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(Registrant’s telephone number, including area code)
Securities registered pursuant
to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
N/A
N/A
N/A
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 ¨iNo☒
The
registrant is a voluntary filer and is not subject to the filing requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934. However, the registrant 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.
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). iYes☒ 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
¨
iNon-accelerated
filer
☒
Smaller reporting company
i¨
Emerging growth company
i¨
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. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No i☒
Investment
in and advances to non–consolidated affiliates
i858
i760
Deferred
income tax assets
i185
i140
Other
long–term assets
— third parties
i358
i219
—
related parties
i1
i—
Total
assets
$
i12,960
$
i10,989
LIABILITIES
AND SHAREHOLDER’S EQUITY
Current liabilities:
Current portion of long–term debt
$
i59
$
i19
Short–term
borrowings
i151
i176
Accounts payable
—
third parties
i2,097
i1,732
—
related parties
i252
i176
Fair
value of derivative instruments
i183
i214
Accrued
expenses and other current liabilities
i625
i613
Current
liabilities of discontinued operations
i14
i—
Total
current liabilities
i3,381
i2,930
Long–term
debt, net of current portion
i6,295
i5,345
Deferred
income tax liabilities
i152
i194
Accrued
postretirement benefits
i1,056
i930
Other
long–term liabilities
i296
i229
Total
liabilities
i11,180
i9,628
Commitments
and contingencies
i
i
Shareholder’s equity:
Common
stock, no par value; iiUnlimited/ number of shares authorized; iiii1,000///
shares issued and outstanding as of December 31, 2020 and March 31, 2020
i—
i—
Additional
paid–in capital
i1,404
i1,404
Retained
earnings
i688
i628
Accumulated
other comprehensive loss
(i266)
(i620)
Total
equity of our common shareholder
i1,826
i1,412
Noncontrolling
interests
(i46)
(i51)
Total
equity
i1,780
i1,361
Total
liabilities and equity
$
i12,960
$
i10,989
____________________
See
accompanying notes to the condensed consolidated financial statements. Refer to Note 7 – Consolidation for information on our consolidated variable interest entity (VIE).
5
Novelis Inc.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
Nine
Months Ended
December 31,
in millions
2020
2019
OPERATING ACTIVITIES
Net income
$
i61
$
i357
Net
loss from discontinued operations
(i217)
i—
Net
income from continuing operations
$
i278
$
i357
Adjustments
to determine net cash provided by operating activities:
Depreciation and amortization
i396
i267
Gain
on unrealized derivatives and other realized derivatives in investing activities, net
(i8)
(i32)
Gain
on sale of assets
i—
(i1)
Impairment
charges
i—
i13
Deferred
income taxes, net
i1
i30
Equity
in net loss of non-consolidated affiliates
i1
i1
Gain
on foreign exchange remeasurement of debt
(i2)
i—
Amortization
of debt issuance costs and carrying value adjustments
i21
i14
Other,
net
i—
i2
Changes
in assets and liabilities including assets and liabilities held for sale (net of effects from divestitures):
Accounts receivable
(i174)
i143
Inventories
i83
(i42)
Accounts
payable
i154
(i168)
Other
assets
i68
(i3)
Other
liabilities
(i170)
(i109)
Net
cash provided by operating activities - continuing operations
i648
i472
Net
cash used in operating activities - discontinued operations
(i78)
i—
Net
cash provided by operating activities
$
i570
$
i472
INVESTING
ACTIVITIES
Capital expenditures
$
(i333)
$
(i430)
Acquisition
of business, net of cash and restricted cash acquired
(i2,614)
i—
Proceeds
from sales of assets, third party, net of transaction fees and hedging
i4
i3
Proceeds
from investment in and advances to non-consolidated affiliates, net
i10
i6
(Outflows)
proceeds from the settlement of derivative instruments, net
(i3)
i3
Other
i9
i10
Net
cash used in investing activities - continuing operations
(i2,927)
(i408)
Net
cash provided by investing activities - discontinued operations
i357
i—
Net
cash used in investing activities
$
(i2,570)
$
(i408)
FINANCING
ACTIVITIES
Proceeds from issuance of long-term and short-term borrowings
$
i1,972
$
i79
Principal
payments of long-term and short-term borrowings
(i589)
(i16)
Revolving
credit facilities and other, net
(i609)
(i38)
Debt
issuance costs
(i25)
(i3)
Contingent
consideration paid in acquisition of business
(i9)
i—
Net
cash provided by financing activities - continuing operations
i740
i22
Net
cash used in financing activities - discontinued operations
(i2)
i—
Net
cash provided by financing activities
$
i738
$
i22
Net
(decrease) increase in cash, cash equivalents and restricted cash
(i1,262)
i86
Effect
of exchange rate changes on cash
i53
(i4)
Cash,
cash equivalents and restricted cash — beginning of period
i2,402
i960
Cash,
cash equivalents and restricted cash — end of period
$
i1,193
$
i1,042
Cash
and cash equivalents
$
i1,164
$
i1,031
Restricted
cash (Included in "Other long–term assets")
i15
i11
Restricted
cash (Included in "Prepaid expenses and other current assets")
i14
i—
Cash
and cash equivalents of discontinued operations
i—
i—
Cash,
cash equivalents and restricted cash — end of period
$
i1,193
$
i1,042
Supplemental
Disclosures:
Accrued capital expenditures as of December 31
$
i72
$
i59
____________________
See
accompanying notes to the condensed consolidated financial statements.
6
Novelis Inc.
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDER'S EQUITY (unaudited)
See
accompanying notes to the condensed consolidated financial statements.
7
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
1. BUSINESS
AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
References herein to "Novelis," the "Company,""we,""our," or "us" refer to Novelis Inc. and its subsidiaries unless the context specifically indicates otherwise. References herein to "Hindalco" refer to Hindalco Industries Limited. Hindalco acquired Novelis in May 2007. All of the common shares of Novelis are owned directly by AV Metals Inc. and indirectly by Hindalco.
i
Organization
and Description of Business
We produce aluminum sheet and light gauge products for use in the packaging market, which includes beverage and food can and foil products, as well as for use in the automotive, transportation, aerospace, electronics, architectural, and industrial product markets. We have recycling operations in many of our plants to recycle post-consumer aluminum, such as used-beverage cans and post-industrial aluminum, such as class scrap. As of December 31, 2020, we had manufacturing operations in inine
countries on iifour/
continents: North America, South America, Asia, and Europe, through i33 operating facilities, which may include any combination of hot or cold rolling, finishing, casting, or recycling capabilities. We have recycling operations in i18
of our operating facilities.
The March 31, 2020 condensed consolidated balance sheet data was derived from the March 31, 2020 audited financial statements but does not include all disclosures required by accounting principles generally accepted in the United States of America (U.S. GAAP). The accompanying unaudited condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements and accompanying notes in our Form 10-K for the fiscal year ended March 31, 2020 filed with the United States Securities and Exchange Commission (SEC) on May 7, 2020. Management believes that all adjustments necessary for the fair statement of results, consisting of normally recurring items, have
been included in the unaudited condensed consolidated financial statements for the interim periods presented.
Consolidation Policy
Our condensed consolidated financial statements include the assets, liabilities, revenues, and expenses of all wholly-owned subsidiaries, majority-owned subsidiaries over which we exercise control, and entities in which we have a controlling financial interest or are deemed to be the primary beneficiary. We eliminate intercompany accounts and transactions from our condensed consolidated financial statements.
We use the equity method to account for our investments in entities that we do not control but have the ability to exercise
significant influence over operating and financial policies. Consolidated "Net income attributable to our common shareholder" includes our share of net income (loss) of these entities. The difference between consolidation and the equity method impacts certain of our financial ratios because of the presentation of the detailed line items reported in the condensed consolidated financial statements for consolidated entities, compared to a two-line presentation of "Investment in and advances to non–consolidated affiliates" and "Equity in net loss of non-consolidated affiliates."
/i
Use
of Estimates and Assumptions
The preparation of our condensed consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and the disclosures of contingent assets and liabilities as of the date of the financial statements, and the reported amounts of revenues and expenses during the reporting periods. The principal areas of judgment relate to (1) impairment of goodwill; (2) impairment of long lived assets and other intangible assets; (3) impairment of equity investments; (4) actuarial assumptions related to pension and other postretirement benefit plans; (5) tax uncertainties and valuation allowances; (6) assessment of loss contingencies, including environmental and litigation liabilities; (7) the fair value of derivative financial instruments; and (8) the fair value of the contingent consideration
resulting from the sale of Duffel. Future events and their effects cannot be predicted with certainty, and accordingly, our accounting estimates require the exercise of judgment. The accounting estimates used in the preparation of our condensed consolidated financial statements may change as new events occur, as more experience is acquired, as additional information is obtained and as our operating environment changes. We evaluate and update our assumptions and estimates on an ongoing basis and may employ outside experts to assist in our evaluations. Actual results could differ from the estimates we have used.
For more information regarding our use of estimates in the determination of fair values of assets acquired and liabilities assumed in the acquisition of Aleris Corporation (Aleris), see Note 2 – Business Combination.
Risks & Uncertainty resulting from COVID-19
Beginning
late in the fourth quarter of fiscal year ended March 31, 2020 and carrying into the current fiscal year, the COVID-19 pandemic, and its unprecedented negative economic implications, have affected production and sales across a range of industries around the world.
/
8
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Our global operations, similar to those of many other large, multi-national corporations, were also impacted. Early in fiscal year 2021, we were required to partially
shut down or temporarily close certain facilities in the United States and abroad to comply with state orders and governmental decrees and adjust schedules at some of our facilities based on customer demand. The plant shut downs and adjusted schedules resulting from COVID-19 resulted in disruptions to our supply chain, interruptions to our production, and delays of shipments to our customers, mainly during the first quarter of the current fiscal year.
While much of our customer demand and shipments recovered in the majority of our end markets during the second fiscal quarter and remained robust in the third fiscal quarter, the overall extent of the impact of the COVID-19 pandemic on our operating results, cash flows, liquidity, and financial condition will depend on certain developments, including the duration and spread of the outbreak and its impact on our customers, employees, and vendors. We believe this will be primarily
driven by the severity and duration of the pandemic, the pandemic’s impact on the US and global economies and the timing, scope, and effectiveness of federal, state, and local governmental responses, including the distribution and adoption of vaccines.
Our application of U.S. GAAP requires the pervasive use of estimates and assumptions in preparing the unaudited condensed consolidated financial statements. The global COVID-19 pandemic has required greater use of estimates and assumptions. More specifically, those estimates and assumptions that are utilized in our forecasted cash flows that form the basis in developing the fair values utilized in impairment assessments as well as annual effective tax rate. This has included assumptions as to the duration and severity of the pandemic, timing and amount of demand shifts amongst sales channels (primarily in the automotive industry), workforce availability, and supply chain continuity.
We have experienced short-term disruptions and anticipate such disruptions may continue for the foreseeable future, but anticipate an eventual return to normal demand. Although we have made our best estimates based upon current information, the effects of the COVID-19 pandemic on our business may result in future changes to our estimates and assumptions based on its duration. Actual results could materially differ from the estimates and assumptions developed by management. If so, we may be subject to future impairment charges as well as changes to recorded reserves and valuations.
i
Business Combinations
Occasionally,
we may enter into business combinations. In accordance with Accounting Standards Codification (ASC) Topic 805, Business Combinations (ASC 805), we generally recognize the identifiable assets acquired, the liabilities assumed, and any noncontrolling interests in an acquiree at their fair values as of the date of acquisition. We measure goodwill as the excess of consideration transferred, which we also measure at fair value, over the net of the acquisition date fair values of the identifiable assets acquired and liabilities assumed. The acquisition method of accounting requires us to make significant estimates and assumptions regarding the fair values of the elements of a business combination as of the date of acquisition, including the fair values of identifiable intangible assets, deferred tax asset valuation allowances, liabilities including those related to debt, pensions and other postretirement plans, uncertain tax positions, contingent consideration, and contingencies.
Significant estimates and assumptions include subjective and/or complex judgements regarding items such as discount rates, customer attrition rates, economic lives, and other factors, including estimating future cash flows that we expect to generate from the acquired assets.
The acquisition method of accounting also requires us to refine these estimates over a measurement period not to exceed one year to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. If we are required to adjust provisional amounts that we have recorded for the fair values of assets and liabilities in connection with acquisitions, these adjustments could have a material impact on our financial condition and results of operations. If the subsequent actual results and updated projections of the underlying business
activity change compared with the assumptions and projections used to develop these values, we could record future impairment charges. In addition, we have estimated the economic lives of certain acquired assets and these lives are used to calculate depreciation and amortization expense. If our estimates of the economic lives change, depreciation or amortization expenses could be increased or decreased or the acquired asset could be impaired.
i
Reclassifications and Revisions of Previously Issued
Financial Statements
During the preparation of the consolidated financial statements for the fiscal year ended March 31, 2020, we identified a misstatement related to the sale of land within the previously issued Form 10-Ks for the year ended March 31, 2019 and previously issued Form 10-Qs for the quarters ended September 30, 2019 and December 31, 2019. The previously disclosed amounts for "Property, plant and equipment, net" and "Retained earnings" were understated by $iiii5/// million
in the aforementioned periods.
/
9
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
We assessed the materiality of the misstatement and concluded it was not material to the Company’s previously issued financial statements for the year ended March 31, 2019 and that amendments of previously filed financial statements were therefore not required. However,
we elected to revise the previously reported amounts in the condensed consolidated statements of shareholder's equity to correct the misstatement. This revision applies to the previously reported amounts for "Retained earnings" in the condensed consolidated statements of shareholder's equity for the interim periods ended September 30, 2019 and December 31, 2019 included within this filing.
In addition, during the preparation of the condensed consolidated financial statements for the period ended September 30, 2020, we identified a misstatement related to the calculation of accrued capital expenditures within the statement of cash flows in our previously issued Form 10-Ks for the years ended March 31, 2019 and March
31, 2020 and the interim periods within these years. As a result, the previously reported amounts for "Capital expenditures" were understated by $i8 million, changes in accounts payable were overstated by $i8 million,
and "Accrued capital expenditures," presented in supplemental disclosures, were overstated by $i41 million for the nine months ending December 31, 2019.
We assessed the materiality of the misstatement and concluded it was not material to the company's previously issued financial statements for the years ended March
31, 2019 and March 31, 2020 and the interim periods within these years. However, we elected to revise the previously reported amounts for "Capital expenditures" and changes in accounts payable within the condensed consolidated statement of cash flows, "Accrued capital expenditures" within the supplemental disclosures to the condensed consolidated statement of cash flows, and "Capital expenditures" within Note 19 – Segment, Geographical Area, Major Customer and Major Supplier Information.
10
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
ii
Recently
Adopted Accounting Standards
Standard
Adoption
Description
Disclosure Impact
ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of
Reference Rate Reform on Financial Reporting along with additional technical improvements and clarifications since issued (Issued March 2020)
The standard provides transitional guidance and optional expedients and exceptions for applying U.S. GAAP to contract modifications and hedging relationships which reference LIBOR or another reference rate expected to be discontinued.
The Company has evaluated the impact of this standard, noting that there is no impact
to our current contracts or hedging relationships. The Company will monitor the impact on future transactions through December 31, 2022.
ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes (Issued December 2019)
The standard simplifies the accounting for income taxes by eliminating certain exceptions in ASC 740 related to the methodology for
calculating income taxes in an interim period. It also clarifies and simplifies other aspects of the accounting for income taxes, improving the consistent application and simplification of U.S. GAAP.
The Company elected to early adopt the standard on a prospective basis. The most significant impact to the Company is the removal of a limit on the tax benefit recognized on pre-tax losses in interim periods. The adoption of this standard removed the limit on the tax benefit recognized on pre-tax losses during an interim period, which allowed the Company to recognize a higher tax benefit in the first
quarter than previously allowable.
ASU 2018-17, Consolidation (Topic 810): Targeted Improvements to Related Party Guidance for Variable Interest Entities (Issued October 2018)
This standard eliminates the requirement that entities consider indirect interests held through related parties under common control in their entirety when assessing whether a decision-making fee is a variable interest. Instead, the reporting entity must consider such indirect interests on a proportionate basis.
The
Company has evaluated the impact of this standard, noting that there is no impact to our current variable interests. We have updated our accounting policies to ensure appropriate treatment if these are entered into in the future. As such, the adoption of this standard did not have an impact on the condensed consolidated financial statements or disclosures.
