Constellium - Q2 2023
July 26, 2023
Transcript
Moderator (participant)
Hello, welcome to today's Constellium Second Quarter 2023 Results Call. My name is Bailey, and I'll be the moderator for today's call. All lines will be muted during the presentation portion, with an opportunity for questions and answers at the end. If you would like to ask a question, please press Star, followed by one on your telephone keypad. I would now like to pass the conference over to our host, Jason Hershiser, Director of Investor Relations. Jason, please go ahead.
Jason Hershiser (Director of Investor Relations)
Thank you, Bailey. I would like to welcome everyone to our Second Quarter 2023 Earnings Call. On the call today, we have our Chief Executive Officer, Jean-Marc Germain, and our Chief Financial Officer, Jack Guo. After the presentation, we will have a Q&A session. A copy of the slide presentation for today's call is available on our website at constellium.com, and today's call is being recorded. Before we begin, I'd like to encourage everyone to visit the company's website and take a look at our recent filings. Today's call may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements include statements regarding the company's anticipated financial and operating performance, future events and expectations, and may involve known and unknown risks and uncertainties.
For a summary of specific risk factors that could cause results to differ materially from those expressed in the forward-looking statements, please refer to the factors presented under the heading Risk Factors in our Annual Report on Form 20-F. All information in this presentation is as of the date of the presentation. We undertake no obligation to update or revise any forward-looking statements as a result of new information, future events, or otherwise, except as required by law. In addition, today's presentation includes information regarding certain non-GAAP financial measures. Please see the reconciliations of non-GAAP financial measures attached in today's slide presentation, which supplement our IFRS disclosures. I would now like to hand the call over to Jean-Marc.
Jean-Marc Germain (CEO)
Thank you, Jason Hershiser. Good morning, good afternoon, everyone, and thank you for your interest in Constellium. Let's begin on slide five and discuss the highlights from our second quarter results. I would like to start with safety, our number one priority. After a strong first quarter performance, our recordable case rate climbed in the second quarter, leading to a rate of 1.9 per million hours worked for the first half of the year. This is a humbling reminder that while we always strive to deliver best-in-class safety performance, we need to constantly maintain our focus on safety to achieve the ambitious targets we have set. It is a never-ending task for our company and one we take very seriously.
Turning to our financial results, shipments were 398,000 tons, down 6% compared to the second quarter of 2022 due to lower shipments in P&ARP and AS&I. Revenue of EUR 2 billion decreased 14% compared to last year, as improved price and mix was more than offset by lower shipments and lower metal prices. Remember, while our revenues are affected by changes in metal prices, we operate a pass-through business model, which minimizes our exposure to metal price risk. Our value-added revenue, which reflects our sales, excluding the cost of metal, was EUR 785 million, up 11% compared to the same period last year. Our net income of EUR 32 million in the quarter compares to a net loss of EUR 32 million in the second quarter last year.
As you can see in the bridge on the top right, adjusted EBITDA of EUR 209 million in the quarter was up 5% compared to last year and is a new quarterly record for the company. A&T adjusted EBITDA is a new quarterly record as well and increased EUR 33 million compared to last year. P&ARP adjusted EBITDA decreased EUR 16 million, and AS&I adjusted EBITDA decreased EUR 7 million in the quarter compared to last year. Looking across our end markets, aerospace demand remained very strong, with shipments up 30% compared to last year. The recovery in automotive continued, with higher shipments in both rolled and extruded products versus last year. Packaging shipments were down in the quarter as demand remained below prior year levels, and we continued to experience weakness in most industrial markets.
We continue to face significant inflationary pressures, which Jack will discuss in more detail. Thanks to our pricing power, contractual protections, improved mix, and solid execution by our team, we are managing the current environment well. Moving now to free cash flow. Our free cash flow in the quarter was strong at EUR 68 million. We remain committed to generating positive free cash flows and deleveraging. As you can see on the bottom right of the slide, our leverage at the end of the second quarter was 2.7 times, or down 0.3 times from the end of the second quarter last year. Overall, I am very proud of our second quarter performance. Looking forward, we like our end market positioning, and we are optimistic about our prospects for the remainder of this year and beyond.
Based on our strong performance in the first half of this year and our current outlook for the second half, we are raising our guidance and expect adjusted EBITDA in the range of EUR 700 million-EUR 720 million and free cash flow in excess of EUR 150 million in 2023. Our outlook assumes no major deterioration on the macroeconomic or geopolitical fronts. We also remain confident in our ability to deliver our long-term target of adjusted EBITDA over EUR 800 million in 2025. Before I turn the call over to Jack, I wanted to comment quickly on our recently announced divestiture.
Last week, we announced the sale of our soft alloy extrusion in Germany for a total cash consideration of EUR 48.8 million. The three plants specialize in soft alloy extruded products for the building and construction, transportation, and industry markets in Europe. This transaction will allow us to further streamline our portfolio of strategic assets and strengthen our focus on our core end markets. We expect the transaction to close in the second half of this year. With that, I will now hand the call over to Jack for further detail on our financial performance. Jack?
Jack Guo (CFO)
Thank you, Jean-Marc. Thank you everyone for joining the call today. Please turn now to slide seven. Value-added revenue was EUR 785 million in the second quarter, a new quarterly record for the company, and up 11% compared to the same quarter last year. Looking at the second quarter, EUR 156 million of this increase was due to improved price and mix in each of our segments. Volume was a headwind of EUR 43 million due to lower shipments in PARP and AS&I. Metal impacts were a headwind of EUR 22 million compared to the same period last year. The balance of the change was largely due to unfavorable FX translation. There are two important takeaways from this slide. First, we grew our Value-added revenue by 11% compared to last year. Second, we continue to have pricing power.
