Honeywell International Inc. — Q3 2018 Form 10-Q
Business context and reporting period. Quarterly period ended September 30, 2018; financial results compare the three and nine months ended September 30, 2018 with the comparable 2017 periods. Honeywell reported four operating segments. The Transportation Systems spin-off, Garrett Motion Inc., closed October 1, 2018, after quarter-end; its results and assets and liabilities remained included in this quarter’s statements through the separation date.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $10.762B | $10.121B | $32.073B | $29.691B |
| Net income attributable to Honeywell | $2.338B | $1.345B | $5.044B | $4.064B |
| Diluted EPS | $3.11 | $1.74 | $6.67 | $5.26 |
| Gross margin | 29.8% | 30.3% | 30.3% | 30.6% |
- Q3 sales rose 6% (volume +5%, price +2%, foreign currency translation -1%); nine-month sales rose 8%.
- Q3 pretax income was $1.858B, versus $1.778B. The quarter recorded a $498M tax benefit versus $416M tax expense a year earlier; the effective tax rate was -26.8% versus 23.4%. A roughly $1.1B reduction in accrued withholding taxes on unremitted foreign earnings was the principal driver of the tax-rate decline. Spin-off-related restructuring generated $132M of tax costs.
- For the first nine months, operating cash flow was $4.875B versus $3.794B; capital expenditures were $522M, implying approximately $4.353B of operating cash flow less capital expenditures. Cash and cash equivalents were $9.803B at September 30, 2018, with $1.850B of short-term investments.
- Current assets were $26.628B and current liabilities $17.900B (calculated current ratio approximately 1.49). Borrowings comprised $3.977B of commercial paper and other short-term borrowings, $215M of current long-term debt, and $14.059B of long-term debt. Credit agreements had no outstanding borrowings.
- Nine-month financing included $2.308B of share repurchases and $1.669B of dividends paid. The company received $1.604B of Garrett pre-separation funding. Approximately $5.4B remained under its $8B share repurchase authorization at quarter-end.
Material changes versus prior period
- All four segments increased nine-month sales: Aerospace $12.065B (+11%), Home and Building Technologies $7.496B (+5%), Performance Materials and Technologies $7.872B (+5%), and Safety and Productivity Solutions $4.640B (+11%). Nine-month segment profit increased to $2.702B in Aerospace, $1.273B in Home and Building Technologies, $1.676B in Performance Materials and Technologies, and $760M in Safety and Productivity Solutions.
- Gross margin declined 0.5 percentage point in Q3 and 0.3 point year to date. Management cited higher material and labor costs, inflation and increased repositioning charges; productivity partly offset these pressures.
- Operating cash flow improved by $1.081B year over year, primarily from a $542M favorable working-capital impact and $325M lower cash tax payments. Investing cash flow was positive $1.433B, mainly reflecting net investment reductions.
- Net income and EPS benefited materially from the withholding-tax accrual reduction and lower share count, as well as higher segment profit and pension income; therefore, reported earnings growth was not solely operating-driven.
Outlook, management commentary, risks and unusual items
- No comprehensive full-year revenue or earnings guidance is stated in the provided filing text. Honeywell expected approximately $300M of cash spending on repositioning actions in 2018. It increased the quarterly dividend rate 10% to $0.82 per share beginning with the fourth-quarter 2018 dividend.
- Repositioning and other charges were $299M in Q3 and $756M for the first nine months, compared with $235M and $586M, respectively, in 2017. Nine-month charges included $334M for probable, reasonably estimable environmental liabilities and $157M of asbestos litigation charges, net of insurance.
- Environmental liabilities were $791M at September 30, 2018. Honeywell stated ultimate environmental costs and timing cannot be determined and could be material to results or operating cash flows, although it did not expect a material adverse effect on financial position.
- The company revised its Bendix asbestos estimate to include projected claims through 2059. It reported $2.601B of asbestos liabilities and $489M of related insurance recoveries at September 30. The SEC Division of Enforcement opened an investigation into the accounting matter; Honeywell said it would cooperate. The NARCO trust liability remains subject to uncertainty because reliable claims-processing data is lacking, and a material estimate change may be required when reliable data becomes available.
- Honeywell disclosed ongoing UAW retiree-healthcare litigation and an appeal. If the court’s “full premium” damages ruling is upheld, the company estimated damages of at least $12M. Other contingencies may affect results or operating cash flows when resolved.
- The Garrett separation agreement provides for reimbursement of 90% of specified legacy liabilities, net of certain recoveries, subject to an annual cap equivalent to approximately $175M and other duration terms. The filing also reported authorized Iran wind-down activities and stated Honeywell would cease business there after wind-down.
- The company expected to adopt the new lease accounting standard on January 1, 2019; its financial-statement impact had not yet been determined. Management reported effective disclosure controls and no material change in internal control over financial reporting. No material changes to the 2017 Form 10-K risk-factor disclosures were reported.
Most important facts for investors to verify
- How much of the Q3 earnings increase reflects the approximately $1.1B withholding-tax accrual reduction rather than recurring operations.
- Progress and final accounting for the Homes and Global Distribution and Transportation Systems separations, including associated costs and the Garrett indemnification terms.
- Developments in the SEC investigation and the assumptions, claims data and insurance recoverability underlying asbestos liabilities.
- Whether margin pressure from materials, labor and inflation persists, and whether productivity offsets those costs.
- Final quantified balance-sheet effects of lease-standard adoption and the company’s evolving liquidity, debt and capital-return plans.