ASU 2018-15, Intangibles-Goodwill and Other Internal-Use Software (Topic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement that Is a Service Contract(Issued August 2018)
This
standard requires capitalization of implementation costs incurred in a hosting arrangement that is a service contract. This change will better align with requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected.
The Company has evaluated the impact of this standard, noting that we do not have these types of arrangements. We have updated our accounting policies to ensure appropriate treatment if these
are entered into in the future. As such, the adoption of this standard did not have an impact on the condensed consolidated financial statements or disclosures.
ASU 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Topic 715-20): Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans (Issued August 2018)
This standard added requirements for new disclosures such as requiring a narrative description of the reasons for significant gains and losses affecting the benefit obligation for the period and also an explanation of any other significant changes in the benefit
obligation or plan assets that are not otherwise apparent in the other disclosures required by ASC 715. Further, the standard removes some currently required disclosures such as (a) the requirement (for public entities) to disclose the effects of a one-percentage-point change on the assumed health care costs and the effect of this change in rates on service cost, interest cost, and the benefit obligation for postretirement health care benefits and (b) the amounts in accumulated other comprehensive income expected to be recognized in net periodic benefit costs over the next fiscal year.
The Company has evaluated the impact of this standard. We have updated our pension and postretirement disclosure accordingly, which did not have a material impact on the condensed consolidated financial statements.
ASU
2017-04, Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment (Issued January 2017)
This standard removes Step 2 from the goodwill impairment test. As amended, the goodwill impairment test will consist of one step comparing the fair value of a reporting unit with its carrying amount. Under the simplified model, a goodwill impairment is calculated as the difference between the carrying amount of the reporting unit and its fair value, but not to exceed the carrying amount of goodwill allocated to that reporting unit. This standard will need to be considered each time Novelis performs an assessment of goodwill for impairment under the quantitative test.
The
Company has evaluated the impact of this standard. We have updated our goodwill impairment assessment process accordingly, which did not have a material impact on the condensed consolidated financial statements.
/
11
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
ASU
2016-13, Financial Instrument-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments along with additional technical improvements and clarifications since issued. (Issued June 2016)
The standard provides financial statement users with more decision-useful information about expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. The "current expected credit loss" (CECL) model requires the Company to measure all expected credit losses for financial instruments held at the reporting date based
on historical experience, current conditions, and reasonable supportable forecasts.
We have updated our policies and processes for reserves against our financial instruments to factor in expected credit losses. This adoption did not have a material impact on the condensed consolidated financial statements.
ASU 2018-18, Collaborative Arrangements (Topic 808): Clarifying the interaction between Topic 808 and Topic 606 (Issued November 2018)
The standard clarifies the interaction between Topic 808, collaborative agreements, and Topic 806,
Revenue from Contracts with Customers. Targeted improvements served to clarify when transactions between collaborative arrangement participants should be accounted for as revenue under Topic 606.
The Company has evaluated the impact of this standard, noting that the adoption has no impact on our consolidated financial statements. We will apply this guidance to any collaborative arrangements entered into in the future.
ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments
Various
The standard provides various codification updates and improvements to address comments received.
The Company is currently evaluating the impact of this standard.
12
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
2. BUSINESS COMBINATION
On April 14, 2020, Novelis completed its acquisition of i100%
of the issued and outstanding shares of Aleris Corporation, a global supplier of rolled aluminum products, pursuant to an Agreement and Plan of Merger, dated as of July 26, 2018 (the “Merger Agreement”). The closing purchase price of $i2.8 billion consists of $i775 million
less transaction costs for the equity value, as well as approximately $i2.0 billion for the extinguishment of Aleris’ current outstanding debt, and a $i50 million
earn-out payment. The $i775 million base equity payment was reduced by $i64 million
of Aleris transaction costs, resulting in $i711 million of estimated cash for equity consideration. As a result, the acquisition increases the Company’s footprint as an aluminum rolled products manufacturer by expanding the portfolio of services provided to its customers. Refer to Note 3 – Discontinued Operations for more details on
the Duffel and Lewisport divestitures required as a condition of the acquisition. As a condition to the sale of the Duffel plant, we were required by the European Union (EU) to make a €i55 million payment (approximately $i60
million at the date of acquisition) to support capital improvements at the Duffel plant upon sale.
i
The total preliminary calculation of estimated merger consideration paid to Aleris is as follows:
in millions
Preliminary
calculation of estimated Merger consideration
Amount
Estimated cash for equity consideration
(i)
$
i711
Estimated
repayment of Aleris' debt (including prepayment penalties and accrued interest)
(ii)
i1,954
Earn-out consideration
(iii)
i50
Payment
associated with Duffel capital expenditures
(iv)
i60
Preliminary fair value of estimated merger consideration
$
i2,775
(i)Under
the terms of the Merger Agreement, this represents the estimated cash consideration, which is the base consideration for the settlement of all shares of common stock outstanding, including shares issued in connection with the conversion of the 6% Senior Subordinated Exchangeable Notes due 2020 issued by Aleris International, Inc. (the “Exchangeable Notes”) into Aleris common shares, and the settlement of stock options and restricted stock units, less transaction costs of $i64 million. The transaction
costs are removed from the base consideration as these costs were incurred by Aleris prior to the closing date and were not reimbursed by Novelis. Additionally, under the terms of the Merger Agreement, there is a €i8 million (approximately $i9 million
at the date of acquisition) German tax indemnification included in the estimated cash for equity consideration that will be payable to the selling shareholders upon the condition that the existing Aleris German tax receivable is received from the German tax authorities. During the third quarter of fiscal 2021, Novelis settled this payable with the selling shareholders.
(ii)On the closing date, all of the outstanding historical debt of Aleris, except for certain non-recourse multi-currency secured term loan facilities (collectively, the “Zhenjiang Term Loans”), was repaid in connection with the merger. In addition, prepayment penalties and accrued interest of approximately $i12 million
and $i16 million, respectively, associated with the Aleris debt were paid in connection with such repayment.
(iii)Under the terms of the Merger Agreement, this represents the fair value of the earn-out consideration of $i50
million which is based upon Aleris meeting specified commercial margin targets. On the closing date, Aleris had met all of the specified targets in the Merger Agreement and selling shareholders received the $i50 million cash payment.
(iv)In connection with obtaining the regulatory antitrust approvals, the European Commission required Novelis to pay the buyer of Duffel an additional €i55 million(approximately $i60 million at the date of acquisition) to fund capital expenditures that would be required so that Duffel can operate as a standalone business. This amount was paid on September 30, 2020 and is included in "Acquisition of business, net of cash and restricted cash acquired" in the condensed consolidated statements of cash flows.
/
The
acquisition was accounted for as a business combination using the acquisition method of accounting in accordance with ASC 805. The purchase price was allocated to the assets acquired and liabilities assumed based on the estimated fair values at the date of acquisition. The excess of the purchase price over the fair value of the net assets acquired was allocated to goodwill, none of which is expected to be deductible for tax purposes. Goodwill is primarily attributed to synergies from future expected economic benefits, including enhanced revenue growth from expanded capabilities and geographic presence as well as cost savings from duplicative overhead, streamlined operations, and enhanced operational efficiency.
/
13
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
The condensed consolidated balance sheet as of iDecember 31, 2020 includes the assets and liabilities of Aleris, which have been measured at fair value as of the acquisition date. The discontinued operations financial statement line items in the table below relate to Duffel and Lewisport. The preliminary allocation of purchase price recorded for Aleris as of June 30, 2020,
and subsequently revised for measurement period adjustments, was as follows:
(1)In connection with the acquisition of Aleris, the Company acquired two businesses which were required to
be sold. Therefore, such businesses were classified as held for sale and were included within the "Current assets of discontinued operations,""Long–term assets of discontinued operations,""Current liabilities of discontinued operations," and "Long–term liabilities of discontinued operations" line items in the above preliminary allocation of purchase price (see Note 3 – Discontinued Operations). As of December 31, 2020, both of these businesses have been sold and are no longer included in the condensed consolidated balance sheets of Novelis, Inc.
(2)Measurement period adjustment related to the presentational alignment of pending derivative settlements on a gross basis, in accordance with Novelis' policy.
(3)Included in "Prepaid expenses and other current
assets" is $i9 million of restricted cash acquired related to cash deposits restricted for the payment of the Zhenjiang Term Loans.
(4)Included in "Current assets of discontinued operations" is $i41 million
of cash and cash equivalents acquired related to our discontinued operations.
(5)Measurement period adjustment of $ii5/
million related to presentational alignment of certain capitalized software in accordance with Novelis' policy during the third quarter of fiscal 2021.
(6)Measurement period adjustments related to revisions in the valuation of intangible assets based on refinements to key assumptions, such as discount rates and growth rates, of $i261 million and $i52 million
during the second and third quarters of fiscal 2021, respectively.
(7)Measurement period adjustment related to the deferred tax impacts of the measurement period adjustments and other tax adjustments, a decrease of $i34 million and an increase of $i22 million
during the second and third quarters of fiscal 2021, respectively.
(8)Measurement period adjustments related to estimated costs to sell the Duffel and Lewisport businesses, in addition to revisions to key assumptions of the valuation of Lewisport and Duffel's property, plant and equipment, of $i284 million and $i75 million
during the second and third quarters of fiscal 2021, respectively, and revisions to key assumptions related to Lewisport's intangible assets of $i31 million during the second quarter of fiscal 2021.
(9)Measurement period adjustment related to certain uncertain tax positions and customs related adjustments identified during the third quarter of fiscal 2021.
14
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
The fair values of assets acquired and liabilities assumed are preliminary and are based on the information that was available as of the reporting date. The preliminary fair values of the assets acquired and liabilities assumed were determined using the income and cost approaches. In many cases, the determination of the fair values required estimates about discount rates, future expected cash flows, and other future events that are judgmental and subject to change. The fair value measurements are primarily based on significant inputs that are not observable in the market and thus represent a Level 3 measurement in the fair value hierarchy as defined in ASC 820, Fair Value Measurements (ASC 820). Intangible assets consisting of customer relationships, technology, and trade names are valued using the multi-period
excess earnings method (MPEEM), or the relief from royalty (RFR) method, both of which are forms of the income approach. A cost and market approach has been applied, as appropriate, for property and equipment, including land, and inventory.
•Customer relationship intangible assets are valued using the MPEEM method. The significant assumptions used include the estimated annual net cash flows (including appropriate revenue and profit attributable to the asset, retention rate, applicable tax rate, and contributory asset charges, among other factors), the discount rate, reflecting the risks inherent in the future cash flow stream, an assessment of the asset’s life cycle, and the tax amortization benefit, among other factors.
•Technology and trade name intangible assets are valued using the RFR method. The significant assumptions used include
the estimated annual net cash flows (including appropriate revenue attributable to the asset, applicable tax rate, royalty rate, and other factors such as technology related obsolescence rates), the discount rate, reflecting the risks inherent in the future cash flow stream, and the tax amortization benefit, among other factors.
•Inventory has been valued using the replacement cost or market approach, as appropriate. The replacement cost approach, which estimates value by determining the current cost of replacing an asset with another of equivalent economic utility, has been used to determine the estimated replacement cost of raw materials. The market approach has been used to determine the estimated selling price less costs to sale for work in progress and finished goods.
•Property and equipment, including land, are valued using the
cost or market approach, as appropriate. For assets valued using the cost approach, the cost to replace a given asset reflects the estimated reproduction or replacement cost for the property, less an allowance for loss in value due to depreciation. The market approach, which estimates value by leveraging comparable land sale data/listings and qualitatively comparing them to the in-scope properties, has been used to value the land.
•The assumed long-term debt in China has been valued using an income approach. The significant assumptions used include the estimated annual cash flows and interest and credit spreads, among other factors.
•The assumed pension and postretirement liabilities have been valued using an income approach. The significant assumptions used include the estimated annual cash flows, the discount rate, the estimated return
on asset rate, among other factors.
The fair value of the assets acquired includes current accounts receivables of $i268 million related to continuing operations and $i78 million
related to discontinued operations. The gross amount due is $i346 million, of which less than $i1 million
is expected to be uncollectible.
The fair value of the assets acquired includes $i22 million and $i7 million
of operating lease right-of-use assets and finance lease assets, respectively. The fair value of liabilities assumed includes $i9 million and $i7 million
of operating lease liabilities and finance lease liabilities, respectively, of which, $i4 million and $i3 million
of operating lease liabilities and finance lease liabilities, respectively, are current liabilities.
The Company believes that the information provides a reasonable basis for estimating the fair values of the acquired assets and assumed liabilities, but the potential for measurement period adjustments exists based on the Company’s continued review of matters related to the acquisition. We are in the process of analyzing the estimated values of all assets acquired and liabilities assumed including, among other things, finalizing third-party valuations and the determination of certain tax balances; therefore, the allocation of the purchase price is preliminary and subject to measurement period adjustments. The
Company expects to complete the purchase price allocation no later than one year from the acquisition date.
15
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
The amounts, based
on preliminary valuations and subject to final adjustment, allocated to intangible assets are as follows:
in millions
Gross Carrying Amount(1)
Weighted-Average Useful Life
Trade name
$
i10
i2.5
years
Technology
i52
i15.1
years
Customer relationships
i403
i22.5
years
Other intangibles
i2
N/A
Total
$
i467
i21.2
years
(1)In connection with the acquisition of Aleris, Novelis acquired two businesses which we were obligated to sell. As such, gross carrying amounts exclude amounts held for sale (see Note 3 – Discontinued Operations).
/
Since the acquisition date, the results of continuing operations for Aleris of $i1.1 billion
of net sales and $i85 million of net loss have been included within the accompanying condensed consolidated statements of operations for the nine months ended iDecember 31, 2020.
i
The
following unaudited supplemental pro forma combined financial information presents the Company’s results of operations for the three and nine months ended iDecember 31, 2020 and 2019 as if the acquisition of Aleris had occurred on April 1, 2019. The pro forma financial information is presented for comparative purposes only and is not necessarily indicative of the
Company’s operating results that may have actually occurred had the acquisition of Aleris been completed on April 1, 2019. In addition, the unaudited pro forma financial information does not give effect to any anticipated cost savings, operating efficiencies or other synergies that may be associated with the acquisition, or any estimated costs that have been or will be incurred by the Company to integrate the assets and operations of Aleris.
Three
Months Ended December 31,
Nine Months Ended December 31,
in millions
2020
2019
2020
2019
Net sales
$
i3,241
$
i3,165
$
i8,699
$
i10,003
Net
income (loss)
i97
i95
i15
i268
/
The
unaudited pro forma financial information reflects pro forma adjustments to present the combined pro forma results of operations as if the acquisition had occurred on April 1, 2019 to give effect to certain events the Company believes to be directly attributable to the acquisition. These pro forma adjustments primarily include:
•the elimination of Aleris historical depreciation and amortization expense and the recognition of new depreciation and amortization expense;
•an adjustment to interest expense to reflect (i) the additional borrowings of the Company in conjunction with the acquisition (ii) the repayment of
Aleris’ historical debt in conjunction with the acquisition;
•an adjustment to present acquisition-related transaction costs and other one-time costs directly attributable to the acquisition as if they were incurred in the earliest period presented; and
•the related income tax effects of the adjustments noted above.
16
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
3. DISCONTINUED
OPERATIONS
On April 14, 2020, we closed the acquisition of Aleris for $i2.8 billion. See Note 2 – Business Combination for more details on the acquisition and related accounting treatment.
As a result of the antitrust review processes in the EU, the US, and China required for approval of the acquisition, we were obligated to divest Aleris' European and North American automotive assets, including
plants in Duffel, Belgium (Duffel) and Lewisport, Kentucky (Lewisport).
Duffel
On September 30, 2020, we completed the sale of Duffel to Liberty House Group through its subsidiary, ALVANCE, the international aluminum business of the GFG Alliance. Upon closing, we received €i210 million ($i246 million
as of September 30, 2020) in cash and a €i100 million ($i117 million as of September
30, 2020) receivable that is deemed to be contingent consideration subject to the results of a binding arbitration proceeding under German law that is currently underway. The arbitration will determine the responsibility of ALVANCE to Novelis based on the parties’ relative culpability for certain breaches of obligations under the purchase and sale agreement, potentially reduced by certain claims of ALVANCE against Novelis. Arbitration results are inherently uncertain and unpredictable, and there can be no assurance of the result the arbitral tribunal will reach. The arbitrators may award Novelis no more than €i100 million
and may not award any damages to ALVANCE. In addition, we have recorded a €i15 million ($i18 million)
receivable for net debt and working capital adjustments that is outstanding as of December 31, 2020.
