Flowserve Corporation 2010 Form 10-K Summary
Business context and reporting period
Flowserve Corporation manufactures and services pumps, valves, mechanical seals, automation equipment and related flow-control systems for oil and gas, chemical, power-generation, water-management and general industrial customers. The filing covers the fiscal year ended December 31, 2010, with quarterly data including the fourth quarter. Operations are reported through Engineered Product Division (EPD), Industrial Product Division (IPD) and Flow Control Division (FCD). The former Flowserve Pump Division and Flow Solutions Division were reorganized into EPD and IPD effective January 1, 2010, with prior periods retrospectively presented.
Key financial metrics
| Metric | 2010 | 2009 | Change |
|---|---|---|---|
| Sales | $4.032 billion | $4.365 billion | Down 7.6% |
| Gross profit | $1.410 billion | $1.548 billion | Down 8.9% |
| Gross margin | 35.0% | 35.5% | Down 50 basis points |
| Operating income | $581.4 million | $629.5 million | Down 7.6% |
| Operating margin | 14.4% | 14.4% | Flat |
| Net earnings attributable to Flowserve | $388.3 million | $427.9 million | Down 9.3% |
| Diluted EPS | $6.88 | $7.59 | Down 9.4% |
| Operating cash flow | $355.8 million | $431.3 million | Down 17.5% |
| Capital expenditures | $102.0 million | $108.4 million | Down 5.9% |
Fourth-quarter 2010 sales were $1.140 billion, gross profit was $384.5 million, net earnings were $112.6 million and diluted EPS was $2.00. Fourth-quarter sales and gross profit were below the comparable 2009 quarter, while net earnings and diluted EPS were higher.
Aftermarket sales increased to approximately 39% of consolidated sales from 36% in 2009. Bookings increased 8.8% to $4.229 billion, and year-end backlog increased 9.4% to $2.595 billion. Management expected to ship approximately 82% of the consolidated backlog during 2011.
- EPD sales were $2.153 billion, with a 36.4% gross margin and 19.2% segment operating margin.
- IPD sales were $800.2 million, with a 25.6% gross margin and 8.6% segment operating margin.
- FCD sales were $1.198 billion, with a 35.3% gross margin and 15.1% segment operating margin.
Liquidity, debt and balance sheet
- Cash and cash equivalents were $557.6 million, down from $654.3 million at year-end 2009.
- Working capital was $1.067 billion; total assets were $4.460 billion; and total equity was $2.113 billion.
- Total debt and capital lease obligations were $527.7 million, including a $500.0 million term loan. Cash exceeded total debt by approximately $29.9 million.
- The December 2010 refinancing created a $500.0 million term loan and a $500.0 million revolving facility, both maturing December 14, 2015. Outstanding letters of credit reduced revolving borrowing capacity to $366.1 million.
- The company complied with its debt covenants at year-end. The facilities include a maximum leverage ratio of 3.25 times consolidated EBITDA and minimum interest coverage of 3.25 times.
- Operating, investing and financing cash flows were $355.8 million, $(286.7) million and $(142.9) million, respectively. Investing cash flow included $199.4 million for the Valbart acquisition.
Material changes versus the prior comparable period
- Sales declined because 2010 began with lower original-equipment backlog following customer project delays during the recession. Higher aftermarket activity and Valbart sales partly offset the decline.
- Gross margin declined due to less favorable pricing on beginning backlog and lower fixed-cost absorption, partly offset by aftermarket mix, operational improvements and realignment savings.
- SG&A decreased 9.6% to $845.0 million, reflecting cost controls, realignment benefits and the nonrecurrence of certain 2009 litigation costs.
- Operating margin remained 14.4% despite lower sales, supported by lower SG&A and reduced realignment charges.
- Operating cash flow declined due primarily to increased accounts receivable and inventory and lower accrued liabilities.
- Flowserve acquired Valbart for $199.4 million on July 16, 2010. Valbart contributed $38.3 million of sales but reduced 2010 operating income by $12.4 million, including $2.7 million of acquisition-related costs and effects of low-margin acquired backlog.
- Realignment charges were $18.3 million in 2010 versus $68.1 million in 2009. Cumulative charges were $86.4 million, with approximately $5 million of additional charges expected for approved plans.
- The quarterly dividend increased from $0.27 to $0.29 per share during 2010; the board subsequently authorized an increase to $0.32 per share beginning in April 2011. The company repurchased $46.0 million of shares in 2010.
Guidance, outlook, commentary and risks
Management expected 2011 revenue to increase relative to 2010, excluding currency effects, based on higher bookings and backlog, but remained cautious because of uncertain global economic conditions. Management expected increased pricing pressure on gross margins, partially offset by higher shipments, aftermarket strength, supply-chain initiatives, disciplined bidding, operational improvements and realignment savings.
- Expected 2011 investing cash flow was $120 million to $130 million before potential acquisitions.
- Scheduled debt repayments in 2011 were $25 million.
- Expected 2011 U.S. pension contributions were $7 million to $10 million, with approximately $10 million of non-U.S. contributions.
- Management expected 2011 interest expense to be comparable with 2010 and anticipated sufficient operating cash flow and available credit to fund working capital, capital expenditures, dividends, repurchases, debt payments and pension contributions.
- Key risks include cyclical customer capital spending, order delays or cancellations, backlog execution and delivery penalties, competitive pricing, raw-material costs, foreign currency movements, international political and regulatory conditions, and customer credit risk.
- The company remains exposed to asbestos litigation, export-control investigations, environmental remediation, product liability and warranty claims, and tax audits. Management believes current reserves are adequate and does not expect these matters to be material, but outcomes remain uncertain.
- Foreign-currency losses increased in 2010, including a $12.4 million loss from Venezuelan currency devaluation. A 10% change in foreign exchange rates was estimated to affect annual net earnings by approximately $23 million.
- The company had $104.6 million of gross unrecognized tax benefits at year-end 2010 and estimated a possible $6.0 million to $20.6 million reduction in tax expense within the following 12 months from audit resolutions or statute expirations.
Most important facts for investors to verify
- Whether higher bookings and backlog convert into 2011 revenue without material cancellations, delays or delivery penalties.
- Whether pricing pressure and lower fixed-cost absorption continue to reduce consolidated and segment margins, particularly IPD and FCD.
- Whether Valbart achieves the expected operational improvements after its $199.4 million acquisition and avoids further integration losses.
- Whether operating cash flow improves through better receivables collection and inventory turns; fourth-quarter DSO was 66 days versus a 60-day goal, and inventory turns fell to 3.4 from 4.0.
- Compliance with debt covenants, availability under the revolving facility and the company’s ability to refinance or repay scheduled debt maturities.
- Actual 2011 realignment costs and realized run-rate savings compared with management’s $115 million expected savings target.
- Developments in asbestos, export-control, environmental, tax and other contingent liabilities, including amounts exceeding recorded reserves.