UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

 

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2009

 

OR

 

 

For the transition period from                 to                

 

Commission File Number: 001-14437

 

 

RTI INTERNATIONAL METALS, INC.

(Exact name of registrant as specified in its charter)

 

 

 

 

Registrant’s telephone number, including area code:
(412) 893-0026

 

 

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 þ     No o

 

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

  Yes o     No o

 

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

  Yes o     No þ

 

 

Number of shares of the Corporation’s common stock (“Common Stock”) outstanding as of October 30, 2009 was 30,002,780.

 

 

RTI INTERNATIONAL METALS, INC AND CONSOLIDATED SUBSIDIARIES

 

As used in this report, the terms “RTI,” “Company,” “Registrant,” “we,” “our,” and “us,” mean RTI International Metals, Inc., its predecessors, and consolidated subsidiaries, taken as a whole, unless the context indicates otherwise.

 

 

INDEX

 

PART I — FINANCIAL INFORMATION

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Operations
(Unaudited)

(In thousands, except share and per share amounts)

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets
(Unaudited)

(In thousands, except share and per share amounts)

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows
(Unaudited)

(In thousands)

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Consolidated Statement of Comprehensive Income and Shareholders’ Equity
(Unaudited)

(In thousands, except share amounts)

 

 

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

 

The accompanying unaudited Consolidated Financial Statements of RTI International Metals, Inc. and its subsidiaries (the “Company” or “RTI”) have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information and note disclosures normally included in annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information not misleading. In the opinion of management, these financial statements contain all of the adjustments of a normal and recurring nature considered necessary to state fairly the results for the interim periods presented. The results for the interim periods are not necessarily indicative of the results to be expected for the year.

 

The balance sheet at December 31, 2008 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by accounting principles generally accepted in the United States for complete financial statements. Although the Company believes that the disclosures are adequate to make the information presented not misleading, it is suggested that these financial statements be read in conjunction with accounting policies and Notes to Consolidated Financial Statements included in the Company’s 2008 Annual Report on Form 10-K.

 

 

The Company is a leading producer and global supplier of titanium mill products and a manufacturer of fabricated titanium and specialty metal components for the international aerospace, defense, energy, and industrial and consumer markets. It is a successor to entities that have been operating in the titanium industry since 1951. The Company first became publicly traded on the New York Stock Exchange in 1990 under the name RMI Titanium Co., and was reorganized into a holding company structure in 1998 under the symbol “RTI.”

 

The Company conducts business in three segments: the Titanium Group, the Fabrication Group, and the Distribution Group.

 

The Titanium Group melts, processes, and produces a complete range of titanium mill products which are further processed by its customers for use in a variety of commercial aerospace, defense, and industrial and consumer applications. With operations in Niles, Ohio; Canton, Ohio; and Hermitage, Pennsylvania; and a new facility under construction in Martinsville, Virginia, the Titanium Group has overall responsibility for the production of primary mill products including, but not limited to, bloom, billet, sheet, and plate. In addition, the Titanium Group produces ferro titanium alloys for its steel-making customers. The Titanium Group also focuses on the research and development of evolving technologies relating to raw materials, melting and other production processes, and the application of titanium in new markets.

 

The Fabrication Group is comprised of companies with significant hard-metal expertise that extrude, fabricate, machine, and assemble titanium and other specialty metal parts and components. Its products, many of which are complex engineered parts and assemblies, serve commercial aerospace, defense, oil and gas, power generation, medical device, and chemical process industries, as well as a number of other industrial and consumer markets. With operations located in Houston, Texas; Washington, Missouri; Laval, Quebec; and a representative office in China, the Fabrication Group provides value-added products and services such as engineered tubulars and extrusions, fabricated and machined components and sub-assemblies, as well as engineered systems for deepwater oil and gas exploration and production infrastructure.

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

The Distribution Group stocks, distributes, finishes, cuts-to-size, and facilitates just-in-time delivery services of titanium, steel, and other specialty metal products, primarily nickel-based specialty alloys. With operations in Garden Grove, California; Windsor, Connecticut; Sullivan, Missouri; Staffordshire, England; and Rosny-Sur-Seine, France; the Distribution Group is in close proximity to its wide variety of commercial aerospace, defense, and industrial and consumer customers.

 

Both the Fabrication Group and the Distribution Group utilize the Titanium Group as their primary source of titanium mill products.

 

 

Stock Options

 

A summary of the status of the Company’s stock options as of September 30, 2009, and the activity during the nine months then ended, is presented below:

 

 

The fair value of stock options granted was estimated at the date of grant using the Black-Scholes option-pricing model based upon the assumptions noted in the following table:

 

 

The weighted-average grant date fair value of stock option awards granted during the nine months ended September 30, 2009 was $13.88.

 

Restricted Stock

 

A summary of the status of the Company’s nonvested restricted stock as of September 30, 2009, and the activity during the nine months then ended, is presented below:

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

The fair value of restricted stock grants was calculated using the market value of the Company’s Common Stock on the date of issuance. The weighted-average grant date fair value of restricted stock awards granted during the nine months ended September 30, 2009 was $14.46.

 

Performance Share Awards

 

A summary of the Company’s performance share award activity during the nine months ended September 30, 2009 is presented below:

 

 

The fair value of the performance share awards granted was estimated by the Company at the grant date using a Monte Carlo model. The weighted-average grant date fair value of performance shares awarded during the nine months ended September 30, 2009 was $20.65.

 

 

Management evaluates the estimated annual effective income tax rate on a quarterly basis based on current and forecasted business levels and activities, including the mix of domestic and foreign results and enacted tax laws. This estimated annual effective tax rate is updated quarterly based upon actual results and updated operating forecasts. Items unrelated to current year ordinary income are recognized entirely in the period identified as a discrete item of tax. The quarterly income tax provision is comprised of tax on ordinary income at the most recent estimated annual effective tax rate, adjusted for the effect of discrete items.

