Woodward, Inc. — Q2 FY2013 Form 10-Q
Reporting period: Three and six months ended March 31, 2013. The interim financial statements are unaudited; amounts below are in millions unless stated otherwise. Woodward supplies the aerospace and energy markets.
Financial performance
| Metric | Q2 FY2013 | Q2 FY2012 | First half FY2013 | First half FY2012 |
|---|---|---|---|---|
| Net sales | $485.5 | $468.8 | $893.9 | $876.7 |
| Earnings before income taxes | $50.3 | $54.0 | $88.9 | $94.2 |
| Net earnings | $42.4 | $38.8 | $69.8 | $67.2 |
| Diluted EPS | $0.61 | $0.55 | $1.00 | $0.95 |
| EBIT, non-GAAP | $57.3 | $60.5 | $102.2 | $106.9 |
| Gross margin | 28.3% | 31.2% | 28.7% | 30.8% |
- Q2 sales rose 3.6%, while EBIT fell 5.3%. Net earnings increased despite lower pretax earnings, principally because the effective tax rate declined to 15.7% from 28.3%.
- For the first half, sales increased 2.0%, EBIT declined 4.4%, and the effective tax rate was 21.4% versus 28.7%.
- The American Taxpayer Relief Act’s retroactive research and experimentation credit reduced FY2013 tax expense by $6.8 million. Management said diluted EPS excluding the favorable fiscal-2012 retroactive credit impact was $0.54 for Q2 and $0.93 for the first half.
- SG&A and research and development expenses declined year over year, but higher cost of goods sold as a percentage of sales compressed gross margin. Amortization expense rose, partly reflecting acquired intangibles.
Segments and material changes
- Aerospace: Q2 sales were $270.5 million, up from $224.3 million; segment earnings were $41.2 million, up from $33.7 million. Higher commercial OEM and military aftermarket activity contributed to growth. Duarte contributed $35.1 million of Q2 sales and $1.3 million of segment earnings.
- Energy: Q2 sales were $215.0 million, down from $244.5 million; segment earnings were $24.2 million, down from $34.3 million. The main driver was a roughly $30 million decline in wind turbine converter sales, with lower volume reducing fixed-cost absorption. Improved pricing and product mix partly offset the decline.
- Excluding Duarte, Q2 sales were $450.4 million and first-half sales were $858.8 million, below the respective prior-year comparable periods, according to the filing.
- Management attributed prior-year wind converter sales partly to accelerated customer orders ahead of expiring incentives and renewable-energy mandates; the further decline reflected uncertainty about large wind-project investment.
Cash flow, balance sheet, debt, and liquidity
- First-half operating cash flow was $93.0 million, versus $12.2 million a year earlier. Capital spending was $47.2 million, producing reported non-GAAP free cash flow of $45.8 million, compared with negative $18.3 million. The filing attributes the cash-flow improvement mainly to prior-quarter sales-related inflows and lower inventory purchases.
- Cash and equivalents were $54.7 million at March 31, 2013, down from $61.8 million at September 30, 2012. Working capital was $557.5 million, versus $623.6 million.
- Total debt was $555.1 million, compared with $392.2 million at September 30, 2012. The company had $200 million outstanding under an acquisition-related 364-day line of credit, $100 million of Series B notes due October 2013, and $5.1 million of foreign short-term borrowings. The 2008 term loan was repaid during the quarter.
- The $200 million line-of-credit borrowing was classified as long-term based on management’s intention to refinance it. Its outstanding LIBOR loan matured April 30, 2013; Woodward said its existing revolving facility could refinance the full balance if needed. The company reported $393.6 million of remaining availability under its $400 million revolving facility and $23.7 million under foreign facilities, and said it was in compliance with debt covenants.
- First-half investing cash outflow was $245.7 million, primarily reflecting the $198.9 million net cash purchase of the Duarte business. Financing cash inflow was $145.7 million, including $200 million of long-term borrowing. Woodward repurchased $17.1 million of stock and paid $11.0 million in dividends during the half.
Acquisition, outlook, and risks
- Woodward acquired substantially all assets and certain liabilities of GE’s Duarte thrust-reverser actuation business in December 2012 for a preliminary purchase price of $198.9 million net of acquired cash. Purchase accounting remained preliminary; recorded goodwill was $87.7 million and acquired intangibles were $79.3 million. Management cited expected technology, customer, and operating synergies.
- Management provided no specific quantified full-year revenue or earnings guidance in the supplied filing text. It said the 2013 extension of the wind tax credit was not expected to materially affect FY2013 sales, given project planning and ordering cycles.
- Management was monitoring the effects of U.S. federal sequestration on aerospace demand. It noted U.S. government sales were 18% of FY2012 total sales and stated it did not then expect a significant effect on reporting-unit valuations.
- The Duarte union contract was due to expire May 25, 2013 and was being renegotiated. Woodward was also establishing a new defined-benefit pension plan for eligible Duarte employees.
- Risks discussed include weaker wind and defense demand, acquisition integration and preliminary valuations, refinancing and debt obligations, foreign-exchange movements, customer and supplier performance, pension assumptions, and legal, regulatory, tax, and environmental matters. Management said pending legal matters were not expected to materially affect liquidity, financial condition, or results.
- Cash held by foreign subsidiaries was $37.0 million; repatriation could result in additional taxes. The company also reported $63.8 million of Chinese customer bank drafts in accounts receivable, accepted from large creditworthy banks.
Important facts for investors to verify
- Whether the $200 million acquisition-related borrowing was refinanced and how the $100 million October 2013 note maturity was funded.
- Whether Duarte purchase-price adjustments, fair-value allocations, integration costs, and expected synergies changed after this preliminary reporting.
- Whether wind-turbine converter demand and Energy segment margins stabilized, and how commercial aerospace and military demand developed.
- How much of earnings and EPS growth depended on the retroactive tax credit, and the company’s subsequent effective tax rate.
- Progress on Duarte labor negotiations, pension-plan establishment, and integration of the acquired business’s internal controls.