Price and mix, and price specifically, is the biggest increment of our year-over-year variance and helped us offset inflationary pressures. Turn to slide eight, let's focus on PARP segment performance. Adjusted EBITDA of EUR 79 million decreased 17% compared to the second quarter last year. Volume was a headwind of EUR 13 million, with higher shipments in automotive more than offset by lower shipments in packaging and specialty raw products. Automotive shipments increased 16% in the quarter versus last year, as new platforms continued to ramp up and demand generally appeared stronger. Packaging shipments decreased 12% in the quarter versus last year due to inventory adjustments across the supply chain in both North America and Europe, and lower demand at the consumer level. Price and mix was a tailwind of EUR 52 million, primarily on improved contract pricing, including inflation-related pass-throughs.
Costs were a headwind of EUR 53 million as a result of higher operating costs due to inflation, operating challenges at Muscle Shoals, and unfavorable metal costs. Turn to slide nine, and let's focus on the A&T segment. Adjusted EBITDA of EUR 96 million increased 53% compared to the second quarter last year. Volume was stable as higher aerospace shipments offset lower TID shipments in the quarter. Aerospace shipments were up 30% versus last year as the recovery in aerospace markets continues. Shipments in TID were down 15% versus last year, reflecting a slowdown in most industrial markets, particularly in Europe, partially offset by strong demand in other markets like defense. Price and mix was a tailwind of EUR 68 million on improved contract pricing, including inflation-related pass-throughs, and a stronger mix with more aerospace.
Costs were a headwind of EUR 33 million as a result of higher operating costs, mainly due to inflation and continued ramp-up in activity levels. Let's turn to slide 10 and focus on the AS&I segment. Adjusted EBITDA of EUR 39 million decreased 15% compared to the second quarter last year. Volume was a EUR 9 million headwind, with higher shipments in automotive more than offset by lower industry shipments. Automotive shipments increased 7% in the quarter versus last year, as we continue to experience improvement in activity levels. Industry shipments were down 19% in the quarter versus last year, as a result of weaker market conditions in Europe. Price and mix was a EUR 21 million tailwind, primarily due to improved contract pricing, including inflation-related pass-throughs. Costs were a headwind of EUR 19 million on higher operating costs, mainly due to inflation.
Turn to slide 11, where I want to give an update on the current inflationary environment we're facing and our focus on pricing and cost control to offset these pressures. In the 2nd quarter, and as expected, we experienced broad-based and significant inflationary pressures across our business. As you know, we operate a pass-through business model, so we're not materially exposed to changes in the market price of aluminum, our largest cost input. That said, other metal and alloy supply remains tight today, and while we're confident about the security of supply, some of it does come at a higher cost. In addition, labor and other non-metal costs will also be higher this year, particularly the European energy.
As previously noted, we purchase energy on a multi-year rolling forward basis, which has helped us to mitigate some of the energy cost pressures and helped us to smooth out some of the steep increases in costs. As a reminder, our 2023 energy costs are largely secured, but at higher average prices. Both electricity and gas forward energy prices in Europe have come down from their 2022 peaks, but still remain well above historical averages. Given these cost pressures, we continue to work across a number of fronts to mitigate their impact on our results. We have demonstrated strong cost performance in the past years, and we will continue our relentless focus in 2023, including continued execution on our previously announced Division Twenty Five initiative. Across the company, we're working to increase our efficiency, reduce our consumption of expensive inputs, and lower our fixed costs.
As we've previously noted, many of our existing contracts have inflationary protection, such as PPI inflators or surcharge mechanisms. Where they do not, we're working with our customers to include them. We have made very good progress across all of our end markets. As you can see in the bridge on the right, in the first half of this year, we were very successful with price and mix, the largest increment being price in offsetting inflationary pressures. As of today, we still expect inflationary pressures to remain significant at least through the end of this year and at a comparable level to 2022. We continue to believe that we will be able to offset most of this cost pressure in 2023, and the rest in future periods, with a combination of the tools we noted and our relentless focus on cost control.
The net impact of inflation and other cost increases, and the actions we're taking to offset them, are included in our guidance for 2023. Let's turn to slide 12 and discuss our free cash flow. We generated EUR 68 million of free cash flow in the second quarter, bringing our year-to-date total to EUR 34 million. As you can see on the bottom left of the slide, we have continued to deliver our commitment to generate consistent, strong, free cash flow and enhance our financial flexibility. Looking at 2023, we now expect to generate free cash flow in excess of EUR 150 million for the full year.
We expect CapEx to be between EUR 340 million and EUR 350 million, cash interest of approximately EUR 120 million, and cash taxes of approximately EUR 30 million, all in line with our previous guidance. Lastly, we now expect working capital to be a modest use of cash for the full year. Now, let's turn to slide 13 and discuss our balance sheet and liquidity position. At the end of the second quarter, our net debt of EUR 1.9 billion decreased slightly compared to the end of 2022, given the EUR 34 million of free cash flow generated in the first half, and favorable non-cash effects translation of EUR 21 million with the weakening of the U.S. dollar.
Our leverage reached a multi-year low of 2.7x at the end of the second quarter, or down 0.3x versus the end of the second quarter last year. We remain committed to achieving our leverage target of 2.5x and maintaining our long-term target leverage range of 1.5x-2.5x. As you can see in our debt summary, we have no bond maturities until 2026, and our liquidity remains strong at EUR 752 million as of the end of the second quarter. Last week, we completed the redemption of $50 million of our 5.875% US dollar bonds due in 2026, further strengthening our balance sheet. We're very proud of the progress we have made on our capital structure and of the financial flexibility we're building. I will now hand the call back to Jean-Marc.