 

For the nine months ended September 30, 2009, management estimates that the tax benefit of foreign losses will fully offset the Company’s U.S. tax liabilities so that the estimated annual effective tax rate applied to ordinary income is zero. The comparable rate in the same period in 2008 was 37.3%. These rates differ from the federal statutory rate of 35% principally as a result of the mix of domestic income and foreign losses benefited at lower tax rates. The lower level of expected annual income amplifies the rate impact of these mix effects in the current period compared to the comparable period last year.

 

The Company recognized a provision for income taxes of $3,901, or (82.1)% of pretax income, and $6,964, or 38.2% of pretax income, for federal, state, and foreign income taxes for the three months ended September 30, 2009 and 2008, respectively. The quarterly provision represents the discrete items of tax related to prior tax years and the reversal of tax benefits provided in previous quarters on previously reported losses. The relationship between tax expense and reported results varies from the comparable period of the prior year principally as a result of the mix of domestic income and foreign losses benefited at lower tax rates, the effect of which is amplified by the lower level of income in 2009. Included in the three month provision were discrete items totaling $283 comprised primarily of normal adjustments made upon filing the 2008 U.S. federal income tax return. Discrete items recognized during the comparable three month period ended September 30, 2008 were not material.

 

The Company recognized a provision for income taxes of $899, or (9.9)% of pretax income, and $30,311, or 36.8% of pretax income, for federal, state, and foreign income taxes for the nine months ended

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

September 30, 2009 and 2008, respectively. The provision for the current year to date period is comprised entirely of discrete items of tax related to prior years which are primarily attributable to current year adjustments to unrecognized tax benefits and normal adjustments for tax returns filed during the period. Discrete items recognized during the nine months ended September 30, 2008 were immaterial.

 

The Company is currently under examination by the Internal Revenue Service for the years 2006 and 2007. It is reasonably possible that the examination will conclude in the next twelve months; however the Company is not able to estimate the impact to unrecognized tax benefits at this time due to the preliminary status of the examination.

 

 

Basic earnings per share was computed by dividing net income (loss) by the weighted-average number of shares of Common Stock outstanding for each respective period. Diluted earnings per share was calculated by dividing net income (loss) by the weighted-average of all potentially dilutive shares of Common Stock that were outstanding during the periods presented.

 

In June 2008, the Financial Accounting Standards Board (“FASB”) amended the existing guidance for determining whether certain instruments were participating securities under the existing guidance. The new guidance clarified that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents, whether paid or unpaid, are participating securities to be included in the computation of earnings per share under the two-class method. The new guidance was effective for the Company’s fiscal year beginning January 1, 2009 and was to be applied retrospectively. The Company’s restricted stock awards are considered participating securities under the new guidance. The adoption of the new guidance reduced basic EPS by $0.02 and had no effect on diluted EPS for the nine month period ended September 30, 2008. There was no effect on basic or diluted EPS for the three month period ended September 30, 2008.

 

Actual weighted-average shares of Common Stock outstanding used in the calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2009 and 2008 were as follows:

 

 

For the three and nine months ended September 30, 2009, options to purchase 511,620 and 498,526 shares of Common Stock, at an average price of $30.86 and $31.41, respectively, have been excluded from the calculations of diluted earnings per share because their effects were antidilutive. For the three and nine months ended September 30, 2008, options to purchase 197,040 and 181,740 shares of Common Stock, at an average

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

price of $57.65 and $59.10, respectively, have been excluded from the calculation of diluted earnings per share because their effects were antidilutive.

 

 

Inventories are valued at cost as determined by the last-in, first-out (“LIFO”) method for approximately 62% and 61% of the Company’s inventories as of September 30, 2009 and December 31, 2008, respectively. The remaining inventories are valued at cost determined by a combination of the first-in, first-out (“FIFO”) and weighted-average cost methods. Inventory costs generally include materials, labor, and manufacturing overhead (including depreciation). When market conditions indicate an excess of carrying cost over market value, a lower-of-cost-or-market provision is recorded. Inventories consisted of the following:

 

 

As of September 30, 2009 and December 31, 2008, the current cost of inventories exceeded their carrying value by $75,664 and $79,104, respectively. The Company’s FIFO inventory value approximates current costs.

 

 

Goodwill.  The Company does not amortize goodwill; however, the carrying amount of goodwill is tested, at least annually, for impairment. Absent any events throughout the year which would indicate a potential impairment has occurred, the Company performs its annual impairment testing during the fourth quarter.

 

The Company performs its goodwill impairment testing at the reporting unit level. The Company’s reporting units, which are one level below its operating segments, where appropriate, are as follows: 1) the Titanium reporting unit; 2) the Fabrication reporting unit; 3) the Energy Fabrication reporting unit; 4) the U.S. Distribution reporting unit; and 5) the Europe Distribution reporting unit.

 

Goodwill is tested annually during the fourth quarter and is assessed between annual tests if an event occurs or circumstances change that would indicate the carrying value of a reporting unit may exceed its fair value. These events and circumstances may include, but are not limited to: significant adverse changes in the business climate or legal factors; an adverse action or assessment by a regulator; unanticipated competition; a material negative change in relationships with significant customers; strategic decisions made in response to economic or competitive conditions; loss of key personnel; or a more-likely-than-not expectation that a reporting unit or a significant portion of a reporting unit will be sold or disposed. The Company last performed its annual goodwill impairment test as of October 1, 2008.

 

The fair value of the Company’s reporting units is determined using a discounted cash flow model. The Company believes a discounted cash flow model is appropriate as it provides a fair value estimate based upon each reporting unit’s long-term operating and cash flow performance. This approach also considers the impact of cyclical downturns that occur in the titanium and aerospace industries.

 

Utilizing a discounted cash flow model, the fair values of the Company’s reporting units are calculated using a number of assumptions, including projected future operating results and cash flows, discount rates, and changes in working capital. The Company considers historical experience and available information at the time

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

the reporting units’ fair values are estimated. For the Company’s October 1, 2008 annual impairment test, a 12% discount rate, the Company’s base discount rate, was used for the Fabrication, U.S. Distribution, and Europe Distribution reporting units. An 11% and 13% discount rate were used for the Titanium and Energy Fabrication reporting units, respectively, reflecting adjustments to the base discount rate for specific risk factors associated with those two reporting units. At October 1, 2008, a 1% increase in the discount rate, or a 10% decrease in expected cash flows, would have indicated a potential impairment at the U.S. Distribution reporting unit, which had $6.9 million in goodwill. A 4% increase in the discount rate, or a 40% decrease in expected cash flows, would have indicated a potential impairment at the Fabrication and Energy Fabrication reporting units, which had $28.8 million and $8.7 million, respectively, in goodwill.

