Kennametal Inc. Form 10-Q Summary
Reporting period: Three and nine months ended March 31, 2011. The filing represents fiscal 2011 third quarter; the request metadata identifies “2010 Q3,” which does not match the filing period.
Business Context
Kennametal is a global manufacturer of tooling, engineered components and advanced materials serving industrial, aerospace, defense, transportation, energy, mining, construction and related markets. Operations are organized into the Industrial and Infrastructure segments. The company implemented this market-based segment structure beginning July 1, 2010, and recast prior-period segment information.
Financial Performance and Position
| Metric | Three Months Ended March 31, 2011 | Three Months Ended March 31, 2010 | Nine Months Ended March 31, 2011 | Nine Months Ended March 31, 2010 |
|---|---|---|---|---|
| Sales | $614.8 million | $493.2 million | $1,709.8 million | $1,345.4 million |
| Gross profit | $230.0 million | $170.3 million | $618.7 million | $428.2 million |
| Gross margin | 37.4% | 34.5% | 36.2% | 31.8% |
| Operating income | $87.8 million | $26.3 million | $206.9 million | $32.2 million |
| Operating margin | 14.3% | 5.3% | 12.1% | 2.4% |
| Net income attributable to Kennametal | $64.7 million | $9.7 million | $143.1 million | $5.8 million |
| Diluted EPS | $0.77 | $0.12 | $1.72 | $0.09 |
- Operating cash flow for the nine months was $125.0 million, compared with $92.6 million in the prior-year period.
- Capital expenditures were $33.3 million; net cash used in investing activities was $22.9 million.
- Cash and cash equivalents were $184.2 million at March 31, 2011, versus $118.1 million at June 30, 2010.
- Total debt was $316.8 million, including $310.7 million of long-term debt and capital leases. The company had no borrowings under its $500 million revolving credit facility and was in compliance with its financial covenants.
- Working capital was $742.7 million, up from $522.9 million at June 30, 2010. The increase primarily reflected higher inventories, receivables and cash, with foreign currency effects contributing $77.7 million.
- Net income benefited from a lower effective tax rate: 19.1% versus 52.0% for the quarter and 22.0% versus 56.0% for the nine-month period.
- Dividends were $0.12 per share for the quarter and $0.36 per share for the nine-month period.
Material Changes Versus Prior Comparable Period
- Quarterly sales increased 25%, with organic growth of 25%. Nine-month sales increased 27%, including 29% organic growth, partly offset by unfavorable currency effects and fewer business days.
- Industrial quarterly sales increased 28.1% and operating income rose to $54.1 million from $10.8 million. Infrastructure quarterly sales increased 19.1% and operating income rose to $35.6 million from $18.6 million.
- Profitability improved through higher volume, price realization, manufacturing utilization, favorable mix and restructuring benefits. These gains were partly offset by higher raw-material and employment costs.
- Restructuring and related charges declined to $5.5 million for the quarter and $14.9 million for the nine months, compared with $22.9 million and $35.6 million, respectively, in the prior-year periods.
- Restructuring programs generated approximately $42 million of pretax benefits in the quarter and $122 million year to date. Total charges since inception were $143 million, with approximately $22 million remaining under the $165 million maximum expected charge.
- Operating expenses increased 15.2% in the quarter, primarily from restored employment costs, higher incentive compensation and a $2.4 million write-off of the pre-existing ERP system.
- Other expense was $1.4 million in the quarter versus $1.5 million of other income in the prior year, primarily due to unfavorable foreign-currency results.
- Cash flow improved despite working-capital investment, including $74.7 million of additional inventory and $71.7 million of additional receivables during the nine-month period.
- The company repurchased 421,350 shares during the quarter at an average price of $40.20 under an authorization for up to 8 million shares.
Guidance, Outlook, Risks and Unusual Items
- Management expects restructuring programs to produce annual ongoing pretax savings of $160 million to $165 million once fully implemented. Remaining restructuring activity was expected to be completed within three months of March 31, 2011 and to consist mostly of cash expenditures.
- Management reported continued tungsten and other raw-material cost increases and expects to pursue price increases to recover those costs.
- The filing does not provide explicit revenue or earnings guidance for fiscal 2011.
- Management cited strong growth across both segments and regions, continued investment in technology and innovation, and $18.2 million of quarterly research and development expense.
- Environmental reserves were $5.3 million. The company remains involved in Superfund and other remediation matters, some of which are too early to estimate. Management believes established reserves are currently sufficient but acknowledges that exposures may change.
- The company entered into a Pennsylvania environmental consent order relating to storm-water outfalls and a coolant spill, requiring further investigations and a $0.2 million civil penalty.
- At March 31, 2011, the company had forward-starting interest-rate swaps with a cumulative notional amount of $125 million and foreign-exchange hedge notional amounts of approximately $41.4 million.
- Key disclosed risks include economic recession, raw-material availability and prices, foreign currency, international operations, regulation and environmental remediation, competition, labor relations, intellectual property, product claims, acquisitions and divestitures, information-system implementation, catastrophic events and demand for new products.
Investor Verification Items
- Verify the sustainability of reported restructuring savings and the timing and cash impact of the remaining charges.
- Assess whether price increases can offset tungsten and other commodity-cost inflation without impairing demand or margins.
- Monitor inventory and receivables growth relative to sales growth and its effect on future operating cash flow.
- Review the maturity and refinancing requirements of the approximately $300 million senior unsecured notes due in June 2012.
- Evaluate environmental remediation exposures beyond the $5.3 million reserve, particularly early-stage Superfund matters.
- Confirm the impact of the new Industrial and Infrastructure segment structure when comparing results with earlier filings.
- Assess the realizability of deferred tax assets in jurisdictions with valuation allowances; a future release could materially reduce tax expense, but management states that the sustainability of future income remains uncertain.