Jean-Marc Germain (CEO)
Thank you, Jack. Let's turn to slide 15 and discuss our current end market outlook. The majority of our portfolio today is serving end markets currently benefiting from durable, sustainability-driven, secular growth. The important takeaway here is that aluminum is a catalyst behind this secular growth, given its sustainable attributes. Aluminum is infinitely recyclable and does not lose its properties when recycled. As a result, aluminum will play a critical role in the circular economy and will be a driver of growth in lightweighting, electrification, and sustainable packaging. Turning first to packaging. During the quarter, the inventory adjustments continued across the supply chain in both North America and Europe. We are also seeing demand weakness in both regions as a result of the current inflationary environment, a lack of promotional activity, and following a multi-year period of rapid growth during COVID.
Even in today's environment, where we are seeing weaker demand in packaging markets, aluminum cans continue to outperform other substrates like plastic and glass. We are confident in the long-term outlook for this end market, though, given capacity growth plans from can makers in both regions, the greenfield investments ongoing here in North America, and a growing consumer preference for the sustainable aluminum beverage can. Longer term, we expect packaging markets to grow low to mid-single digits in both North America and Europe. We will participate in this growth in both regions, as we announced at our Analyst Day last year. The company remains highly focused on stabilizing the operating challenges we have been experiencing at Muscle Shoals, so that we can take advantage of these end market dynamics here in North America.
We're encouraged by the improved performance we have seen recently at Muscle Shoals, and remain confident in our ability to restore the plant's profitability over the course of 2023. Turning now to automotive. OEM sales and production numbers globally have increased the last several quarters, but remain well below pre-COVID levels. Automotive inventories are low, consumer demand remains high, and vehicle electrification and sustainability trends will continue to drive the demand for light-weighting and use of aluminum products. As a result, we remain very positive on this market, and increased demands in both rolled and extruded products give us reason for optimism. Let's turn now to aerospace. The recovery in aerospace continued in the quarter, with shipments up 30% versus last year, though still well below pre-COVID levels.
Major OEMs have announced build rate increases in the short term and the desire for further increases in the medium term. We remain confident that the long-term fundamentals driving aerospace demand remain intact, including growing passenger traffic and greater demand for new, more fuel-efficient aircraft. Demand is strong in the business and regional jet markets, and the defense and space market. As the chart on the left side of this page highlights, these three core end markets represent 77% of our last 12 months revenue. We like the fundamentals in each, as I have said in the past, we like our hand and the options it affords us. Turning lastly to specialties. We expect weakness to continue in most industrial markets, in general, these markets are dependent upon the health of the industrial economies in each region.
Overall, demand has been more stable in North America than in Europe. In TID rolled products, demand remains strong in markets like defense and in transportation in North America. In industry extrusions, while demand is strong in some sectors like solar, demand remains weak in most other markets. It is also of note that many of the sustainability trends supporting growth in our core markets are very much at play here in other specialties as well. Constellium is well-positioned today with our diverse and balanced portfolio to capture the secular growth fueled by sustainability. In summary, we continue to like the prospects for the end markets we serve, and we strongly believe that the diversification of our end markets is an asset for the company. Turning to Slide 16, we detail our key messages and financial guidance. Constellium delivered strong performance in the first half of the year.
I am very proud of our entire team, as they achieved solid operational performance and strong cost control, despite a number of challenges, including significant inflationary pressures. Looking forward, 2023 continues to be a challenging year, given the extraordinary inflationary pressures we are facing and the demand weakness in some of our end markets, like packaging and other specialties. As Jack noted, we are still expecting significant inflationary pressures in 2023, but we remain confident in our ability to pass through most of these costs in 2023, and the rest in future periods.
Based on our strong performance in the first half of this year and on our current outlook for the second half, we are raising our guidance and expect adjusted EBITDA in the range of EUR 700 million-EUR 720 million, and free cash flow in excess of EUR 150 million in 2023. As a reminder, our outlook assumes no major deterioration on the macroeconomic or geopolitical front. I also want to reiterate our long-term guidance of adjusted EBITDA in excess of EUR 800 million by 2025, and our target leverage range of 1.5x-2.5x. Let me add, this guidance is based on our current energy positions, including higher forward energy prices as of today. As inflationary pressures subside, we believe we will emerge an even stronger company.
Our business model provides a strong foundation for long-term success, and we believe we have substantial opportunities to grow our business and enhance profitability and returns. We have a diversified portfolio, and our end market positioning will enable us to take advantage of sustainability-driven secular growth trends, such as consumer preference for infinitely recyclable aluminum cans, light-weighting in transportation, the electrification of the automotive fleet, and the increased focus on recycling. The Constellium team has demonstrated its resilience and ability to execute across a range of different market conditions, and I am confident we will continue to do so. We remain focused on executing our strategy, driving operational performance, generating free cash flow, achieving our ESG objectives, and shareholder value creation. In conclusion, I remain very optimistic about our future.
