Flowserve Corporation — Fiscal 2013 Form 10-K Summary
Business context and reporting period
Flowserve manufactures and services flow-control equipment, including pumps, mechanical seals, valves, automation products and aftermarket services. Its primary end markets are oil and gas, chemical, power generation, water management and general industries. Operations are organized into Engineered Product Division (EPD), Industrial Product Division (IPD) and Flow Control Division (FCD). The filing covers the fiscal year ended December 31, 2013; quarterly data are provided separately, including the fourth quarter.
Approximately 71% of 2013 sales were to international customers. Aftermarket sales represented approximately 40% of total sales, compared with 41% in 2012. Industry bookings were concentrated in oil and gas (41%), general industries (22%), chemical (20%), power generation (13%) and water management (4%).
Key financial metrics
| Metric | 2013 | 2012 | Change |
|---|---|---|---|
| Sales | $4,954.6 million | $4,751.3 million | +4.3% |
| Gross profit | $1,688.1 million | $1,581.0 million | +6.8% |
| Gross margin | 34.1% | 33.3% | +80 bps |
| Operating income | $760.3 million | $675.8 million | +12.5% |
| Operating margin | 15.3% | 14.2% | +110 bps |
| Net earnings attributable to Flowserve | $485.5 million | $448.3 million | +8.3% |
| Diluted EPS | $3.41 | $2.84 | +20.1% |
| Operating cash flow | $487.8 million | $517.1 million | -5.7% |
| Capital expenditures | $139.1 million | $135.5 million | +2.6% |
The effective tax rate increased to 29.5% from 26.3%. Interest expense increased to $54.4 million from $43.5 million, primarily because of higher borrowings and additional senior notes. Net earnings included $39.0 million of earnings from affiliates, including $28.3 million of pre-tax gains related to the Audco India transactions.
Liquidity, debt and capital allocation
- Cash and cash equivalents were $363.8 million at December 31, 2013, compared with $304.3 million at year-end 2012.
- Total debt was $1.20 billion, including $796.9 million of fixed-rate senior notes, $370.0 million under the term loan facility and $33.4 million of other borrowings and capital leases.
- The company had $893.9 million of borrowing capacity under its $1.0 billion revolving credit facility, including outstanding letters of credit.
- The credit facility matures in October 2018. The maximum leverage covenant is 3.25 times debt to Consolidated EBITDA and the minimum interest-coverage covenant is 3.25 times; Flowserve reported compliance at year-end.
- Financing cash outflows included $458.3 million of share repurchases and $76.9 million of dividends. Remaining share-repurchase authorization was $384.4 million at year-end.
- Quarterly dividends increased to $0.14 per share in 2013; the board subsequently approved an increase to $0.16 per share beginning in April 2014.
Material changes versus the prior comparable period
- Bookings increased 3.6% to $4.88 billion, but year-end backlog declined 3.5% to $2.56 billion. Approximately 24% of backlog was aftermarket-related.
- FCD was the strongest segment, with sales up 3.8%, operating income up 21.5% and operating margin increasing to 19.1% from 16.3%. Results included $28.3 million of pre-tax gains related to Audco India.
- EPD sales increased 5.6% and operating income increased 6.9%; backlog declined 6.3% to $1.31 billion.
- IPD sales declined 0.4%, but operating income increased 16.3% and operating margin improved to 12.2% from 10.4%, reflecting operational improvements.
- The company acquired Innovative Mag-Drive, LLC (Innomag) in December 2013 for preliminary consideration of approximately $75.0 million, including $43.9 million of goodwill and contingent consideration of up to $11.2 million.
- Flowserve exited its Audco India joint venture, acquired the plug-valve manufacturing business and sold its 50% equity interest, generating total pre-tax gains of $28.3 million.
- A three-for-one stock split was completed in June 2013. Historical share and per-share information was retrospectively adjusted.
- The company initiated a realignment program in the fourth quarter. It recorded $10.7 million of 2013 charges, expects approved charges of $15.8 million and estimated annual run-rate savings of approximately $10 million.
Fourth-quarter 2013 highlights
| Metric | Q4 2013 | Q4 2012 |
|---|---|---|
| Sales | $1,389.4 million | $1,328.2 million |
| Gross profit | $470.5 million | $447.6 million |
| Net earnings attributable to Flowserve | $141.1 million | $141.6 million |
| Diluted EPS | $1.01 | $0.94 |
Fourth-quarter results included $10.7 million of pre-tax realignment charges.
Guidance, outlook, risks and unusual items
Management expected a competitive economic environment in 2014, with benefits from aftermarket demand, disciplined cost management, customer diversity and the company’s broad product portfolio. Results were expected to be weighted toward the second half of 2014. Management expected 2014 capital expenditures of $130 million to $140 million, $40 million of scheduled term-loan principal repayments, approximately $20 million of U.S. pension contributions and approximately $13 million of non-U.S. pension contributions. Interest expense was expected to exceed 2013 levels because of higher debt.
- Customer capital spending depends on global economic conditions, commodity prices, credit availability and cyclical oil and gas, chemical and industrial markets.
- Backlog may be affected by customer delays, cancellations, commodity-price volatility, delivery penalties, manufacturing capacity, supply-chain constraints and project execution.
- International operations expose the company to foreign exchange, political, regulatory, tax, trade, anti-bribery and repatriation risks. Management estimated that a 10% currency movement could affect annual net earnings by approximately $33 million, before considering forward contracts.
- Asbestos litigation, product liability and warranty claims, environmental remediation, pension obligations and uncertain tax positions remain contingencies. The company believes existing reserves and insurance or indemnity recoveries are generally adequate, but outcomes remain uncertain.
- The company recorded a $4.0 million loss from the February 2013 Venezuelan bolivar devaluation.
- Goodwill impairment testing resulted in no impairment in 2013; however, future changes in forecasts, strategy, margins or discount rates could result in non-cash impairment charges.
Important facts for investors to verify
- Whether the lower year-end backlog converts to revenue and cash flow as expected, particularly given the planned 2014 shipment rates of 81% for EPD, 83% for IPD and 87% for FCD backlog.
- The sustainability of margin expansion after excluding the Audco India gains and considering the lower aftermarket sales mix.
- Progress and realized savings from the 2013 realignment program, including the remaining $5.1 million of approved charges.
- Debt reduction, interest expense, covenant headroom and the effect of share repurchases and dividends on leverage and liquidity.
- Collection trends in Latin America and working-capital performance, including accounts receivable, inventory turns and customer advances.
- Integration and financial contribution from Innomag, and the potential contingent consideration payments.
- Exposure and reserve adequacy for asbestos claims, environmental matters, warranty liabilities, pensions and uncertain tax positions.
- Foreign exchange sensitivity and the location of cash: $334.0 million of year-end cash was held by foreign subsidiaries, including $257.7 million considered permanently reinvested abroad.