Fortive Corporation — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 29, 2018; comparisons are with the corresponding 2017 periods. Fortive is a diversified industrial company reporting Professional Instrumentation and Industrial Technologies segments.
Financial performance
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Sales | $1,856.0 million | $1,628.8 million | $3,596.7 million | $3,164.0 million |
| Operating profit | $382.4 million | $349.1 million | $720.6 million | $644.7 million |
| Net earnings | $295.0 million | $240.1 million | $556.2 million | $439.8 million |
| Diluted EPS | $0.83 | $0.68 | $1.57 | $1.25 |
| Gross margin | 50.6% | 49.4% | 50.3% | 49.0% |
| Operating margin | 20.6% | 21.4% | 20.0% | 20.4% |
| Operating cash flow | — | $512.8 million | $394.0 million |
Q2 sales rose 13.9% year over year: 5.3% from existing businesses, 7.0% from acquisitions and 1.6% from currency. First-half sales grew 13.7%, comprising 4.0% from existing businesses, 7.2% from acquisitions and 2.5% from currency. First-half capital expenditures were $58.7 million; cash dividends paid were $48.7 million.
Q2 segment sales were $889.0 million for Professional Instrumentation and $967.0 million for Industrial Technologies. Segment operating margins were 24.7% and 20.8%, respectively. Professional Instrumentation margin improved 30 basis points, while Industrial Technologies margin declined 10 basis points. Company operating margin fell mainly because of acquired-business dilution and acquisition/divestiture transaction costs; improved volume, savings and pricing partly offset these effects.
Balance sheet, financing and liquidity
- At June 29, cash and equivalents were $2,368.2 million, compared with $962.1 million at December 31, 2017. The increase primarily reflects the preferred-stock issuance.
- Debt carrying value was $3,726.7 million, including $799.3 million classified as current; long-term debt excluding current maturities was $2,927.4 million. Debt was $4,056.2 million at year-end 2017.
- Fortive issued 1.38 million 5.0% mandatory convertible preferred shares on June 29, receiving $1.34 billion net of $36 million issuance costs. Proceeds were intended for acquisitions and general corporate purposes. The shares convert automatically in July 2021; dividends are cumulative when declared.
- The $1.5 billion revolving credit facility had no borrowings. Approximately $615 million supported outstanding commercial paper, leaving approximately $0.9 billion of additional facility capacity. The company reported covenant compliance.
- On July 20, 2018, Fortive prepaid $325 million of its variable-rate term loan due in 2019, with no prepayment penalty.
- Operating cash flow increased about 30% year over year. Working-capital movements used cash, including $68.4 million from inventory and $54.0 million from receivables.
Outlook, transactions and risks
- Management expected sales from existing businesses to continue growing year over year in the remainder of 2018. It forecast full-year capital spending of approximately $125 million to $135 million.
- Fortive cited broad-based demand growth, contributions from sales initiatives and new products, and improving Transportation Technologies demand ahead of the U.S. EMV credit-card security liability-shift deadline. It also noted ongoing macroeconomic and geopolitical uncertainty, especially U.S.-China trade policy and tariffs.
- Fortive made a binding offer to acquire Johnson & Johnson’s Advanced Sterilization Products business for approximately $2.7 billion cash; closing was expected no later than early 2019, subject to customary conditions and regulatory approval.
- On July 2, 2018, Fortive agreed to acquire Gordian for $775 million, expected to close in Q3 2018 and be funded with available cash, subject to customary conditions and approvals.
- A planned Reverse Morris Trust transaction with Altra would combine four Automation & Specialty businesses with Altra. Fortive expected approximately $1.4 billion in cash and debt retirement, while shareholders would receive 35 million Altra shares. Closing was expected by year-end 2018, subject to approvals and tax-treatment confirmation.
- Q2 effective tax rate was 17.1%, down from 26.3%, primarily reflecting U.S. tax reform and other tax benefits. Provisional Tax Cuts and Jobs Act adjustments reduced first-half tax expense by $6.1 million.
- Foreign-currency translation reduced first-half other comprehensive income by $63.4 million; total first-half comprehensive income was $494.2 million, versus $530.3 million a year earlier.
- Fortive warned that potential escalation of U.S.-China tariffs and other trade restrictions could adversely affect operations and results. Other disclosed risks include economic cyclicality, competition, acquisitions and integration, currency, regulation, litigation, supply constraints, cybersecurity and debt.
- The company expected adoption of the lease-accounting standard in 2019 to materially increase balance-sheet assets and liabilities, but did not expect a material effect on future earnings statements.
Key facts for investors to verify
- Whether organic sales growth and margin performance continue, particularly as acquisition contributions and transaction costs change.
- Financing, regulatory approvals, timing and integration risks for the ASP and Gordian acquisitions, and completion and tax treatment of the Altra transaction.
- Debt maturities, commercial-paper refinancing capacity, preferred-stock dividends and dilution upon conversion.
- Exposure to U.S.-China trade actions, foreign-currency movements and continuing changes to tax estimates.
- Management’s stated 2018 organic-growth outlook and capital-spending range against subsequent results.