MWA

Business Context and Reporting Period

Company: Mueller Water Products, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2010
Business Overview: The Company operates in three segments: Mueller Co. (valves and metering products), U.S. Pipe (ductile iron pipe), and Anvil (fittings and pipe products). Operations are heavily influenced by municipal water infrastructure spending and residential/non-residential construction activity.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue: Net sales increased 3.5% in the quarter ($375.9M vs. $363.2M) driven by higher shipment volumes and favorable currency exchange rates, partially offset by lower pricing and the divestiture of two Anvil businesses. For the nine months, sales decreased 5.9% ($990.8M vs. $1,053.1M) primarily due to divestitures and lower pricing.
• Profitability: Operating income improved significantly in the quarter to $12.5M from a loss of $8.5M in the prior year. This improvement was driven by cost savings and lower overhead costs. However, the nine-month period remained unprofitable (loss of $10.1M) compared to a massive loss of $1,013.8M in the prior year, which included $970.9M in goodwill impairment charges.
• Restructuring: The Company recorded $11.6M in restructuring charges for the nine months ended June 30, 2010, related to the closure of the U.S. Pipe North Birmingham facility. This compares to $45.9M in the prior year period.
• Divestitures: Anvil sold its Canadian wholesale distribution business in January 2010 for $40.3M, recording a pre-tax gain of $2.9M.

Outlook, Risks, and Management Commentary

• Market Conditions: Management notes continued weakness in the U.S. economy, with housing starts approximately 60% below the 50-year average. Non-residential construction is forecast to decline 17% in calendar 2010. Most facilities are operating below optimal capacity.
• Cost Pressures: U.S. Pipe experienced a 5% decline in average per-ton sales prices while raw material costs increased significantly. Management expects these cost increases to negatively impact gross profit in the quarter ending September 30, 2010.
• Restructuring Outlook: The Company expects to record an additional $3M to $4M in net expenses related to the North Birmingham plant closure in the final quarter of fiscal 2010.
• Liquidity and Debt: The Company had $77.1M in cash and $162.1M in available borrowing capacity under its revolving credit facility. It remains in compliance with all financial covenants, including a consolidated leverage ratio of 6.27:1.00 (threshold 7.75:1.00).
• Pension Funding: The Company estimates contributing approximately $23M to defined benefit pension plans during fiscal 2010.
• Legal Contingencies: Significant ongoing litigation includes environmental claims related to PCBs and heavy metals in Anniston, Alabama, and a lawsuit regarding environmental contamination at a former Canadian property. Management currently has no basis to estimate the probability or amount of liability for these matters.

Investor Verification Checklist

• Debt Covenant Compliance: Verify the Company's ability to maintain the required consolidated leverage ratio (currently 6.27:1.00) given the high debt load ($692.7M) and potential for continued operating losses.
• Raw Material Costs vs. Pricing: Monitor the spread between rising raw material costs and declining sales prices, particularly in the U.S. Pipe segment, which is currently operating at a gross loss.
• Restructuring Costs: Confirm the final costs associated with the North Birmingham plant closure, as additional expenses of $3M-$4M are expected in Q4.
• Construction Market Recovery: Assess the timeline for recovery in residential and non-residential construction, which directly drives demand for the Company's products.
• Legal Exposure: Review updates on the Anniston, Alabama environmental litigation and the Canadian property lawsuit, as outcomes could result in material liabilities.