 

The valuation method used for the October 1, 2008 annual testing was consistent with the prior year’s annual test. Significant assumptions that changed from the prior year included general overall decreases in operating profits and related cash flow projections due to the expected near-term softening of the commercial aerospace and titanium markets. The Company reduced the Fabrication reporting unit’s cash flow projections approximately 10% from the prior year to reflect the near-term uncertainty in Boeing 787 Dreamliner^® production, offset by a more stable long-term production outlook. Cash flow projections for the U.S. Distribution reporting unit were reduced approximately 50% from the prior year to reflect declining market prices and the spot nature of sales by the U.S. Distribution reporting unit. Similarly, cash flow projections for the Energy Fabrication reporting unit were reduced approximately 50% from the prior year to reflect a forecasted reduction in orders from its energy market customers due to a forecasted decrease in energy prices from their record highs. In addition, the October 1, 2008 discount rates generally increased from the prior year. With the exception of the Titanium and Europe Distribution reporting units, the current year assumptions led to lower overall valuations of the Company’s reporting units, but did not indicate a potential impairment for any of the reporting units.

 

For the Company’s long-lead time products from the Titanium, Fabrication and Europe Distribution reporting units, the revenue and operating profit assumptions are primarily based on contractual business under various long-term agreements. Several of the larger long-term agreements were executed in 2006 and 2007, with production for these contracts not expected to ramp up until the 2011 to 2012 timeframe. For instance, the Company has a long-term supply agreement with Lockheed Martin to supply the first eight million pounds annually of titanium mill products for the Joint Strike Fighter (“JSF”) when production fully ramps up in the next decade. This volume will increase the Company’s titanium mill product shipments by more than 50% over 2008 levels over the next several years. Accordingly, operating results for the Titanium and Europe Distribution reporting units were forecasted to grow at an average Compound Annual Growth Rate (“CAGR”) of approximately 15% each in the discounted cash flow analysis, with this growth significantly weighted toward the later years of the analysis. This compares to an average CAGR of approximately 11% and 74% for the Titanium and Europe Distribution reporting units, respectively, for actual results over the previous four years. Operating results for the Fabrication reporting unit were forecasted to grow at an average CAGR of approximately 51% after year one of our discounted cash flow analysis, reflecting not only the ramp up in sales to Boeing related to the 787 Dreamliner^® program, but also the efficiencies gained as a result of the increased utilization of the unit’s production capacity.

 

For the Company’s Energy Fabrication reporting unit, orders are significantly dependent on the price of oil and natural gas. While oil prices hit record highs during the summer of 2008, the Company anticipated that, with the onset of the global financial recession, accelerated by the global credit crisis and rising unemployment, the prices of oil and natural gas would continue to fall and capacity increases in the oil and natural gas production industry would slow. As a result of these expectations, cash flows for the Energy Fabrication reporting unit were forecasted to grow at an average CAGR of approximately 11% in the

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

discounted cash flow analysis compared to an average CAGR of approximately 40% for actual results over the previous four years.

 

For the Company’s U.S. Distribution reporting unit, orders are dependent upon current market conditions. The Company uses its historical market expertise to make assumptions about future trends for this reporting unit. In light of the global recession and global credit crisis, the Company forecasted a significant near-term reduction in both volume and selling prices. Accordingly, cash flows for the U.S. Distribution reporting unit were forecasted to grow at an average CAGR of approximately 6% in the discounted cash flow analysis.

 

As a part of the October 1, 2008 annual impairment test, and at December 31, 2008, the Company considered its market capitalization relative to its book value in evaluating for potential goodwill impairment. This evaluation included a consideration of both qualitative and quantitative factors. The Company believed the decline in its stock price was significantly affected by the equity market’s reaction to the global economic recession, exacerbated by the global credit crisis that began in September 2008. The Company considered these events in relation to its business which had a strong backlog and relies heavily on long-term contracts and pricing which extends out over the next seven to ten years. Other qualitative factors which were considered included:

 

 

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

 

 

Additionally, the Company considered, consistent with FASB’s authoritative guidance, the impact of a control premium which may effectively cause a company’s aggregate fair value of its reporting units to exceed its current market capitalization due to the ability of the controlling shareholder to benefit from synergies and other intangible assets that arise from such control. The fair value of the Company’s reporting units, using the aforementioned discounted cash flow analysis and assumptions, exceeded its market capitalization through the year.

 

The decline in the Company’s sales and operating results during the quarterly periods since October 1, 2008 did not result in a re-evaluation of goodwill because, excluding the nonrecurring cost overruns and execution issues at certain of our locations, the Company had forecasted significant declines in its results when performing the October 1, 2008 annual impairment test. The Company does not believe the nonrecurring cost overruns and execution issues associated with the Fabrication and Energy Fabrication reporting units were long-term in nature and indicative of a permanent decline in business opportunities that would be considered an indicator of potential impairment.

 

There have been no impairments to date; however, uncertainties or other factors that could result in a potential impairment in future periods may include continued long-term production delays or a significant decrease in expected demand related to the Boeing 787 Dreamliner^® program, as well as any cancellation of one of the major aerospace programs the Company currently supplies, including the JSF program or the Airbus family of aircraft, including the A380 and A350XWB programs. In addition, the Company’s ability to ramp up its production of these programs in a cost efficient manner, or a long-term slowdown or delay in the energy-related markets, may also impact the results of a future impairment test.

 

In September 2009, Boeing released an updated production schedule in response to the most recent delay in the first flight of the Boeing 787 Dreamliner^®. The new production schedule did not significantly change from the previous schedule. As such, the Company determined the release of the new Boeing production schedule was not a triggering event for an interim impairment test.