We have elected to account for the contingent consideration at fair value and will mark to fair value on a quarterly basis. At September 30, 2020, the estimated fair value of the purchase price subject to arbitration was €i93 million ($i109 million).
We have recorded the contingent consideration in "Other long–term assets — third parties" and changes to the estimated fair value resulting from quarterly revaluations will be recorded to “Net income (loss) from discontinued operations, net of tax." For the periods ended December 31, 2020, the results of operations of Duffel have been presented within "Loss from discontinued operations, net of tax" in the condensed consolidated statements of operations and cash flows of Duffel have been presented as discontinued operations in the condensed consolidated statements of cash flows. For the period ended December 31, 2020, cash flows from the sale of Duffel totaled $i223 million,
which represents $i246 million in cash proceeds less $i23 million
in cash sold.
Lewisport
On November 8, 2020, we entered into a definitive agreement with American Industrial Partners (AIP) for the sale of Lewisport and closed the sale on November 30, 2020. Upon closing, we received $i180 million in cash proceeds. In addition, we have recorded a $i17 million
receivable for net working capital adjustments. For the periods ended December 31, 2020, the results of operations of Lewisport have been presented within "Loss from discontinued operations, net of tax" in the condensed consolidated statements of operations and cash flows of Lewisport have been presented as discontinued operations in the condensed consolidated statements of cash flows.
Loss on Sale of Discontinued Operations
/
As a result of the transactions above, for the nine months ended December 31, 2020 we recorded a loss on sale of discontinued operations of $i170
million, net of taxes, associated with the sales of Duffel and Lewisport. Cash flows from the sales of Duffel and Lewisport are included in the condensed consolidated statements of cash flows as "Net cash provided by investing activities - discontinued operations." An offsetting $i46 million in "Net cash provided by investing activities - discontinued operations" relates primarily to capital expenditures and outflows from the sale of derivative instruments for Duffel and Lewisport during the period prior to their divestiture.
17
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
The
Company's contracts with customers are comprised of purchase orders along with standard terms and conditions. These contracts with customers typically consist of the manufacture of products which represent single performance obligations that are satisfied upon transfer of control of the product to the customer at a point in time. Transfer of control is assessed based on alternative use of the products we produce and our enforceable right to payment for performance to date under the contract terms. Transfer of control and revenue recognition generally occur upon shipment or delivery of the product, which is when title, ownership, and risk of loss pass to the customer and is based on the applicable
shipping terms. The shipping terms vary across all businesses and depend on the product, the country of origin, and the type of transportation (truck, train, or vessel). The length of payment terms can vary per contract, but none extend beyond one year. Revenue is recognized net of any volume rebates or other incentives.
We occasionally receive advance payments to secure product to be delivered in future periods. These advance payments are recorded as deferred revenue, and revenue is recognized as our performance obligations are satisfied throughout the term of the applicable contract.
i
The
following table details the deferred revenue for which our performance obligations have not been satisfied.
(1)Deferred revenue is included in "Accrued expenses and other current liabilities" and "Other long–term liabilities" in our condensed consolidated balance sheet.
/
Certain
of our contracts contain take-or-pay clauses which allow us to recover an agreed upon penalty if a buyer does not purchase contractual minimums as defined in the underlying contract within a set timeframe, generally within one fiscal year. Additionally, certain of our contracts may contain incentive payments to our customers which are deferred and amortized as a reduction to the amount of revenue recorded on a straight-line basis over the term of these contracts. During the current quarter, we recognized $i25 million
in net sales associated with these customer contractual obligations.
We disaggregate revenue from contracts with customers on a geographic basis based on our segment view. This disaggregation also achieves the disclosure objective to depict how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors. We manage our activities on the basis of geographical regions and are organized under ifour
operating segments: North America, South America, Asia, and Europe. See Note 19 – Segment, Geographical Area, Major Customer and Major Supplier Information for further information about our segment revenue.
/
18
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
5. RESTRUCTURING
AND IMPAIRMENT
"Restructuring and impairment, net" includes restructuring costs, impairments, and other related expenses. "Restructuring and impairment, net" for the three and nine months ended December 31, 2020 totaled $i20 million and $i28
million, respectively. Our restructuring charges are primarily related to the reorganization and right sizing of the acquired Aleris business. Of the $i28 million recognized during the nine months ended December 31, 2020, $i26 million
relates to severance and other employee costs and $i2 million relates to other costs.
"Restructuring and impairment, net" for the three and nine months ended December 31, 2019 totaled $i3
million and $i36 million, respectively, and primarily related to portfolio optimization efforts from closures of certain non-core operations in Europe.
As of December 31, 2020, the restructuring liability totaled $i38
million with $i30 million included in "Accrued expenses and other current liabilities" and the remaining is within "Other long–term liabilities" on our accompanying condensed consolidated balance sheet. As of December 31, 2020, the restructuring liability totaled $i23
million for the Europe segment, $i9 million for South America segment, $i4 million for corporate, and $i2
million for the North America segment.
i
The following table summarizes our restructuring liability activity.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
7. CONSOLIDATION
Variable Interest Entities (VIE)
The entity that has a controlling financial interest in a VIE is referred to as the primary beneficiary and consolidates the VIE. An entity is deemed to have a controlling financial interest and is the primary beneficiary of a VIE if it has both the power to direct the activities of the VIE that most significantly
impact the VIE’s economic performance and an obligation to absorb losses or the right to receive benefits that could potentially be significant to the VIE.
Logan Aluminum Inc. (Logan) is a consolidated joint venture in which we hold i40% ownership. Our joint venture partner is Tri-Arrows Aluminum Inc. (Tri-Arrows). Logan processes metal received from Novelis and Tri-Arrows and charges the respective partner a fee to cover expenses. Logan is a thinly capitalized VIE that relies on the regular reimbursement of costs and
expenses from its investors, Novelis and Tri-Arrows, to fund its operations. Novelis is considered the primary beneficiary and consolidates Logan since it has the power to direct activities that most significantly impact Logan's economic performance, an obligation to absorb expected losses, and the right to receive benefits that could potentially be significant.
Other than the contractually required reimbursements, we do not provide other material support to Logan. Logan's creditors do not have recourse to our general credit. There are significant other assets used in the operations of Logan that are not part of the joint venture, as they are directly owned and consolidated by Novelis or Tri-Arrows.
i
The
following table summarizes the carrying value and classification of assets and liabilities owned by the Logan joint venture and consolidated in our condensed consolidated balance sheets.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
8. INVESTMENT IN AND ADVANCES TO NON-CONSOLIDATED AFFILIATES AND RELATED PARTY TRANSACTIONS
Included in the accompanying condensed consolidated financial statements are transactions and balances arising from business we conducted with our equity method non-consolidated affiliates. See Note 19 – Segment, Geographical Area, Major Customer and Major
Supplier Information for the respective carrying values by segment as reported in our condensed consolidated balance sheets.
Alunorf
Aluminium Norf GmbH (Alunorf) is a joint venture investment between Novelis Deutschland GmbH, a subsidiary of Novelis, and Hydro Aluminum Deutschland GmbH (Hydro). Each of the parties to the joint venture holds a i50% interest in the equity, profits and losses, shareholder voting, management control, and rights to use the production capacity of the facility.
Alunorf tolls aluminum and charges the respective partner a fee to cover the associated expense.
UAL
Ulsan Aluminum, Ltd. (UAL) is a joint venture investment between Novelis Korea Ltd., a subsidiary of Novelis, and Kobe Steel Ltd (Kobe). UAL currently produces flat-rolled aluminum products exclusively for Novelis and Kobe. As of December 31, 2020, Novelis and Kobe both hold i50% interests in UAL. UAL is a thinly capitalized VIE that relies
on the regular reimbursement of costs and expenses from its investors, Novelis and Kobe. UAL is controlled by an equally represented Board of Directors in which neither entity has sole decision-making ability regarding production operations or other significant decisions. Furthermore, neither entity has the ability to take the majority share of production or associated costs over the life of the joint venture. Our risk of loss is limited to the carrying value of our investment in and inventory-related receivables from UAL. UAL's creditors do not have recourse to our general credit. Therefore, UAL is accounted for as an equity method investment, and Novelis is not considered the primary beneficiary.
AluInfra
AluInfra Services (AluInfra) is a joint venture investment between Novelis Switzerland SA (Novelis Switzerland), a subsidiary of Novelis, and Constellium N.V. (Constellium). Each
of the parties to the joint venture holds a i50% interest in the equity, profits and losses, shareholder voting, management control, and rights to use the facility.
i
The
following table summarizes the results of operations of our equity method affiliates in the aggregate and the nature and amounts of significant transactions we have with our non-consolidated affiliates. The amounts in the table below are disclosed at 100% of the operating results of these affiliates.
Three Months Ended
December
31,
Nine Months Ended
December 31,
in millions
2020
2019
2020
2019
Net sales
$
i307
$
i285
$
i872
$
i893
Costs
and expenses related to net sales
i311
i285
i862
i880
Income
tax provision
(i2)
i—
i3
i3
Net
income
$
(i2)
$
i—
$
i7
$
i10
Purchases
of tolling services from Alunorf
$
i60
$
i59
$
i185
$
i186
/i
The
following table describes the period-end account balances, shown as related party balances in the accompanying condensed consolidated balance sheets. We had no other material related party balances with non-consolidated affiliates.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Transactions with Hindalco
We occasionally have related party transactions with Hindalco. During the three and nine months ended December 31, 2020 and 2019, we recorded "Net sales" of less than $i1 million between Novelis and Hindalco related primarily to sales
of equipment and other services. As of December 31, 2020 and March 31, 2020, there was $i1 million of outstanding "Accounts receivable, net — related parties" net of "Accounts payable — related parties" related to transactions with Hindalco. During each of the three and nine months ended December 31, 2020 and 2019, Novelis purchased
less than $i1 million in raw materials from Hindalco.
23
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Floating rate Incremental Term Loan Facility, due January 2025
i1.97
%
i769
(i16)
i753
i—
i—
i—
Aleris
Aluminum (Zhenjiang) Co., Ltd.
Zhenjiang Term Loans, due May 2024
i5.38
%
i139
i2
i141
i—
i—
i—
Novelis
Corporation
i4.75%
Senior Notes, due January 2030
i4.75
%
i1,600
(i29)
i1,571
i1,600
(i32)
i1,568
i5.875%
Senior Notes, due September 2026
i5.875
%
i1,500
(i14)
i1,486
i1,500
(i16)
i1,484
Novelis
China
Bank loans, due through June 2027 (CNY 489 million)
i4.90
%
i75
i—
i75
i36
i—
i36
Other
Finance
lease obligations and other debt, due through June 2028
i2.44
%
i23
i—
i23
i1
i—
i1
Total
debt
$
i6,585
$
(i80)
$
i6,505
$
i5,610
$
(i70)
$
i5,540
Less:
Short–term borrowings
(i151)
i—
(i151)
(i176)
i—
(i176)
Less:
Current portion of long–term debt
(i59)
i—
(i59)
(i19)
i—
(i19)
Long–term
debt, net of current portion
$
i6,375
$
(i80)
$
i6,295
$
i5,415
$
(i70)
$
i5,345
____________________
(1)Interest
rates are the stated rates of interest on the debt instrument (not the effective interest rate) as of December 31, 2020 and therefore exclude the effects of related interest rate swaps and accretion/amortization of fair value adjustments as a result of purchase accounting in connection with Hindalco's purchase of Novelis and accretion/amortization of debt issuance costs related to refinancing transactions and additional borrowings. We present stated rates of interest because they reflect the rate at which cash will be paid for future debt service.
(2)Amounts include unamortized debt issuance costs, fair value adjustments, and debt discounts.
i
Principal
repayment requirements for our total debt over the next five years and thereafter using exchange rates as of December 31, 2020 for our debt denominated in foreign currencies are as follows (in millions).
Short-term borrowings and current portion of long-term debt due within one year
$
i210
2
years
i2,365
3 years
i54
4
years
i62
5 years
i752
Thereafter
i3,142
Total
$
i6,585
/
Short-Term
Borrowings
As of December 31, 2020, our short-term borrowings totaled $i151 million, consisting of $i68 million
in Brazil loans (BRL i354 million), $i42 million in China loans (CNY i274
million), and $i41 million in Korea loans (KRW i44 billion).
/
24
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Short Term Credit Agreement
In April 2020, Novelis Holdings Inc. borrowed a $i1.1 billion short term loan under our existing short term credit agreement (the "Short Term Credit Agreement") for purposes of funding a portion of the consideration payable in the acquisition of Aleris. The short term loans are not subject to any amortization payments and accrue interest at
LIBOR (as defined in the Short Term Credit Agreement) plus i0.95%. The short term loans are guaranteed by the same entities that have provided guarantees under the Company's five-year secured term loan credit facility ("Term Loan Facility") and asset based loan facility ("ABL Revolver"). The Short Term Credit Agreement contains voluntary prepayment provisions, affirmative and negative covenants, and events of default substantially similar to those under the Term
Loan Facility, other than changes to reflect the unsecured nature of the short term loans. We will be required to apply the net cash proceeds we receive from any debt and equity raised on or after the borrowing date to repay the short term loans, subject to certain exceptions. We will be required to apply the net cash proceeds we receive on or after the borrowing date from asset sales required by regulatory approvals related to the acquisition of Aleris to repay the short term loans, the incremental term loans, and the existing term loans on a pro rata basis, subject to certain reinvestment rights. We will be required to apply the net cash proceeds we receive from any other asset sales, casualty losses, or condemnations on or after the borrowing date to repay short term loans, subject to certain reinvestment rights and exceptions, but only to the extent any funds remain after making any mandatory prepayments owed under the Term Loan Facility and the agreement governing
our ABL Revolver.
In August 2020, we entered into an amendment (the “Short Term Credit Agreement Amendment”) to the Short Term Credit Agreement. This amendment extends the maturity of the $i1.1 billion facility from April 13, 2021 (the “Original Short Term Maturity Date”) to April 13, 2022 (the “Extended Short Term Maturity Date”). Under the terms of the Short Term Credit Agreement Amendment, $i1,049 million
of the outstanding short term loans will cashlessly roll on the Original Short Term Maturity Date into new short term loans maturing on the Extended Short Term Maturity Date, and existing lenders have provided commitments to extend $i51 million of new short term loans, with a maturity date of the Extended Short Term Maturity Date, on the Original Short Term Maturity Date to refinance the remaining outstanding short term loans. The Short Term Credit Agreement Amendment provides that the Company
and certain of its U.S. and Canadian subsidiaries will grant a third-ranking security interest, subject to the terms of our existing intercreditor agreement, dated as of December 17, 2010, in certain assets to secure the Amended Short Term Credit Agreement if the short term loans remain outstanding on the Original Short Term Maturity Date. The short term loans accrue interest at LIBOR (as defined in the Amended Short Term Credit Agreement) plus (a) through the Original Short Term Maturity Date, i0.95%,
(b) from the Original Short Term Maturity Date through October 13, 2021, i1.50%, and (c) from October 14, 2021 through the Extended Short Term Maturity Date, i2.00%
per annum. The Short Term Credit Agreement Amendment also modifies certain other credit agreement terms to increase our operating flexibility.
As of December 31, 2020, $i600 million was outstanding under the Short Term Credit Agreement, resulting from $i500 million
in principal payments made during the third quarter of fiscal 2021. We were in compliance with the covenants of our Short Term Credit Agreement as of December 31, 2020.
Term Loan Facility
In April 2020, Novelis Acquisitions LLC borrowed $i775 million under the Company's existing Term Loan Facility prior to its merger into Aleris Corporation. The proceeds
of the incremental term loans were used to pay a portion of the consideration payable in the acquisition of Aleris (including the repayment of Aleris' outstanding indebtedness) as well as fees and expenses related to the acquisition and the incremental term loans. The incremental term loans will mature on January 21, 2025, subject to i0.25% quarterly amortization payments. The incremental term loans accrue interest at LIBOR (as defined in the Term Loan Facility) plus i1.75%.
The incremental term loans are subject to the same voluntary and mandatory prepayment provisions, affirmative and negative covenants, and events of default as those applicable to the existing term loans outstanding under our Term Loan Facility. The incremental term loans are guaranteed by the same entities that have provided guarantees under our Term Loan Facility and secured on a pari passu basis with our existing term loans by security interests in substantially all of the assets of the Company and the guarantors, subject to our existing intercreditor agreement.
As of December 31, 2020, we were in compliance with the covenants of our Term Loan Facility.
