Teledyne Technologies Incorporated — Q2 2014 Form 10-Q
Reporting period: Quarter ended June 29, 2014; comparisons are with the quarter ended June 30, 2013. Financial statements are unaudited. Dollar amounts are in millions except per-share data.
Business context and results
Teledyne supplies instrumentation, digital imaging, aerospace and defense electronics, and engineered systems. It reported four operating segments and continued to pursue growth through product development, operational improvements, and targeted acquisitions.
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net sales | $597.1 | $601.0 | $1,170.6 | $1,170.4 |
| Operating income | $74.3 | $64.9 | $140.3 | $123.8 |
| Net income attributable to Teledyne | $56.1 | $42.9 | $101.9 | $83.3 |
| Diluted EPS | $1.47 | $1.13 | $2.67 | $2.20 |
| Operating margin | 12.4% | 10.8% | 12.0% | 10.6% |
Financial position and cash flow
- Cash: $103.4 at June 29, 2014, up from $66.0 at December 29, 2013.
- Operating cash flow: $120.4 for the first six months, versus $56.1 a year earlier. The comparison benefited from no domestic pension contribution in 2014 versus a voluntary $83.0 contribution in 2013; 2014 cash flow also included a $10.0 legal-settlement receipt.
- Investing and financing: Investing used $23.2, including $20.6 of capital expenditures; financing used $59.8, including $42.9 of net debt repayment and $35.6 of share repurchases.
- Debt and liquidity: Debt was $497.3 excluding capital leases; debt plus capital leases was $509.2. Available borrowing capacity under the $750.0 credit facility was $705.4. The company reported covenant compliance and substantial headroom. Working capital was $442.6.
- Capital spending outlook: Management expected approximately $65.0 of 2014 capital expenditures. No domestic pension contributions were planned for 2014.
Material changes and management commentary
- Q2 sales declined 0.6%, while first-half sales were essentially unchanged. Instrumentation growth—supported by acquisitions and higher organic sales—was offset by lower sales in Aerospace and Defense Electronics, Digital Imaging, and Engineered Systems.
- First-half segment sales changes: Instrumentation +9.2%; Digital Imaging -0.5%; Aerospace and Defense Electronics -8.1%; Engineered Systems -11.9%. Management attributed the aerospace and defense decline chiefly to the completion of a foreign-government program; Engineered Systems weakness included lower missile-defense sales.
- Operating income rose 14.5% in Q2 and 13.3% for the first half. Lower costs following 2013 restructuring and a swing from pension expense to pension income supported results. Company cost of sales fell to 61.7% of sales in Q2 from 63.8%, and to 61.5% for the first half from 64.0%.
- Q2 other income included an $8.6 net gain on legal settlements. This materially contributed to higher pretax income and is an unusual item. First-half other income was $8.8, versus a $0.5 expense in 2013.
- Management expected a 2014 effective tax rate of 28.7%, excluding discrete items. The reported first-half rate was 27.2%, including $2.1 of net discrete tax benefits.
- Photon Machines was acquired on March 31 for an initial $3.3, with another $0.7 expected in installments. Recent acquisitions contributed $10.7 of Q2 revenue and $30.1 for the first half.
Risks, contingencies, and other matters
- Management said operating cash flow and available credit were expected to meet requirements over the next 12 months; additional capital could be needed to support acquisitions.
- Risks identified include changes in government and defense spending, demand in energy and other end markets, oil and gas prices and regulation, foreign-exchange and interest-rate movements, pension-asset fluctuations, and acquisition integration and execution.
- Environmental remediation reserves were $8.6, with remediation expected to continue over many years and potentially up to 30 years. Management did not expect pending litigation to materially affect financial condition, but a resolution in a particular period could materially affect results.
- Percentage-of-completion contract estimate changes affected operating income: Q2 included $5.8 of favorable and $5.7 of unfavorable impacts; first-half amounts were $11.3 favorable and $12.8 unfavorable.
- A 100-basis-point rate increase was estimated to raise annual interest expense by approximately $2.3, assuming $230.0 of variable-rate credit-facility and term-loan debt remained outstanding for a full year. A hypothetical 10% U.S. dollar price change would change the fair value of designated Canadian-dollar hedges by approximately $8.4.
- Management reported effective disclosure controls and no material changes to internal control over financial reporting during the quarter. No material risk-factor changes from the 2013 Form 10-K were reported.
Important facts for investors to verify
- How much of the earnings improvement persists without the $8.6 legal-settlement gain and the pension-accounting benefit?
- Whether Instrumentation growth can offset continued weakness in aerospace and defense and Engineered Systems, including the effects of government program timing and energy-market demand.
- Whether cash generation remains strong as inventory increased and as capital spending, repurchases, debt service, and potential acquisitions compete for cash.
- The final purchase accounting for Photon and the contribution and integration performance of recent acquisitions.
- Exposure to contract-estimate revisions, environmental remediation, tax-position developments, and variable-rate debt.