 

The carrying amount of goodwill attributable to each segment at December 31, 2008 and September 30, 2009 was as follows:

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

Intangibles.  Intangible assets consist of customer relationships as a result of the Company’s prior acquisitions. These finite-lived intangible assets, which were valued at fair value using an Income approach, are being amortized over 20 years. The Company believes that this approach is appropriate because it provides a fair value estimate based on the expected long-term cash flows associated with the revenues generated from these customer relationships. In the event that long-term demand or market conditions change and the expected future cash flows associated with these assets is reduced, a write-down or acceleration of the amortization period may be required.

 

There were no intangible assets attributable to our Titanium Group and Distribution Group at December 31, 2008 and September 30, 2009. The carrying amount of intangible assets attributable to our Fabrication Group at December 31, 2008 and September 30, 2009 was as follows:

 

 

 

The Company reported a liability for unearned revenue of $20,249 and $22,352 as of September 30, 2009 and December 31, 2008, respectively. These amounts primarily represent payments received in advance from commercial aerospace, defense, and energy market customers on long-term orders, which the Company has not recognized as revenue.

 

 

Other income for the three months ended September 30, 2009 and 2008 was $252 and $551, respectively. Other income (expense) for the nine months ended September 30, 2009 and 2008 was $2,006 and $(129), respectively. Other income (expense) consists primarily of foreign exchange gains and losses from international operations and fair value adjustments related to the Company’s foreign currency forward contracts. See Note 15 to the Company’s Condensed Consolidated Financial Statements for further information on the Company’s foreign currency forward contracts.

 

 

Components of net periodic pension and other post-retirement benefit cost for the three and nine months ended September 30, 2009 and 2008 for those salaried and hourly covered employees were as follows:

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

The Company made a cash contribution totaling $2.6 million to its Company-sponsored pension plans during September 2009 in order to maintain its desired funding status. No further contributions are required during fiscal year 2009.

 

 

From time to time, the Company is involved in litigation relating to claims arising out of its operations in the normal course of business. In the Company’s opinion, the ultimate liability, if any, resulting from these matters will have no significant effect on its Consolidated Financial Statements. Given the critical nature of many of the aerospace end uses for the Company’s products, including specifically their use in critical rotating parts of gas turbine engines, the Company maintains aircraft products liability insurance of $350 million, which includes grounding liability.

 

Environmental Matters

 

The Company is subject to environmental laws and regulations as well as various health and safety laws and regulations that are subject to frequent modifications and revisions. While the costs of compliance for these matters have not had a material adverse impact on the Company in the past, it is not possible to accurately predict the ultimate effect these changing laws and regulations may have on the Company in the future. The Company continues to evaluate its obligation for environmental-related costs on a quarterly basis and makes adjustments as necessary.

 

Given the status of the proceedings at certain of the Company’s sites and the evolving nature of environmental laws, regulations, and remediation techniques, the Company’s ultimate obligation for investigative and remediation costs cannot be predicted. It is the Company’s policy to recognize environmental costs in the financial statements when an obligation becomes probable and a reasonable estimate of exposure can be determined. When a single estimate cannot be reasonably made, but a range can be reasonably estimated, the Company accrues the amount it determines to be the most likely amount within that range.

 

Based on available information, the Company believes that its share of possible environmental-related costs is in a range from $913 to $2,385 in the aggregate. At September 30, 2009 and December 31, 2008, the amounts accrued for future environmental-related costs were $1,546 and $2,259, respectively. Of the total amount accrued at September 30, 2009, $1,310 is expected to be paid out within the next twelve months, and is included in the Other accrued liabilities line of the balance sheet. The remaining $236 is recorded in Other noncurrent liabilities. During the nine months ended September 30, 2009, the Company made payments totaling $792 related to its environmental liabilities.

 

As these proceedings continue toward final resolution, amounts in excess of those already provided may be necessary to discharge the Company from its obligations for these sites, which include the Ashtabula River and the Reserve Environmental Services Landfill.

 

Duty Drawback Investigation

 

The Company maintained a program through an authorized agent to recapture duty paid on imported titanium sponge as an offset against exports for products shipped outside the U.S. by the Company or its customers. The agent, who matched the Company’s duty paid with the export shipments through filings with U.S. Customs and Border Protection (“U.S. Customs”), performed the recapture process.

 

Historically, the Company recognized a credit to Cost of Sales when it received notification from its agent that a claim had been filed and received by U.S. Customs. For the period January 1, 2001 through March 31, 2007, the Company recognized a reduction to Cost of Sales totaling $14.5 million associated with the recapture of duty paid. This amount represents the total of all claims filed by the agent on the Company’s behalf.

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

During 2007, the Company received notice from U.S. Customs that it was under formal investigation with respect to $7.6 million of claims previously filed by the agent on the Company’s behalf. The investigation relates to discrepancies in, and lack of supporting documentation for, claims filed through the Company’s authorized agent. The Company revoked the authorized agent’s authority and is fully cooperating with U.S. Customs to determine the extent to which any claims may be invalid or may not be supportable with adequate documentation. In response to the investigation noted above, the Company suspended the filing of new duty drawback claims through the third quarter of 2007. The Company is fully engaged and cooperating with U.S. Customs in an effort to complete the investigation in an expeditious manner.

 

Concurrent with the U.S. Customs investigation, the Company has performed an internal review of the entire $14.5 million of drawback claims filed with U.S. Customs to determine to what extent any claims may have been invalid or may not have been supported with adequate documentation. As a result, the Company recorded charges totaling $8.0 million to Cost of Sales through December 31, 2008. The Company recorded charges totaling $0.2 million and $2.3 million during the three months ended March 31, 2009 and June 30, 2009, respectively. No additional charges were recorded during the three months ended September 30, 2009. The $2.3 million charge during the three months ended June 30, 2009 resulted from the receipt of formal notice from U.S. Customs in June 2009 indicating that they had denied certain of the Company’s previously filed duty drawback claims. The $2.3 million charge represents 100% of the denied claims. While the Company has reserved the right to formally protest the denial of these claims, the inherent risks and uncertainties of the protest process make it probable that it will ultimately be required to reimburse U.S. Customs for the value of these denied claims.