25
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Zhenjiang Loans
Through the acquisition of Aleris on April 14, 2020, the Company assumed $i141
million in debt borrowed by Aleris Aluminum (Zhenjiang) Co., Ltd. ("Aleris Zhenjiang") under a loan agreement comprised of non-recourse multi-currency secured term loan facilities and a revolving facility (collectively the "Zhenjiang Loans"), which consisted of a $i29 million U.S. dollar term loan facility, a $i112
million (RMB i791 million) term loan facility (collectively, the “Zhenjiang Term Loans”) and a revolving facility (the “Zhenjiang Revolver”). The Zhenjiang Revolver has certain restrictions that have limited our ability to borrow funds on the Zhenjiang Revolver and will continue to limit our ability to borrow funds in the future. All borrowings under the Zhenjiang Revolver mature May 18, 2021. As of December 31, 2020, we had no amounts outstanding under the Zhenjiang
Revolver. The Zhenjiang Loans contain certain customary covenants and events of default. The Zhenjiang Loans require Aleris Zhenjiang to, among other things, maintain a certain ratio of outstanding term loans to invested equity capital. In addition, among other things and subject to certain exceptions, Aleris Zhenjiang is restricted in its ability to (1) repay loans extended by the shareholder of Aleris Zhenjiang prior to repaying loans under the Zhenjiang Loans or make the Zhenjiang Loans junior to any other debts incurred of the same class for the project, (2) distribute any dividend or bonus to the shareholder of Aleris Zhenjiang before fully repaying the loans under the Zhenjiang Loans, (3) dispose of any assets in a manner that will materially impair its ability to repay debts, (4) provide guarantees to third parties above a certain threshold that use assets that are financed by the Zhenjiang Loans, (5) permit any individual investor or key management personnel
changes that result in a material adverse effect, (6) use any proceeds from the Zhenjiang Loans for any purpose other than as set forth therein, and (7) enter into additional financing to expand or increase the production capacity of the project to manufacture large scale and high strength aluminum alloy plates. The interest rate on the U.S. dollar term facility is six month U.S. dollar LIBOR plus i5.0% and the interest rate on the RMB term facility and the Zhenjiang Revolver is i110%
of the base rate applicable to any loan denominated in RMB of the same tenor, as announced by the People’s Bank of China. As of December 31, 2020, $i141 million was outstanding on the Zhenjiang Term Loans and the final maturity date for all borrowings is May 16, 2024. The repayment of borrowings under the Zhenjiang Term Loans is due semi-annually.
As of December 31, 2020, we were in compliance with the covenants
of our Zhenjiang Loans.
Senior Notes
As of December 31, 2020, we were in compliance with the covenants of our Senior Notes.
ABL Revolver
As of December 31, 2020, the revolver had ino balance, and $i44
million was utilized for letters of credit. Additionally, there was $i1.0 billion in remaining availability, including $i131
million of remaining availability that can be utilized for letters of credit, and we were in compliance with the covenants of our ABL Revolver Facility.
Refer to our Form 10-K for the fiscal year ended March 31, 2020 for details on the issuances and respective covenants of our senior notes, short term credit agreement, and senior secured credit facilities.
26
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
10. SHARE-BASED
COMPENSATION
During the nine months ended December 31, 2020, we granted i4,961,987 Hindalco phantom restricted stock units (RSUs) and i6,849,084
Hindalco Stock Appreciation Rights (Hindalco SARs). Total compensation expense was $i13 million and $i25
million for the three and nine months ended December 31, 2020, respectively. Total compensation expense was $i5 million and $i11
million for the three and nine months ended December 31, 2019, respectively. As of December 31, 2020, the outstanding liability related to share-based compensation was $i26 million.
The cash payments made to settle all SAR liabilities were $i2
million and $i3 million in the nine months ended December 31, 2020 and 2019, respectively. Total cash payments made to settle RSUs were $i4
million and $i9 million in the nine months ended December 31, 2020 and 2019, respectively. Unrecognized compensation expense related to the non-vested Hindalco SARs (assuming all future performance criteria are met) was $i8
million, which is expected to be recognized over a weighted average period of i1.4 years. Unrecognized compensation expense related to the RSUs was $i11
million, which will be recognized over the remaining weighted average vesting period of i1.5 years.
/
For a further description of authorized long-term incentive plans (LTIPs), including Hindalco SARs, RSUs, and Novelis Performance
Units, please refer to our Form 10-K for the fiscal year ended March 31, 2020.
27
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
11. POSTRETIREMENT
BENEFIT PLANS
In connection with the acquisition of Aleris Corporation, the Company acquired postretirement benefit plans covering certain employees in Europe and the United States. Upon acquisition, the Company recognized the funded status of the defined benefit plans as an asset or a liability within other long-term assets or other long-term liabilities in the consolidated balance sheet. The plan assets are recognized at fair value. The Company recognizes actuarial gains and losses and prior service costs in the consolidated balance sheet and recognizes changes in these amounts during the year in which changes occur through other comprehensive income. The
Company uses various assumptions when computing amounts relating to its defined benefit pension plan obligations and their associated expenses (including the discount rate and the expected rate of return on plan assets).
During the second quarter of fiscal 2021, Novelis announced the freeze of future benefit accruals under the Novelis Pension Plan and the Terre Haute Pension Plan in the U.S., effective December 31, 2020. Novelis elected to remeasure both plans’ plan assets and obligations as of August 31, 2020, which was the nearest calendar month-end date to the announcements of said freezes. A curtailment loss of $i1 million
was recorded related to the Terre Haute plan.
i
Components of net periodic benefit cost for all of our postretirement benefit plans are shown in the table below.
(1)Service
cost is included within "Cost of goods sold (exclusive of depreciation and amortization)" and "Selling, general and administrative expenses" while all other cost components are recorded within "Other (income) expenses, net."
Service costs of $i1 million, interest cost of $i1 million,
and expected return on assets of $i2 million included in the table above, for the three months ended December 31, 2020, relate to discontinued operations. The average expected long-term rate of return on all plan assets is i5.3%
in fiscal 2021.
/
28
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Employer Contributions to Plans
For pension plans, our policy is to fund an amount required to provide for contractual benefits attributed to service to date, and amortize unfunded actuarial liabilities typically over periods of i15
years or less. We also participate in savings plans in Canada and the U.S., as well as defined contribution pension plans in the U.S., U.K., Canada, Germany, Italy, Switzerland, and Brazil. iWe contributed the following amounts to all plans.
Three
Months Ended
December 31,
Nine Months Ended
December 31,
in millions
2020
2019
2020
2019
Funded pension plans
$
i5
$
i8
$
i54
$
i46
Unfunded
pension plans
i4
i3
i11
i8
Savings
and defined contribution pension plans
i11
i8
i29
i25
Total
contributions
$
i20
$
i19
$
i94
$
i79
Contributions
to funded pension plans of $i5 million and unfunded pension plans of $i1 million
are attributable to discontinued operations. During the remainder of fiscal 2021, we expect to contribute an additional $i19 million to our funded pension plans, of which $i1 million
relate to discontinued operations, $i5 million to our unfunded pension plans, and $i8
million to our savings and defined contribution pension plans.
29
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
12. CURRENCY LOSSES (GAINS)
i
The
following currency losses are included in "Other (income) expenses, net" in the accompanying condensed consolidated statements of operations.
Three Months Ended
December 31,
Nine Months Ended
December
31,
in millions
2020
2019
2020
2019
Loss on remeasurement of monetary assets and liabilities, net
$
i13
$
i12
$
i5
$
i6
Gain
recognized on balance sheet remeasurement currency exchange contracts, net
(i15)
(i12)
(i4)
(i4)
Currency
(gains) losses, net
$
(i2)
$
i—
$
i1
$
i2
/i
The
following currency gains (losses) are included in "Accumulated other comprehensive loss," net of tax and "Noncontrolling interests" in the accompanying condensed consolidated balance sheets.
Total
derivatives not designated as hedging instruments
$
i116
$
i—
$
(i124)
$
(i1)
$
(i9)
Total
derivative fair value
$
i202
$
i—
$
(i214)
$
(i15)
$
(i27)
____________________
(1)The
noncurrent portions of derivative assets and liabilities are included in "Other long–term assets" and in "Other long–term liabilities," respectively, in the accompanying condensed consolidated balance sheets.
//
31
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Metal
We use
derivative instruments to preserve our conversion margins and manage the timing differences associated with metal price lag. We use over-the-counter derivatives indexed to the London Metals Exchange (LME) (referred to as our "aluminum derivative forward contracts") to reduce our exposure to fluctuating metal prices associated with the period of time between the pricing of our purchases of inventory and the pricing of the sale of that inventory to our customers, which is known as "metal price lag." We also purchase forward LME aluminum contracts simultaneously with our sales contracts with customers that contain fixed metal prices. These LME aluminum forward contracts
directly hedge the economic risk of future metal price fluctuations to better match the selling price of the metal with the purchase price of the metal. The volatility in local market premiums also results in metal price lag.
Price risk exposure arises from commitments to sell aluminum in future periods at fixed prices. We identify and designate certain LME aluminum forward contracts as fair value hedges of the metal price risk associated with fixed price sales commitments that qualify as firm commitments. We did not have any outstanding aluminum forward purchase contracts designated as fair value hedges as of December 31, 2020 and March 31, 2020.
Price
risk arises due to fluctuating aluminum prices between the time the sales order is committed and the time the order is shipped. We identify and designate certain LME aluminum forward purchase contracts as cash flow hedges of the metal price risk associated with our future metal purchases that vary based on changes in the price of aluminum. Generally, such exposures do not extendbeyond two years in length. The average duration of undesignated contracts is less than one year.
Price risk exposure arises due to the timing lag between the LME based pricing of raw material aluminum purchases and the LME based pricing of finished product sales. We identify and designate certain LME aluminum forward sales
contracts as cash flow hedges of the metal price risk associated with our future metal sales that vary based on changes in the price of aluminum. Generally, such exposures do not extend beyond itwo years in length. The average duration of undesignated contracts is less than ione
year.
In addition to aluminum, we entered into LME copper and zinc, as well as LMP forward contracts. As of December 31, 2020 and March 31, 2020, the fair value of these contracts represented an asset of $i6 million and a liability of less than $i1
million, respectively. These contracts are undesignated with an average duration of less than ithree years.
i
The
following table summarizes our metal notional amounts in kilotonnes (kt). One kt is 1,000 metric tonnes.
We use foreign exchange forward contracts, cross-currency swaps and options to manage our exposure to changes in exchange rates. These exposures arise from recorded assets and liabilities, firm commitments and forecasted cash flows denominated in currencies other than the functional currency of certain operations.
We use foreign currency contracts to hedge expected future foreign currency transactions, which include capital expenditures. These contracts cover the same periods as known or expected exposures. We had total notional amounts of $i862
million and $i680 million in outstanding foreign currency forwards designated as cash flow hedges as of December 31, 2020 and March 31, 2020, respectively.
We use foreign currency contracts to hedge our foreign currency exposure to our net investment in foreign subsidiaries.
We did not have any outstanding foreign currency forwards designated as net investment hedges as of December 31, 2020 and March 31, 2020.
As of December 31, 2020 and March 31, 2020, we had outstanding foreign currency exchange contracts with a total notional amount of $i880
million and $i620 million, respectively, to primarily hedge balance sheet remeasurement risk, which were not designated as hedges. Contracts representing the majority of this notional amount will mature during the fourth quarter of fiscal year 2021 and offset the remeasurement impact.
32
Novelis Inc.
NOTES
TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Energy
We own an interest in an electricity swap contract to hedge our exposure to fluctuating electricity prices, which matures on January 5, 2022. As of December 31, 2020 and March 31, 2020, less than i1
million and i1 million of notional megawatt hours was outstanding, respectively. The fair value of this swap was a liability of $i3 million and $i6
million, respectively. The electricity swap is designated as a cash flow hedge.
We use natural gas forward purchase contracts to manage our exposure to fluctuating energy prices in North America. We had a notional of i14 million MMBTUs designated as cash flow hedges as of December 31, 2020, and the fair value was a liability of $i1
million. There was a notional of i15 million MMBTU forward contracts designated as cash flow hedges as of March 31, 2020 and the fair value was a liability of $i5
million. As of December 31, 2020 and March 31, 2020, we had notionals of i1 million and less than i1
million MMBTU forward contracts that were not designated as hedges, respectively. The fair value of forward contracts not designated as hedges as of December 31, 2020 and March 31, 2020 were both a liability of less than $i1 million. The average duration of undesignated contracts
is three years in length. One MMBTU is the equivalent of one decatherm, or one million British Thermal Units.
We use diesel fuel forward contracts to manage our exposure to fluctuating fuel prices in North America. We had a notional of i4 million gallons designated as cash flow hedges as of December 31, 2020, and the fair value was a liability of $i1
million. There was a notional of i7 million gallons designated as cash flow hedges as of March 31, 2020, and the fair value was a liability of $i4
million. As of December 31, 2020 and March 31, 2020, all of our diesel forward contracts were designated as hedges.
In connection with the acquisition of Aleris, the Company acquired a portfolio of derivative financial instruments executed to hedge metal, foreign currency and energy price risk exposures.
Historically, Aleris did not designate derivative financial instruments as hedges and therefore, both realized and unrealized gains and losses on derivatives were recorded immediately in the condensed consolidated statement of operations. As of December 31, 2020, we had certain Aleris LME aluminum forward sales contracts designated as cash flow hedges of the metal price risk associated with our future metal sales and certain foreign currency exchange contracts designated as hedges of expected future foreign currency transactions.
i
The
following table summarizes the gains (losses) associated with the change in fair value of derivative instruments not designated as hedges and the excluded portion of designated derivatives recognized in "Other (income) expenses, net." Gains (losses) recognized in other line items in the condensed consolidated statement of operations are separately disclosed within this footnote.
Gain
(loss) recognized in "Other (income) expenses, net"
i26
i17
(i12)
i8
Derivative
instruments designated as hedges
Gain recognized in "Other (income) expenses, net"(2)
i—
i—
i—
i2
Total
gain (loss) recognized in "Other (income) expenses, net"
$
i26
$
i17
$
(i12)
$
i10
Gain
recognized on balance sheet remeasurement currency exchange contracts, net
$
i15
$
i12
$
i4
$
i4
Realized
losses, net
(i2)
(i1)
(i2)
(i9)
Unrealized
gains (losses) on other derivative instruments, net
i13
i6
(i14)
i15
Total
gain (loss) recognized in "Other (income) expenses, net"
$
i26
$
i17
$
(i12)
$
i10
_________________________
(1)Includes
amounts related to natural gas and diesel swaps not designated as hedges and electricity swap settlements.
/
33
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
The
following table summarizes the impact on AOCI and earnings of derivative instruments designated as cash flow hedges. Within the next twelve months, we expect to reclassify $i36 million of losses from AOCI to earnings, before taxes.
Amount of Gain (Loss)
Recognized in OCI (Effective Portion)
Amount of Gain (Loss) Recognized in OCI (Effective Portion)
Amount of Gain (Loss) Recognized in "Other (Income) Expenses, net" (Excluded Portion)
Amount of Gain (Loss) Recognized in “Other (Income) Expenses, net” (Ineffective and Excluded Portion)
Income
from continuing operations before income tax provision
i20
(i1)
i18
(i11)
Income
tax provision
$
(i49)
$
i6
$
(i42)
$
i37
Net
(loss) gain
_________________________
(1)Includes amounts related to electricity, natural gas, and diesel swaps.
/
34
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
The following tables summarize the location and amount of gains (losses) that were reclassified from "Accumulated other comprehensive income (loss)"
into earnings and the amount excluded from the assessment of effectiveness for the periods presented.
Amount
excluded from effectiveness testing recognized in earnings based on changes in fair value
$
i—
$
i—
$
i—
$
i—
$
i—
$
i—
$
i—
$
i—
$
i—
$
i2
35
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
14. ACCUMULATED OTHER COMPREHENSIVE LOSS
i
The
following tables summarize the change in the components of "Accumulated other comprehensive income (loss)," net of tax and excluding "Noncontrolling interest," for the periods presented.
(1)For
additional information on our cash flow hedges, see Note 13 – Financial Instruments and Commodity Contracts.
(2)For additional information on our postretirement benefit plans, see Note 11 – Postretirement Benefit Plans.
(3)Amounts reclassified from AOCI relate to currency translation are due to the sale of Duffel.
