Emerson Electric Co. — Q1 FY2019 Form 10-Q
Reporting period: Three months ended December 31, 2018; comparisons are with the three months ended December 31, 2017 unless noted. Dollar amounts are in millions except per-share data. Emerson is a global manufacturer of technology and engineering solutions, reported in Automation Solutions and Commercial & Residential Solutions.
Financial performance
| Metric | Q1 FY2019 | Prior-year quarter | Change |
|---|---|---|---|
| Net sales | $4,147 | $3,816 | +9% |
| Gross profit / margin | $1,761 / 42.5% | $1,614 / 42.3% | Margin +0.2 percentage points |
| Earnings before income taxes / margin | $591 / 14.2% | $503 / 13.2% | +17% |
| Net earnings attributable to common stockholders | $465 | $392 | +19% |
| Diluted EPS | $0.74 | $0.61 | +21% |
| Cash from operating activities | $323 | $447 | Down $124 |
| Capital expenditures / free cash flow | $155 / $168 | $96 / $351 | Free cash flow down $183 |
Underlying sales, excluding currency, acquisitions and divestitures, rose 4.5%; acquisitions contributed 6% and foreign currency translation reduced growth by 1.5%. Net earnings margin was 11.2%, versus 10.3%. The effective tax rate was 21%, versus 22%; the current-period rate included favorable discrete items that lowered it by 3 percentage points.
Segments and material changes
- Automation Solutions: Sales rose 9% to $2,799; earnings increased 5% to $407, while margin declined to 14.5% from 15.0%. Growth reflected broad industrial demand and acquisitions, partly offset by currency. Aventics contributed acquisition-related margin dilution.
- Commercial & Residential Solutions: Sales rose 7% to $1,338, but earnings fell 6% to $237 and margin declined to 17.7% from 20.1%. Tools & Home Products sales increased 39%, largely reflecting the tools and test equipment acquisition; Climate Technologies sales declined 5%, with weaker China demand.
- Consolidated results benefited from $63 lower incentive stock compensation expense (about $0.08 per share), lower restructuring expense, and favorable foreign-currency and pension comparisons. Acquisition costs, investment spending, tariffs, mix and weaker China consumer demand were offsets.
- Operating cash flow fell primarily because of the timing of accounts payable and accruals. Free cash flow was lower due to reduced operating cash flow and higher capital investment.
Liquidity, debt and capital allocation
At December 31, 2018, cash and equivalents were $1,248. Short-term borrowings and current maturities were $3,320, and long-term debt was $2,641. The current ratio was 0.9 and working capital was negative $882, versus a 1.1 current ratio and $455 of working capital at September 30, 2018. Total debt-to-capital rose to 42.0% from 34.7%; management attributed the deterioration primarily to higher short-term borrowing supporting accelerated share repurchases. Interest coverage was 13.0x.
During the quarter, Emerson paid $305 in dividends, spent $786 on common-stock purchases, repaid $403 of long-term debt and spent $73 on acquisitions. Management stated it expected sufficient funding from operating cash flow, existing resources, debt capacity and backup credit lines. In January 2019, the company issued €500 of 1.25% notes due 2025 and €500 of 2.0% notes due 2029, using proceeds to repay commercial paper and for general corporate purposes.
Outlook, risks and unusual items
- Fiscal 2019 guidance: consolidated sales growth of 7%–10%, including underlying growth of 4%–7%; reported EPS of $3.60–$3.75; operating cash flow of approximately $3.2 billion; and free cash flow of approximately $2.5 billion, excluding targeted capital spending of $650.
- Management expected industrial-market strength to continue and China consumer demand to improve in the second half of 2019. It forecast Automation Solutions sales growth of 7%–10% and Commercial & Residential Solutions growth of 8%–10%. Full-year effective tax rate was expected to be approximately 24%–25%.
- The company completed its accounting for the U.S. Tax Cuts and Jobs Act and recorded a $100 benefit related to the deemed-repatriation tax, offset by an increase in unrecognized tax benefits. Additional tax guidance and final regulations could affect results in the period issued.
- Restructuring expense was $10, versus $15 in the prior-year quarter. The company reported asbestos-litigation liabilities of $332 and related insurance receivables of $123. Derivative counterparties could require up to $23 of collateral if specified credit-rating thresholds were breached; none was posted or held at quarter-end.
- Risks identified include economic and currency conditions, market demand, pricing, intellectual property, cybersecurity, tariffs, competition and technology, and tax-law changes. Brexit-related direct tariff, logistics and other costs were expected by management to be immaterial.
Most important facts for investors to verify
- Whether underlying demand and sales growth persist after separating acquisition contributions, currency effects and China-related weakness.
- Whether margin pressure in Commercial & Residential Solutions and acquisition dilution in Automation Solutions ease as anticipated.
- Whether operating cash flow recovers from working-capital timing effects and supports the full-year cash-flow outlook and capital spending.
- How elevated borrowing and share repurchases affect liquidity, leverage and interest costs.
- Whether tax guidance, restructuring, asbestos claims or other contingencies create material future charges or cash requirements.