Pentair Ltd. — 2013 Form 10-K
Reporting period: Fiscal year ended December 31, 2013. This is an annual filing, not a standalone fourth-quarter filing; selected Q4 results are included below. Amounts are in U.S. dollars unless stated otherwise.
Business context and reporting period
Pentair is a diversified industrial manufacturer with four reporting segments: Valves & Controls, Process Technologies, Flow Technologies and Technical Solutions. In Q4 2013, it reorganized its segments from three to four; prior-period segment figures were retrospectively reclassified. The 2012 comparison is substantially affected by the September 2012 merger with Tyco’s Flow Control business: 2013 includes a full year of those operations, while 2012 includes them only after the merger closed.
Financial performance
| Metric | FY 2013 | FY 2012 |
|---|---|---|
| Net sales | $7,479.7 million | $4,416.1 million |
| Gross profit / margin | $2,472.9 million / 33.1% | $1,269.6 million / 28.7% |
| Operating income (loss) / margin | $774.0 million / 10.3% | $(43.1) million / (1.0)% |
| Net income (loss) attributable to Pentair | $536.8 million | $(107.2) million |
| Diluted EPS | $2.62 | $(0.84) |
| Cash from operations | $915.3 million | $68.0 million |
| Capital expenditures | $170.0 million | $94.5 million |
| Free cash flow (company-defined, non-GAAP) | $751.3 million | $(21.0) million |
Reported sales rose 69.4%; management attributed 62.1 percentage points to acquisitions, primarily the full-year inclusion of Flow Control, and 7.3 points to volume. Organic growth included stronger North American pool-related sales and global food and beverage demand; infrastructure sales and foreign exchange were offsets. Gross margin improved with lower merger-related inventory and backlog purchase-accounting charges, operating savings and pricing, partly offset by materials and labor inflation.
Q4 2013 net sales were $1,916.7 million, operating income $233.8 million, net income attributable to Pentair $158.2 million and diluted EPS $0.78. Q4 operating income included a $63.2 million pension and post-retirement mark-to-market gain; restructuring costs of $61.6 million and a $11.0 million trade-name impairment were offsets.
Segment FY 2013 sales and operating income were: Valves & Controls $2,469.2 million and $161.4 million; Process Technologies $1,765.9 million and $243.2 million; Flow Technologies $1,618.5 million and $149.7 million; and Technical Solutions $1,663.4 million and $285.0 million. Valves & Controls’ 2012 figures cover only the post-merger quarter, limiting year-over-year comparability.
Liquidity, debt and capital allocation
At year-end, cash and equivalents were $265.1 million, total debt $2,555.1 million, and total equity $6,217.7 million. Current assets were $3,232.1 million versus current liabilities of $1,610.2 million. Pentair had $921.1 million of availability under its $1.45 billion revolving credit facility and reported compliance with its debt covenants. Commercial paper outstanding was $528.9 million and was classified as long-term based on the company’s stated intent and ability to refinance it under the facility.
Operating cash flow increased substantially, while investing activities used $211.2 million and financing activities used $719.1 million. Financing cash use included $715.8 million of share repurchases and $194.2 million of dividends paid. Backlog declined 9.7% to $2,223.0 million; management expected most year-end backlog to be filled in 2014. The filing reports $113.0 million of cash held in countries where repatriation is restricted or may carry significant tax consequences.
Outlook, risks and unusual items
- Management targeted 2014 free cash flow of at least 105% of net income, compared with its long-term goal of at least 100%. It expected 2014 capital expenditures of approximately $175 million.
- Management cited continued merger integration, growth in fast-growth and developed markets, product development, talent development and lean operating initiatives as 2014 priorities. It also noted raw-material price volatility, economic uncertainty in Australia and uneven end-market conditions.
- The 2013 restructuring program recorded $113.5 million of costs and reduced headcount by approximately 1,150. Annual R&D expense increased to $125.8 million from $93.6 million.
- The proposed redomicile would move the publicly traded parent from Switzerland to Ireland, with intended U.K. tax residency. It remained subject to shareholder approval and other conditions; the company expected a vote in Q2 2014 and estimated approximately $14 million in related transaction costs across 2013 and 2014.
- Asbestos exposure remained significant: approximately 2,000 lawsuits and 2,200 claims were pending. The recorded liability was $254.7 million, with a $119.6 million insurance-recovery receivable. Actual claims and recoveries may differ materially from estimates.
- Tyco disputed IRS deficiency notices totaling $883.3 million plus $154 million in penalties for 1997–2000 tax years, excluding interest. Pentair’s potential share, if any, depends on tax-sharing arrangements and the litigation outcome; Tyco had contested the assessments in Tax Court.
- Environmental reserves were $39.3 million. Other risks include competition and pricing pressure, integration and acquisition execution, currency and commodity volatility, project delays and backlog conversion, product liability, regulatory and anti-corruption compliance, and possible impairment of goodwill and intangibles. Goodwill and intangible assets totaled $6,910.3 million, or 59% of assets.
The company and its auditor reported effective internal control over financial reporting; the auditor issued unqualified opinions on the financial statements and internal controls.
Important facts for investors to verify
- Separate acquisition-driven sales growth from organic growth and assess the comparability of 2013 against the post-merger 2012 results.
- Evaluate the sustainability of operating margin and cash flow, including the effect of the $63.2 million pension gain and elevated restructuring costs.
- Review debt maturities, refinancing capacity, covenant headroom and the balance between share repurchases, dividends and debt reduction.
- Track backlog conversion and cancellations, especially in longer-cycle Valves & Controls and capital-project businesses.
- Monitor asbestos liability assumptions and insurance recoverability, the Tyco tax dispute and sharing obligations, and environmental exposures.
- Confirm the status and actual tax, governance and transaction-cost consequences of the proposed redomicile.