 

These abovementioned charges represent the Company’s current best estimate of probable loss. Of this amount, $9.5 million was recorded as a contingent current liability and $1.0 million was recorded as a write-off of an outstanding receivable representing claims filed which had not yet been paid by U.S. Customs. Through December 31, 2008, the Company repaid to U.S. Customs $1.1 million for invalid claims. The Company made additional repayments totaling $0.3 million during the nine months ended September 30, 2009. As a result of these payments, the Company’s liability totaled $8.0 million as of September 30, 2009. While the Company’s internal investigation into these claims is complete, there is not a timetable of which it is aware for when U.S. Customs will conclude its investigation.

 

While the ultimate outcome of the U.S. Customs investigation is not yet known, the Company believes there is an additional possible risk of loss between $0 and $3.0 million based on current facts, exclusive of amounts imposed for interest and penalties, if any, which cannot be quantified at this time. This possible risk of future loss relates primarily to indirect duty drawback claims filed with U.S. Customs by several of the Company’s customers as the ultimate exporter of record in which we shared in a portion of the revenue.

 

Other Matters

 

The Company is also the subject of, or a party to, a number of other pending or threatened legal actions involving a variety of matters incidental to its business. The Company is of the opinion that the ultimate resolution of these matters will not have a material adverse effect on the results of the operations, cash flows, or the financial position of the Company.

 

 

On September 11, 2009, the Company completed a public equity offering of 6.9 million shares of its Common Stock, which included an increase in the size of the offering from 5.0 million to 6.0 million shares and the exercise of the over-allotment option of 0.9 million shares, at $19.50 per share. The offering raised $134.6 million before offering costs. After the underwriters’ discounts and other expenses of the offering, the

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

Company received net proceeds totaling $127.4 million which were recorded in Shareholders’ Equity. The Company used the proceeds of the offering, in addition to its cash and cash equivalents on hand, to repay all amounts outstanding under its $225 million senior term loan (the “Term Loan”), the $13.1 million outstanding under its credit facility between RTI Claro and National City Bank’s Canada Branch (the “Canadian Facility”), and the $4.5 million outstanding on its Canadian interest-free loan agreement.

 

 

On September 18, 2009, the Company repaid all amounts outstanding under the Term Loan, Canadian Facility, and Canadian interest-free loan agreement. As part of the repayment of the Term Loan, the Company recorded a $4.9 million fee associated with the termination of its interest rate swap agreements and a $0.8 million charge associated with the write-off of deferred financing fees. Both charges were recorded as a component of Interest expense.

 

In connection with these repayments, the Company and its lenders completed the first amendment (the “Amendment”) to its Amended and Restated Credit Agreement (the “Credit Agreement”). The primary effect of the Amendment is to provide the Company additional flexibility on the Interest Coverage ratio covenant of the Credit Agreement by excluding the interest paid under the Term Loan and the Canadian Facility from the calculation and to provide additional flexibility on the Net Debt to EBITDA ratio covenant by permitting certain charges to be added back to net income for the purpose of determining EBITDA. The Amendment also increased the margin added to both the base interest rate and the LIBOR interest rate and increased the facility fee. There were no additional changes to the covenants under the Credit Agreement.

 

Long-term debt consisted of:

 

 

 

The Company has three reportable segments: the Titanium Group, the Fabrication Group, and the Distribution Group.

 

The Titanium Group’s products consist primarily of titanium mill products and ferro titanium alloys. The mill products are sold to a customer base consisting primarily of manufacturing and fabrication companies in the supply chain for the commercial aerospace, defense, and industrial and consumer markets. Customers include prime aircraft manufacturers and their family of subcontractors including fabricators, forge shops, extruders, casting producers, fastener manufacturers, machine shops, and metal distribution companies. Titanium mill products are semi-finished goods and usually represent the raw or starting material for these customers who then form, fabricate, machine, or further process the products into semi-finished and finished parts.

 

The Fabrication Group is comprised of companies with significant hard-metal expertise that extrude, fabricate, machine, and assemble titanium and other specialty metal parts and components. Its products, many of which are complex engineered parts and assemblies, serve the commercial aerospace, defense, oil and gas,

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

power generation, medical device, and chemical process industries, as well as a number of other industrial and consumer markets.

 

The Distribution Group stocks, distributes, finishes, cuts-to-size, and facilitates just-in-time delivery services of titanium, steel, and other specialty metal products, primarily nickel-based specialty alloys.

 

Both the Fabrication Group and the Distribution Group utilize the Titanium Group as their primary source of titanium mill products. Intersegment sales are accounted for at prices that are generally established by reference to similar transactions with unaffiliated customers. Reportable segments are measured based on segment operating income after an allocation of certain corporate items such as general corporate overhead and expenses. Assets of general corporate activities include unallocated cash and deferred taxes.

 

A summary of financial information by reportable segment is as follows:

 

 

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

 

 

When appropriate, the Company uses derivatives to manage its exposure to changes in interest and exchange rates. The Company’s derivative financial instruments are recognized on the balance sheet at fair value. Changes in the fair value of derivative instruments designated as “cash flow” hedges, to the extent the hedges are highly effective, are recorded in other comprehensive income, net of tax effects. The ineffective portions of “cash flow” hedges, if any, are recorded into current period earnings. Amounts recorded in other comprehensive income are reclassified into current period earnings when the hedged transaction affects earnings. Changes in the fair value of derivative instruments designated as “fair value” hedges, along with corresponding changes in the fair values of the hedged assets or liabilities, are recorded in current period earnings.

 

On September 16, 2009, the Company terminated its interest rate swap agreements (the “swap agreements”), which had been classified as cash flow hedges, in preparation for payoff of the Term Loan. The swap agreements, with notional amounts totaling $146.3 million, effectively converted, from floating-rate to a fixed-rate of 4.92%, the first 65% of interest payments on the Term Loan. The termination of the interest rate swap agreements resulted in a $4.9 million charge to Interest expense.

 

As of September 30, 2009, the Company maintained several foreign currency forward contracts, with notional amounts totaling €5.0 million, that are used to manage foreign currency exposure related to equipment purchases associated with the Company’s ongoing capital expansion projects. These forward contracts settle throughout 2009. These forward contracts have not been designated as hedging instruments; therefore changes in the fair value of these forward contracts are recorded in current period earnings within Other income (expense).