Lastly, it is not on the slide here, but before we open it up for Q&A, I wanted to congratulate Ingrid Joerg. I'm very pleased to announce that I have appointed Ingrid to Executive Vice President and Chief Operating Officer. This new and exciting role will allow us to continue to strengthen our organizational structure and focus, and develop our people. In her new role, Ingrid will continue to work closely with me in the coming years to drive further value creation for the company. Ingrid will operationally head Constellium's three business units, driving sustainable growth, operational efficiencies, and world-class safety performance. Ingrid has served very successfully, as you can see, as the President of Constellium's A&T Business Unit since June 2015. With that, operator, we will now open the Q&A session.
Moderator (participant)
Thank you. If you would like to ask a question, please press star followed by one on your telephone keypad. If for any reason you would like to remove that question, please press star followed by two. Again, to ask a question, please press star followed by one. As a reminder, if you are using a phone, please remember to pick up your handset before asking your question, and please do ensure that you are unmuted locally. Our first question today comes from the line of Katja Jancic from BMO. Katja, please go ahead. Your line is now open.
Katja Jancic (Equity Research Analyst)
Hi, thank you for taking my questions. The margin in the A&T
Jean-Marc Germain (CEO)
Good morning, Katja.
Katja Jancic (Equity Research Analyst)
Hello. Margin in the A&T segment remains very strong. Previously, you said through the cycle margin, in that business should be somewhere between EUR 800 to EUR 900 per ton. It does that still hold or have margins structurally increased?
Jack Guo (CFO)
Yep. Thank you for the question, Katja. You know, in A&T, you're right. In the first quarter, we mentioned, yeah, a margin, a cycle average margin of EUR 800-900 per ton, and it will stay high in this upcycle environment. That's certainly what we saw in the second quarter, with, you know, better price and mix, and with more aerospace as having a higher margin compared to the TID business. You know, in the second quarter, we have a better mix within our aerospace product portfolio towards some of the more technically demanding products, which obviously hold a premium.
You know, the business also had solid cost control in the second quarter, relative to the increased levels of activity you know, with two quarters in, you know, we believe we can maintain attractive margin for this business, certainly for this year, and that provides some upside for margin throughout the cycle. you know, our view today is, you know, there's EUR 100 per ton upside to the EUR 800-900 per ton guidance we gave to you last quarter.
Jean-Marc Germain (CEO)
Yes, we think structurally, margins are up around the EUR 1,000 per ton.
Katja Jancic (Equity Research Analyst)
In the second half of the year, should we see some easing, I'm assuming, in margins?
Jack Guo (CFO)
There could be some easing, just given the seasonality of the business and, you know, cost is continuing to catch up in this business unit. You know, we're optimistic about the margin profile for this business.
Jean-Marc Germain (CEO)
This year will be.
Katja Jancic (Equity Research Analyst)
Okay.
Jean-Marc Germain (CEO)
over the average of the cycle, yes, sure.
Katja Jancic (Equity Research Analyst)
Okay, that's fair. Now, your leverage is approaching your target. Can you remind us, once you reach that target, how you're going to be thinking about the capital allocation?
Jack Guo (CFO)
Yes. Look, I mean, our overall objective is to increase our financial flexibility because that will kind of help open up capital deployment options and allow us to maintain a balanced, I would say, a balanced capital allocation policy. You know, as we reach our leverage target, it certainly opens up more options, including returning cash to shareholders.
Katja Jancic (Equity Research Analyst)
Thank you very much.
Jack Guo (CFO)
Thank you.
Moderator (participant)
Thank you. Our next question today comes from the line of Bill Peterson from JPMorgan. Bill, please go ahead. Your line is now open.
Bill Peterson (Senior Equity Research Analyst)
Yeah. Hi, good morning, and thanks for taking the questions. It's great to see the upward guidance revisions. Yeah, good morning. It's great to see the upward guidance revisions. I guess, what has changed since the prior outlook that gives you confidence in the revisions? I guess, given the higher free cash flow guidance, can we expect accelerated debt paid out from here?
Jean-Marc Germain (CEO)
Yeah. Bill Peterson, I'll get started, and Jack Guo will help me. The visibility has improved as the year progresses. That's number one. We are extremely pleased with our performance in aerospace, and as we mentioned in our response to Katja Jancic's question, it's not a flash in the pan. We believe there is much more room to grow. That's why we're raising also our expected average margin for this segment. We're seeing a very good mix within aerospace, where as you saw, customers like us, we get some fantastic awards as best suppliers from them. That means more business for us. Very strong fundamentals overall in aerospace and even better for us as a supplier, as a preferred supplier to our customers.
That's definitely a strong contributor to the increased guidance. In packaging, the first half was rough, with demand being down. We expect the second half to be less rough, and that's based on our order book and what we're seeing. By contrast, you know, H1 of 2022 to H1 of 2023, that was difficult. We expect H2 to H2 to be much better in terms of comparison. Still, not where we like it to be in the long run, but making some progress. Automotive, as you saw, continues to be strong for us. It's a very good year. I think we're seeing both the strength in the underlying market, but also the continued penetration of aluminum and automotive. All these are giving us good reasons for the increased guidance.
At the same time, it is striking to see that, you know, our specialties segment are suffering from a quasi or completely recessionary environment. Inflation continues to be strong and eating into our cost base. It's, we're extremely pleased with the outlook we're giving and sharing with you today because there are still quite a few headwinds that are that we're faced with, and despite this, we're increasing our guidance. Yes, the increased guidance translates into on the EBITDA side, translates into more cash flow that gives us more flexibility, and I don't know if, Jack, you want to add anything to my comments?
Bill Peterson (Senior Equity Research Analyst)
I think that's good.
Jean-Marc Germain (CEO)
Okay. As usual, we'd like to pay down some debt, so we'll see what we do in the future.
