Federal Signal Corporation — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012. Amounts are in millions of dollars unless otherwise noted. The company manufactures safety and security systems, fire-rescue platforms, and environmental vehicles and equipment. Following a sale agreement, Federal Signal Technologies (FSTech) is reported as a discontinued operation; prior periods were recast accordingly.
Financial performance
- Revenue: Continuing-operations net sales were $204.4 for Q2, up 16% from $175.6; six-month sales were $400.5, up 23% from $325.9.
- Profitability: Q2 gross profit was $49.2 (24.1% margin), versus $39.9 (22.7%); six-month gross profit was $94.5 (23.6%), versus $73.1 (22.4%). Operating income was $15.8 for Q2 and $26.1 for six months, compared with $10.6 and $13.1. Operating margins improved to 7.7% and 6.5%, respectively, from 6.0% and 4.0%.
- Continuing operations and total earnings: Income from continuing operations was $9.6 for Q2 and $12.7 for six months, compared with $5.7 and $3.3. Total net loss was $16.5 for Q2 and $17.5 for six months, versus net income of $4.4 and a net loss of $1.4 in the prior-year periods. Total diluted loss per share was $0.26 for Q2 and $0.28 for six months; continuing-operations EPS was $0.15 and $0.20.
- Cash flow and investment: Six-month net cash used in operating activities was $0.5, improved from $6.5 used. Continuing operations provided $9.5, while discontinued operations used $10.0. Capital expenditures were $5.5; cash and cash equivalents ended at $10.3.
- Debt and liquidity: Borrowings totaled $236.7 at June 30, including $214.1 under a new five-year term loan and $18.2 drawn on the asset-based revolving facility; short-term non-U.S. borrowings were $3.9. Net availability under the ABL facility after outstanding letters of credit was $28.7. The company reported compliance with debt covenants. The term loan carries LIBOR margins of 10%–11% (base-rate margins of 9%–10%); interest expense rose to $5.4 in Q2 and $10.5 for six months.
- Other indicators: Six-month orders were $430.6, up 8%; Q2 orders were $207.5, unchanged year over year. Backlog was $321.5, up $26.3 from year-end 2011. No dividends were declared.
Material changes and unusual items
- Higher sales volume and favorable product mix drove improved gross profit and operating income. Environmental Solutions and Fire Rescue posted significant sales growth; Safety and Security Systems’ six-month operating income declined slightly, partly due to inventory reserves and restructuring.
- FSTech sale proceeds are set at $110.0, subject to a working-capital adjustment: $88.0 expected in cash at closing and $22.0 in escrow. The company recorded a $23.5 loss in the six months to write down held-for-sale net assets to fair value less selling costs. The transaction remained subject to closing conditions and regulatory approvals and was expected to close in the second half of 2012.
- Six-month results include $1.6 of costs to terminate prior debt agreements and $0.8 of restructuring charges. The new debt arrangements increased borrowing costs.
- Income-tax expense was $1.0 for six months. Because of recent domestic losses and uncertainty over deferred tax asset realization, the company recorded effectively no tax benefit for domestic operating losses.
Outlook, risks and contingencies
- Management expected 2012 capital expenditures of approximately $16, subject to a $20 covenant limit, and believed cash flow and borrowing capacity would meet operating and capital needs. No earnings or revenue guidance was provided.
- Management cited weaker demand in European and U.S. municipal police and fire markets, alongside cyclical end markets, competition, customer financing availability, supply disruptions, pension funding, product liability and warranty exposure, and debt-covenant restrictions as risks.
- Firefighter hearing-loss claims and patent-infringement litigation by Neology remain ongoing. A preliminary-injunction recommendation in one Neology case was to deny relief, subject to review; another Neology complaint was pending. The FSTech sale escrow includes funds for Neology-related defense and other costs.
- The company reported $2.1 of environmental remediation reserves for the former Pearland facility, stating that remediation appeared probable but was not expected to materially affect results, financial position, or liquidity. It also reported $6.9 of warranty liabilities.
Important facts for investors to verify
- Whether the FSTech sale closed, the final working-capital adjustment, and how much escrow was ultimately released.
- The final accounting impact of the sale and any further impairment or discontinued-operation charges.
- Debt-service costs, covenant headroom, and usable ABL borrowing availability, particularly given the term loan’s high interest margins.
- Whether backlog converts to sales and cash as expected, especially after the quarter’s flat orders and segment-level order weakness.
- Developments in Neology patent litigation, firefighter claims, and environmental remediation estimates.