 

A summary of the Company’s derivative instrument portfolio as of September 30, 2009, is below:

 

 

 

The FASB defines fair value as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based upon assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, a three-tier fair value hierarchy prioritizes the inputs utilized in measuring fair value as follows: (Level 1) observable inputs such as quoted prices in active markets; (Level 2) inputs other than the quoted prices in active markets that are observable either directly or indirectly; and (Level 3) unobservable inputs in which there is little or no market

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

data and which requires the Company to develop its own assumptions. The hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value. On a recurring basis, the Company measures certain financial assets and liabilities at fair value, including its cash equivalents.

 

The Company’s cash equivalents consist of highly liquid Money Market Funds that are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices. The Company’s foreign currency forward contracts are estimated utilizing the terms of the contracts and available forward pricing information. However, because these derivative contracts are unique and not actively traded, the fair values are classified as Level 2 estimates.

 

Listed below are the Company’s assets, and their fair values, that are measured at fair value on a recurring basis as of September 30, 2009.

 

 

As of September 30, 2009, the Company had no liabilities that are measured at fair value on a recurring basis. As of September 30, 2009, the Company did not have any financial assets or liabilities that were measured on a nonrecurring basis.

 

 

In December 2007, the FASB revised the authoritative guidance for business combinations. The revised guidance establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any noncontrolling interest in the acquiree, and the goodwill acquired. The revised guidance also establishes additional disclosure requirements related to the financial effects of a business combination. The revised guidance became effective as of January 1, 2009. The adoption of the revised guidance did not have a material effect on the Company’s Consolidated Financial Statements.

 

In December 2007, the FASB issued authoritative guidance establishing accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent’s ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. The guidance also establishes disclosure requirements that clearly identify and distinguish between the interest of the parent and the interests of the noncontrolling owners. The guidance became effective as of January 1, 2009. The adoption of the new guidance did not have a material effect on the Company’s Consolidated Financial Statements.

 

In March 2008, the FASB issued authoritative guidance which provided for additional disclosure requirements for derivative instruments and hedging activities, including disclosures as to how and why a company uses derivative instruments, how derivative instruments and related hedged items are accounted for and how derivative instruments and related hedged items affect a company’s financial position, financial performance, and cash flows. The new guidance became effective as of January 1, 2009. The adoption of the new guidance did not have a material effect on the Company’s Consolidated Financial Statements. See Note 15

 

RTI INTERNATIONAL METALS, INC. AND SUBSIDIARIES

Condensed Notes to Consolidated Financial Statements
(Unaudited)

(In thousands, except share and per share amounts, unless otherwise indicated)

 

to the Company’s Condensed Consolidated Financial Statements for further information on the Company’s derivative instruments.

 

In June 2008, the FASB issued authoritative guidance which clarified that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents, whether paid or unpaid, are participating securities to be included in the computation of earnings per share under the two-class method. The new guidance became effective as of January 1, 2009, and required retrospective application. The adoption of the new guidance did not have a material impact on the Company’s Consolidated Financial Statements. See Note 5 to the Company’s Condensed Consolidated Financial Statements for further information on the Company’s earnings per share.

 

In December 2008, the FASB issued revised authoritative guidance which requires additional disclosures about the plan assets of an employer’s defined benefit or other postretirement plan, to include investment policies and strategies; associated and concentrated risks; major asset categories and their fair values; inputs and valuation techniques used to measure fair-value of plan assets; and the net periodic benefit costs recognized for each annual period. The revised guidance is effective for reporting periods ending after December 15, 2009. The Company is currently evaluating the potential impact the adoption of the revised guidance will have on its Consolidated Financial Statements.

 

In April 2009, the FASB issued authoritative guidance requiring disclosures about fair value of financial instruments in interim financial statements as well as in annual financial statements. The new guidance became effective for interim reporting periods ending after June 15, 2009. The adoption of the new guidance did not have a material effect on the Company’s Consolidated Financial Statements.

 

In May 2009, the FASB issued authoritative guidance establishing general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued and disclosure of the date through which subsequent events have been evaluated. The new guidance became effective for interim reporting periods ending after June 15, 2009. The adoption of the new guidance did not have a material impact on the Company’s Consolidated Financial Statements.

 

In June 2009, the FASB issued authoritative guidance that identifies the FASB Accounting Standards Codification (the “Codification”) as the sole source of U.S. GAAP recognized by the FASB. The Codification identifies only two levels of GAAP: authoritative and nonauthoritative. The new guidance became effective for interim periods ending after September 15, 2009. The Company is utilizing the plain-English method for disclosures when referencing accounting standards. The adoption of the new guidance did not have a material effect on the Company’s Consolidated Financial Statements.

 

 

The Company evaluated subsequent events through November 5, 2009, the date the financial statements were issued.

 

 

Forward-Looking Statements

 

The following discussion should be read in connection with the information contained in the Consolidated Financial Statements and Condensed Notes to Consolidated Financial Statements. The following information contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, and is subject to the safe harbor created by that Act. Such forward-looking statements may be identified by their use of words like “expects,” “anticipates,” “intends,” “projects,” or other words of similar meaning. Forward-looking statements are based on expectations and assumptions regarding future events. In addition to factors discussed throughout this quarterly report, the following factors and risks should also be considered, including, without limitation:

 

 

Because such forward-looking statements involve risks and uncertainties, there are important factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements. These and other risk factors are set forth in this, as well as in other filings filed with or furnished to the Securities and Exchange Commission (“SEC”) over the last 12 months, copies of which are available from the SEC or may be obtained upon request from the Company.

 

Overview

 

RTI International Metals, Inc. (the “Company,” “RTI,” “we,” “us,” or “our”) is a leading producer and global supplier of titanium mill products and a supplier of fabricated titanium and specialty metal components for the international aerospace, defense, energy, and industrial and consumer markets.

