Trane Technologies plc — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Amounts are in millions of U.S. dollars except per-share data. The company supplies climate solutions for buildings, homes and transportation, including Trane and Thermo King products and services. Comparisons are year over year; the former Industrial segment is reported as discontinued operations following its February 29, 2020 separation.
Financial results and liquidity
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net revenues | $3,138.8 | $3,617.6 | $5,780.1 | $6,421.3 |
| Gross profit / margin | $978.3 / 31.2% | $1,154.8 / 31.9% | $1,720.8 / 29.8% | $1,969.3 / 30.7% |
| Operating income / margin | $423.5 / 13.5% | $566.9 / 15.7% | $577.9 / 10.0% | $803.4 / 12.5% |
| Earnings from continuing operations | $278.3 | $412.6 | $331.1 | $559.9 |
| Net earnings (loss) | $242.1 | $460.3 | $216.2 | $664.0 |
| Diluted EPS, continuing operations | $1.14 | $1.67 | $1.34 | $2.26 |
| Diluted EPS, total | $0.99 | $1.86 | $0.87 | $2.68 |
- Cash flow: Six-month cash from continuing operations was $179.2, versus $355.0 a year earlier. Consolidated operating cash flow, including discontinued operations, was negative $122.4, compared with positive $393.7. Continuing capital expenditures were $59.6. Reported free cash flow, a non-GAAP measure that adds back restructuring and transformation cash payments, was $182.7 versus $281.2.
- Cash, debt and liquidity: June 30 cash was $2,366.8, of which $2,288.7 was held by non-U.S. subsidiaries. Total debt was $5,268.1, down from $5,573.2 at year-end; the debt-to-total-capital ratio rose to 46.9% from 43.3%. The company had $2.0 billion of unused revolving credit facilities and no commercial paper outstanding. Current debt included $299.4 of notes due February 2021.
- Dividends and capital allocation: The company expected to maintain its dividend at $0.53 per share quarterly ($2.12 annualized) in 2020. It suspended its share repurchase program; no purchases were made under the authorization in the first half, with approximately $750 million remaining. Shares reacquired in Q2 were for tax withholding on share-based awards, not program repurchases.
Material changes and business drivers
- Q2 revenue fell 13.2% and first-half revenue fell 10.0%. Management attributed the declines mainly to lower volumes from COVID-19, with unfavorable currency also weighing on results; improved pricing partly offset the declines.
- Q2 gross margin declined 70 basis points and operating margin declined 220 basis points year over year. Lower volume, production under-absorption, and weaker mix were key pressures; productivity, pricing, material deflation and cost controls provided offsets. First-half gross margin declined 90 basis points and operating margin declined 250 basis points.
- Q2 Segment Adjusted EBITDA was $589.9, down 13.8%. Americas revenue fell 13.3% and EBITDA fell 16.1%; EMEA revenue fell 16.9% and EBITDA fell 14.6%; Asia Pacific revenue fell 7.6% while EBITDA increased 11.3%, supported by cost containment and material deflation. Segment Adjusted EBITDA is a non-GAAP measure.
- The February separation of Ingersoll Rand Industrial was completed through a Reverse Morris Trust transaction with Gardner Denver. Existing Trane shareholders received 50.1% of the combined company’s shares and a $1.9 billion special cash payment was made to a Trane subsidiary. Industrial results are presented as discontinued operations.
- Q2 discontinued operations recorded a $36.2 loss after tax, including $12.5 of pre-tax separation costs and a $23.6 loss related to deconsolidation of Aldrich and 200 Park. First-half discontinued operations recorded a $114.9 loss after tax, including $111.6 of separation costs.
Outlook, risks and unusual items
- Guidance: The company had not reinstated 2020 financial guidance because the pandemic made demand and outlook visibility uncertain. Management said it intended to reevaluate guidance with the Q3 2020 earnings call. It stated that liquidity was strong and expected available cash, operating cash flow, credit lines and market access to fund needs.
- COVID-19: Facility closures, lower demand, supply-chain disruption and currency movements adversely affected results. Facilities began reopening in Q2 with health precautions. Cost actions included reduced discretionary spending and travel, employee furloughs, delayed merit increases and suspension of share repurchases. Management said the extent and duration of future effects could not be estimated reliably.
- Asbestos Chapter 11 proceedings: Aldrich Pump and Murray Boiler filed for Chapter 11 on June 18, 2020; Trane and its other subsidiaries did not file. Trane deconsolidated the entities, recorded a $53.6 equity investment and a $249.3 liability under funding agreements, and recognized an aggregate $22.7 loss. The agreements may require Trane subsidiaries to fund case costs and, if other assets are insufficient, a future asbestos trust. The ultimate liability, trust funding and proceedings’ outcome and timing are uncertain.
- Other items: First-half continuing results included non-cash tax valuation-allowance charges; the effective tax rate was 28.9%, versus 16.7% in the prior-year period. A $17.4 adjustment corrected an overstatement of a legacy legal liability. Restructuring charges were $37.5 in Q2 and $63.1 in the first half. The company expected $100 million of stranded-cost reductions in 2020 and a further $40 million in 2021, while anticipating $100 million to $150 million of expenses to realize the savings.
- Other risks identified include economic and market volatility, access to financing, foreign exchange, tax audits, litigation, environmental and product-liability matters, and potential impairment of goodwill or intangible assets. Management reported disclosure controls were effective and no material change to internal control over financial reporting during Q2.
Investor verification priorities
- Track post-quarter revenue, order trends, margins and the segment-level effects of COVID-19, including whether guidance is restored.
- Reconcile continuing-operations cash generation and reported free cash flow with consolidated cash flow, which was negative due to discontinued operations.
- Monitor debt maturities, cash location and availability, and the company’s ability to sustain dividends and maintain liquidity.
- Follow Aldrich and Murray bankruptcy proceedings, any extension of the stay protecting Trane affiliates, and changes to the $249.3 funding-agreement liability or prospective trust obligations.
- Confirm final separation-related payments and working-capital adjustments with Gardner Denver, and assess whether expected stranded-cost savings justify the projected implementation costs.