Business Context and Reporting Period
EnPro Industries, Inc. filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2023. EnPro is an industrial technology company serving semiconductor, photonics, industrial process, aerospace, food, biopharmaceutical, life sciences and other markets through its Sealing Technologies and Advanced Surface Technologies (AST) segments. The former Engineered Materials segment is presented as discontinued operations following the divestitures of GGB and Garlock Pipeline Technologies (GPT).
Financial Performance and Position
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net sales | $276.9 million | $277.1 million | $559.5 million | $547.2 million |
| Gross profit | $114.8 million | $112.3 million | $230.9 million | $207.0 million |
| Gross margin | 41.5% | 40.5% | 41.3% | 37.8% |
| Operating income (loss) | $(19.4) million | $43.8 million | $24.4 million | $65.5 million |
| Net income (loss) attributable to EnPro | $(18.6) million | $34.4 million | $18.8 million | $51.2 million |
| Diluted EPS from continuing operations | $(0.89) | $1.25 | $0.35 | $1.82 |
| Adjusted EBITDA | $64.9 million | $73.7 million | $133.4 million | $132.6 million |
| Adjusted diluted EPS | $1.83 | $2.05 | $3.77 | $3.60 |
Second-quarter sales were essentially flat year over year, while six-month sales increased 2.2%. Sealing Technologies sales rose 13.3% in the quarter and 13.1% year to date, driven by aerospace, nuclear power generation, commercial vehicles and pricing. AST sales declined 17.4% in the quarter and 12.1% year to date, primarily because of the semiconductor capital-equipment slowdown.
Sealing Technologies Adjusted Segment EBITDA increased to $56.2 million from $44.1 million in the prior-year quarter, with margin expanding to 31.8% from 28.3%. AST Adjusted Segment EBITDA declined to $24.1 million from $37.8 million, with margin falling to 24.0% from 31.1%. Total Adjusted Segment EBITDA was $80.3 million, compared with $81.9 million.
Reported Q2 operating results included a $60.8 million goodwill impairment charge related to the Alluxa reporting unit within AST. Excluding selected items, adjusted income attributable to EnPro was $38.2 million, or $1.83 per diluted share, versus $42.7 million, or $2.05 per diluted share, in Q2 2022.
Operating cash flow from continuing operations was $78.5 million for the first six months, compared with $63.0 million in the prior-year period. Capital expenditures were $11.9 million. Investing cash flow included $35.8 million of short-term investments and $25.7 million of net proceeds from business sales. Financing cash flow used $21.9 million, including $7.9 million of debt repayments and $12.2 million of dividends.
At June 30, 2023, cash and cash equivalents were $374.9 million and short-term investments were $35.8 million. Total debt was approximately $783.2 million, consisting primarily of $133.1 million outstanding under Term Loan A-1, $303.2 million under Term Loan A-2 and $350.0 million of 5.75% senior notes due 2026. Revolver availability was $390.0 million after $10.0 million of letters of credit. The company was in compliance with its debt covenants.
Material Changes Versus the Prior Comparable Period
- Q2 operating income declined to a loss of $19.4 million, principally because of the $60.8 million Alluxa goodwill impairment.
- Continuing-operations diluted EPS decreased from $1.25 to $(0.89) in Q2 and from $1.82 to $0.35 for the six-month period.
- Sealing Technologies materially improved sales, EBITDA and margins, offsetting part of the AST downturn.
- AST sales and EBITDA declined because of lower semiconductor equipment demand, unfavorable volume and mix, and higher labor and overhead costs.
- Interest expense increased because of higher rates on variable-rate debt, partially offset by higher interest income on cash and investments.
- GPT was sold on January 30, 2023 for gross proceeds of $31.4 million, producing a $14.6 million pretax gain and $11.4 million of six-month discontinued-operation income, including the gain.
- Goodwill decreased from $863.8 million at December 31, 2022 to $807.9 million at June 30, 2023, primarily because of the Alluxa impairment.
Guidance, Outlook, Commentary and Risks
The filing does not provide quantitative full-year revenue or earnings guidance. Management remains focused on organic growth, pricing, productivity, new products, technology investment, acquisitions and free-cash-flow generation. Management identified strong Sealing Technologies demand but described a current slowdown in semiconductor markets.
Following quarter-end, EnPro obtained a waiver regarding required prepayments of excess divestiture proceeds and prepaid the remaining $133.1 million Term Loan A-1 balance on July 26, 2023. After that repayment and planned capital expenditures, management estimated approximately $47 million of excess GGB and GPT proceeds could remain uninvested on January 28, 2024. If not reinvested or used to reduce specified debt, the Senior Notes indenture could require an offer to repurchase notes.
The Semiconductor reporting unit had approximately $532.2 million of allocated goodwill and fair value exceeding carrying value by approximately 10% at June 30, 2023. Management stated that weaker growth, higher discount rates, failure to meet projections or lower market multiples could result in a future impairment.
Environmental liabilities totaled $40.2 million at June 30, 2023, including reserves of $12.2 million for Arizona uranium mines and $0.7 million for the Lower Passaic River matter. The company stated that it cannot estimate a reasonably possible range of loss in excess of recorded environmental liabilities. Other risks include cyclical end markets, semiconductor concentration and customer reliance, geopolitical and Taiwan-related disruptions, tariffs and sanctions, raw-material and labor costs, foreign exchange, interest rates, acquisitions, and other environmental and legacy liabilities.
The company declared a $0.29-per-share dividend in August 2023. Its $50.0 million share-repurchase authorization remained unused. Disclosure controls and procedures were deemed effective, with no material change in internal control over financial reporting during the quarter.
Important Facts for Investors to Verify
- Whether semiconductor demand and the AST segment stabilize sufficiently to prevent additional goodwill impairment.
- The effect of the July 2023 Term Loan A-1 repayment on interest expense, liquidity and covenant headroom.
- Whether the approximately $47 million of remaining divestiture proceeds is reinvested or applied to debt by January 28, 2024, avoiding a potential Senior Notes repurchase offer.
- The sustainability of Sealing Technologies’ volume, pricing and margin gains amid cyclical market conditions.
- The company’s adjusted-to-GAAP reconciliations, particularly the treatment of the $60.8 million goodwill impairment and other excluded items.
- Future cash requirements for environmental, legacy, pension and other contingent liabilities, including amounts exceeding recorded reserves.
- Actual cash conversion, capital expenditures, acquisitions, dividends and debt reduction relative to management’s stated capital-allocation strategy.