 

The Titanium Group melts, processes, and produces a complete range of titanium mill products which are further processed by its customers for use in a variety of commercial aerospace, defense, and industrial and

consumer applications. With operations in Niles, Ohio; Canton, Ohio; and Hermitage, Pennsylvania; and the new facility under construction in Martinsville, Virginia, the Titanium Group has overall responsibility for the production of primary mill products including, but not limited to, bloom, billet, sheet, and plate. In addition, the Titanium Group produces ferro titanium alloys for its steel-making customers. The Titanium Group also focuses on the research and development of evolving technologies relating to raw materials, melting and other production processes, and the application of titanium in new markets.

 

The Fabrication Group is comprised of companies with significant hard-metal expertise that extrude, fabricate, machine, and assemble titanium and other specialty metal parts and components. Its products, many of which are complex engineered parts and assemblies, serve the commercial aerospace, defense, oil and gas, power generation, medical device, and chemical process industries, as well as a number of other industrial and consumer markets. With operations located in Houston, Texas; Washington, Missouri; Laval, Quebec; and a representative office in China, the Fabrication Group provides value-added products and services such as engineered tubulars and extrusions, fabricated and machined components and sub-assemblies, as well as engineered systems for deepwater oil and gas exploration and production infrastructure.

 

The Distribution Group stocks, distributes, finishes, cuts-to-size, and facilitates just-in-time delivery services of titanium, steel, and other specialty metal products, primarily nickel-based specialty alloys. With operations in Garden Grove, California; Windsor, Connecticut; Sullivan, Missouri; Staffordshire, England; and Rosny-Sur-Seine, France; the Distribution Group services a wide variety of commercial aerospace, defense, and industrial and consumer customers.

 

We closed our distribution facilities located in Indianapolis, Indiana, and Houston, Texas, during the first half of 2009. Both of these closures were completed as part of our ongoing cost rationalization strategy within the Distribution Group in light of current market conditions and did not have a material impact on our Consolidated Financial Statements.

 

Both the Fabrication and Distribution Groups access the Titanium Group as their primary source of titanium mill products. For the three months ended September 30, 2009 and 2008, approximately 47% and 42%, respectively, of the Titanium Group’s sales were to the Fabrication and Distribution Groups. For the nine months ended September 30, 2009 and 2008, approximately 52% and 45%, respectively, of the Titanium Group’s sales were to the Fabrication and Distribution Groups.

 

Our net loss for the three months ended September 30, 2009 totaled $(8.7) million, or $(0.35) per diluted share, on sales of $100.2 million, compared with net income totaling $11.3 million, or $0.49 per diluted share, on sales of $150.6 million for the three months ended September 30, 2008. Our net loss for the nine months ended September 30, 2009 totaled $(10.0) million, or $(0.42) per diluted share, on sales of $310.7 million, compared with net income of $52.1 million, or $2.26 per diluted share, on sales of $461.1 million for the nine months ended September 30, 2008.

 

Trends and Uncertainties

 

Our business has been significantly impacted by the global economic crisis. This impact was exacerbated by the severe global credit crisis that started in September 2008. Our primary market, the commercial aerospace industry, has been hit especially hard by these crises as most aircraft purchases are financed over long periods of time. The result of these two crises, combined with the long-term delays in the Boeing 787 Dreamliner^® program, is a significant oversupply of inventory and a severe contraction in demand for titanium products. As a result, our spot sales of titanium mill products have been minimal in the current year. Somewhat offsetting these impacts has been our focus on removing some of the cyclicality of the industry by signing longer-term contracts for specific quantities of material. These contracts have allowed us to maintain a level of volumes in excess of those seen during the last market downturn following September 11, 2001.

 

In such market downturns, we strive to reduce our variable costs to counteract such declines in spot sales, although we cannot always do so as quickly as sales levels decline. We continue to balance our expectations of future business with our need to control costs.

Production delays related to the Boeing 787 Dreamliner^® program continue to hamper our Fabrication and Distribution Groups. The 787 Dreamliner^®, which was initially scheduled to begin customer deliveries in late 2007, currently has a first delivery date of late 2010. We have invested a significant amount of capital into our facilities to prepare for the ramp up of 787 Dreamliner^® production. As such, while we attempt to reduce our own variable expenses (primarily labor, outside processing, overtime, and supplies) to match the reduced near-term demand from Boeing, it is not practical to reduce our fixed costs in the short and intermediate term. While we expect to receive the anticipated volumes from this program, it will be difficult to predict in what period they will occur given the uncertainty in the program’s production schedule.

 

Three Months Ended September 30, 2009 Compared To Three Months Ended September 30, 2008

 

Net Sales.  Net sales for our reportable segments, excluding intersegment sales, for the three months ended September 30, 2009 and 2008 were as follows:

 

 

The combination of a 5% decrease in the average realized selling prices of prime mill products and a 38% decrease in prime mill shipments to our trade customers resulted in a $17.9 million reduction in the Titanium Group’s net sales. The decrease in average realized selling prices was primarily due to changes in the sales mix between periods, with the mix in 2009 consisting of a higher percentage of sales related to long-term supply agreements, which generally carry lower overall sales prices and are subject to annual pricing adjustments. Furthermore, excess inventory in the market due to the ongoing Boeing 787 Dreamliner^® program delays and the lower overall titanium demand profile resulted in a reduction in spot market volume and a decrease in realized selling prices on spot sales compared to the prior period. Additionally, decreasing demand from the specialty steel industry resulted in a $2.5 million reduction in ferro titanium sales.

 

The decrease in the Fabrication Group’s net sales principally relates to continued delays in the Boeing 787 Dreamliner^® program, as well as the general downturn in the commercial aerospace market, which has resulted in a reduction in net sales totaling $4.6 million compared to the prior year. In addition, the relatively low price of oil compared to the prior year has led to a slowdown in energy exploration and development by our energy market customers, resulting in a $3.9 million decrease in net sales compared to the prior year.

 

The decrease in the Distribution Group’s net sales was principally related to lower demand resulting from the global economic downturn and the slowdown in the commercial aerospace market, both of which have resulted in higher levels of titanium inventory throughout the supply chain. Lower demand and lower realized pricing for the Distribution Group’s titanium and specialty alloys products resulted in a $15.4 million and a $6.1 million reduction in net sales, respectively.