//
36
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
15. FAIR VALUE MEASUREMENTS
We record certain assets and liabilities, primarily derivative instruments, on our condensed consolidated balance sheets at fair value. We also disclose the fair values of certain financial instruments, including debt and loans receivable, which are not recorded at fair value. Our objective in measuring fair value is to estimate an exit price in
an orderly transaction between market participants on the measurement date. We consider factors such as liquidity, bid/offer spreads and nonperformance risk, including our own nonperformance risk, in measuring fair value. We use observable market inputs wherever possible. To the extent observable market inputs are not available, our fair value measurements will reflect the assumptions we used. We grade the level of the inputs and assumptions used according to a three-tier hierarchy:
Level 1 - Unadjusted quoted prices in active markets for identical, unrestricted assets or liabilities we have the ability to access at the measurement date.
Level 2 - Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
Level 3 - Unobservable inputs for which there is little or
no market data, which require us to develop our own assumptions based on the best information available as what market participants would use in pricing the asset or liability.
The following section describes the valuation methodologies we used to measure our various financial instruments at fair value, including an indication of the level in the fair value hierarchy in which each instrument is generally classified.
For certain derivative contracts with fair values based upon trades in liquid markets, such as aluminum, zinc, copper, foreign exchange, natural gas and diesel fuel forward contracts
and options, valuation model inputs can generally be verified and valuation techniques do not involve significant judgment. The fair values of such financial instruments are generally classified within Level 2 of the fair value hierarchy.
The majority of our derivative contracts are valued using industry-standard models with observable market inputs as their basis, such as time value, forward interest rates, volatility factors, and current (spot) and forward market prices. We generally classify these instruments within Level 2 of the valuation hierarchy. Such derivatives include interest rate swaps, cross-currency swaps, foreign currency contracts, aluminum, copper and zinc forward contracts,
natural gas and diesel fuel forward contracts.
We classify derivative contracts that are valued based on models with significant unobservable market inputs as Level 3 of the valuation hierarchy. Our electricity swap, which is our only Level 3 derivative contract, represents an agreement to buy electricity at a fixed price at our Oswego, New York facility. Forward prices are not observable for this market, so we must make certain assumptions based on available information we believe to be relevant to market participants. We use observable forward prices for a geographically nearby market and adjust for 1) historical spreads between the cash prices of the
two markets, and 2) historical spreads between retail and wholesale prices.
For the electricity swap, the average forward price at December 31, 2020, estimated using the method described above, was $i39 per megawatt hour, which represented an approximately $i4
premium over forward prices in the nearby observable market. The actual rate from the most recent swap settlement was approximately $i34 per megawatt hour. Each $1 per megawatt hour decline in price decreases the valuation of the electricity swap by less than $i1
million.
For Level 2 and 3 of the fair value hierarchy, where appropriate, valuations are adjusted for various factors such as liquidity, bid/offer spreads and credit considerations (nonperformance risk). We regularly monitor these factors along with significant market inputs and assumptions used in our fair value measurements and evaluate the level of the valuation input according to the fair value hierarchy. This may result in a transfer between levels in the hierarchy from period to period. As of December 31, 2020 and March 31, 2020, we did not have any Level 1 derivative contracts. No amounts were transferred between levels in the fair value hierarchy.
All of the
Company's derivative instruments are carried at fair value in the statements of financial position prior to considering master netting agreements.
/
37
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
The
following table presents our derivative assets and liabilities which were measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as of December 31, 2020 and March 31, 2020. The table below also discloses the net fair value of the derivative instruments after considering the impact of master netting agreements.
(1)Amounts
represent the impact of legally enforceable master netting agreements that allow the Company to settle positive and negative positions with the same counterparties.
There were no unrealized gains (losses) recognized in "Other (income) expenses, net" for the three and nine months ended December 31, 2020 related to Level 3 financial instruments.
38
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
The
following table presents a reconciliation of fair value activity for Level 3 derivative contracts.
(3)Included in "Net change in fair value of effective portion of cash flow hedges."
/
In addition to our derivative assets and liabilities held at fair value, we have a Level 3 receivable related to the contingent consideration for the sale of Duffel to ALVANCE. At closing on September 30, 2020, we recorded a receivable at a fair value of €i93 million
($i109 million) measured based on the anticipated outcome, timeline of arbitration of greater than one year, and a discount rate of 5%. As of December 31, 2020, the fair value has been adjusted for the accretion of imputed interest to €i94 million
($i114 million). This imputed interest is included "Net income from continuing operations" on our condensed consolidated statements of operations. See Note 3 – Discontinued Operations for more information.
Financial Instruments Not Recorded at Fair Value
i
The
table below presents the estimated fair value of certain financial instruments not recorded at fair value on a recurring basis. The table excludes finance leases and short-term financial assets and liabilities for which we believe carrying value approximates fair value. We value long-term receivables and long-term debt using Level 2 inputs. Valuations are based on either market and/or broker ask prices when available or on a standard credit adjusted discounted cash flow model using market observable inputs.
Total
debt — third parties (excluding finance leases and short-term borrowings)
i6,331
i6,644
i5,364
i5,267
/
39
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
16. OTHER EXPENSES, NET
i
"Other
(income) expenses, net" consists of the following.
Three Months Ended
December 31,
Nine Months Ended
December 31,
in
millions
2020
2019
2020
2019
Currency (gains) losses, net(1)
$
(i2)
$
i—
$
i1
$
i2
Unrealized
(gains) losses on change in fair value of derivative instruments, net(2)
(i13)
(i6)
i14
(i15)
Realized
losses on change in fair value of derivative instruments, net(2)
i2
i1
i2
i9
Loss
(gain) on sale of assets, net
i2
i1
i—
(i1)
Gain
on Brazilian tax litigation, net(3)
i—
(i8)
i—
(i7)
Interest
income
(i3)
(i2)
(i7)
(i8)
Non-operating
net periodic benefit cost(4)
i7
i8
i27
i23
Charitable
contribution(5)
i—
i—
i50
i—
Other,
net
i—
i3
(i1)
i—
Other
(income) expenses, net
$
(i7)
$
(i3)
$
i86
$
i3
_________________________
(1)Includes
"Gain recognized on balance sheet remeasurement currency exchange contracts, net." See Note 12 – Currency Losses (Gains) for further details.
(2)See Note 13 – Financial Instruments and Commodity Contracts for further details.
(3)See Note 18 – Commitments and Contingencies for further details.
(4)Represents net periodic benefit cost, exclusive of service cost for the Company's pension and other post-retirement plans.
(5)Represents
a charitable contribution for COVID-19 relief.
//
40
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
17. INCOME
TAXES
For the three and nine months ended December 31, 2020, we had an effective tax rate of i29% and i30%,
respectively. For the three and nine months ended December 31, 2019, we had an effective tax rate of i31% and i30%,
respectively. These tax rates are primarily due to the results of operations taxed at foreign statutory tax rates that differ from the 25% Canadian tax rate, including withholding taxes, changes to the Brazilian real foreign exchange rate, and certain other non-deductible expenses, offset by tax credits.
As of December 31, 2020, we had a net deferred tax asset of $i33 million. This amount included gross deferred tax assets of approximately $i1.6
billion and a valuation allowance of $i819 million. It is reasonably possible that our estimates of future taxable income may change within the next twelve months resulting in a change to the valuation allowance in one or more jurisdictions.
Tax authorities continue to examine certain of our tax filings for fiscal years 2013 through 2016. As a result of audit settlements, judicial decisions, the filing of amended tax returns, or the expiration of statutes of limitations, our reserves for unrecognized tax benefits,
as well as reserves for interest and penalties, are not expected to decrease in the next twelve months. In the current period, reserves of approximately $i1.4 million were released due to settlement of a Korea audit. With few exceptions, tax returns for all jurisdictions for all tax years before 2010 are no longer subject to examination by taxing authorities.
On March
27, 2020, the Coronavirus Aid, Relief and Economic Security (CARES) Act was enacted and signed into law in the United States. Certain provisions of the CARES Act impacted the 2020 income tax provision computations by the Company and were reflected in the fourth quarter of fiscal 2020, or the period of enactment. The CARES Act contains modifications on the limitation of business interest for tax years beginning in 2019 (fiscal 2020) and 2020 (fiscal 2021). The modifications to Section 163(j) increase the allowable business interest deduction from 30% to 50% of adjusted taxable income (ATI) as well as allow the election to apply 2019 ATI to compute 163(j) for the current year. This modification significantly increased the allowable interest expense deduction of the Company and resulted in significantly
less taxable income for the fiscal year ended March 31, 2020 and increased the tax losses for the quarter ended iDecember 31, 2020.
Prior to being acquired by Novelis, Aleris entities had significant attributes in the U.S., Germany, and China which required evaluation after the acquisition. For U.S. purposes, a corporation’s ability to deduct its U.S. NOL Carryforwards and to utilize certain other available tax attributes can be substantially constrained under the general annual limitation
rules of IRC Section 382 if it undergoes an ownership change defined as a cumulative stock ownership change among material stockholders exceeding 50% during a rolling three-year period. Based on our preliminary analysis under Section 382, we believe that approximately $i162 million of Aleris US federal NOL carryforwards are limited by Section 382 as of iDecember 31,
2020. For state tax purposes, management believes it is more likely than not that a limitation under Section 382 will impair the realizability of the net deferred tax assets and a $i16 million valuation allowance has been recorded on the state attributes.
Additionally, Aleris Germany had interest carryforwards that were not subject to expiration. However, the business combination will result in an ownership change for German income tax purposes. Therefore, the interest carryforwards are limited
and consequently were written off as part of the acquisition in the amount of $i4 million.
/
41
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
18. COMMITMENTS AND CONTINGENCIES
We are party to, and may in the future be involved in, or subject to, disputes, claims, and proceedings arising in the ordinary course of our business, including some we assert against others, such as environmental, health and safety, product liability, employee, tax, personal injury, and other matters. For certain
matters in which the Company is involved for which a loss is reasonably possible, we are unable to estimate a loss. For certain other matters for which a loss is reasonably possible and the loss is estimable, we have estimated the aggregated range of loss as $i0 to $i70
million. This estimated aggregate range of reasonably possible losses is based upon currently available information. The Company’s estimates involve significant judgment, and therefore, the estimate will change from time to time and actual losses may differ from the current estimate. We review the status of, and estimated liability related to, pending claims and civil actions on a quarterly basis. The evaluation model includes all asserted and unasserted claims that can be reasonably identified, including claims relating to our responsibility for compliance with environmental, health and safety laws and regulations in the jurisdictions in which we operate or formerly operated. The estimated costs in respect of such reported liabilities are not offset by amounts related to insurance or indemnification arrangements unless otherwise noted.
Environmental
Matters
We have established liabilities based on our estimates for currently anticipated costs associated with environmental matters. We estimate that the costs related to our environmental liabilities as of December 31, 2020 and March 31, 2020 were approximately $ii23/
million and $i8 million, respectively. Of the total $ii23/
million at December 31, 2020, $i5 million was associated with restructuring actions and the remaining $i18
million is associated with undiscounted environmental clean-up costs. As of December 31, 2020, $i6 million is included in "Accrued expenses and other current liabilities" and the remaining is within "Other long–term liabilities" in our accompanying condensed consolidated balance sheets.
Brazilian Tax Litigation
Under a federal tax dispute settlement program established by the
Brazilian government, we have settled several disputes with Brazil’s tax authorities regarding various forms of manufacturing taxes and social security contributions. Total settlement liabilities as of December 31, 2020 and March 31, 2020 were $i23 million and $i27
million, respectively. As of December 31, 2020, $i6 million is included in "Accrued expenses and other current liabilities" and the remaining is within "Other long–term liabilities" in our accompanying condensed consolidated balance sheets.
In addition to the disputes we have settled under the federal tax dispute settlement program, we are involved in several other unresolved tax and other legal claims in Brazil. Total liabilities
for other disputes and claims were $i20 million as of December 31, 2020 and $i18
million as of March 31, 2020. As of December 31, 2020, $i1 million is included in "Accrued expenses and other current liabilities" and the remaining is within "Other long–term liabilities" in our accompanying condensed consolidated balance sheets. Additionally, we have included in the range of reasonably possible losses disclosed above, any unresolved tax disputes or other contingencies for which a loss is reasonably
possible and estimable. The interest cost recorded on these settlement liabilities offset by interest earned on the cash deposits is reported in "Other (income) expenses, net" on the condensed consolidated statement of operations.
For additional information, please refer to our Form 10-K for the fiscal year ended March 31, 2020.
Duffel Sale
On September 30, 2020, we completed the sale of Duffel to Liberty House Group through its subsidiary, ALVANCE, the international aluminum business of the GFG Alliance. Upon closing, we received €i210 million
($i246 million as of September 30, 2020) in cash and a €i100 million
($i117 million as of September 30, 2020) receivable that is deemed to be contingent consideration subject to the results of a binding arbitration proceeding under German law that is currently underway. The arbitration will determine the responsibility of ALVANCE to Novelis based on the parties’ relative culpability for certain breaches of obligations under the purchase and sale agreement, potentially reduced by certain claims of ALVANCE against Novelis. Arbitration results are inherently uncertain and unpredictable,
and there can be no assurance of the result the arbitral tribunal will reach. The arbitrators may award Novelis no more than €i100 million and may not award any damages to ALVANCE.
We have elected to account for the contingent consideration at fair value and will mark to fair value on a quarterly basis. At closing on September 30, 2020, the estimated fair value of the purchase price subject to arbitration was €i93 million
($i109 million). We have recorded the contingent consideration in "Other long–term assets — third parties" and changes to the estimated fair value resulting from quarterly revaluations will be recorded to “Net income (loss) from discontinued operations, net of tax."
/
See Note 3 – Discontinued Operations for more information.
42
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
19. SEGMENT, GEOGRAPHICAL AREA, MAJOR CUSTOMER AND MAJOR SUPPLIER INFORMATION
Segment Information
Due in part to the regional nature of supply and demand of aluminum rolled products and to best serve our customers, we manage our activities based on geographical areas and are organized under iifour/
operating segments: North America, Europe, Asia, and South America. All of our segments manufacture aluminum sheet and light gauge products.
The following is a description of our operating segments.
North America. Headquartered in Atlanta, Georgia, this segment operates i16 plants, including iseven
with recycling operations, in itwo countries.
Europe. Headquartered in Küsnacht, Switzerland, this segment operates i11
plants, including iseven with recycling operations, in ifour countries.
Asia.
Headquartered in Seoul, South Korea, this segment operates ifour plants, including ithree with recycling operations, in itwo
countries.
South America. Headquartered in Sao Paulo, Brazil, this segment comprises power generation operations and operates itwo plants in Brazil, including ione
with recycling operations.
Net sales and expenses are measured in accordance with the policies and procedures described in Note 1 – Business and Summary of Significant Accounting Policies shown in our Form 10-K for the fiscal year ended March 31, 2020.
We measure the profitability and financial performance of our operating segments based on segment income. Segment income provides a measure of our underlying segment results that is in line with our approach to risk management. We define segment income as earnings before (a) "depreciation and amortization"; (b) "interest expense and amortization of debt issuance costs"; (c) "interest income"; (d) "unrealized gains (losses) on change in fair value of derivative instruments, net," except for foreign currency remeasurement hedging activities, which are included
in segment income; (e) impairment of goodwill; (f) "(gain) loss on extinguishment of debt"; (g) noncontrolling interest's share; (h) adjustments to reconcile our proportional share of segment income from non-consolidated affiliates to income as determined on the equity method of accounting; (i) "restructuring and impairment, net"; (j) gains or losses on disposals of property, plant and equipment and businesses, net; (k) other costs, net; (l) litigation settlement, net of insurance recoveries; (m) sale transaction fees; (n) "income tax provision (benefit)"; (o) cumulative effect of accounting change, net of tax; (p) metal price lag; (q) "business acquisition and other integration related costs"; (r) purchase price accounting adjustments; (s) "income (loss) from discontinued operations, net of tax"; and (t) "loss on sale of discontinued operations, net of tax."
The tables below show
selected segment financial information (in millions). The "Eliminations and Other" column in the table below includes eliminations and functions that are managed directly from our corporate office that have not been allocated to our operating segments, as well as the adjustments for proportional consolidation and eliminations of intersegment "Net sales." The financial information for our segments includes the results of our affiliates on a proportionately consolidated basis, which is consistent with the way we manage our business segments. In order to reconcile the financial information for the segments shown in the tables below to the relevant U.S. GAAP based measures, we must adjust proportional consolidation of each line item. The "Eliminations and Other" in "Net sales - third party" includes the net sales attributable to our joint venture party, Tri-Arrows, for our Logan affiliate because we consolidate 100% of the Logan joint venture
for U.S. GAAP, but we manage our Logan affiliate on a proportionately consolidated basis. See Note 7 – Consolidation and Note 8 – Investment in and Advances to Non-Consolidated Affiliates and Related Party Transactions for further information about these affiliates. Additionally, we eliminate intersegment sales and intersegment income for reporting on a consolidated basis.
