ITT Inc. Form 10-Q Summary
Business Context and Reporting Period
ITT Inc. is a diversified manufacturer of engineered components and technology solutions serving transportation, industrial, oil and gas, aerospace and defense markets. Its reportable segments are Industrial Process, Motion Technologies, and Connect & Control Technologies. The filing covers the unaudited three months ended March 31, 2018, compared with the three months ended March 31, 2017.
Key Financial Metrics
<>| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Revenue | $689.3 | $625.8 | 10.1% |
| Gross profit | $224.2 | $203.1 | 10.4% |
| Gross margin | 32.5% | 32.5% | Flat |
| Operating income | $110.6 | $57.0 | 94.0% |
| Operating margin | 16.0% | 9.1% | +690 bps |
| Net income attributable to ITT | $101.2 | $46.0 | 120.0% |
| Diluted EPS | $1.14 | $0.52 | +$0.62 |
| Net cash from operating activities | $42.4 | $26.9 | +$15.5 |
| Capital expenditures | $28.7 | $36.7 | Down $8.0 |
| Adjusted free cash flow | $9.7 | $13.1 | Down $3.4 |
Organic revenue increased 2.1% and organic orders increased 4.0%. Orders totaled $761.2, up 13.5%, and backlog in Industrial Process was $385.9, up 14.7% from December 31, 2017.
- Industrial Process: Revenue of $189.8, up 2.0%; operating income of $16.9, up 108.6%; operating margin improved to 8.9% from 4.4%.
- Motion Technologies: Revenue of $342.2, up 19.1%; operating income of $61.9, up 12.5%; operating margin declined to 18.1% from 19.1%. Growth included $5.5 of revenue from Axtone and favorable foreign exchange.
- Connect & Control Technologies: Revenue of $157.9, up 3.0%; operating income of $23.0, up 37.7%; operating margin improved to 14.6% from 10.9%.
Balance Sheet, Debt and Liquidity
- Cash and cash equivalents were $438.7 at March 31, 2018, compared with $389.8 at December 31, 2017.
- Total debt and capital leases were $255.9, including $246.5 of short-term revolving-credit borrowings and $8.0 of long-term debt and capital leases. Commercial paper outstanding was zero.
- The company has a $500 revolving credit agreement, with potential increases of up to $200, maturing in November 2021. Required interest coverage and leverage ratios were satisfied.
- Net cash increased $48.9 during the quarter, compared with a $112.4 decrease in the prior-year quarter. Financing cash flow included $50.0 of share repurchases and $246.5 of revolving-credit borrowings, partially offset by $162.4 of commercial-paper repayments.
- ITT declared a quarterly dividend of $0.134 per share, up 4.7% from the prior-year quarter, and repurchased 1.0 million shares for $50.0 under its share-repurchase program.
Material Changes and Unusual Items
- Operating income benefited from a $32.1 asbestos insurance settlement, reflected in a $19.7 net asbestos-related benefit in Q1 2018 versus $14.9 of net asbestos-related costs in Q1 2017. Excluding special items, adjusted income from continuing operations was $68.8, or $0.77 diluted EPS, versus $57.4, or $0.64, in the prior-year quarter.
- The effective tax rate declined to 7.0% from 16.6%, primarily because of a $21.6 benefit from reversing a German deferred-tax valuation allowance and a $4.5 reduction in the provisional Tax Act charge.
- ITT adopted the new revenue-recognition standard using a modified retrospective approach. The adoption reduced opening retained earnings by $4.1 and changed the classification of certain contract assets, liabilities and progress payments. Reported Q1 revenue was $5.8 lower than it would have been under the prior standard.
- Restructuring costs declined to $0.9 from $2.6.
- The company invested in a North American brake-pad facility and electric-vehicle innovation and testing capabilities in China.
Outlook, Risks and Contingencies
Management emphasized continued operational execution, productivity improvements, innovation, global market-share gains and strength in automotive OEM, rail, aerospace and defense markets. The filing does not provide a clear full-year financial guidance range.
- Oil and gas activity remained weak: Industrial Process oil and gas revenue declined approximately 10%, and project orders were affected by the comparison with a large prior-year order.
- Higher commodity costs, unfavorable automotive pricing and aftermarket mix, and growth investments pressured margins.
- Connect & Control Technologies remains affected by the removal of six military-specification connector products from the Defense Logistics Agency Qualified Products List. Annual sales associated with those products were estimated at $8 to $10, and the timing of restoration remains uncertain.
- Potential effects of U.S. sanctions on Russian individuals and businesses were minimal on backlog at quarter-end, but annual revenue potentially exposed was estimated at up to $15.
- Asbestos liabilities were $870.3, offset by estimated insurance recoveries of $394.3, for net exposure of $476.0. Approximately 25,000 claims were pending. Management cannot reasonably estimate costs for claims beyond the next 10 years and warns that future costs could materially affect results.
- Expected net asbestos cash outflows are approximately $20 to $30 annually over the next five years and approximately $35 to $45 annually thereafter during the projection period.
- Environmental liabilities were $68.5, with 37 active investigation or remediation sites and an estimated high-end potential liability of $119.8.
- ITT accrued $5 for a Department of Justice investigation involving certain connector products; the ultimate loss could be higher, but no excess range could be estimated.
- The company expects approximately $10 to $14 of postretirement-plan contributions during the remainder of 2018 and anticipates approximately $38 to $40 of gain from a pending sale of excess property, subject to closing conditions.
Investor Verification Items
- Verify the sustainability of operating improvement after excluding the $32.1 asbestos insurance settlement and tax benefits.
- Review cash conversion, working-capital needs and the increased reliance on short-term revolving borrowings.
- Assess asbestos liability assumptions, insurance recoveries and projected long-term cash outflows.
- Monitor the Defense Logistics Agency qualification issue and related revenue exposure.
- Confirm the final accounting effects of the Tax Act and the company’s eventual GILTI accounting policy.
- Track Industrial Process oil and gas orders, Motion Technologies commodity and pricing pressure, and Connect & Control defense demand.