Pentair, Inc. — Form 10-Q Summary
Business context and reporting period. The filing is for the 13-week quarter ended July 2, 2011, and the six months then ended. The registrant named in the filing is Pentair, Inc., a Minnesota corporation (not “Pentair Plc” as specified in the request). Its two operating groups are Water and Technical Products. Financial statements are unaudited; amounts below are in U.S. dollars.
Financial performance
| Metric | Three months ended July 2, 2011 | Year-over-year comparison | Six months ended July 2, 2011 | Year-over-year comparison |
|---|---|---|---|---|
| Net sales | $910.2 million | Up 14.3% | $1,700.4 million | Up 13.1% |
| Gross profit / margin | $287.7 million / 31.6% | Margin up 0.4 percentage points | $536.8 million / 31.6% | Margin up 0.9 percentage points |
| Operating income | $109.4 million | Versus $100.1 million | $195.6 million | Versus $163.7 million |
| Net income attributable to Pentair | $66.7 million | Versus $61.1 million | $117.3 million | Versus $96.4 million |
| Diluted EPS | $0.67 | Versus $0.61 | $1.17 | Versus $0.97 |
| Net interest expense | $14.6 million | Up 70.5% | $23.9 million | Up 32.3% |
Segment results. Q2 Water Group sales rose 15.1% to $632.0 million, and operating income was $84.5 million (13.4% of sales, down from 13.8%). Technical Products sales rose 12.7% to $278.2 million, and operating income increased to $48.3 million (17.3% of sales, up from 15.4%). The filing attributes growth to acquisition contribution, higher volumes, favorable currency and selective pricing; Technical Products also benefited from higher industrial, electronics and energy-market demand.
Cash flow and liquidity. First-half operating cash flow was $152.6 million, compared with $156.4 million a year earlier. Capital expenditures were $35.2 million, producing reported free cash flow of $117.5 million, down from $127.7 million. Cash at July 2 was $69.0 million. Current assets were $1.335 billion and current liabilities $711.4 million. The company reported $1.407 billion of total debt, compared with $707.5 million at December 31, 2010. It had $437.9 million available under its $700 million revolving facility, no commercial paper outstanding, and was in compliance with its debt covenants.
Material changes and notable items
- On May 12, Pentair acquired Norit’s Clean Process Technologies division for $715.3 million, adding membrane filtration and clean-process technologies to the Water Group. The acquisition was funded partly with debt; Pentair issued $500 million of 5.0% senior notes due 2021 and drew on its revolving facility. CPT contributed to reported sales from the acquisition date.
- The CPT purchase allocation included $451.8 million of goodwill and $197.2 million of identifiable intangibles. Acquisition-related costs were $7.8 million in the first half. Pentair also completed the $17.0 million Hidro Filtros acquisition and smaller acquisitions.
- Sales growth included acquisition contribution of 6.7 percentage points in Q2 and 3.6 points for the first half; organic volume, price and currency also contributed. Gross margin improved, but Q2 Water operating margin declined, in part because of acquisition-related purchase accounting, integration and amortization costs, inflation and the absence of prior-year Horizon litigation insurance proceeds.
- SG&A increased to 17.4% of sales in Q2 from 16.5%; the first-half ratio was 17.8% versus 17.6%. Higher debt levels following the acquisition increased interest expense.
- A $400 million interest-rate hedge was terminated upon the notes’ issuance at an $11.0 million cost, which the company recorded as a prepaid asset to amortize over the notes’ 10-year term. The filing also reports a $2.1 million net cost from a foreign-currency option related to the acquisition.
Outlook, risks and contingencies
- Management expected 2011 capital expenditures of approximately $60–$70 million and continued to expect full-year free cash flow to exceed net income from continuing operations. It described residential markets as stabilizing and expected volume increases for the remainder of 2011, while noting that housing and pool-start recovery could lag.
- Management characterized outlook for industrial and commercial markets as mixed. It expected raw-material inflation and price volatility to continue through the remainder of 2011, with timing and impact uncertain. The company’s stated priorities included integration of CPT, growth in international markets, product development, operational efficiencies and working-capital improvement.
- Key risks include successful CPT integration and realizing anticipated benefits, increased leverage and interest burden, economic and residential-market weakness, commodity and labor inflation, foreign-exchange and international operating risks, competition and pricing pressure, acquisition execution, and potential goodwill or intangible-asset impairment. Goodwill and intangible assets totaled approximately $3.23 billion, or 63.9% of assets.
- The company disclosed no further material developments in legal proceedings versus its 2010 Form 10-K. It reported a $24.8 million gross liability for uncertain tax positions and did not expect significant related payments within the next 12 months. The filing states that disclosure controls were effective and that no material change in internal control over financial reporting occurred during the quarter.
Most important facts for investors to verify
- How CPT performed after acquisition, including integration costs, realized synergies, and the contribution to organic versus acquired growth.
- Debt repayment progress, covenant headroom as leverage limits tighten, refinancing plans for $105 million of private-placement debt due in May 2012, and the effect of higher interest expense.
- Whether cash generation and working-capital performance support management’s full-year free-cash-flow expectation; first-half free cash flow was below the comparable 2010 amount.
- Whether price increases and productivity savings offset continuing input-cost inflation, particularly in Water Group margins.
- Assumptions supporting the large goodwill and intangible balances and the company’s exposure to market, currency, legal, tax and environmental contingencies.