Allison Transmission Holdings, Inc. — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Allison designs and manufactures commercial and defense fully automatic transmissions. Amounts below are in millions of dollars except per-share data.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $595 | $434 | $1,674 | $1,371 |
| Gross profit | $302 | $204 | $843 | $646 |
| Gross margin | 51% | 47% | 50% | 47% |
| Operating income | $198 | $104 | $524 | $342 |
| Net income | $111 | $45 | $289 | $154 |
| Diluted EPS | $0.75 | $0.27 | $1.90 | $0.91 |
| Adjusted EBITDA and margin (non-GAAP) | $241; 40.5% | $151; 34.7% | $658; 39.3% | $486; 35.4% |
| Cash from operations | $215 | $128 | $492 | $416 |
| Adjusted free cash flow (non-GAAP) | $195 | $115 | $452 | $385 |
Q3 revenue increased 37% year over year; nine-month revenue increased 22%. Q3 operating income rose 90% and net income rose 147%; for nine months, operating income increased 53% and net income increased 88%. Management attributed stronger gross margins primarily to sales volume and product price increases, partly offset by higher material costs and incentive compensation. Q3 interest expense was $26 versus $22; nine-month interest expense declined to $78 from $84.
Balance sheet, debt and liquidity
- At September 30, 2017, cash and equivalents were $210, versus $205 at year-end 2016. Current assets were $665 and current liabilities $444.
- Gross debt was $2,579: $1,179 under the variable-rate Term B-3 loan, $1,000 of 5.0% notes due 2024 and $400 of 4.75% notes due 2027. Net carrying value of long-term debt was $2,536, including financing-cost adjustments and current maturities.
- The company issued $400 of 4.75% notes in September for general corporate purposes and transaction costs. It increased revolving-credit commitments from $450 to $550; $533 was available after letters of credit, with no revolver borrowings outstanding at quarter-end.
- Total leverage ratio was 2.90x and senior secured leverage ratio 1.19x. The company reported compliance with debt covenants. It stated that operating cash flow, cash and borrowing capacity should meet requirements for the next 12 months.
- Nine-month investing cash outflow was $43, including $40 of long-lived asset additions. Financing cash outflow was $447, including $778 of share repurchases and $68 of dividends.
- Stockholders’ equity fell to $555 from $1,081 at December 31, 2016. The filing reports $778 of repurchases year to date; 6.66 million shares were repurchased in Q3 for an average $35.89 per share. The February repurchase of 10.53 million shares from related party ValueAct cost approximately $363.
Business trends, outlook and risks
Q3 growth spanned end markets: North America On-Highway sales rose 26%, service parts/support equipment/other rose 45%, defense rose 40%, and North America Off-Highway sales increased from $1 to $17, principally on hydraulic-fracturing demand. Management also cited stronger demand in Asia and Europe and in mining and energy markets. Some hybrid transit-bus growth reflected timing of customer orders. The filing provides no formal revenue or earnings guidance.
Key risks include substantial indebtedness and debt-service needs; cyclical end markets and broader economic conditions; reliance on a concentrated group of major customers; competition and changing technology or customer requirements; potential product defects, recalls and warranty costs; defense spending and hybrid-vehicle subsidies; labor disruptions; and international operating and currency risks. A 10% move in specified currencies was estimated to affect annual after-tax earnings by about $3; comparable 10% aluminum and steel price movements were estimated to affect annual after-tax earnings by about $2 and $5, respectively. The company reported $13 of environmental remediation liability for its Indianapolis facilities. Management said ordinary-course legal matters were not expected to have a material adverse effect.
Management identified revenue growth, higher gross profit, increased accounts payable and deferred revenue as contributors to stronger operating cash flow; higher receivables, inventory, cash taxes, interest and incentive payments partly offset the increase. The company uses interest-rate swaps as economic hedges, not speculative instruments; they are not designated for hedge accounting. Disclosure controls were assessed as effective, and no material change in internal control over financial reporting was reported.
Important facts for investors to verify
- Whether recent sales growth across end markets is sustained, particularly where management cited order timing or cyclical demand.
- Whether improved gross margins and Adjusted EBITDA persist as material costs, incentive compensation and product-development spending evolve.
- Debt, variable-rate exposure, covenant compliance and liquidity following the new note issuance and substantial share repurchases.
- Cash conversion and working-capital trends, including the increase in accounts receivable and inventory.
- Potential effects of customer concentration, warranty claims, environmental remediation and market risks; the filing gives no formal forward earnings guidance.