Pentair plc — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; unaudited. Pentair reported continuing operations in its Water and Electrical segments. Valves & Controls was classified as discontinued operations and held for sale.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net sales, continuing operations | $1,183.5 million | $1,190.0 million | Down 0.5% |
| Gross profit / gross margin | $422.3 million / 35.7% | $431.3 million / 36.2% | Margin down 0.5 points |
| Operating income / margin | $138.4 million / 11.7% | $152.7 million / 12.8% | Income down 9.4% |
| Continuing-operations income before tax | $103.6 million | $116.9 million | Down 11.4% |
| Continuing-operations net income | $80.7 million | $91.8 million | Down 12.1% |
| Net income, including discontinued operations | $87.8 million | $107.4 million | Down 18.2% |
| Diluted EPS, continuing / total | $0.44 / $0.48 | $0.50 / $0.59 | Down $0.06 / $0.11 |
| Cash used in operating activities, continuing operations | $88.7 million | $17.7 million | Greater cash use |
| Free cash flow, continuing operations | $(112.3) million | $(45.1) million | Greater cash use |
The effective tax rate was 22.1%, versus 21.5%. Cash dividends paid were $0.345 per share, versus $0.33.
Segments and material changes
- Water: Sales rose 2.6% to $682.9 million; segment income increased 14.6% to $116.0 million, with margin up 1.8 points to 17.0%. Growth in U.S. residential and commercial markets, pricing, acquisitions, and productivity helped offset currency effects and weakness in some regions and energy/infrastructure markets.
- Electrical: Sales fell 4.3% to $502.2 million; segment income declined 8.2% to $103.5 million, with margin down 0.9 points to 20.6%. Lower energy and infrastructure project volumes and inflation weighed on results.
- Consolidated revenue was nearly flat, but gross and operating margins contracted. Management attributed pressure to weak project volumes, raw-material and labor inflation, non-recurring large-project costs, and restructuring spending. SG&A included $20.9 million of restructuring costs, compared with $0.5 million a year earlier; a $13.3 million reversal of an indemnification liability partly offset the increase.
- Cash used by continuing operations reflected a $221.2 million working-capital increase, mainly receivables and inventory built ahead of the seasonal peak. Continuing-operations investing cash use was $80.3 million, including $56.7 million for acquisitions and $23.6 million of capital expenditures.
Balance sheet, debt, and liquidity
- At March 31, 2017, cash was $238.1 million; total assets were $11.818 billion; and total equity was $4.375 billion.
- Long-term debt was $4.529 billion on the balance sheet. Debt outstanding before unamortized issuance costs and discounts was $4.546 billion, up from $4.297 billion at December 31, 2016. Commercial paper outstanding was $532.7 million.
- The company reported compliance with its debt covenants. The credit facility had $1.295 billion of stated availability; the filing also says availability was limited to $96.2 million by the maximum leverage ratio. Verify the meaning and practical borrowing capacity of this restriction.
- Operating cash use and investment outflows were funded in part by $229.1 million of net receipts from commercial paper and revolving debt. Cash was essentially unchanged from year-end. Management said it expected available cash, internally generated funds, and credit facilities to meet requirements.
Outlook, transactions, and risks
- Pentair expected the $3.15 billion cash sale of Valves & Controls to close in Q2 2017, subject to regulatory approvals and closing conditions. It planned to use part of the proceeds to retire a significant portion of debt. The business generated $356.5 million of Q1 sales and $7.1 million of net income as discontinued operations; Q1 sale-related transaction costs were $11.2 million.
- Management expected industrial capital-spending and maintenance deferrals, energy and infrastructure weakness, and U.S.-dollar strength to persist through 2017. It expected restructuring actions to continue through the first half of 2017 and contribute to margin growth. Fiscal 2017 capital expenditures were expected to be approximately $100 million.
- Management highlighted risks including successful completion of the divestiture, restructuring execution, acquisitions and integration, pricing and competition, housing and end-market conditions, currency and commodity volatility, litigation, and regulatory changes. The filing gives no specific full-year revenue or earnings guidance.
- Restructuring actions reduced headcount by approximately 200 employees in Q1. Asbestos liabilities and related insurance receivables associated primarily with the held-for-sale business were $224.6 million and $107.4 million, respectively. Environmental reserves were $17.6 million; the company did not expect these environmental matters to have a material adverse effect.
Key facts for investors to verify
- Whether the Valves & Controls sale closed on the expected timetable and at what final proceeds after customary adjustments; how proceeds affected debt and leverage.
- Whether working capital reversed as seasonal sales increased, and how quickly operating cash flow and free cash flow recovered.
- Whether project demand, especially in Electrical, improved and whether expected restructuring savings offset inflation and lower volumes.
- The company’s actual covenant headroom and usable credit capacity, given the filing’s stated $1.295 billion availability and $96.2 million leverage limitation.
- Whether asbestos estimates, insurance recoveries, and related obligations transferred or remained with Pentair after the divestiture.