/
43
Novelis Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
i
The table below displays the reconciliation from "Net income attributable to our common shareholder" to segment income from
reportable segments.
Three Months Ended
December 31,
Nine Months Ended
December 31,
in millions
2020
2019
2020
2019
Net
income attributable to our common shareholder
$
i176
$
i107
$
i60
$
i357
Noncontrolling
interest
i1
i—
i1
i—
Income
tax provision
i80
i49
i119
i157
Depreciation
and amortization
i137
i91
i396
i267
Interest
expense and amortization of debt issuance costs
i66
i59
i206
i185
Adjustment
to reconcile proportional consolidation
i13
i13
i42
i42
Unrealized
(gains) losses on change in fair value of derivative instruments, net
(i13)
(i6)
i14
(i15)
Realized
(gains) losses on derivative instruments not included in segment income
(i2)
(i1)
i2
i2
Restructuring
and impairment, net
i20
i3
i28
i36
Loss
(gain) on sale of fixed assets
i2
i1
i—
(i1)
Purchase
price accounting adjustments
i—
i—
i29
i—
Loss
from discontinued operations, net of tax
i18
i—
i47
i—
Loss
on sale of discontinued operations, net of tax
i—
i—
i170
i—
Metal
price lag
i—
i11
i32
i18
Business
acquisition and other integration related costs
i—
i17
i11
i46
Other,
net
i3
(i1)
i52
(i5)
Segment
income from reportable segments
$
i501
$
i343
$
i1,209
$
i1,089
/
"Business
acquisition and other integration related costs" are primarily legal and professional fees associated with our acquisition of Aleris.
"Adjustment to reconcile proportional consolidation" relates to depreciation, amortization, and income taxes of our equity method investments. Income taxes related to our equity method investments are reflected in the carrying value of the investment and not in our consolidated "Income tax provision."
"Realized (gains) losses on derivative instruments not included in segment income" represents foreign currency derivatives not related to operations.
"Purchase price accounting adjustments" primarily relates to the relief of the inventory step-up related to the acquired Aleris business.
"Other, net" related primarily relates
to a charitable contribution as well as interest income.
i
The table below displays segment income from reportable segments by region.
Three
Months Ended
December 31,
Nine Months Ended
December 31,
in millions
2020
2019
2020
2019
North America
$
i206
$
i127
$
i489
$
i468
Europe
i98
i47
i181
i160
Asia
i78
i55
i227
i154
South
America
i129
i116
i317
i309
Eliminations
and other
(i10)
(i2)
(i5)
(i2)
Segment
income from reportable segments
$
i501
$
i343
$
i1,209
$
i1,089
/
45
Novelis
Inc.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Information about Product Sales, Major Customers and Primary Supplier
Product Sales
The following table displays our "Net sales" by value stream.
Three
Months Ended
December 31,
Nine Months Ended
December 31,
in millions
2020
2019
2020
2019
Can
$
i1,596
$
i1,536
$
i4,431
$
i4,714
Automotive
i704
i679
i1,671
i2,060
Aerospace
and industrial plate
i85
i—
i280
i—
Specialty
i856
i500
i2,263
i1,717
Net
sales
$
i3,241
$
i2,715
$
i8,645
$
i8,491
Major
Customers
i
The following table displays net sales to customers representing 10% or more of our total "Net sales" for any of the periods presented.
Rio Tinto (RT) is our primary supplier of metal inputs, including prime and sheet ingot. iThe table below shows our purchases from RT as a percentage of our total combined metal purchases.
Purchases from RT as a percentage of total combined metal purchases
i8
%
i12
%
i7
%
i11
%
46
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
FORWARD-LOOKING STATEMENTS
The following information should be read together with our unaudited condensed consolidated financial statements and accompanying notes included elsewhere in this Quarterly Report for a more complete understanding of our financial condition and results of operations. The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those discussed below, particularly in "SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
AND MARKET DATA."
OVERVIEW AND REFERENCES
Novelis is the leading producer of flat-rolled aluminum products and the world's largest recycler of aluminum. Driven by our purpose to shape a sustainable world together, we work alongside our customers to provide innovative solutions to the beverage can, automotive, aerospace, and specialty markets (includes foil packaging, certain transportation products, architectural, industrial, and consumer durables). We have recycling operations in many of our plants to recycle both post-consumer aluminum and post-industrial aluminum. As of December 31, 2020, we had manufacturing operations in nine countries on four continents, through 33 operating plants, which may include any
combination of hot or cold rolling, finishing, casting, or recycling capabilities. We have recycling operations in 18 of our operating facilities.
In this Quarterly Report on Form 10-Q, unless otherwise specified, the terms "we,""our,""us,""Company," and "Novelis" refer to Novelis Inc., a company incorporated in Canada under the Canadian Business Corporations Act (CBCA) and its subsidiaries. References herein to "Hindalco" refer to Hindalco Industries Limited, our indirect parent company, which acquired Novelis in May 2007, through its indirect wholly-owned subsidiary, AV Metals Inc., our direct parent company.
As used in this Quarterly Report, consolidated "aluminum rolled product shipments" or "flat-rolled product shipments" refers
to aluminum rolled products shipments to third parties. Regional "aluminum rolled product shipments" or "flat-rolled product shipments" refers to aluminum rolled products shipments to third parties and intersegment shipments to other Novelis regions. Shipment amounts also include tolling shipments. References to "total shipments" include aluminum rolled products as well as certain other non-rolled product shipments, primarily scrap, used beverage cans (UBC), ingot, billets, and primary remelt. The term "aluminum rolled products" is synonymous with the terms "flat-rolled products" and "FRP" commonly used by manufacturers and third party analysts in our industry. All tonnages are stated in metric tonnes. One metric tonne (mt) is equivalent to 2,204.6 pounds. One kilotonne (kt) is 1,000 metric tonnes.
References to our Form 10-K made throughout this document refer to our Form 10-K for
the fiscal year ended March 31, 2020, filed with the United States Securities and Exchange Commission (SEC) on May 7, 2020.
BUSINESS AND INDUSTRY CLIMATE
On April 14, 2020, Novelis closed its acquisition of Aleris Corporation and is now integrating the two companies. The acquisition provides a number of strategic benefits, including increasing the Company’s footprint as an aluminum rolled products manufacturer and diversifying its product and customer portfolio. In addition, more than $180 million of run-rate synergies have been
identified, through traditional integration cost synergies and strategic synergies created by enhancing and integrating operations in Asia. In the months since closing the transaction, $54 million of run-rate cost synergies have already been achieved. The results from continuing operations reported for the period ending December 31, 2020 reflect the acquired businesses.
The early months of the current fiscal year were impacted by a short-term reduction in demand for aluminum rolled products, negatively impacted by the spread of the COVID-19 pandemic. Some industries such as automotive, aerospace, and some specialty markets, including heat exchangers and transportation, experienced a sharper demand decline than the more resilient beverage can segment. However, demand strengthened considerably in the second fiscal quarter across most end markets and remained favorable through
the third fiscal quarter. While aerospace demand is expected to remain muted into next fiscal year, some end markets, including automotive and specialties, have returned to at or near pre-COVID demand levels due to relatively strong consumer demand. We believe the long-term trends for flat-rolled aluminum products remain strong. Economic growth, material substitution, and sustainability considerations, including increased environmental awareness around polyethylene terephthalate (PET) plastics, continue to support long-term increasing global demand for aluminum and rolled products. With the exception of China where can sheet overcapacity and strong competition remains, favorable market conditions and increasing customer preference for sustainable packaging options is driving higher demand for infinitely recyclable aluminum beverage cans and bottles. At the end of fiscal 2019, we began expanding rolling, casting and recycling capability in Pindamonhangaba, Brazil to support
this demand.
47
Meanwhile, the long-term demand for aluminum in the automotive industry continues to grow, which drove the investments we made in our automotive sheet finishing capacity in North America, Europe, and Asia in recent years, and is driving our additional investments in Guthrie, Kentucky (U.S.) and Changzhou, China. This demand has been primarily driven by the benefits that result from using lightweight aluminum in vehicle structures and components, as companies respond to stricter government emissions and fuel economy regulations, while maintaining or improving vehicle safety and performance, resulting in increased competition with high-strength steel.
We expect long-term demand for building and construction and other
specialty products will grow due to increased customer preference for lightweight, sustainable materials and demand for aluminum plate in Asia to grow driven by the development and expansion of industries serving aerospace, semiconductor, rail, and other technically demanding applications.
We believe significant aircraft industry order backlogs for key original equipment manufacturers (OEMs) including Airbus and Boeing will translate into growth in the future, and we believe our multi-year supply agreements have positioned us to benefit from future expected demand.
COVID-19 Response
The COVID-19 pandemic continues to cause travel and business disruption and economic volatility. Government mandates to stay at home or avoid large gatherings of people, as well as infected employees or individuals on-site, have caused some of our customers
to temporarily shut down their manufacturing facilities due to lack of demand, government decree, or public health concerns. We are encouraged by the resiliency of the beverage can market and the ongoing recovery in the automotive and specialty markets. We continue working closely with our customers to adjust production based on their sales forecasts.
With our primary focus being the health and well-being of our employees, we are closely monitoring the changing landscape with respect to COVID-19 and taking actions to manage our business and support our customers. We have bolstered our own Environmental Health and Safety protocols and aligned them with guidance from global health authorities and government agencies across our operations to help ensure the safety of our employees, customers, suppliers, communities, and other stakeholders. For example, we have implemented social distancing standards and control measures for common
work areas, including desks, workstations, meeting rooms, break rooms, cafeterias, clock-in areas, and smoking areas. We have controlled distancing during shift changes by staggering shift change times and creating one-way flows marked on floors. In addition, we have distributed personal protective equipment (PPE) such as facemasks, face shields, and gloves, as well as cleaning stations, personal hygiene products, and disinfection products to our sites. For our non-production workforce, we have strongly encouraged virtual meetings to reduce employee contact and have switched to paperless work environments where possible. With the recent approval of COVID-19 vaccines, we will also be encouraging employees to get the vaccine as soon as they are able to do so in order to help further ensure the health of our employees, facilities and communities.
Liquidity Position
We believe that we
have substantial liquidity to navigate the current dynamic environment. Our cash and cash equivalents and long-term committed available borrowings aggregated to $2.4 billion of liquidity at December 31, 2020.
While we remain ready to flex costs as necessary in line with customer demand trends, production has increased to near pre-pandemic levels in response to strong customer demand. We continue to prioritize capital spending on maintenance activities and organic strategic capacity expansions projects. With additional capital expenditures required to maintain the acquired Aleris facilities, we expect total capital spending to be in the range of $450 million to $500 million for the full fiscal year 2021. We remain committed to our previously announced strategic capacity expansions, with the commissioning of our new automotive capacity in the U.S. and China underway.
Market
Trends
While long-term demand trends for flat-rolled aluminum products remain broadly intact, there are varying degrees of uncertainty in near-term demand resulting from the COVID-19 pandemic across end markets. Beverage can represents the largest share of our shipment product portfolio, and has historically been a relatively recession resistant product. Our beverage can sheet shipments increased versus the prior year and sequentially in the third quarter, as demand for aluminum cans as a package type was very strong, particularly across the Americas.
The automotive industry was severely impacted by the slowdown resulting from COVID-19 in the first quarter of fiscal 2021, as major US and European automotive OEMs temporarily shut down production. However, the resumption of most customer operations beginning in May 2020, combined with strong demand for larger vehicles
like pick-up trucks, SUVs, and electric vehicles, as well as very strong demand in China for aluminum automotive sheet, has returned our third quarter automotive shipments to their highest level in over a year. While the strong near-term order book is a positive sign, it is unclear how ongoing global economic concerns may impact overall demand beyond the next quarter.
48
Demand for specialties products has mostly recovered from the lows in April and May 2020. Demand for aluminum sheet in the electronics market in Asia remains strong as consumers purchase tablets, laptops, mobile phones, and other communication devices to work and attend school remotely. Demand for painted products as well as container foil used in recyclable coffee capsules remains resilient in Europe, while
the building and construction markets in Europe, and more notably in North America, have shown a strong recovery beginning in our second fiscal quarter supported by an increase in home renovation projects as people spend more time in their homes due to social distancing and mandates.
In aerospace, sharply lower consumer travel is expected to drive soft demand for aerospace sheet and plate into next year.
BUSINESS MODEL AND KEY CONCEPTS
Conversion Business Model
A significant amount of our business is conducted under a conversion model, which allows us to pass through increases or decreases in the price of aluminum to our customers. Nearly all of our flat-rolled products have
a price structure with three components: (i) a base aluminum price quoted off the LME; (ii) a local market premium; and (iii) a "conversion premium" to produce the rolled product which reflects, among other factors, the competitive market conditions for that product. Base aluminum prices are typically driven by macroeconomic factors and global supply and demand for aluminum. The local market premiums tend to vary based on the supply and demand for metal in a particular region and associated transportation costs.
In North America, Europe, and South America, we pass through local market premiums to our customers which are recorded through "Net sales." In Asia, we purchase our metal inputs based on the LME and incur a local market premium; however, many of our competitors in this region price their metal off the Shanghai Futures Exchange, which does not include a local market premium, making it difficult for us to
fully pass through this component of our metal input cost to some of our customers.
LME Base Aluminum Prices and Local Market Premiums
The average (based on the simple average of the monthly averages) and closing prices for aluminum set on the LME are as follows:
Three
Months Ended
December 31,
Percent Change
Nine Months Ended
December 31,
Percent Change
2020
2019
2020
2019
London Metal
Exchange Prices
Aluminum (per metric tonne, and presented in U.S. dollars):
Closing cash price as of beginning of period
$
1,737
$
1,704
2
%
$
1,489
$
1,900
(22)
%
Average
cash price during the period
1,918
1,754
9
1,706
1,769
(4)
Closing cash price as of end of period
1,978
1,800
10
1,978
1,800
10
The
weighted average local market premium are as follows:
Three Months Ended
December
31,
Percent Change
Nine Months Ended
December 31,
Percent Change
2020
2019
2020
2019
Weighted average Local Market Premium (per metric tonne, and presented in U.S.
dollars)
$
199
$
191
4
%
$
166
$
224
(26)
%
49
Metal
Price Lag and Related Hedging Activities
Increases or decreases in the price of aluminum based on the average LME base aluminum prices and local market premiums directly impact “Net sales,”“Cost of goods sold (exclusive of depreciation and amortization),” and working capital. The timing of these impacts varies based on contractual arrangements with customers and metal suppliers in each region. These timing impacts are referred to as metal price lag. Metal price lag exists due to: (i) the period of time between the pricing of our purchases of metal, holding and processing the metal, and the pricing of the sale of finished inventory to our customers and (ii) certain customer contracts containing fixed forward price commitments which result in exposure to changes in metal prices for the period
of time between when our sales price fixes and the sale actually occurs.
We use LME aluminum forward contracts to preserve our conversion margins and manage the timing differences associated with the LME base metal component of “Net sales,” and “Cost of goods sold (exclusive of depreciation and amortization)." These derivatives directly hedge the economic risk of future LME base metal price fluctuations to better match the purchase price of metal with the sales price of metal. The majority of our local market premium hedging occurs in North America depending on market conditions; however, exposure here is not fully hedged. In our Europe, Asia, and South America regions, the derivative market for local market premiums is not robust or efficient enough for us to offset the impacts of LMP price movements beyond a small volume.
As a consequence, volatility in local market premiums can have a significant impact on our results of operations and cash flows.
We elect to apply hedge accounting to better match the recognition of gains or losses on certain derivative instruments with the recognition of the underlying exposure being hedged in the statement of operations. In connection with the acquisition of Aleris, the Company acquired a portfolio of derivative financial instruments executed to hedge various price risk exposures. Historically, Aleris did not designate derivative financial instruments as hedges and therefore, both realized and unrealized gains and losses on derivatives were recorded immediately in the condensed consolidated statement of operations. In the second quarter of fiscal 2021, the
Company designated certain Aleris LME aluminum forward sales contracts as cash flow hedges of the metal price risk associated with our future metal sales. For undesignated metal derivatives, there are timing differences between the recognition of unrealized gains or losses on the derivatives and the recognition of the underlying exposure in the statement of operations. The recognition of unrealized gains and losses on undesignated metal derivative positions typically precedes inventory cost recognition, customer delivery, and revenue recognition. The timing difference between the recognition of unrealized gains and losses on undesignated metal derivatives and cost or revenue recognition impacts "Income from continuing operations before income tax provision" and "Net income." Gains and losses on metal derivative contracts
are not recognized in "Segment income" until realized.
