BorgWarner Inc. — Q3 2019 Form 10-Q
Business context and period. BorgWarner supplies propulsion and other vehicle technologies to OEMs and aftermarket customers worldwide. Its reporting segments are Engine and Drivetrain. This filing covers the three and nine months ended September 30, 2019; financial amounts below are in millions except per-share data.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net sales | $2,492 | $2,478 | $7,609 | $7,956 |
| Gross profit / margin | $524 / 21.0% | $515 / 20.8% | $1,556 / 20.4% | $1,686 / 21.2% |
| Operating income | $276 | $278 | $825 | $924 |
| Net earnings attributable to BorgWarner | $194 | $204 | $526 | $701 |
| Diluted EPS | $0.94 | $0.98 | $2.54 | $3.34 |
- Q3 operating income margin was approximately 11.1%, compared with 11.2% a year earlier. Nine-month margin was approximately 10.8%, versus 11.6%.
- For the first nine months, operating cash flow was $824 (up from $556); investing cash outflow was $380 (versus $393), and financing cash outflow was $248 (versus $323). Capital expenditures, including tooling, were $346, compared with $394.
- At September 30, cash was $916. Short-term debt and notes payable were $419, and long-term debt was $1,656. The $1.2 billion revolving credit facility was undrawn; the company reported covenant compliance. Cash less reported debt was approximately negative $1,159.
- Q3 R&D expense was $102, versus $108; nine-month R&D was $319, versus $337.
Changes and segment results
- Q3 reported sales increased 0.6% year over year; excluding currency effects and net acquisitions and divestitures, sales increased approximately 4.5%. Nine-month reported sales fell 4.4%; on the same adjusted basis, sales increased approximately 0.1%.
- Nine-month earnings attributable to BorgWarner fell to $526 from $701, and diluted EPS declined to $2.54 from $3.34. Management cited lower industry volumes, currency effects, margin pressure and a higher effective tax rate.
- Q3 Engine sales were $1,514 and adjusted EBIT was $241, versus $1,516 and $238. Drivetrain sales were $993 and adjusted EBIT was $100, versus $976 and $108. Nine-month adjusted EBIT declined in both segments: Engine was $731 versus $797; Drivetrain was $307 versus $345.
- Nine-month gross margin fell to 20.4% from 21.2%. Management attributed the reduction primarily to supplier cost reductions lagging customer price deflation and higher tariff costs; material costs were 55.2% of sales versus 54.4%.
Outlook, commentary and risks
- Management expected a modest year-over-year revenue decline, excluding currency and net acquisition/divestiture effects, with net new business partly offsetting expected lower global vehicle production. The filing does not provide a clear numerical full-year revenue or earnings guidance range.
- The company said long-term growth drivers include turbocharger adoption, automated transmissions, variable-cam timing, and hybrid and electric vehicle offerings. It invested $50 in Romeo Power Technology and formed a battery-pack joint venture in which BorgWarner owns 60%.
- Nine-month results included $41 of restructuring expense, a $26 non-cash pension settlement loss, and $14 from an unfavorable arbitration decision related to a prior acquisition. Management said further restructuring charges could be material.
- The effective tax rate for the first nine months was 29.2%, versus 20.7% in 2018. Management estimated an approximately 27% annual effective tax rate for 2019 ongoing operations, excluding specified non-comparable items.
- Asbestos-related liabilities were $772, with estimated insurance coverage of $385; the company disclosed up to approximately $100 of reasonably possible additional losses. It was cooperating with an SEC investigation into its accounting for asbestos claims not yet asserted. Environmental accruals were $8 for 27 identified cleanup sites.
- As a subsequent event, on October 30, 2019, BorgWarner agreed to transfer Morse TEC, which holds asbestos and certain other liabilities, to Enstar and contribute approximately $172 in cash. The company estimated the transaction could result in an after-tax fourth-quarter loss of up to $40.
- Key risks include cyclical vehicle production, reliance on major OEM customers, tariffs and supply costs, foreign-exchange movements, supply disruptions, and legal and asbestos-related uncertainties. The company reported effective disclosure controls and no material change in internal control over financial reporting.
Important facts for investors to verify
- How vehicle production, new program launches, tariffs and customer price deflation affect sales and margins, particularly in Drivetrain.
- The basis and assumptions for full-year guidance, including the impact of currency and acquisitions or divestitures.
- Final accounting and cash effects of the Enstar/Morse TEC transaction, including the asbestos liabilities, insurance assets and potential loss.
- Developments in the SEC asbestos accounting investigation, insurance coverage litigation and the estimate of future asbestos claims.
- Debt maturities, available liquidity and the company’s ability to sustain dividends, investment and share repurchases if operating conditions weaken.