Bill Peterson (Senior Equity Research Analyst)
Okay. Yeah, great. Yeah, thanks for that. I guess you kinda mentioned some of the issues around inflation, and I know that a lot of the mitigation efforts and inflation is captured in your full-year EBITDA view, I guess if we think about some of the bigger items you mentioned, like energy or, you know, metals, there's still, I guess, inflationary pressure at some of the sites. I guess, what specifically is the team doing to mitigate these? I guess, can you provide an initial view on how to think about these cost headwinds as we move into next year?
Jean-Marc Germain (CEO)
Yeah. On energy, we think we have crested, and actually at the moment, given our hedge positions, we're paying higher than the spot prices would be on average. As those hedges roll off and hopefully the spot prices continue to be what happens in the future, we should see a decrease in energy cost. I'm hopeful that's what happens, but anyway, that's what we're expecting going into next year. On metals, I think we're seeing a inflation subside, but they are still much higher. I mean, magnesium is multiple times more expensive today than it was back in 2020 or 2019, right? Pre-pandemic. We see these elevated costs to continue.
In terms of mitigation measures, I could go on and on about, you know, different pockets of costs that are going up with inflation. We all live that in our business and consumer life, I would say. In terms of mitigation measures, the first one is making sure we are getting paid by our customers for the reality of the new of the new costs that we are faced with. As I said, there's been a fantastic job done by the teams to reflect the increased cost into our pricing, but there is a lag to that. You haven't seen yet the full impact of the price increases. The second item is we've got to be much more economical in our use of resources, which is a good thing, actually.
It's forcing us to put on the front burner, questions like, how do we save energy? How do we better operate our plants? How do we improve our recovery so that every cost item, every use of resource is minimized? That's a lot of work, you know, grinding through every opportunity to minimize the use of resources within the plants. Then, the third aspect is both strategic and longer run, is we have to go and continue on our path towards more value-added products. The big element of that is making sure we have the right product mix, that we focus on those products that have better margins, that are more constructive in the long term, so that the value of what we're making is more recognized in the market.
That's one of the reasons why, you know, we commented, we announced the sale of the three extrusion plants in Germany, that were focused on lower-margin products. We thought, you know, this is the kind of market where it may be a little bit more difficult in the future to face increased cost base, and we found a buyer that views them as a strategic asset. Well, the buyer found us, actually. We were not auctioning off these assets, and that's part of, you know, the steps we take to continually make sure we got the right cost base and we participate in the right markets.
Bill Peterson (Senior Equity Research Analyst)
Oh, great. Thanks for the insights and nice job on the quarterly execution.
Jean-Marc Germain (CEO)
Thank you, Bill.
Moderator (participant)
Thank you. The next question today comes from the line of Curt Woodworth from Credit Suisse. Please go ahead, Curt. Your line is now open.
Curt Woodworth (Director)
Yes, thanks. Good morning, Jean-Marc and Jack, hope you're well. I wanted to come at the sort of A&T, the A&T margin profile, maybe a little bit differently. I mean, as you think about, you know, going forward the next couple of quarters and then next year, you know, aerospace clearly is gonna grow much faster than TID. I would think that your mix, all else equal, would be improving, your fixed cost absorption would be improving.
Then at some point, I would think, you know, given some of the increases potentially on the wide body side of the market, that would also be accretive to mix. Is that a fair characterization to think that your mix within that segment should be improving? You know, I know Airware and some of the extremely high margin products you do, can create a lot of quarter-to-quarter volatility. Was there anything that was kind of extremely unique in this quarter that you could call out that, you know, say, wouldn't repeat next quarter?
Jean-Marc Germain (CEO)
Yeah. You're right that on a broad base, the more aerospace we do in the mix compared to TID, that will drive up the average margin, because the aerospace margins are higher than TID. On a go-forward basis, as we're seeing, you know, the aerospace recovery strengthening and strengthening, that's going to come into play. It's true that we've got some within aerospace, there is also micro mix, so to say, with some products that are extremely profitable. Remember, they required quite significant investments in the past, so it's fair that they are much more profitable. We've had strong demand in space, in defense, and the higher end of the products. We expect that to continue, but yes, there can be some fluctuation.
Overall, I think Jack mentioned earlier, we're expecting for this year, margins in the A&T segment, that continue to be above the revised long-term average that we mentioned, above EUR 1,000 per ton. But they may come off a little bit from what we've seen in Q1 and Q2, which are seasonally strong quarters.
Jack Guo (CFO)
Curt, I would just add, I agree with everything that Jean-Marc mentioned, and certainly, more aerospace will be helpful, contributive from a margin perspective. Remember, the TID business is, you know, down this year in the first half compared to the first half of this year versus the first half of last year, right? Down somewhere around 15%. You know, as that part of the A&T business rebounds, recovers, that will eat into the margin as well.
Curt Woodworth (Director)
Okay. Yep. On packaging, are you seeing any evidence that some of the destocking is over? I mean, it seemed like you were intimating that the second half would be better on a comp basis. With respect to the, you know, phase one expansion plan, which I think was 200,000 tons by 2025, and that was going to be steadily later in, you know, do you still feel confident that you can get that incremental volume by 2025? Just kind of update us on where you stand with that. Thanks very much.
Jean-Marc Germain (CEO)
In the short term, we're seeing some signs of improvement in packaging, pointing towards, you know, end of destocking. That's why we expect the comp to be better going into H2 than it was in H1. With regards to the 200,000 tons of additional capacity that we highlighted at the analyst day back in April of 2022. Remember, it's a 26 really, increase, right? By the end of 2025, that should be the increase we have in capacity. Given the fact that the market has taken a step back, maybe it's going to be a little bit more gradual.
