s non-GAAP EPS of $0.25 topped Street view of $0.06. Including one-time items, the company reported a net loss of $62.4 million, or $0.22 per share, for the fourth quarter of 2016, compared to a net loss of $145.4 million, or $0.82 per share, a year ago.

AK Steel recorded charges totaling $137.6 million, or $0.47 a share, and unrealized derivative gains of $33.8 million, or $0.11 a share. The year-ago results also included charges totaling $200.9 million, or $1.13 per share.

In connection with the bankruptcy of Magnetation LLC, the company's fourth quarter 2016 results included a charge of $69.5 million, or $0.24 per share.

Johnson, who believes non-GAAP reporting for companies these days is questionable, said AK Steel recognized income on derivatives it is no longer classifying as a hedge due to its cancellation of the Magnetation LLC, yet backed out the charges associated with this contract in the fourth-quarter numbers.

In a statement, AK Steel told Benzinga, "We report financials according to GAAP, and clearly communicate each of the one-time items impacting our fourth quarter results."

A Swing, And A Miss

“[A]dmittedly, we acknowledge that investors seem to care less about accounting these days, but we do see this as yet another potential egregious method to manage EPS. So… we believe cash flow is what’s important,” Johnson wrote in a note.

This is where Johnson feels AK Steel “missed by a mile.”

The company reported fourth quarter operating cash flow of $16.7 million versus consensus’ estimate of $88 million. The free cash flow totaled -$29 million versus consensus’ estimate of $39 million.

“[W]hen OCF begins to trail EPS, significantly, this is burgeoning sign of accounting chicanery,” Johnson highlighted.

As per the AK Steel’s earnings release, the company ended the fourth quarter of 2016 with total liquidity of $1.35 billion, consisting of cash and cash equivalents and $1.19 billion of availability under its revolving credit facility.

Johnson also pointed out that AK Steel’ shipments continued to fall in the fourth quarter despite improving sector fundamentals. The shipments fell 0.8 percent sequentially and 14.7 percent year-over-year.

“So… in a business where things are supposedly getting better (this is the justification for the recent spate of price hikes), shipments are still falling and AKS is now burning cash flow. We don’t see this as a positive sign, particularly with auto [emphasis omitted] demand not apparently in decline [emphasis omitted] (this is probably the biggest takeaway from the quarter, in our view),” Johnson elaborated.

At last check, shares of AK Steel fell 2.58 percent to $9.05.