ESCO Technologies Inc. — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended June 30, 2014. Amounts are in U.S. dollars; financial statement amounts are in millions unless otherwise stated. Comparisons are with the corresponding 2013 periods.
Business context and performance
ESCO reports three continuing segments: Filtration, RF Shielding and Test, and Utility Solutions Group (USG). The company completed the sale of Aclara Technologies on March 28, 2014; Aclara is reported as discontinued operations.
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Continuing-operations sales | $130.5 | $116.9 | $379.7 | $345.5 |
| Continuing-operations net earnings | $11.6 | $6.5 | $29.7 | $17.4 |
| Diluted EPS, continuing operations | $0.43 | $0.24 | $1.11 | $0.65 |
| Consolidated EBIT, continuing operations | $15.4 | $11.4 | $43.7 | $31.2 |
| EBIT margin | 11.8% | 9.8% | 11.5% | 9.0% |
Q3 sales grew 11.6%; nine-month sales grew 9.9%. Test had the strongest Q3 sales growth, up 23.0%; its EBIT improved with savings from the prior-year facility consolidation. Filtration sales rose, but EBIT declined, with lower volumes weighing on margins. USG sales and EBIT increased, primarily on higher service revenue and lower restructuring costs. SG&A was $33.5 million in Q3 (25.7% of sales) and $99.2 million for nine months (26.1%); the percentage of sales was lower than in 2013.
Cash flow, balance sheet and liquidity
- Nine-month cash from operating activities was $21.0 million overall, including $22.6 million from continuing operations and a $1.6 million use from discontinued operations. Continuing-operations cash flow improved from a $1.3 million use in the prior-year period, mainly due to lower working-capital requirements.
- Cash was $40.2 million at June 30, 2014. Debt was $48.0 million, comprising $20.0 million current and $28.0 million long-term; management reported net debt below $8 million. Working capital was $159.2 million, versus $163.6 million at September 30, 2013.
- The $132 million gross cash proceeds from the Aclara sale were used to repay a significant portion of revolving-credit borrowings. Approximately $393 million remained available under the $450 million facility, plus a $250 million expansion option subject to lender acceptance. The company reported compliance with debt covenants; $8.7 million of letters of credit were outstanding.
- Nine-month capital expenditures were $8.1 million and capitalized software additions were $6.3 million. Dividends paid totaled $6.4 million. The company repurchased approximately 106,000 shares for $3.6 million during Q3 and spent a further $5.0 million after quarter-end.
Material changes, outlook and risks
- Aclara divestiture: In addition to the $132 million closing proceeds, ESCO expected an approximately $5 million working-capital adjustment and retained Aclara receivables. At June 30, $5.4 million had been collected on specified receivables, with $9.8 million still recorded in other current assets. The buyer and ESCO had not agreed on the final working-capital adjustment; its impact was undetermined. The sale generated a $50.4 million after-tax loss. Consequently, nine-month consolidated net loss was $10.9 million, despite $29.7 million of continuing-operations earnings.
- Orders and backlog: Q3 orders were $150.4 million versus $141.2 million a year earlier. Continuing-operations backlog was $292.7 million at June 30, compared with $272.1 million at September 30, 2013.
- Guidance: Management expected fiscal 2014 continuing-operations EPS of $1.45–$1.55, or adjusted EPS of $1.50–$1.60 excluding anticipated restructuring charges. The company expected approximately $2 million of fiscal 2014 charges to complete the Crissair facility move; $0.7 million had been incurred in the first nine months. The move was expected to finish by September 30, 2014. Management estimated a fiscal 2014 continuing-operations effective tax rate of about 33%.
- Tax and unusual items: The continuing-operations effective tax rate was 24.2% in Q3 and 29.7% year to date, compared with 38.7% and 40.5% in 2013. Favorable tax-position, research-credit and foreign-tax-credit items reduced the 2014 rates. These benefits make period comparisons less representative of underlying tax rates.
- Risks and contingencies: The filing cites uncertainty over the Aclara working-capital adjustment, customer-order timing and contract awards, possible contract terminations, guarantees related to certain Aclara contracts, market and execution risks, and litigation and environmental matters. Management said other claims and environmental exposures were adequately reserved, insured, or not expected to have a material adverse effect. A euro forward contract hedged an intercompany transaction; reported derivative impacts were de minimis in Q3.
- Accounting change: ESCO was evaluating the effect and transition method for the new revenue-recognition standard, effective for annual periods beginning after December 15, 2016; the effect had not been determined.
Most important facts for investors to verify
- Final Aclara working-capital adjustment, collection of the remaining $9.8 million receivables, and any related effect on discontinued-operations results.
- Progress against fiscal 2014 EPS guidance and completion costs and timing for the Crissair relocation.
- Whether order growth and backlog convert into sales, particularly given project timing in the Test segment.
- Continuing-operations cash generation, working-capital needs, share repurchases, and debt levels after the Aclara proceeds.
- How much of the lower 2014 tax rate reflects nonrecurring benefits versus the expected full-year rate of approximately 33%.