Applied Industrial Technologies, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended December 31, 2020, compared with the corresponding 2019 periods. The company distributes industrial motion, fluid power, flow control and automation products and services through two reportable segments: Service Center Based Distribution and Fluid Power & Flow Control.
Financial performance
| Metric | Three months ended Dec. 31, 2020 | Three months ended Dec. 31, 2019 | Six months ended Dec. 31, 2020 | Six months ended Dec. 31, 2019 |
|---|---|---|---|---|
| Net sales | $751.3 million | $833.4 million | $1,499.1 million | $1,689.8 million |
| Gross profit / margin | $209.5 million / 27.9% | $241.2 million / 28.9% | $425.3 million / 28.4% | $492.7 million / 29.2% |
| Operating income (loss) | $(2.4) million | $58.7 million | $49.9 million | $119.9 million |
| Net income (loss) | $(5.3) million | $38.0 million | $29.5 million | $76.8 million |
| Diluted EPS | $(0.14) | $0.97 | $0.75 | $1.97 |
Quarterly sales fell 9.9%; organic sales, excluding acquisitions and currency, declined 10.5%. Six-month sales fell 11.3%, with organic sales down 12.0%. Both segments saw lower sales. Quarterly segment operating margins were 8.3% for Service Center Based Distribution before impairment and 11.3% for Fluid Power & Flow Control, versus 9.4% and 11.4%, respectively, a year earlier.
Cash flow and liquidity: Six-month operating cash flow was $159.4 million, compared with $104.9 million a year earlier; investing cash outflow was $39.2 million and financing cash outflow was $104.3 million. Cash increased $20.2 million to $288.8 million. Working capital was $725.7 million and the current ratio was 2.7 at December 31, 2020.
Debt: Total debt was $863.0 million at December 31, 2020, down from $935.3 million at June 30, 2020. The company had no revolver borrowings and $249.3 million of unused revolving capacity, net of letters of credit. It reported compliance with debt covenants; net indebtedness was 2.9 times the defined measure, against a maximum covenant of 3.75 times.
Material changes and unusual items
- The quarter included a $49.5 million pre-tax, non-cash impairment charge for assets exposed to oil and gas markets: $45.0 million of intangibles, $2.0 million of fixed assets and $2.5 million of leased assets. The charge contributed to the quarterly operating loss.
- The company also recorded $7.4 million of inventory reserves related to closed locations and $0.4 million of severance and facility-consolidation costs. Management said the impairment and these non-routine costs together reduced operating income by $57.3 million and net income by $43.7 million.
- Weaker demand, particularly in heavy industrial and oil and gas markets, pressured sales and gross margin. Cost reductions helped lower selling, distribution and administrative expense, including reduced compensation, travel and other spending.
- Operating cash flow improved year over year, primarily because of working-capital movements. The company repaid $72.3 million of debt during the six months and paid $24.9 million in dividends.
Outlook, commentary and risks
Management described demand as gradually improving but said economic uncertainty and COVID-19 effects continued. Organic sales in January through the date of the filing were down a mid-single-digit percentage year over year. Management said it continued to monitor conditions and take cost actions; some temporary cost measures were restored during the first half of fiscal 2021. The filing does not provide a sales or earnings forecast. It expects a full-year fiscal 2021 effective tax rate of 23%–25%.
Risks include continued weakness in customer markets, pandemic-related disruption, customer credit deterioration, pricing and supplier pressures, and potential further goodwill or intangible impairment if demand or forecast cash flows weaken. The FCX reporting unit’s remaining goodwill was $309.0 million; after an earlier impairment, its carrying value approximated fair value, so a further decline in projected cash flows could trigger another charge. The receivables securitization facility, with a stated termination date of August 31, 2021, is subject to availability limits tied to receivable and customer characteristics. The company said pending legal proceedings were not expected to have a material adverse effect based on information then known.
Important facts for investors to verify
- Whether demand and organic sales continue to improve, especially in oil and gas and other heavy-industrial end markets.
- Whether the $49.5 million asset impairment and $7.4 million inventory reserve are isolated, and whether further impairment is required.
- Cash generation, working-capital trends, customer credit quality and the receivables allowance, which rose to 3.6% of gross receivables from 2.9% at June 30, 2020.
- Debt repayment and covenant headroom, including the refinancing or extension of the receivables securitization facility.
- Progress integrating the two fiscal 2021 acquisitions and whether the stated 23%–25% full-year tax-rate expectation remains achievable.