Allison Transmission Holdings, Inc. — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Dollar amounts are in millions, except per-share data. Allison designs and manufactures commercial and defense automatic transmissions and related parts and services.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $711 | $580 | $1,374 | $1,079 |
| Gross profit / margin | $374 / 52.6% | $290 / 50.0% | $716 / 52.1% | $541 / 50.1% |
| Operating income / margin | $248 / 34.9% | $177 / 30.5% | $470 / 34.2% | $326 / 30.2% |
| Net income / margin | $174 / 24.5% | $95 / 16.4% | $325 / 23.7% | $178 / 16.5% |
| Diluted EPS | $1.29 | $0.63 | $2.37 | $1.15 |
| Adjusted EBITDA (non-GAAP) | $297 | $225 | $572 | $417 |
| Adjusted EBITDA margin (non-GAAP) | 41.8% | 38.8% | 41.6% | 38.6% |
Q2 sales rose 23%; six-month sales rose 27%. Management attributed growth across end markets to stronger demand, notably service parts and support equipment, North American on-highway, off-highway hydraulic-fracturing applications, defense, and international markets. Gross margin improved 260 basis points in Q2 and 200 basis points year to date, supported by sales growth and price increases; unfavorable material costs partly offset improvement.
Cash flow, balance sheet and capital allocation
- Six-month operating cash flow was $366, versus $277 in 2017. Capital spending was $29, producing company-defined adjusted free cash flow of $337, versus $257.
- Cash and cash equivalents were $96 at June 30, down from $199 at year-end 2017. Current assets were $633 and current liabilities $442.
- Debt principal totaled $2,548: $1,148 on the variable-rate Term B-3 loan and $1,400 of fixed-rate notes. Balance-sheet long-term debt, net of financing costs, was $2,520. Debt fair value was reported as $2,507.
- The company had no revolving-credit borrowings and $533 available under its $550 revolving facility, net of letters of credit. Total leverage ratio was 2.40x and senior secured leverage ratio 1.03x; the company reported covenant compliance.
- Six-month financing cash outflow was $439, including $370 of share repurchases, $41 of dividends and $28 of debt payments. Q2 repurchases totaled $244; $184 remained under the then-current authorization at June 30. On July 30, the board added $500 to the authorization and removed its end date, bringing total authorization to $2 billion.
Outlook, commentary and risks
- Management expected increased 2018 demand for global on-highway and off-highway products and price increases on certain products. The filing provides no specific revenue or earnings guidance.
- Management expected operating cash, existing cash and borrowing capacity to meet cash requirements for the next 12 months. Cash generation and debt service remain dependent on operating performance and market conditions.
- Key disclosed risks include substantial indebtedness and interest-rate exposure; cyclical vehicle end markets; dependence on major customers; competition and technology changes; raw-material cost or supply disruption; product defects and warranty costs; international, currency and trade risks; defense spending; labor disputes; and risks to demand for hybrid vehicles.
- Interest-rate swaps totaling $500 notional were designated as cash-flow hedges, with fixed LIBOR rates of 3.01% and 3.04%; they become effective in 2019. Environmental remediation liability for Indianapolis facilities was $13. Ordinary-course legal claims were not expected by management to materially affect the company.
- The six-month results included a $7 UAW retirement-incentive charge. The effective tax rate fell to 22% for Q2 and 21% year to date, from 35% in both 2017 periods, principally due to the U.S. Tax Cuts and Jobs Act.
- Revenue accounting guidance adopted January 1, 2018 increased opening retained earnings by $5 net of tax. Its effect on six-month sales was an increase of $1; Q2 sales and deferred revenue were not affected.
Important facts for investors to verify
- Whether strong sales growth and margin gains persist, and how much reflects underlying demand versus price increases and end-market mix.
- Whether working-capital demands—particularly receivables, which rose $110 in operating cash flow reconciliation—affect cash conversion.
- Debt repayment capacity, variable-rate exposure, covenant headroom, and the consequences of continued substantial share repurchases and dividends.
- Warranty developments: warranty liability reached $65, and the six-month period included $8 of unfavorable warranty adjustments.
- Progress on the new $2 billion repurchase authorization, alongside investment needs and liquidity; assess non-GAAP Adjusted EBITDA and adjusted free cash flow against GAAP results.