Foreign Currency and Related Hedging Activities
We operate a global business and conduct business in various currencies around the world. We have exposure to foreign currency risk as fluctuations in foreign exchange rates impact our operating results as we translate the operating results from various functional currencies into our U.S. dollar reporting currency at current average rates. We also record foreign exchange remeasurement gains and losses when business transactions are denominated in currencies other than the functional currency of that operation. Global economic uncertainty is contributing to higher levels of volatility among the currency pairs in which we conduct business. The following table presents the exchange rates as of the end of each period and the average of the month-end exchange rates:
Exchange rate movements have an impact on our operating results. In Europe,
where we have predominantly local currency selling prices and operating costs, we benefit as the euro strengthens but are adversely affected as the euro weakens. For our Swiss operations, where operating costs are incurred primarily in the Swiss franc and a large portion of revenues are denominated in the euro, we benefit as the Swiss franc weakens but are adversely affected as the franc strengthens. In South Korea, where we have local currency operating costs and U.S. dollar denominated selling prices for exports, we benefit as the South Korean won weakens but are adversely affected as the won strengthens. In Brazil, where we have predominately U.S. dollar selling prices and local currency manufacturing costs, we benefit as the Brazilian real weakens but are adversely affected as the real strengthens. We use foreign exchange forward contracts and cross-currency swaps to manage
our exposure arising from recorded assets and liabilities, firm commitments, and forecasted cash flows denominated in currencies other than the functional currency of certain operations, which include capital expenditures and net investment in foreign subsidiaries.
See Segment Review below for the impact of foreign currency on each of our segments.
51
RESULTS OF CONSOLIDATED OPERATIONS
For the three months ended December 31,
2020, we reported "Net income attributable to our common shareholder" a net income of $176 million, an increase of 64% compared to income of $107 million in the prior comparable period. We reported segment income of $501 million, an increase of 46% compared to $343 million in the prior comparable period. The increase in segment income was due to organic growth, favorable metal benefits, and a $50 million positive segment income contribution from the acquired business. In addition, the current year quarter includes higher depreciation and amortization and interest expense, primarily driven by the acquisition of Aleris, and a higher tax provision on the higher earnings.
For the nine months ended December 31, 2020, we reported "Net income attributable to our common shareholder" of $60 million, a decrease of 83% compared to income
of $357 million in the prior comparable period. The decline in net income was primarily driven by a $170 million loss on sale of discontinued operations and a $50 million charitable donation to support COVID-19 relief efforts, as well as higher depreciation and amortization and interest expense. In addition, the current year includes $14 million of unrealized derivative losses and a $29 million purchase price accounting adjustment resulting from the relief of an inventory step-up, both primarily related to the acquired Aleris business. These negative items were partially offset by an increase of 11% in segment income to $1.2 billion, compared to $1.1 billion in the prior comparable period, primarily driven by a $140 million positive segment income contribution from the acquired business, favorable metal costs, and cost containment efforts, partially offset by negative impacts resulting from the COVID-19 pandemic early this year. Further, these factors combined with favorable
working capital changes caused by lower base aluminum prices drove net cash provided by operating activities to $570 million for the nine months ended December 31, 2020, an increase of $98 million over the comparable prior period.
Key Sales and Shipment Trends
Three
Months Ended
Fiscal Year Ended
Three Months Ended
in millions, except percentages and shipments, which are in kt
"Net sales" was $3.2 billion, an increase of 19%, primarily driven by an 17% increase in shipments primarily related to the acquired business as well as higher beverage can shipments and higher average aluminum prices.
"Income from continuing operations before income tax provision" was $275 million, compared to $156 million in the prior period. In addition to the factors noted above, the following items affected "Income from continuing operations before income tax provision."
52
Cost
of Goods Sold (Exclusive of Depreciation and Amortization)
"Cost of goods sold (exclusive of depreciation and amortization)" was $2.6 billion, an increase of 15%, driven by higher volume and higher average aluminum prices. Total metal input costs included in "Cost of goods sold (exclusive of depreciation and amortization)" increased $181 million over the prior period.
Selling, General and Administrative
"Selling, general and administrative expense" (SG&A) was $149 million in the three months ended December 31, 2020 compared to $131 million in the three months ended December 31, 2019. The increase is related to the additional SG&A from the acquired Aleris business, partially offset by cost
savings measures realized in the current period.
Depreciation and Amortization
"Depreciation and amortization" was $137 million in the three months ended December 31, 2020 quarter compared to $91 million in the three months ended December 31, 2019. The increase is primarily related to the depreciation of acquired Aleris assets.
Interest Expense
"Interest expense and amortization of debt issuance costs" was $66 million and $59 million for the three months ended December 31, 2020 and 2019, respectively. The increase is primarily related to a higher average level of debt during the quarter
as a result of the Aleris acquisition.
Other Expenses
"Other income, net" was $7 million and $3 million for the three months ended December 31, 2020 and 2019, respectively.
Taxes
We recognized $80 million of tax expense for the three months ended December 31, 2020, which resulted in an effective tax rate of 29%. This tax rate was primarily driven by the full year forecasted effective tax rate that takes into account income taxed at rates that differ from the 25% Canadian rate, including withholding taxes, changes to the Brazilian real foreign exchange rate, and certain other non-deductible expenses, offset by tax credits. We recognized $49
million of tax expense in the comparable prior period, which resulted in an effective tax rate of 31%.
53
Segment Review
Due in part to the regional nature of supply and demand of aluminum rolled products and in order to best serve our customers, we manage our activities on the basis of geographical regions and are organized under four operating segments: North America, Europe, Asia, and South America.
The tables below illustrate selected segment financial information (in millions, except shipments which are in kt). For additional financial information related to our operating segments including the reconciliation of "Net income attributable to our common shareholder" to segment
income, see Note 19 – Segment, Geographical Area, Major Customer and Major Supplier Information. In order to reconcile the financial information for the segments shown in the tables below to the relevant U.S. GAAP-based measures, "Eliminations and other" must adjust for proportional consolidation of each line item for our Logan affiliate because we consolidate 100% of the Logan joint venture for U.S. GAAP. However, we manage our Logan affiliate on a proportionately consolidated basis and eliminate intersegment shipments (in kt).
The
following table reconciles changes in "Segment income" for the three months ended December 31, 2019 to the three months ended December 31, 2020 (in millions).
(1)The
recognition of segment income by a region on an intersegment shipment could occur in a period prior to the recognition of segment income on a consolidated basis, depending on the timing of when the inventory is sold to the third party customer. The "Eliminations and other" column adjusts regional segment income for intersegment shipments that occur in a period prior to recognition of segment income on a consolidated basis. The "Eliminations and other" column also reflects adjustments for changes in regional volume, conversion premium and product mix, and conversion costs related to intersegment shipments for consolidation. "Eliminations and other" must adjust for proportional consolidation of each line item for our Logan affiliate because we consolidate 100% of the Logan joint venture for U.S. GAAP, but we manage our Logan affiliate on a proportionately consolidated basis.
(2)"Selling,
general & administrative and research & development costs" include costs incurred directly by each segment and all corporate related costs.
North America
"Net sales" increased $197 million, or 20%, driven by record shipments mainly associated with acquired business and higher can volumes, partially offset by lower automotive sales. Segment income was $206 million, an increase of 62%, primarily driven by higher volume, favorable metal spreads and mix, and operating and selling, general and administrative cost reduction initiatives, partially offset by higher fixed operating and selling, general and administrative costs associated with the acquired business, lower specialties pricing, and unfavorable product mix.
Europe
"Net sales" increased $240
million, or 33%, primarily driven by record shipments mainly associated with the acquired business. Segment income was $98 million, an increase of 109%, primarily driven by higher volume, favorable metal mix, and operating and selling, general and administrative cost reduction initiatives, partially offset by higher fixed operating and selling, general and administrative costs associated with the acquired business. During the current quarter, we recognized $25 million in net sales associated with a customer contractual obligation.
Asia
"Net sales" increased $71 million, or 15%, primarily driven by record automotive and acquired aerospace business volumes, partially offset by lower beverage can and specialty shipments impacted by the COVID-19 pandemic. Segment income was $78 million, an increase of 42%, primarily driven by higher volume, favorable product mix, and operating
and selling, general and administrative cost reduction initiatives, partially offset by higher fixed operating and selling, general and administrative costs associated with the acquired business.
South America
"Net sales" increased $5 million, or 1%, primarily driven by record beverage can volume. Segment income was $129 million, an increase of 11%, primarily due to higher volume, favorable metal costs, and operating and selling, general and administrative cost reduction initiatives, partially offset by lower beverage can pricing and favorable tax recoveries in the prior year not recurring in the current year.
"Net sales" were $8.6 billion, an increase of 2%, primarily due to higher volume driven by sales related to acquired businesses, partially offset by softer demand impacted by the COVID-19 pandemic in the first half of this fiscal year and slightly lower average aluminum prices.
"Income from continuing operations before income tax provision" was $397 million, compared to $514 million in the prior period. In addition to the factors noted above, the following items affected "Income from continuing operations before income tax provision."
Cost of Goods Sold (Exclusive of Depreciation and Amortization)
"Cost
of goods sold (exclusive of depreciation and amortization)" was $7.1 billion, an increase of 1%, driven by higher volume, partially offset by lower average aluminum prices. Total metal input costs included in "Cost of goods sold (exclusive of depreciation and amortization)" decreased $222 million over the prior period. Cost of goods sold in fiscal 2021 also included $i29 million related to the relief of the inventory step-up on the acquired Aleris business.
Selling, General and Administrative
"Selling,
general and administrative expense" (SG&A) was $i400 million in the nine months ended December 31, 2020 compared to $i380
million in the nine months ended December 31, 2019. The increase is related to the additional SG&A from the acquired Aleris business, mostly offset by cost savings measures realized in the current period.
Depreciation and Amortization
"Depreciation and amortization" was $i396 million in the nine months ended December 31, 2020 quarter compared to $i267
million in the nine months ended December 31, 2019. The increase is primarily related to the depreciation of acquired Aleris assets.
Interest Expense
"Interest expense and amortization of debt issuance costs" was $i206 million and $i185
million for the nine months ended December 31, 2020 and 2019, respectively. The increase is primarily related a higher average level of debt during the year as a result of the Aleris acquisition.
Other Expenses
"Other expenses, net" was $i86 million and $i3
million for the nine months ended December 31, 2020 and 2019, respectively. The increase is primarily driven by a $50 million charitable donation to support COVID-19 relief efforts and $14 million of unrealized derivative losses, compared to a $15 million gain in the prior year, mainly related to the acquired Aleris business.
Taxes
We recognized $i119 million of tax expense for the
nine months ended December 31, 2020, which resulted in an effective tax rate of i30%. This tax rate was primarily driven by the full year forecasted effective tax rate that takes into account income taxed at rates that differ from the 25% Canadian rate, including withholding taxes, changes to the Brazilian real foreign exchange rate, and certain other non-deductible expenses, offset by tax credits. We recognized $i157
million of tax expense in the prior comparable period which resulted in an effective tax rate of i30%.
The following table reconciles changes in segment income for the nine months ended December 31,
2019 to the nine months ended December 31, 2020 (in millions).
(1)The
recognition of segment income by a region on an intersegment shipment could occur in a period prior to the recognition of segment income on a consolidated basis, depending on the timing of when the inventory is sold to the third party customer. The "Eliminations and other" column adjusts regional segment income for intersegment shipments that occur in a period prior to recognition of segment income on a consolidated basis. The "Eliminations and other" column also reflects adjustments for changes in regional volume, conversion premium and product mix, and conversion costs related to intersegment shipments for consolidation. "Eliminations and other" must adjust for proportional consolidation of each line item for our Logan affiliate because we consolidate 100% of the Logan joint venture for U.S. GAAP, but we manage our Logan affiliate on a proportionately consolidated basis.
(2)"Selling,
general & administrative and research & development costs" include costs incurred directly by each segment and all corporate related costs.
North America
"Net sales" increased $31 million, or 1%, driven by sales associated with the Aleris acquisition, partially offset by lower automotive and specialty volumes impacted by the COVID-19 pandemic and lower aluminum prices. Segment income was $489 million, an increase of 4%, primarily driven by higher total volume, favorable metal mix and spreads, and operating and selling, general and administrative cost reduction initiatives, partially offset by unfavorable product mix and higher fixed and selling, general and administrative costs associated with the acquired business.
Europe
"Net sales" increased $138 million, or 6%, driven
by sales associated with the Aleris acquisition, partially offset by lower automotive and specialty volumes impacted by the COVID-19 pandemic and lower aluminum prices. Segment income was $181 million, an increase of 13%, primarily driven by better metal mix, higher total volume, and operating and selling, general and administrative cost reduction initiatives, partially offset by unfavorable product mix and higher fixed and selling, general and administrative costs associated with acquired business.
Asia
"Net sales" increased $65 million, or 4%, driven by higher automotive volumes and sales associated with acquired businesses, partially offset by lower aluminum prices and lower can and specialty volumes. Segment income was $227 million, an increase of 47%, primarily due to higher volume, favorable product mix, operating and selling, general and administrative cost reduction
initiatives, and favorable metal costs, partially offset by higher fixed and selling, general and administrative costs associated with the acquired business.
South America
"Net sales" decreased $167 million, or 12%, driven by lower specialty volume impacted by the COVID-19 pandemic and lower aluminum prices, partially offset by higher can volume. Segment income was $317 million, an increase of 3%, primarily due to lower metal costs and operating and selling, general and administrative cost reduction initiatives, partially offset by lower volume and lower can pricing.
58
Liquidity
and Capital Resources
Our primary liquidity sources are cash flows from operations, working capital management, cash, and liquidity under our debt agreements. Our recent business investments are being funded through cash flows generated by our operations and a combination of local financing and our senior secured credit facilities. We expect to be able to fund our continued expansions, service our debt obligations, and provide sufficient liquidity to operate our business through one or more of the following: the generation of operating cash flows, working capital management, our existing debt facilities (including refinancing), and new debt issuances, as necessary.
Non-Guarantor Information
As of December 31, 2020, the
Company’s subsidiaries that are not guarantors represented the following approximate percentages of (a) net sales, (b) Adjusted EBITDA (segment income), and (c) total assets of the Company, on a consolidated basis (including intercompany balances):
Item Description
Ratio
Net sales represented by Net sales to third parties by non-guarantor subsidiaries
(for the nine months ended December 31, 2020)
In
addition, for the nine months ended December 31, 2020 and 2019, the Company’s subsidiaries that are not guarantors had net sales of $2.1 billion, and as of December 31, 2020, those subsidiaries had assets of $3.0 billion and debt and other liabilities of $1.7 billion (including intercompany balances).
(1)Our availability under committed credit facilities as of March 31, 2020does not include the financing for Aleris.
The
decrease in total available liquidity primarily relates to a decrease in cash and cash equivalents primarily resulting from the payment of $2.6 billion for the acquisition of Aleris, net of cash received, net payments on our revolving credit facilities of $609 million, and payments of $500 million on our Short Term Credit Agreement, partially offset by $2.0 billion of proceeds from the issuance of short-term and long-term debt and free cash flow of $207 million. This decrease is partially offset by an increase in availability under committed credit facilities primarily resulting from payments on our ABL. See Note 9 – Debt for more details about our availability under committed credit facilities.
The "Cash and cash equivalents" balance above includes cash held in foreign countries in which we operate. As of December 31, 2020, we held $6 million of "Cash and cash equivalents"
in Canada, in which we are incorporated, with the rest held in other countries in which we operate. As of December 31, 2020, we held $876 million of cash in jurisdictions for which we have asserted that earnings are permanently reinvested and we plan to continue to fund operations and local expansions with cash held in those jurisdictions. Cash held outside of Canada is free from significant restrictions that would prevent the cash from being accessed to meet the Company's liquidity needs including, if necessary, to fund operations and service debt obligations in Canada. Upon the repatriation of any earnings to Canada, in the form of dividends or otherwise, we could be subject to Canadian income taxes (subject to adjustment for foreign taxes paid and the utilization of the large cumulative net operating losses we have in Canada) and
withholding taxes payable to the various foreign jurisdictions. As of December 31, 2020, we do not believe adverse tax consequences exist that restrict our use of "Cash and cash equivalents" in a material manner.