You know, we always want to maintain flexibility in our capital allocation so that, you know, we can accelerate some projects or slow down some projects and within the same envelope of capital expenditures that we have mentioned. We'll have to see how it goes. There's no fundamental reason to not meet that 200,000 tons of extra capacity. It may come a little bit more slowly than what we initially thought, but that's because the markets may not need it as quickly, and we've got other opportunities elsewhere. We're really talking about tweaking at the edges here. The fundamentals are not changing.
Curt Woodworth (Director)
Okay, great. Maybe just a quick one on PARP in the quarter. You outlined $53 million of incremental costs, which is a pretty substantial delta. You outlined three buckets between, you know, metal costs, Muscle Shoals, and then just general inflation. Could you know, maybe add a little bit more granularity in terms of the bucket breakout, and then just update us on how you see cost progression in the back half of the year in PARP?
Jack Guo (CFO)
Curt, I think, you're right. You know, the cost pressure continued to be high for our businesses, including PARP, I would say. Inflation, you know, it really stayed high in this quarter, and it was broad-based for PARP and for some of the other, for the other to be used as well. That continued to be, have an adverse impact across a number of categories that, you know, Jean-Marc was mentioning. I would say inflation is a big piece of that minus EUR 53 that you mentioned. At the same time, you know, operating costs outside of inflation has increased as well, with more labor, you know, more maintenance, more subcontracting, if you will, and some of the other operating cost categories.
They're generally, I would say, kind of more contained relative to the higher activity levels. I think we're okay there. You know, muscle shows maintenance. It's, while, you know, it's still high, it's more under control this quarter, the team is, you know, working really hard to bring the plan back to normal. The impact, as we mentioned in the past, will continue to last throughout the rest of the year.
Katja Jancic (Equity Research Analyst)
Okay, thank you.
Moderator (participant)
Thank you. The next question today comes from the line of Timna Tanners from Wolfe Research. Timna, please go ahead. Your line is now open.
Timna Tanners (Managing Director)
Yeah. Hi, hello, Thanks for the great detail. Wanted to dive a little bit in, not taking away from the strength in Auto and Aerospace, but the Packaging and Building Construction markets that have shown a bit more weakness. Starting with Packaging, on the Investor Day, a little over a year ago, you talked about 4%-5% growth. Now you're talking about low to mid-single-digit. Is that a change? If so, like, is there anything structural that should give us some pause in terms of the extent of upside to Packaging? I know you talked about near-term less destocking. If we think out to the future, is the growth story a little more muted than we thought? If you can provide some more color there.
Jean-Marc Germain (CEO)
Yeah, I, Timna, I think it's I would qualify it as tweaking around the edges here. A 1% difference in growth rate doesn't impact so much, but certainly not a 25 outlook, nor even a 28 outlook. No, and I, I think it's more a reflection of the fact that because we have had that kind of setback with the reduction in volume this year, we think that, you know, the long-term growth rate may be a little bit more muted, because otherwise that would imply a very significant catch-up very soon in packaging. It's more kind of the arithmetic of how we look at the packaging market long term. We continue to think it's a good market. The cans continue to win share, to gain share against all the substrates, but the paths may be a little bit more moderate, but still, very attractive to us.
Timna Tanners (Managing Director)
Okay, thanks. The German sale that you detailed, what does that say about the building construction market outlook? 'Cause it seemed to us that maybe that was near a bottom, so, but you're also exiting it, and so I'm just wondering what we should take away from that in terms of your outlook for that segment.
Jean-Marc Germain (CEO)
Well, that was an opportunistic sale. Building and construction, as you know, is not a big market for us, right? It's a couple of a percent of our total sales as a company, so it's certainly not an area of focus for us. What happened here is we got these three plants. We have actually improved performance of these three plants quite a fair amount in the past five years. We had somebody come to us and say: We're interested in buying them. We want to expand in the German market. You've got a situation where we, as a company, don't view these plants as strategic, and we've made a nice improvement in profitability, and we've got a buyer who's interested in them and places a higher value than we do on this business.
It's a matter of, you know, if we keep a business, we will have to put some capital expenditures in. Is it the best return for us? We don't think so, and therefore, the decision was relatively easy. Once it was clear that the buyer was putting a higher value on the assets than we did, it made sense to sell them. It wasn't so much about, you know, we're afraid of the outlook in building and construction, it's just that it was the right thing to do for us at the right time.
Jack Guo (CFO)
Yeah. Timna, I would just reemphasize what Jean-Marc mentioned earlier. You know, you know, we didn't put this business on the market, and this was not a fire sale, if you will. It was really an opportunistic transaction. It's been years in the making, right? Just the timing kind of worked out the way it did. The business is a better fit in the buyer's portfolio than in our portfolio.
Timna Tanners (Managing Director)
No, that's helpful color. Thank you. Makes a lot of sense. If I could squeeze one more in. I was interested
Jean-Marc Germain (CEO)
Sure
Timna Tanners (Managing Director)
In your talk about potentially pushing out some of the expansion to 2026. As you know, there's what, three new mills that are kind of targeting that same timeframe. I just wanted to ask if you're seeing any evidence of them in the market starting to talk about contract extensions, or if there's any influence on, of the new mills in your discussions?
Jean-Marc Germain (CEO)
No
Timna Tanners (Managing Director)
with customers that far out?
