Flowserve Corporation 10-Q Summary
Business context and reporting period
Flowserve designs, manufactures, distributes and services pumps, valves, seals, automation products and related flow-management solutions for oil and gas, chemical, power-generation, water-management and other industrial markets. Operations are managed through Engineered Product Division (EPD), Industrial Product Division (IPD) and Flow Control Division (FCD). The filing covers the unaudited three and six months ended June 30, 2011, compared with the same periods in 2010.
Financial performance and key metrics
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Sales | $1,125.8 million, up 17.1% | $2,123.0 million, up 10.6% |
| Gross profit / margin | $369.3 million / 32.8%, versus 35.7% | $717.0 million / 33.8%, versus 36.0% |
| Operating income / margin | $140.1 million / 12.4%, versus 15.2% | $270.4 million / 12.7%, versus 15.0% |
| Net earnings attributable to Flowserve | $98.7 million; diluted EPS $1.76 | $195.7 million; diluted EPS $3.48 |
| Effective tax rate | 27.9%, versus 26.8% | 26.9%, versus 27.6% |
- Bookings were $1,211.6 million in the second quarter and $2,370.9 million year to date, increases of 6.8% and 7.5%, respectively. Currency translation contributed approximately $81 million and $100 million to those increases.
- Backlog was $2.906 billion at June 30, 2011, up 12.0% from December 31, 2010, including approximately $106 million of currency benefit.
- Aftermarket sales represented approximately 39% of second-quarter sales and 41% of year-to-date sales, compared with 38% and 39% in the respective 2010 periods.
- Net cash used in operating activities was $237.8 million, compared with $52.7 million used in the prior-year period. Working-capital investment included $121.5 million used for accounts receivable and $161.3 million used for inventories.
- Cash and cash equivalents declined to $221.3 million from $557.6 million at December 31, 2010. Capital expenditures were $48.5 million, dividends paid were $34.0 million, share repurchases were $26.0 million and debt repayments were $12.5 million.
- Total debt and capital lease obligations were $520.2 million, including $487.5 million of term debt. Debt due within one year was $55.7 million, and long-term debt was $464.5 million.
- The company had no revolving-credit borrowings and $375.4 million of borrowing capacity remaining under its revolving facility after outstanding letters of credit. Management stated that existing cash, operating cash flow and available borrowing capacity should meet cash needs for the next 12 months.
Material changes versus the prior comparable period
- Revenue growth was driven primarily by FCD original-equipment sales and EPD and FCD aftermarket sales. FCD benefited from the July 2010 Valbart acquisition, which contributed $37.4 million of second-quarter sales and $67.4 million of year-to-date sales.
- Despite higher sales, gross margins declined because of increased material costs, less favorable pricing on backlog and project-related costs. IPD was particularly weak, with second-quarter operating margin declining to 4.3% from 8.0% and year-to-date margin declining to 5.7% from 9.3%.
- Consolidated operating income declined 4.0% in the quarter and 6.2% year to date. Higher SG&A, including a $3.9 million Spanish regulatory penalty, more than offset higher gross profit.
- Other income improved materially because foreign-exchange contract gains replaced prior-year losses. Other income was $6.0 million in the quarter and $14.5 million year to date, compared with expense of $12.3 million and $33.8 million, respectively, in 2010. The 2010 year-to-date comparison included an $8.6 million Venezuela currency-devaluation loss.
- Foreign-currency translation produced other comprehensive income of $27.5 million in the quarter and $76.2 million year to date, compared with losses of $58.3 million and $92.4 million in 2010.
Guidance, outlook, commentary and risks
- Management reported improved global market conditions, particularly in oil and gas, chemical and general industrial markets, while describing water-management spending as stable. No formal earnings guidance was provided in the filing.
- Realignment programs were expected to generate approximately $118 million of savings in 2011 and approximately $120 million of annual run-rate savings after completion. Total approved program charges were estimated at approximately $92 million, with $88.5 million incurred through June 30, 2011.
- A new IPD recovery program was expected to generate approximately $9 million of charges, of which $7.1 million was recorded in the second quarter, primarily in cost of sales.
- North Africa shipment delays resulted in estimated lost or delayed operating-income opportunities of $2.5 million in the quarter and $5.1 million year to date. If conditions persisted, management estimated a possible unfavorable booking impact of approximately $25 million through year-end.
- The Japan earthquake and tsunami had not caused significant first-half shipment, collection or supply-chain disruption, but reduced bookings and potential effects on the global nuclear-power market could affect second-half bookings and sales.
- Management expected 2011 capital expenditures of $125 million to $135 million before acquisitions and U.S. pension contributions of $7 million to $10 million.
- Key risks include raw-material inflation, fixed-price project cost overruns, order cancellations or delays, conversion of backlog at acceptable margins, international political and currency exposure, interest-rate risk, supplier performance, export-compliance matters, asbestos claims, environmental liabilities and integration of acquisitions.
- Material contingencies include asbestos-related litigation, export-control investigations, the United Nations Oil-for-Food matters, environmental sites and routine product-liability litigation. Management generally believes reserves and insurance or indemnification coverage are adequate and that these matters are not currently expected to be material, but outcomes remain uncertain.
- The company was assessed a €2.7 million, or approximately $3.9 million, Spanish regulatory penalty during the second quarter and was evaluating legal recourse.
Important facts for investors to verify
- Whether gross-margin pressure from material costs, backlog pricing and IPD operational issues persists or improves.
- Whether working-capital investment, receivables collection and inventory levels normalize, given the substantial first-half operating cash outflow.
- Progress toward the stated realignment savings and the additional IPD recovery-plan charges.
- Conversion of the $2.906 billion backlog into revenue and cash flow, including cancellation, delay and project-cost risks.
- Effects of North Africa unrest, Japan-related nuclear-market weakness and broader international conditions on bookings and sales.
- Debt maturities, revolving-credit availability, letter-of-credit requirements and compliance with credit-facility covenants.
- Potential tax benefits of $8.3 million to $23.1 million within the following 12 months from audit resolutions or statute expirations.
- Final outcomes of the Spanish penalty, export-compliance investigation, asbestos claims and other legal contingencies.