Cummins Inc. Q2 2018 Financial Summary
Business Context and Reporting Period
This Form 8-K, dated July 31, 2018, reports the unaudited financial results for Cummins Inc. for the second quarter and first six months ended July 1, 2018. The company operates through Engine, Distribution, Components, Power Systems, and a newly formed Electrified Power segment (effective Jan 1, 2018).
Key Financial Metrics
| Metric (in millions) | Q2 2018 | Q2 2017 | YTD 2018 | YTD 2017 |
|---|---|---|---|---|
| Net Sales | $6,132 | $5,078 | $11,702 | $9,667 |
| Gross Margin | $1,440 | $1,251 | $2,640 | $2,383 |
| Operating Income | $722 | $586 | $1,252 | $1,126 |
| Net Income (Cummins Inc.) | $545 | $424 | $870 | $820 |
| Diluted EPS | $3.32 | $2.53 | $5.27 | $4.88 |
| EBITDA | $897 | $764 | $1,597 | $1,469 |
| Cash & Equivalents (End of Period) | $1,318 | N/A | $1,318 | N/A |
| Commercial Paper | $802 | N/A | $802 | N/A |
| Long-term Debt | $1,556 | N/A | $1,556 | N/A |
Operating Cash Flow (YTD): $473 million (2018) vs. $826 million (2017).
Dividends Declared: $1.08 per share (Q2 2018) vs. $1.025 (Q2 2017).
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 21% year-over-year in Q2 and 21% YTD, driven by growth across all segments, particularly Engine and Components.
- Profitability: Operating income rose 23% in Q2 and 11% YTD. Diluted EPS increased 31% in Q2 and 8% YTD.
- Unusual Items (Engine System Campaign): The company recorded a significant charge of $181 million ($0.85 per share) in Q2 2018 related to an expanded emissions campaign for pre-2013 model year engines. This follows a $187 million charge in Q1 2018. The total accrual for this matter is now $404 million.
- Cash Flow: Operating cash flow decreased significantly YTD ($473M vs $826M) primarily due to increased working capital requirements (receivables and inventories) and the loss contingency payments related to the engine campaign.
- Capital Allocation: Share repurchases increased to $379 million YTD 2018 compared to $120 million YTD 2017.
Outlook, Risks, and Management Commentary
- Engine Campaign Status: Cummins reached an agreement with the CARB and EPA in Q2 2018 regarding the engine system campaign. The campaigns are expected to begin in Q3 2018 and be substantially completed by December 31, 2020. The hardware replacement solution is a higher-cost approach than previously assumed.
- Segment Performance: The new Electrified Power segment was established to serve electrification needs. EBITDA margins varied by segment, with Power Systems at 14.9% and Distribution at 7.3% for Q2 2018.
- Accounting Changes: The company retroactively adopted a new accounting standard for pension and other postretirement benefit costs effective Jan 1, 2018, adjusting prior period balances.
Investor Verification Checklist
- Engine Campaign Costs: Verify the $404 million total accrual and the timeline for the hardware replacement campaign (completion by end of 2020).
- Working Capital Trends: Investigate the drivers behind the $555 million increase in receivables and $475 million increase in inventories YTD, which negatively impacted operating cash flow.
- EBITDA Adjustments: Review the reconciliation of GAAP Net Income to EBITDA, specifically the exclusion of the $181 million Q2 charge to understand underlying operational performance.
- Debt Structure: Note the increase in commercial paper from $298 million (Dec 2017) to $802 million (July 2018) and assess liquidity coverage.