Jean-Marc Germain (CEO)
No, there isn't. As we said, we are fully contracted out, we are through 2026, we've got contracts that go into 2027, 2028, 2029. It's more a matter of us looking at what do we think the long-term forecast is and how quickly do we need the extra capacity? Because we need it, but the question is, do we need it in January 2024, 2025, 2026? We don't want to spend the money sooner than we need, and we certainly don't want to spend it later than we need, because otherwise we'd be not meeting our contractual commitments. It's really about, you know, talking with our customers through their expectations and getting a sense of what do we need to do when. Again, those volumes are contracted.
Timna Tanners (Managing Director)
Got it. Okay, thanks again.
Jean-Marc Germain (CEO)
As you know, there is a margin, a tolerance, right? Typically within a contract, it's not like it's a absolutely firm amount of tons, right? There's a margin and, you know, we're talking of playing within that margin, that tolerance around the contract and looking at if the markets are soft, we'll delay it a bit. If the markets are strong, we'll pull it forward.
Timna Tanners (Managing Director)
Got it.
Jean-Marc Germain (CEO)
Thank you.
Jack Guo (CFO)
Thank you.
Moderator (participant)
Thank you. The next question today comes from the line of Corinne Blanchard from Deutsche Bank. Corinne, please go ahead. Your line is now open.
Corinne Blanchard (Director)
Hey, good morning, everyone. I want to come back to the guidance, and I know there has been a lot of questions, but was the guidance lift mostly driven by the performance of 1Q and 2Q, implying kind of, you know, relatively unchanged assumption for the second half of the year? Is that the correct assumption of it?
Jack Guo (CFO)
No, I wouldn't say that. I would say it. Well, yes, it's partially driven by the outperformance in the first half. When we look at the second half, we do expect some of the underlying strength that's strengthening the business to continue into the second half. That will drive additional outperformance in the second half.
Jean-Marc Germain (CEO)
Yeah. To agree
Corinne Blanchard (Director)
Right
Jean-Marc Germain (CEO)
We expect aerospace to continue to be strong. We expect packaging to close a bit of the gap. Our pricing is very good, and that should give us some lift. We expect to continue to suffer pain in the specialties segment, and we continue to expect the automotive to be strong. Pretty much what you saw at play in the first half will continue in the second half, and we're raising Our own internal expectations have been raised for the second half.
Corinne Blanchard (Director)
Okay, that makes sense. What would be the likelihood for you guys to potentially increase again next quarter? Because if you assume you have significant performance, again, from A&T and higher margin into the second half versus, you know, EUR 900 or EUR 1,000 per ton for the usual cycle, very likely you should see an annual number that is going to be toward the annual above the guidance, right?
Jean-Marc Germain (CEO)
Well, at this stage, this is our best outlook, right? Obviously, there's plenty of hypotheses into it. You know, you can have several of them turn better or several of them turn worse, depending on how many of them turn better or worse, you can be, you know, within the guidance or outside of the guidance. This is our best view of today's conditions and outlook and what it means for the company. There's some, you know, some risks out there, right? Which we bake into our guidance, like the. There's lots of talk about a UAW strike and the automakers.
I mean, if they stop their lines, we're not gonna ship to them, right? We try to factor that in our guidance as well. Other things, you know, spot prices for energy, they are low, but remember, we're 90% hedged, and in some of our markets, we are actually producing, you know, 20%, 30% less than what we should. Therefore, we got positions in energy that we have to unwind in the market that we're making losses on. There, you got all these factors at play, and today, our best view of it is EUR 700 to EUR 720, and, you know, obviously, we're working hard to meet our targets and beat them if we can.
Corinne Blanchard (Director)
Yeah, that makes sense.
Jack Guo (CFO)
Marie, just bear in mind. Sorry, just bear in mind, you know, second half, there's seasonality impact as well, so you can't just look at the outperformance in the first half and put it on to the second half. We got to take that into consideration.
Corinne Blanchard (Director)
Got it. Just quickly to come back on, cash flow, free cash flow guidance was increased. You talk about the net debt target to be almost right where you want to be it. You're going to have some cash flow there that you can invest. Is there any specific area or any specific end market that you would give priority first?
Jack Guo (CFO)
I think, you know, Well, I mean, over the short term, you know, we want to maintain, as we mentioned, a balanced capital allocation policy. You know, we guided EUR 340-EUR 350 of CapEx, so you can count, you know, that numbering for the full year. You know, as we continue to generate free cash flow, and Jean-Marc alluded to this, you know, we'll look at, you know, other opportunities to reduce our growth debt obligation. Increasing financial flexibility is not just about the leverage target, it's also about reducing the growth debt obligation. I don't know if that's what you're asking.
Corinne Blanchard (Director)
Yeah, that's helpful. Thank you. That's it for me.
Jean-Marc Germain (CEO)
Thank you.
Jack Guo (CFO)
Thank you.
Moderator (participant)
Thank you. The next question today comes from the line of Josh Sullivan from The Benchmark Company. Please go ahead, Josh, your line is now open.
Josh Sullivan (Senior Analyst)
Hey, good morning.
Jean-Marc Germain (CEO)
Morning, Josh.
Jack Guo (CFO)
Josh.
Josh Sullivan (Senior Analyst)
Just regarding aerospace demand, do you think you're shipping product in concert with the current build rates communicated by aerospace OEMs?
Jean-Marc Germain (CEO)
Well, there's a lag, obviously, Josh, as you know, between, you know, what they're building today and what they will need to build in the future years, and we tend to be, you know, one to two years ahead. Yes, I think we are. Another way to answer your question would be to say that we think we've got sustained growth ahead of us that will take us higher than pre-COVID levels, somewhere around 25 would be my guess. We see continued strength because anything that we can make is needed.
