Pentair plc — Q3 2015 Form 10-Q
Reporting period: Unaudited 13-week quarter ended September 26, 2015, with nine-month results compared with the periods ended September 27, 2014. Pentair is a diversified industrial manufacturer operating through Valves & Controls, Flow & Filtration Solutions, Water Quality Systems and Technical Solutions.
Financial performance
Amounts are in millions of U.S. dollars except per-share data. Continuing-operations results are shown where relevant to avoid distortion from the prior-year discontinued-business impairment.
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Net sales | $1,552.1 | $1,758.4 | $4,688.3 | $5,236.5 |
| Gross profit / margin | $540.1 / 34.8% | $624.7 / 35.5% | $1,616.5 / 34.5% | $1,835.1 / 35.0% |
| Operating income / margin | $180.0 / 11.6% | $267.4 / 15.2% | $569.1 / 12.1% | $675.9 / 12.9% |
| Continuing-operations net income | $115.2 | $192.5 | $387.3 | $477.2 |
| Diluted EPS, continuing operations | $0.63 | $1.00 | $2.12 | $2.43 |
| Net cash from continuing operations | Not stated by quarter | Not stated by quarter | $403.1 | $688.2 |
| Free cash flow | Not stated by quarter | Not stated by quarter | $327.3 | $599.8 |
- Q3 sales declined 11.7%; nine-month sales fell 10.5%. Management attributed the declines mainly to lower volumes and unfavorable currency translation. Currency reduced sales by 7.1 percentage points in Q3 and 6.8 points for the nine months; core growth was negative 5.3% and 3.9%, respectively.
- Q3 operating income fell 32.7%; nine-month operating income fell 15.8%. Lower volumes, weaker fixed-cost absorption and inflation pressured margins. Savings and pricing actions partly offset these pressures.
- Net interest expense increased to $31.3 in Q3 from $17.1 and to $68.1 for nine months from $51.1, reflecting increased borrowing, higher commercial-paper rates and $10.8 of bridge-financing fee amortization.
- Reported net income was $115.2 in Q3 versus a loss of $186.0 in Q3 2014, and $376.9 for nine months versus $94.1. The prior-year comparison includes a $380.1 after-tax impairment/loss on sale of discontinued Water Transport operations; continuing-operations earnings declined in both comparisons.
Segment performance
| Segment | Q3 sales change | Q3 segment income | Nine-month sales change |
|---|---|---|---|
| Valves & Controls | -27.5% | $55.7; margin 12.6% | -22.7% |
| Flow & Filtration Solutions | -8.0% | $52.8; margin 14.6% | -10.8% |
| Water Quality Systems | -0.7% | $60.5; margin 18.8% | +1.1% |
| Technical Solutions | -1.5% | $101.0; margin 23.4% | -2.2% |
Segment income excludes intangible amortization, certain acquisition costs, restructuring and other specified items; it is not the same as GAAP operating income. Valves & Controls was particularly affected by weaker oil-and-gas, industrial and mining demand. Water Quality Systems grew for the nine months, while Technical Solutions’ reported sales included ERICO acquisition revenue.
Balance sheet, liquidity and capital allocation
- At September 26, 2015, cash was $144.9, total debt $4,986.4 and equity $4,535.9. At December 31, 2014, cash was $110.4, debt $3,004.1 and equity $4,663.8. Debt increased chiefly to fund ERICO.
- Current assets were $2,964.2 and current liabilities $1,496.2. The company reported $1,226.1 of availability under its amended revolving facility and was in compliance with financial covenants. The facility’s aggregate commitment was increased to $2.5 billion; commercial paper outstanding was $1,082.4 and is backed by the facility.
- Operating cash flow from continuing operations was $403.1, down from $688.2, with working capital reducing 2015 cash flow by $168.4. Capital expenditures were $100.6. Investing cash outflow included acquisition spending; financing inflows included $1,714.8 of long-term debt proceeds.
- Nine-month dividends paid were $173.3, or $0.96 per share, versus $156.2, or $0.80. A $0.32-per-share quarterly dividend was declared for payment in November 2015. The company repurchased $200.0 of shares in the nine-month period and said no additional repurchases were planned for the rest of 2015.
Acquisitions, outlook and risks
- Pentair acquired ERICO on September 18 for approximately $1.8 billion, financed with September debt offerings. Preliminary allocation included $1,102.8 of goodwill and $964.6 of identifiable intangibles; the allocation remained subject to refinement. ERICO contributed $13.0 of sales and $2.2 of net income from acquisition through quarter-end. Pentair also acquired Nuheat in April for $96.0.
- Management expected a strong U.S. dollar to remain a headwind through the rest of 2015 and into 2016, and expected market uncertainty and oil-price volatility to continue through 2015. It cited weaker project orders, slower global capital spending and customer inventory reductions.
- Cost-reduction actions continued, including approximately 1,500 employee reductions during the first nine months of 2015. Restructuring costs were $25.2 in Q3 and $49.2 for nine months. Management expected further cost actions during the remainder of 2015.
- Management estimated fiscal 2015 capital expenditures of approximately $140. The filing provides no specific earnings or revenue guidance.
- Other risks include successful ERICO integration and realization of acquisition benefits, execution of cost savings and growth initiatives, foreign-exchange and commodity-price volatility, end-market demand, and completion of the remaining Water Transport disposition. Approximately 4,200 asbestos claims were outstanding; recorded asbestos liabilities were $240.1 with $111.3 of estimated insurance recoveries. Environmental reserves were $22.5; management did not expect those conditions to materially affect results or cash flows.
- Disclosure controls were assessed as effective. The company said it was incorporating controls into the acquired ERICO business. No material changes to previously disclosed risk factors or market-risk exposure were reported.
Important facts for investors to verify
- Whether weaker energy, industrial and project demand—and foreign-exchange effects—persist, and how they affect organic sales and margins.
- ERICO’s final purchase-price allocation, integration costs, realized synergies and contribution after the brief post-acquisition period reported.
- Debt reduction, interest expense, covenant headroom and liquidity following acquisition financing; confirm refinancing plans for the $350.0 of notes due in December 2015.
- Whether working-capital use reverses and cash generation improves; assess progress against management’s free-cash-flow objective.
- Actual restructuring savings and costs, remaining Water Transport sale proceeds and timing, and changes in asbestos claims or expected insurance recoveries.