 

Gross Profit.  Gross profit for our reportable segments, for the three months ended September 30, 2009 and 2008 was as follows:

 

The decrease in the Titanium Group’s gross profit was largely the result of lower sales levels, which reduced gross profit by $4.8 million. In addition, lower average realized selling prices and a lower margin sales mix reduced gross profit by $2.5 million. Higher raw material costs and lower overhead absorption reduced gross profit by $3.4 million. Furthermore, gross profit at the Titanium Group was unfavorably impacted by $1.6 million due to reduced sales of Titanium Group-sourced inventory by our Fabrication Group and Distribution Group business.

 

The decrease in gross profit for the Fabrication Group was driven by reduced sales volumes which reduced gross profit by $2.4 million. The decreased sales volume was partially offset by a slightly more favorable mix of products with higher margins compared to the prior year.

 

The decrease in gross profit for the Distribution Group was principally related to lower sales coupled with a decrease in realized selling prices for certain specialty metals that exceeded our decline in product cost. This decrease was partially offset by our actions taken to rationalize our domestic Distribution Group facilities and to reduce logistics costs.

 

Selling, General, and Administrative Expenses.  Selling, general, and administrative expenses (“SG&A”) for our reportable segments for the three months ended September 30, 2009 and 2008 were as follows:

 

 

The $3.3 million decrease in SG&A was primarily related to a $1.1 million reduction in salary, benefit, and incentive related expenses, driven by a reduction in expected cash incentive compensation in the current year compared to the prior year. Additionally there was a $1.2 million reduction in professional and consulting expenses. The decreases reflect management’s focus on reducing expenses during the current economic downturn while continuing to position the Company for future growth.

 

Research, Technical, and Product Development Expenses.  Research, technical, and product development expenses (“R&D”) were $0.5 million and $0.6 million for the three month periods ended September 30, 2009 and September 30, 2008, respectively. This spending reflects our continued focus on productivity and quality enhancements to our operations.

 

Operating Income (Loss).  Operating income (loss) for our reportable segments for the three months ended September 30, 2009 and 2008 was as follows:

 

 

The decrease in the Titanium Group’s operating income was primarily attributable to lower gross profit, largely due to unfavorable volume and lower realized selling prices, which were partially offset by a reduction in SG&A expenses.

The decrease in the Fabrication Group’s operating income was the result of lower sales volume to both the energy and aerospace markets partially offset by reductions in compensation, professional and consulting expenses during the period.

 

The decrease in operating income for the Distribution Group was largely due to lower demand in both the titanium and specialty alloys markets. The lower demand resulted in decreased realized selling prices for certain specialty metals that exceeded our decline in product cost. This decrease was partially offset by a decrease in compensation-related expenses and other cost management actions, including the rationalization of our domestic Distribution Group facilities.

 

Other Income.  Other income for the three months ended September 30, 2009 and 2008 was $0.3 million and $0.6 million, respectively. Other income consists primarily of foreign exchange gains and losses from our international operations and fair value adjustments related to our foreign currency forward contracts.

 

Interest Income and Interest Expense.  Interest income for the three months ended September 30, 2009 and 2008 was $0.3 million and $0.8 million, respectively. The decrease was principally related to lower returns on invested cash compared to the prior year period. Interest expense was $7.2 million and $1.0 million for the three months ended September 30, 2009 and 2008, respectively. The increase in interest expense was due to a $4.9 million charge for the termination of our interest rate swap agreements and a $0.8 million write-off of deferred financing fees as a result of the payoff of our $225 million term loan.

 

Provision for Income Taxes.  We recognized a provision for income taxes of $3.9 million, or (82.1)% of pretax income, and $7.0 million, or 38.2% of pretax income, for federal, state, and foreign income taxes for the three months ended September 30, 2009 and 2008, respectively. The quarterly provision represents the reversal of tax benefits provided in previous quarters on previously reported losses and the discrete items of tax related to prior tax years. Discrete items recognized during the current quarter related primarily to normal adjustments associated with filing the 2008 U.S. federal income tax return. Discrete items recognized in the prior year period were not material. The relationship between tax expense and reported results varied year over year primarily as a result of the mix of domestic income and foreign losses benefited at lower rates. The lower level of income amplifies the rate impact of these mix effects in the current period compared to the comparable prior period.

 

Nine Months Ended September 30, 2009 Compared To Nine Months Ended September 30, 2008

 

Net Sales.  Net sales for our reportable segments, excluding intersegment sales, for the nine months ended September 30, 2009 and 2008 were as follows:

 

 

The combination of an 8% decrease in the average realized selling prices of prime mill products and a 41% decrease in prime mill shipments to our trade customers resulted in a $63.1 million reduction in the Titanium Group’s net sales. The decrease in average realized selling prices was primarily due to a higher percentage of our sales in the current period were related to long-term supply agreements, which generally carry lower overall sales prices and are subject to annual pricing adjustments. In addition, changes in the sales mix between periods contributed to the decrease in average selling prices, with the mix in 2009 consisting of lower priced products. Furthermore, excess inventory in the market due to the ongoing Boeing 787 Dreamliner^® program delays and the lower overall titanium demand profile resulted in a reduction in spot market volume and a decrease in realized selling prices on spot sales compared to the prior period. Additionally, decreasing demand from our specialty steel customers resulted in an $8.0 million reduction in ferro titanium sales.

The decrease in the Fabrication Group’s net sales principally related to continued delays in the Boeing 787 Dreamliner^® Program, as well as the general downturn in the commercial aerospace market, which resulted in a reduction in net sales totaling $14.6 million compared to the prior year. In addition, the relatively low price of oil compared to the prior year has led to a slowdown in energy exploration and development by our energy market customers, resulting in a $12.6 million decrease in net sales compared to the prior year.

 

The decrease in the Distribution Group’s net sales was principally related to lower demand resulting from the global economic downturn and the slowdown in the commercial aerospace market, both of which have resulted in higher levels of titanium inventory throughout the supply chain. Lower demand and lower realized pricing for the Distribution Group’s titanium and specialty alloys products resulted in a $37.6 million and a $15.3 million reduction in net sales, respectively.

 

Gross Profit.  Gross profit for our reportable segments, for the nine months ended September 30, 2009 and 2008 was as follows: