TE Connectivity Ltd. (identified as “TE Connectivity Plc” in the request) — Q3 FY2013 Form 10-Q
Reporting period: Quarter and nine months ended June 28, 2013, compared with the corresponding periods ended June 29, 2012. Figures are in U.S. dollars; amounts are in millions except per-share data.
Business context and results
TE Connectivity designs and manufactures connectivity products across automotive, communications, industrial, energy, consumer, aerospace, defense, and other markets. Effective in FY2013, it reported four segments: Transportation Solutions, Network Solutions, Industrial Solutions, and Consumer Solutions.
| Metric | Q3 FY2013 | Q3 FY2012 | Nine months FY2013 | Nine months FY2012 |
|---|---|---|---|---|
| Net sales | $3,449 | $3,499 | $9,848 | $9,918 |
| Gross margin | $1,132 | $1,018 | $3,173 | $2,982 |
| Operating income | $439 | $371 | $1,091 | $1,117 |
| Income from continuing operations | $332 | $260 | $889 | $768 |
| Net income attributable to TE Connectivity | $335 | $199 | $889 | $716 |
| Diluted EPS | $0.80 | $0.46 | $2.10 | $1.67 |
Gross margin was 32.8% in Q3 versus 29.1% a year earlier, and 32.2% for nine months versus 30.1%. Operating margin was approximately 12.7% in Q3 versus 10.6%, and 11.1% for nine months versus 11.3%. Q3 sales fell 1.4% reported but were flat organically; nine-month sales fell 0.7% reported and 2.7% organically.
Cash flow, balance sheet, and capital
- Nine-month operating cash flow was $1,453, up from $1,234. Management-reported free cash flow, a non-GAAP measure, was $1,088 versus $865; the increase was attributed primarily to improved working capital. Capital expenditures were $412 versus $385.
- Cash was $1,262 at June 28, down from $1,589 at September 28, 2012. Total debt was $3,018, down from $3,711; implied net debt was approximately $1,756. Debt included $711 of current maturities, including $300 of 5.95% notes due January 2014. Commercial paper outstanding was $350.
- Current assets were $6,018 and current liabilities $4,003. The company had an undrawn $1.5 billion revolving credit facility expiring in June 2016 and reported compliance with debt covenants.
- Cash uses included $618 for share repurchases and $281 for dividends and distributions. Approximately 16 million shares were repurchased in the first nine months; $688 remained available under the authorization.
Material changes and segment trends
- Transportation Solutions: Q3 sales rose 7.0% to $1,438 and operating income rose to $282 from $178. Nine-month sales increased 6.2% to $4,087 and operating income to $715 from $558. Automotive demand and productivity supported results; Deutsch added sales in the first six months.
- Network Solutions: Q3 sales declined 6.1% to $803 and operating income fell to $48 from $64. Nine-month sales decreased 8.5% to $2,262 and operating income to $103 from $176. Weak data-center and subsea activity, customer investment weakness, price erosion, and lower volume weighed on performance.
- Industrial Solutions: Q3 sales decreased 4.3% to $779 and operating income was $84 versus $87. Nine-month sales were nearly flat at $2,215, while operating income declined to $232 from $281. Industrial and energy weakness offset aerospace, defense, and marine contributions.
- Consumer Solutions: Q3 sales declined 11.7% to $429 and operating income fell to $25 from $42. Nine-month sales decreased 7.4% to $1,284 and operating income to $41 from $102. Consumer-device weakness, notably in PCs, and appliance declines affected results.
Consolidated Q3 operating income improved despite lower sales, aided by manufacturing productivity and the absence of prior-year Deutsch acquisition accounting charges. For nine months, operating income declined, with significantly higher restructuring charges partly offsetting gross-margin improvement.
Outlook, unusual items, and risks
- Management forecast Q4 FY2013 sales of $3.35–$3.45 billion and diluted EPS of $0.82–$0.86. FY2013 sales guidance was $13.2–$13.3 billion and diluted EPS guidance $2.92–$2.96. The outlook assumed foreign-exchange rates and commodity prices remained near then-current levels.
- Management expected global automotive production to grow approximately 3%–4% year over year in Q4 and about 2% for FY2013. It anticipated continued weakness in consumer devices and data communications.
- The FY2013 restructuring program involved headcount reductions and manufacturing-site closures across segments. The filing reports approximately $244 of nine-month restructuring and other charges and forecasts roughly $275 for FY2013 in MD&A; a note separately estimates $267 for the FY2013 program. Management expected about $100 of annualized savings by the end of FY2015 and approximately $180 of FY2013 restructuring cash spending.
- Nine-month earnings included a $331 tax benefit related to settlement of undisputed pre-separation tax matters, alongside $231 of related other expense under the Tax Sharing Agreement. These items materially affect comparisons and reported earnings.
- A disputed IRS matter concerning historic intercompany debt remains unresolved. Notices to former Tyco subsidiaries asserted $778 of additional taxes, $154 of penalties, and $105 of withholding taxes, with another estimated $30 tax deficiency for partnerships; interest and potential effects on later years were additional. TE Connectivity bears 31% of certain shared liabilities. The company said it believed its reserves were appropriate, but an adverse outcome could materially affect results, financial position, or cash flows. It expected about $187 of net cash payments for pre-separation tax matters over the next 12 months.
- Other disclosed exposures include an $80 contingent Com-Net purchase-price dispute, for which no liability was recorded because payment was not considered probable; estimated environmental remediation costs of $13 within a $12–$24 range; and $364 of outstanding letters of credit and guarantees. Management did not expect ordinary-course legal matters or these other obligations to have a material effect, subject to the tax-matter risk.
Key investor verification points
- Reconcile the FY2013 restructuring outlook of approximately $275 with the $267 estimate for the specific FY2013 restructuring program, and track actual cash costs and savings realization.
- Monitor the IRS dispute, the 31% tax-sharing allocation, reserve adequacy, and expected tax-related cash payments; reported nine-month tax benefits are not necessarily recurring.
- Assess whether automotive growth can offset weakness in Network and Consumer Solutions, including the data-center, subsea, PC, and industrial end markets.
- Compare subsequent results with Q4 and full-year sales and EPS guidance, noting the assumptions on currency and commodity prices.
- Track working-capital-driven cash flow, capital spending, the January 2014 note maturity, and capital returns through repurchases and distributions.