EnPro Industries, Inc. — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2012. The filing was signed November 8, 2012. EnPro designs and manufactures engineered industrial products through three segments: Sealing Products, Engineered Products, and Engine Products and Services. The interim financial statements are unaudited and should be read with the 2011 Form 10-K.
Financial performance
| Metric | Q3 2012 | Q3 2011 | 9M 2012 | 9M 2011 |
|---|---|---|---|---|
| Net sales | $291.7 million | $300.8 million | $904.9 million | $834.1 million |
| Gross profit | $98.8 million | $96.8 million | $309.0 million | $290.1 million |
| Operating income | $28.8 million | $29.6 million | $87.4 million | $88.9 million |
| Net income | $11.3 million | $14.2 million | $35.3 million | $41.6 million |
| Diluted EPS | $0.53 | $0.66 | $1.64 | $1.92 |
| Operating margin | 9.9% | 9.8% | 9.7% | 10.7% |
| Segment profit margin | 12.9% | 11.8% | 13.1% | 13.9% |
Quarterly sales declined 3%, while nine-month sales increased 8%, principally reflecting acquisitions. Gross margin was approximately 33.9% in Q3 2012 versus 32.2% in Q3 2011, but net income declined because of higher interest expense, corporate expenses, and the absence of a prior-year gain on a guaranteed investment contract. The Q3 effective tax rate was 35.4%, compared with 36.8% in the prior-year quarter. The nine-month effective tax rate increased to 34.8% from 31.9%.
Segment results and material changes
- Sealing Products: Q3 sales rose 6% to $152.4 million, assisted by the Tara and Motorwheel acquisitions; segment profit increased to $23.6 million from $22.5 million. Organic demand declined amid weak European markets and lower North American heavy-duty truck activity.
- Engineered Products: Q3 sales fell 11% to $87.1 million and segment profit declined to $3.5 million from $6.4 million. Weak European automotive and industrial demand, lower refining maintenance, Canadian market weakness, cost increases, foreign exchange, and $0.9 million of restructuring charges pressured results.
- Engine Products and Services: Q3 sales decreased 10% to $53.1 million, but segment profit increased to $10.4 million from $6.5 million. Higher-margin aftermarket parts and services and the absence of prior-year warranty and contract charges more than offset lower engine revenue.
- Acquisition: In April 2012, EnPro acquired Motorwheel Commercial Vehicle Systems for approximately $85.3 million, funded with additional revolving-credit borrowings. The preliminary allocation included $17.1 million of goodwill and $49.7 million of intangible assets.
Cash flow, liquidity, debt, and balance sheet
- Operating cash flow for the first nine months was $52.3 million, up from $32.6 million, primarily due to lower cash taxes and slower working-capital growth.
- Capital expenditures were $20.4 million, and investing cash use was $105.6 million, including the Motorwheel acquisition.
- Financing activities provided $63.9 million, including $64.2 million of net revolving-facility borrowings.
- Cash increased to $42.1 million at September 30, 2012, from $30.7 million at December 31, 2011. Management stated that all cash was held outside the United States and was intended to remain permanently reinvested abroad.
- Revolving-credit availability was $63.3 million after $70.0 million of borrowings and $3.8 million of letters of credit. The facility had maximum availability of $175 million and matures in 2015, subject to specified conditions.
- Long-term debt was $218.3 million, compared with $148.6 million at year-end 2011. The company also had $248.1 million of notes payable to GST, including $237.4 million classified as long term. The $172.5 million convertible debentures carry a 3.9375% coupon and mature October 15, 2015; conversion conditions were not met at quarter-end.
- Total assets were $1.372 billion and shareholders’ equity was $539.7 million at September 30, 2012. The pension liability was $104.1 million.
Outlook, risks, contingencies, and unusual items
- Management expected weak market conditions to continue in Q4 2012, particularly in Europe. North American activity was healthier but expected to show only modest year-over-year improvement.
- Completed acquisitions were expected to increase full-year 2012 sales by approximately 8% versus 2011, but management did not expect meaningful organic sales growth. Lower volumes and increased restructuring costs were expected to reduce the full-year segment profit margin versus 2011.
- Management projected a 33%–36% effective tax rate for the remainder of 2012, partly because certain U.S. tax incentives had expired. Renewal of those incentives could materially benefit fourth-quarter tax expense.
- U.S. defined-benefit pension contributions totaled $8.9 million through nine months, with an additional $2.4 million expected in Q4. Full-year pension expense was estimated at $13.2 million.
- GST LLC, Anchor, and Garrison remain in Chapter 11 proceedings related to asbestos claims and were deconsolidated in 2010. EnPro’s investment in GST was $236.9 million, and its tax receivable from GST was $31.0 million. GST’s recorded asbestos liability was $466.8 million, but ultimate costs remain highly uncertain.
- GST’s proposed reorganization plan contemplated approximately $270 million of payments for present and future claims and a $30 million EnPro contribution, together with a guarantee of GST obligations. The plan was opposed by claimant representatives and was unlikely to be approved in its then-current form. An asbestos-claims estimation trial was tentatively scheduled for July 2013.
- Available asbestos insurance coverage was estimated at $147.3 million, in addition to $14.6 million collected during the first nine months of 2012. Collection timing and ultimate recoverability were not assured.
- Environmental liabilities were accrued at $11.9 million for 17 sites. The company could not estimate reasonably possible losses in excess of recorded amounts. Foreign-exchange contracts had aggregate notional amounts of $109.4 million.
Investor verification points
- Verify the sustainability of sales and margins once acquisition benefits are separated from organic volume trends.
- Assess liquidity after considering increased revolver borrowings, the 2015 debenture maturity, GST-related notes, and cash held outside the United States.
- Monitor the GST bankruptcy, asbestos estimation trial, proposed plan, insurance collections, and potential claims against EnPro affiliates.
- Reconcile the projected tax rate with any renewal or continued expiration of U.S. tax incentives.
- Evaluate pension funding requirements and the sensitivity of pension expense to discount rates and asset returns.
- Review restructuring costs, Engineered Products’ weaker demand, engine-revenue recognition changes, and the preliminary Motorwheel purchase-price allocation.