Josh Sullivan (Senior Analyst)
As far as the OEM's inventories, you don't think you're, you don't think that's a headwind anymore. You think you're shipping at rate with what they're communicating?
Jean-Marc Germain (CEO)
Yes, yes. I'm not even sure there are some parts of the supply chain where restocking is complete, others where it isn't, I think Yes, we, everything
Josh Sullivan (Senior Analyst)
Yeah.
Jean-Marc Germain (CEO)
We can everything we can make, we can ship.
Josh Sullivan (Senior Analyst)
Okay. Okay. As we look to later in the decade, you know, there's some aspirational build rate targets that some of the aerospace OEMs would like to get to. How should we think of Constellium's capacity to maybe address some of those out-year targets?
Jean-Marc Germain (CEO)
Yeah. Yeah, that's gonna require a lot of work from us, Josh, because as I mentioned, you know, our strategy is focused on value-added products, and there's several pillars to our strategy, but that's the number one. We are making more and more complex, complicated, high-value products, which take more time. If you look at the pre-COVID shipments we're making, say 2019, and you contrast that with what we could be making in 2025
The same tons, number of tons, will require much more work and will command even more value-added revenue and EBITDA. We have challenges in terms of capacity, and the teams are working very hard to debottleneck our plants and make some smart investments, smart CapEx into the plants so that we build more flexibility, more capability, more capacity. That's gonna be a challenge, but we're very excited about it. It's a good challenge to have, and it creates very nice opportunities for very high return on our capital expenditures.
Josh Sullivan (Senior Analyst)
Then just as you look to, you know, refine the portfolio, and I understand the divestiture was more opportunistic, but as you're talking about some of those higher value products in aerospace, do you think you'll move up the value chain at all, or are there opportunities to do more complex products for your aerospace or space customers?
Jean-Marc Germain (CEO)
There is some, but it's at the margin. you know, so I think it's a constant gradual improvement. What you have seen is what you will continue to see. There's no. It's an evolution. There's no, you know, revolution in terms of our product positioning or our manufacturing, capabilities or footprint.
Josh Sullivan (Senior Analyst)
Got it. Great. Thank you for the time.
Jean-Marc Germain (CEO)
Thank you.
Moderator (participant)
Thank you. The next question today comes from the line of Sean Wondrack from Deutsche Bank. Sean, please go ahead. Your line is now open.
Jean-Marc Germain (CEO)
Morning, Sean.
Sean Wondrack (Director)
Hi. Good morning. Thank you for taking my questions, and congratulations to Ingrid on the promotion.
Jean-Marc Germain (CEO)
Thank you.
Sean Wondrack (Director)
Just going back, and sorry to beat the dead horse here, with the packaging question. Last quarter when we spoke, you seemed a little bit down on the segment. You weren't, you know, quite sure if they were going to get into enough marketing and enough promotional activity, to kinda move the process along there. It does sound like your demeanor has improved a little bit, with respect to that. Would you say that's fair to say, that maybe you're kinda seeing what you needed to see there? Maybe we're in the early innings of the recovery, or can you just comment on that a little more, please?
Jean-Marc Germain (CEO)
Yeah, I think, I think that's fair, Sean. The second quarter was not as bad from a comp basis as the first quarter. What we have in our books for the third quarter is making some progress. The comps also are getting easier because we started seeing some slowdown in the second half of last year as well. We're getting to a more normal territory, so that's good. It's factored, obviously, in our in our forecast, in our guidance.
We believe, as we look at the data, that cans continue to be the preferred package. It was clear when cans had the upswing. It's also very clear in the downturn, and I think that's very reassuring for the long run. That's why that's the, the long-term view is coloring a little bit my lenses here, which is, it is a package that has a very good future, and that's good for us.
Sean Wondrack (Director)
That's good to hear. Just, you know, due to your own improvement here, with leverage coming down so much, and getting closer to that target, when you think about capital allocation, is there any chance that you would consider some form of M&A, whether it's North America or Europe to either add another leg to the stool or whatnot?
Jean-Marc Germain (CEO)
That's part of, indeed, of the capital allocation choices we've got to make. The first thing about M&A is, most of them fail, so if we were to go down that path, they fail for the buyer, by the way. If we were to go down that path, we would be highly selective. That's really important. It would need to be in line with our strategy, we would be highly selective. Jack, you want to comment further?
Jack Guo (CFO)
Yeah, I would just basically repeat what you just said. I mean, look, M&A is a tool in the toolkit, as I like to say, right? I think, on being selective we have to be really convinced any deals we do will create access, value for our shareholders. The targets will have to be a good fit, strategically, and they have to be a good fit culturally, and we will not jeopardize our financial flexibility. If that's helpful.
Sean Wondrack (Director)
All right. No, that's very helpful. I appreciate it, and thank you for taking my questions today.
Jean-Marc Germain (CEO)
Thank you.
Jack Guo (CFO)
Thank you.
Moderator (participant)
Thank you. There are no additional questions waiting at this time. I'd like to pass the conference back over to Jean-Marc Germain, CEO of Constellium, for any closing remarks.
Jean-Marc Germain (CEO)
Well, thank you very much, everybody, for attending today. As you can see, we're very pleased with the progress we're making and very pleased with our revised outlook, and we look forward to updating you on our further progress in a few months' time. Thank you. Have a good day.
Moderator (participant)
This concludes today's conference call. Thank you all for your participation. You may now disconnect your line.