59
Free Cash Flow
Refer to Non-GAAP Financial Measures for our definition of free cash flow.
The following table displays the free cash flow, the change between periods, as well as the ending balances of cash and cash equivalents.
Nine
Months Ended December 31,
in millions
2020
2019
Change
Net cash provided by operating activities - continuing operations
$
648
$
472
$
176
Net
cash used in investing activities - continuing operations
(2,927)
(408)
(2,519)
Plus: Cash used in the acquisition of assets under a capital lease
—
—
—
Plus: Cash used in the acquisition of business, net of cash and restricted cash acquired(1)
2,614
—
2,614
Less:
Proceeds from sales of assets and business, net of transaction fees, cash income taxes and hedging
(4)
(3)
(1)
Free cash flow from continuing operations
331
61
270
Net cash used in operating activities - discontinued operations
(78)
—
(78)
Net
cash provided by investing activities - discontinued operations
357
—
357
Less: Proceeds from sales of assets and business, net of transaction fees, cash income taxes and hedging - discontinued operations(2)
(403)
—
(403)
Free cash flow
$
207
$
61
$
146
Ending
cash and cash equivalents
$
1,164
$
1,031
$
133
_________________________
(1)The total of "Acquisition of business, net of cash and restricted cash acquired" represents $2.8 billion of merger consideration plus $4 million related to the translation adjustment of the €55 million capital improvement investment for Duffel upon payout, net of $105 million of cash and cash equivalents, $9 million of restricted cash, $41 million of discontinued operations cash and cash equivalents
acquired, and $9 million in contingent consideration paid in the acquisition of business.
(2)"Proceeds from the sales of assets and business, net of transaction fees, cash income taxes and hedging - discontinued operations" represents the proceeds from the sale of Duffel, net of cash sold of $23 million and the proceeds from the sale of Lewisport.
Operating Activities
The increase in "Net cash provided by operating activities" primarily relates to favorable changes in working capital and an increase in "Segment Income." The net change in working capital was primarily driven by lower base aluminum prices.
Investing Activities
"Net cash used in investing activities" was primarily attributable to the
acquisition cost of Aleris net of cash acquired, amounting to $2.6 billion as well as capital expenditures of $333 million, partially offset by $357 million of "Net cash provided by investing activities - discontinued operations."
Financing Activities
During the nine months ended December 31, 2020, there were $1.9 billion issuances of long-term and short-term borrowings, including $1.1 billion in issuances on our Short Term Credit Agreement and $775 million in issuances in incremental term loans on our Term Loan Facility. The proceeds of these issuances were used to pay a portion of the consideration payable in the acquisition of Aleris. Additionally, we issued $63 million of short-term debt in Brazil and $34 million on our China Bank Loans. As a result of our issuances, we paid $25 million in debt issuance costs. We made principal
repayments of $500 million on our Short Term Credit Agreement, $55 million on our short-term debt in Brazil, $14 million on our Term Loan Facility, $9 million on our Zhenjiang Term Loans, $6 million on our incremental term loans on our Term Loan Facility, and $5 million on finance leases and other repayments. The net cash outflows from our revolving credit facilities is related to net outflows of $561 million on our ABL Revolver and outflows of $69 million on our Korea credit facilities, net of $21 million of net proceeds from our China credit facilities. Additionally, we paid $9 million for contingent consideration in the acquisition of Aleris.
During the nine months ended December 31, 2019, we borrowed $29 million of long-term debt in China to fund capital expansion projects and $50 million in short term borrowings in Brazil to fund certain short term commitments. We made
principal repayments of $14 million on our Term Loan Facility and $2 million in finance leases and other repayments. The net cash repayments from our revolving credit facilities balance are primarily related to $38 million in payments on our China short term credit facility. We incurred $3 million in debt issuance costs.
60
OFF-BALANCE SHEET ARRANGEMENTS
In accordance with SEC rules, the following qualify as off-balance sheet arrangements:
•any obligation under certain derivative instruments;
•any
obligation under certain guarantees or contracts;
•a retained or contingent interest in assets transferred to an unconsolidated entity or similar entity or similar arrangement that serves as credit, liquidity or market risk support to that entity for such assets; and
•any obligation under a material variable interest held by the registrant in an unconsolidated entity that provides financing, liquidity, market risk, or credit risk support to the registrant, or engages in leasing, hedging or research and development services with the
registrant.
The following discussion addresses the applicable off-balance sheet items for our Company.
Derivative Instruments
See Note 13 – Financial Instruments and Commodity Contracts to our accompanying unaudited condensed consolidated financial statements for a description of derivative instruments.
Guarantees of Indebtedness
We have issued guarantees on behalf of certain of our subsidiaries. The indebtedness guaranteed is for trade accounts payable to third parties and capital
expenditures. Some of the guarantees have annual terms while others have no expiration and have termination notice requirements. Neither we nor any of our subsidiaries holds any assets of any third parties as collateral to offset the potential settlement of these guarantees. Since we consolidate wholly-owned and majority-owned subsidiaries in our condensed consolidated financial statements, all liabilities associated with trade payables and short-term debt facilities for these entities are already included in our condensed consolidated balance sheets.
Other Arrangements
Factoring of Trade Receivables
We factor trade receivables based on local cash needs, as
well as attempting to balance the timing of cash flows of trade payables and receivables, fund strategic investments, and fund other business needs. Factored invoices are not included in our condensed consolidated balance sheets when we do not retain a financial or legal interest. If a financial or legal interest is retained, we classify these factorings as secured borrowings. However, no such financial or legal interests are currently retained.
Other
As part of our ongoing business, we do not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as special purpose entities (SPEs), which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As of December 31,
2020 and March 31, 2020, we are not involved in any unconsolidated SPE transactions.
CONTRACTUAL OBLIGATIONS
We have future obligations under various contracts relating to debt and interest payments, finance and operating leases, long-term purchase obligations, postretirement benefit plans, and uncertain tax positions. See Note 9 – Debt to our accompanying condensed consolidated financial statements and "Contractual Obligations" of the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of our Form 10-K for the fiscal year ended March
31, 2020 for more details.
RETURN OF CAPITAL
Payments to our shareholder are at the discretion of the board of directors and will depend on, among other things, our financial resources, cash flows generated by our business, our cash requirements, restrictions under the instruments governing our indebtedness, being in compliance with the appropriate indentures and covenants under the instruments that govern our indebtedness and other relevant factors.
CRITICAL ACCOUNTING POLICIES
AND ESTIMATES
Except as otherwise disclosed in Note 1 – Business and Summary of Significant Accounting Policies related to the adoption of new accounting standards (including ASU 2017-04, Intangibles-Goodwill and Other), there were no significant changes to our critical accounting policies and estimates as reported in our Form 10-K for the fiscal year ended March 31, 2020.
61
RECENTLY ISSUED ACCOUNTING STANDARDS
See Note 1 – Business and Summary of Significant Accounting Policies to our accompanying condensed consolidated
financial statements for a full description of recent accounting pronouncements including the respective expected dates of adoption and expected effects on results of operations and financial condition.
NON-GAAP FINANCIAL MEASURES
Total "Segment income" presents the sum of the results of our four operating segments on a consolidated basis. We believe that total "Segment income" is an operating performance measure that measures operating results unaffected by differences in capital structures, capital investment cycles and ages of related assets among otherwise comparable companies. In reviewing our corporate operating results, we also believe it is important to review the aggregate consolidated performance of all of our segments on the same basis we
review the performance of each of our regions and to draw comparisons between periods based on the same measure of consolidated performance.
Management believes investors’ understanding of our performance is enhanced by including this non-GAAP financial measure as a reasonable basis for comparing our ongoing results of operations. Many investors are interested in understanding the performance of our business by comparing our results from ongoing operations from one period to the next and would ordinarily add back items that are not part of normal day-to-day operations of our business. By providing total "Segment income," together with reconciliations, we believe we are enhancing investors’ understanding of our business and our results of operations, as well as assisting investors in evaluating how well we are executing strategic initiatives.
However, total "Segment income"
is not a measurement of financial performance under U.S. GAAP, and our total "Segment income" may not be comparable to similarly titled measures of other companies. Total "Segment income" has important limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of our results as reported under U.S. GAAP. For example, total "Segment income":
•does not reflect the Company’s cash expenditures or requirements for capital expenditures or capital commitments;
•does not reflect changes in, or cash requirements for, the Company’s working capital needs; and
•does
not reflect any costs related to the current or future replacement of assets being depreciated and amortized.
We also use total "Segment income":
•as a measure of operating performance to assist us in comparing our operating performance on a consistent basis because it removes the impact of items not directly resulting from our core operations;
•for planning purposes, including the preparation of our internal annual operating budgets and financial projections;
•to evaluate the performance and effectiveness of our operational strategies; and
•as a basis to calculate incentive compensation payments for our key employees.
Total
"Segment income" is equivalent to our Adjusted EBITDA, which we refer to in our earnings announcements and other external presentations to analysts and investors. Please see Note 19 – Segment, Geographical Area, Major Customer and Major Supplier Information for our definition of segment income.
"Free cash flow" consists of: (a) "Net cash provided by (used in) operating activities - continuing operations," (b) plus "Net cash provided by (used in) investing activities - continuing operations," (c) plus "Net cash provided by (used in) operating activities - discontinued operations," (d) plus "Net cash provided by (used in) investing activities - discontinued operations," (e) plus cash used in the "Acquisition of assets under a capital lease," (f) plus cash used in the "Acquisition of business, net of cash and restricted cash acquired," (g) plus accrued merger consideration,
(h) less "Proceeds from sales of assets and business, net of transaction fees, cash income taxes and hedging," and (g) less "Proceeds from sales of assets and business, net of transaction fees, cash income taxes and hedging - discontinued operations." Management believes "Free cash flow" is relevant to investors as it provides a measure of the cash generated internally that is available for debt service and other value creation opportunities. However, "Free cash flow" does not necessarily represent cash available for discretionary activities, as certain debt service obligations must be funded out of "Free cash flow." Our method of calculating "Free cash flow" may not be consistent with that of other companies.
62
SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS AND MARKET DATA
Statements made in this Quarterly Report on Form 10-Q which describe Novelis' intentions, expectations, beliefs or predictions may be forward-looking within the meaning of securities laws. Forward-looking statements include statements preceded by, followed by, or including the words "believes,""expects,""anticipates,""plans,""estimates,""projects,""forecasts," or similar expressions. Examples of forward-looking statements in this Quarterly Report on Form 10-Q include, but are not limited to, statements about our expectation that we will be able to fund our continued expansions, service our debt obligations and provide sufficient liquidity to operate our business and the expected continuing impacts of the ongoing COVID-19 pandemic. Novelis cautions that, by their nature, forward-looking statements involve risk and uncertainty
and Novelis' actual results could differ materially from those expressed or implied in such statements. We do not intend, and we disclaim any obligation, to update any forward-looking statements, whether as a result of new information, future events or otherwise. Factors that could cause actual results or outcomes to differ from the results expressed or implied by forward-looking statements include, among other things: changes in the prices and availability of aluminum (or premiums associated with such prices) or other materials and raw materials we use; the capacity and effectiveness of our hedging activities; relationships with, and financial and operating conditions of, our customers, suppliers and other stakeholders; fluctuations in the supply of, and prices for, energy in the areas in which we maintain production facilities; our ability to access financing including in connection with potential acquisitions and investments; risks arising out of our acquisition of
Aleris Corporation, including uncertainties inherent in the acquisition method of accounting; disruption to our global aluminum production and supply chain as a result of COVID-19, changes in the relative values of various currencies and the effectiveness of our currency hedging activities; factors affecting our operations, such as litigation, environmental remediation and clean-up costs, breakdown of equipment and other events; economic, regulatory and political factors within the countries in which we operate or sell our products, including changes in duties or tariffs; competition from other aluminum rolled products producers as well as from substitute materials such as steel, glass, plastic and composite materials; changes in general economic conditions including deterioration in the global economy; changes in government regulations, particularly those affecting taxes, derivative instruments, environmental, health or safety compliance; changes in interest rates that
have the effect of increasing the amounts we pay under our credit facilities and other financing agreements; and our ability to generate cash. The above list of factors is not exhaustive.
This document also contains information concerning our markets and products generally, which is forward-looking in nature and is based on a variety of assumptions regarding the ways in which these markets and product categories will develop. These assumptions have been derived from information currently available to us and to the third party industry analysts quoted herein. This information includes, but is not limited to, product shipments and share of production. Actual market results may differ from those predicted. We do not know what impact any of these differences may have on our business, our results of operations, financial condition, and cash flow. For a discussion of some of the specific factors that may cause Novelis' actual results
or outcomes to differ materially from those projected in any forward-looking statements, refer to our Form 10-K for the fiscal year ended March 31, 2020 and see the following sections of the report: "Part I. Item 1A. Risk Factors,""Part II. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Part II. Item 7. Critical Accounting Policies and Estimates."
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Item 3.Quantitative and Qualitative Disclosures About Market
Risk
We are exposed to certain market risks as part of our ongoing business operations, including risks from changes in metal prices (primarily aluminum, copper, zinc, and local market premiums), energy prices (electricity, natural gas and diesel fuel), foreign currency exchange rates and interest rates that could impact our results of operations and financial condition. We manage our exposure to these and other market risks through regular operating and financing activities and derivative financial instruments. We use derivative financial instruments as risk management tools only, and not for speculative purposes.
Commodity Price Risks
Metal
The following table presents the estimated potential negative effect on the fair values of these derivative instruments as of December 31,
2020, given a 10% change in prices. Direction of the change in price corresponds with the direction that would cause the change in fair value to negatively impact the fair value of these derivative instruments.
in millions
Change in Price
Change in Fair Value
Aluminum
10
%
$
(107)
Copper
(10)
(2)
Zinc
(10)
(1)
Energy
The
following table presents the estimated potential negative effect on the fair values of these derivative instruments as of December 31, 2020, given a 10% decline in prices for energy contracts.
in millions
Change in Price
Change in Fair Value
Electricity
(10)
%
$
(1)
Natural
gas
(10)
(4)
Diesel fuel
(10)
(1)
Foreign Currency Exchange Risks
The following table presents the estimated potential negative effect on the fair values of these derivative instruments as of December 31, 2020, given a 10% change in rates. Direction of the change in exchange rate corresponds with the direction that would cause the change in exchange rate to negatively impact the fair value of these derivative
instruments.
$ in millions
Change in Exchange Rate
Change in Fair Value
Currency measured against the U.S. dollar
Brazilian real
(10)
%
$
(25)
Euro
(10)
(1)
Korean
won
(10)
(50)
Canadian dollar
(10)
(4)
British pound
(10)
(19)
Swiss franc
(10)
(34)
Chinese
yuan
10
(3)
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Item 4.Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures designed to ensure that information required to be disclosed in the reports that we file or submit under 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, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, include controls and procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including the Principal Executive Officer and the Principal Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met.
We have carried out an evaluation, with the participation of our Principal Executive Officer and Principal Financial Officer, of the effectiveness of the
Company’s disclosure controls and procedures pursuant to Rule 13a-15 of the Exchange Act. Based upon such evaluation, management has concluded that the Company’s disclosure controls and procedures were effective as of December 31, 2020.
Changes in Internal Control over Financial Reporting
As discussed throughout this Quarterly Report on Form 10-Q, we completed the acquisition of Aleris on April 14, 2020. The acquisition was accounted for as a business combination, and the financial results of Aleris have been included in our condensed consolidated financial statements for the quarter ended iDecember 31,
2020. We have implemented business combination controls in connection with this acquisition. Additionally, as a result of the acquisition, management is in the process of analyzing, evaluating and, where necessary, implementing changes in controls and procedures. The internal control over financial reporting of Aleris will be excluded from management’s assessment of internal control over financial reporting as of March 31, 2021. There have been no other changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the most recently completed fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART
II. OTHER INFORMATION
Item 1.Legal Proceedings
We are a party to litigation incidental to our business from time to time. For additional information regarding litigation to which we are a party, see Note 18 – Commitments and Contingencies to our accompanying condensed consolidated financial statements.
Item 1A.Risk Factors
See "Risk Factors" in Part I, Item 1A in our Form 10-K for the fiscal year ended March 31, 2020. There
have been no material changes from the risk factors described in our Form 10-K for the fiscal year ended March 31, 2020.
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.
