Enpro Industries, Inc. — Q2 2012 Form 10-Q Summary
Business context and reporting period
EnPro designs, manufactures and services engineered industrial products through three segments: Sealing Products, Engineered Products, and Engine Products and Services. The filing covers the quarter and six months ended June 30, 2012, with unaudited consolidated results compared with the corresponding 2011 periods.
In April 2012, EnPro acquired Motorwheel Commercial Vehicle Systems for approximately $85.3 million, funded with additional revolving-credit borrowings. Motorwheel was included in the Sealing Products segment.
Key financial metrics
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales | $301.7 million | $263.7 million | $613.2 million | $533.3 million |
| Gross profit | $103.0 million | $99.3 million | $210.2 million | $193.3 million |
| Operating income | $26.4 million | $27.9 million | $58.6 million | $59.3 million |
| Net income | $10.2 million | $12.2 million | $24.0 million | $27.4 million |
| Diluted EPS | $0.47 | $0.56 | $1.11 | $1.26 |
| Operating cash flow | Not separately provided | Not separately provided | $4.8 million | $12.6 million |
- Q2 gross margin was approximately 34.1%, compared with 37.7% in Q2 2011. Six-month gross margin was approximately 34.3%, compared with 36.2%.
- Q2 operating margin was approximately 8.8%, compared with 10.6% in the prior-year quarter. Six-month operating margin was approximately 9.6%, compared with 11.1%.
- Q2 diluted EPS declined 16%; six-month diluted EPS declined 12%.
- At June 30, 2012, cash and cash equivalents were $31.2 million, total assets were $1.365 billion, and total shareholders’ equity was $517.2 million.
- Long-term debt was $247.4 million, current maturities were $1.0 million, and notes payable to GST totaled $248.1 million, including current and long-term amounts.
- Revolver availability was $42.2 million after $99.4 million of borrowings and $4.1 million of letters of credit.
Segment performance and changes versus the prior period
- Sealing Products: Q2 sales increased 22% to $165.1 million, primarily from acquisitions. Segment profit declined to $22.8 million from $24.2 million, and margin declined to 13.8% from 17.8%, reflecting lower heavy-duty trucking and oil-and-gas demand, higher depreciation and amortization, restructuring charges, acquisition-related expenses, and foreign-exchange effects.
- Engineered Products: Q2 sales declined 7% to $95.1 million. Segment profit fell to $6.8 million from $9.6 million, with margin declining to 7.2% from 9.4%, due to weaker European automotive and refining demand, lower Canadian oil-and-gas activity, foreign-exchange effects, and higher sales and marketing and depreciation costs.
- Engine Products and Services: Q2 sales increased to $42.1 million from $26.5 million and segment profit increased to $7.8 million from $5.6 million. Results included $17.6 million of revenue recognized under percentage-of-completion accounting for new or nearly new engines. Margin declined to 18.5% from 21.1% because of the changed sales mix and higher selling, general and administrative costs.
- Consolidated sales increased 14% in Q2 and 15% for the first six months, but growth was substantially acquisition-driven. Foreign currency reduced Q2 sales by approximately 5% and six-month sales by approximately 3%.
- Segment profit declined 5% in Q2 to $37.4 million but increased slightly for the first six months to $80.7 million. Higher interest expense, restructuring and acquisition costs, unfavorable mix, and increased operating expenses pressured earnings.
Cash flow, liquidity and debt
- Operating activities generated $4.8 million in the first six months, down from $12.6 million, primarily because of increased working capital requirements. Accounts receivable increased $24.1 million and inventories increased $12.6 million in operating cash-flow adjustments.
- Investing cash use was $98.4 million, including $85.3 million for acquisitions and $13.1 million for capital expenditures.
- Financing activities provided $94.5 million, including $191.2 million of debt proceeds and $96.6 million of debt repayments. Net revolver borrowings were approximately $94.6 million.
- Cash ended the period at $31.2 million, compared with $30.7 million at December 31, 2011.
- The $172.5 million convertible debentures bear a 3.9375% coupon, have an effective interest rate of approximately 9.5% due to discount amortization, and mature October 15, 2015 unless converted. No conversion conditions were satisfied at June 30, 2012.
Outlook, contingencies and unusual items
- Management expected 2012 sales to increase over 2011, assuming no further global economic deterioration. Acquisitions were expected to contribute approximately 8% growth, with modest organic growth.
- Acquisitions completed since Q2 2011 contributed approximately $65 million of incremental sales in the first half of 2012; management expected another $25 million to $30 million in the second half.
- Management expected foreign exchange to reduce 2012 sales by approximately 3%, with declining European demand limiting organic growth. Segment margins were not expected to improve versus 2011 because of acquisition-related expenses and restructuring costs.
- Management projected a 33% to 36% effective tax rate for the remainder of 2012. The six-month effective tax rate was 34.5%, compared with 31.9% in 2011.
- U.S. pension contributions were estimated at $13.4 million for 2012, including $4.5 million contributed in the first six months. The company estimated 2012 pension expense of $13.2 million.
- GST, Anchor and Garrison remain in Chapter 11 proceedings related to asbestos claims and have been deconsolidated since June 2010. GST’s recorded asbestos liability was $466.8 million at June 30, 2012, while its proposed plan contemplated approximately $270 million of payments for present and future claims. Claimant representatives opposed the plan.
- An asbestos-claim estimation trial was tentatively scheduled for April 2013. EnPro had offered to fund $30 million under the proposed plan in exchange for resolution of derivative claims and protection from future GST claims, but the filing states that approval and timing remain uncertain.
- Available asbestos insurance coverage was estimated at $147.3 million, in addition to $14.6 million collected during the first half of 2012. Collection timing and ultimate recovery are not assured.
- Environmental liabilities accrued by EnPro were $12.1 million at June 30, 2012. The company was involved at 16 sites where expected costs exceeded $100,000.
- Foreign-exchange contracts had aggregate notional amounts of approximately $112.3 million at June 30, 2012. Management identified economic conditions, raw-material prices, foreign exchange, cyclical markets, pension funding and contingent liabilities as significant risks.
Most important facts for investors to verify
- Whether acquisition-driven growth, particularly Motorwheel, translates into sustainable organic sales and profit improvement.
- The company’s limited $42.2 million revolver availability relative to debt service, acquisition funding needs and working-capital requirements.
- The effect of continued European weakness and foreign-exchange movements on sales and margins.
- The outcome and timing of the GST asbestos estimation trial, plan confirmation, derivative claims and potential changes to EnPro’s $236.9 million GST investment and related tax receivable.
- Future pension contributions and the effect of higher pension expense on cash flow.
- Potential conversion or refinancing requirements associated with the $172.5 million convertible debentures maturing in 2015.