Metallus has a $125 million defense order. Why does Q4 look weaker?

Metallus has an initial $125 million order from the U.S. Defense Logistics Agency and a growing aerospace and defense business. Yet the specialty steel maker expects its next quarter's adjusted profit to fall from Q3.

Defense demand supports its longer-term growth, while year-end maintenance, lower shipments and a less favorable sales mix weigh on the final quarter.

Where the sales growth is coming from

Q3 sales rose 10% from a year earlier to $337.2 million. Aerospace and defense sales increased to $66.4 million from $47.2 million.

Research by Ticker Byline shows that aerospace and defense supplied about 61% of Metallus' $31.3 million year-over-year sales increase. The business has become a more important contributor as the company invests in specialized production capacity.

Management says it achieved its $250 million annualized aerospace and defense sales target during the quarter. That is a sales run rate, rather than the amount sold in the first nine months.

The initial DLA order sits within a five-year contract worth up to $995 million. Further delivery orders would be needed to turn the full contract ceiling into sales.

Why Q4 looks different

Adjusted EBITDA, which removes interest, taxes, depreciation, amortization and selected other items, rose to $34.5 million from $29 million in Q2 and a year earlier.

In August, Metallus had expected that profit measure to be slightly higher. Actual shipments fell almost 5% from Q2, versus an expectation they would be similar, but better pricing and product mix helped offset the volume decline.

Metallus now expects annual adjusted EBITDA of $100 million to $105 million. Our calculation subtracting the $88.1 million earned in the first nine months leaves $11.9 million to $16.9 million for Q4.

Planned shutdowns are expected to reduce adjusted EBITDA by $10 million to $15 million relative to Q3, through maintenance costs and factory overhead spread across fewer tons. Shipments are also expected to fall by a high-single-digit percentage as normal year-end seasonality takes hold.

Growth still needs cash

The stronger quarter did not cover all of Metallus' investment spending. Operating cash flow was $6.8 million, after a $19.1 million inventory cash use. Capital spending was $13.1 million, leaving a $6.3 million shortfall before share buybacks.

Cash ended the quarter at $98.6 million, versus $108.6 million in June. Metallus also had an undrawn credit facility, giving it total cash and available borrowing capacity of $388.7 million.

The Metallus company profile tracks comparable earnings, cash flow, investment plans and the defense contract.