Xylem Inc. 2017 Form 10-K Summary
Business Context and Reporting Period
Xylem is a global water technology company serving water infrastructure, applied water, and measurement and control markets. The filing covers the fiscal year ended December 31, 2017; fourth-quarter data are included but this is an annual Form 10-K. Xylem reported approximately $4.7 billion of revenue and approximately 16,200 employees across operations serving about 150 countries.
The 2017 results include a full year of Sensus operations following the October 31, 2016 acquisition. In 2017, Xylem also reorganized its reporting segments by combining Analytics, Sensus, and Visenti into Measurement & Control Solutions; historical segment data were recast without changing consolidated results.
Key Financial Metrics
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Revenue | $4,707 million | $3,771 million | +24.8% |
| Gross profit | $1,851 million | $1,461 million | +26.7% |
| Gross margin | 39.3% | 38.7% | +60 bps |
| Operating income | $556 million | $406 million | +36.9% |
| Operating margin | 11.8% | 10.8% | +100 bps |
| Net income attributable to Xylem | $331 million | $260 million | +27.3% |
| Diluted EPS | $1.83 | $1.45 | +26.2% |
| Net cash from operating activities | $686 million | $497 million | +38.0% |
| Free cash flow, excluding Sensus acquisition costs | $544 million | $386 million | +40.9% |
| Cash and cash equivalents | $414 million | $308 million | +$106 million |
| Total debt | $2,200 million | $2,368 million | -$168 million |
Organic revenue growth was $122 million, or 3.2%, while acquisitions contributed $790 million and foreign currency translation contributed $34 million. Orders increased 27.3% to $4,868 million, including 6.8% organic growth. Backlog increased 17% to $1,513 million, with more than 60% expected to convert to revenue in 2018.
Adjusted net income was $433 million, or $2.40 per diluted share, compared with $364 million, or $2.03 per diluted share, in 2016. Adjusted operating income was $630 million, with a 13.4% adjusted operating margin versus 13.6% in 2016. Management reported adjusted measures excluding restructuring and realignment costs, Sensus acquisition-related costs, special charges, tax-related items, and gains or losses from business sales, as applicable.
Segment Performance
| Segment | 2017 Revenue | 2017 Operating Income | 2017 Margin |
|---|---|---|---|
| Water Infrastructure | $2,004 million | $308 million | 15.4% |
| Applied Water | $1,421 million | $197 million | 13.9% |
| Measurement & Control Solutions | $1,282 million | $110 million | 8.6% |
| Corporate and other | Not applicable | $(59) million | Not applicable |
Measurement & Control Solutions drove most of the reported growth because of the Sensus acquisition and also produced 7.2% organic revenue growth. Water Infrastructure revenue increased 3.7%, while Applied Water revenue increased 2.0%.
Material Changes Versus the Prior Comparable Period
- Revenue and earnings benefited substantially from the inclusion of a full year of Sensus, acquired for approximately $1.766 billion, including assumed goodwill of approximately $1.063 billion.
- Operating performance improved through procurement, productivity, and restructuring savings, although cost inflation, strategic investments, unfavorable mix, and Sensus purchase-accounting effects limited adjusted margin expansion.
- Operating cash flow increased $189 million, supported by Sensus and stronger operating performance. Capital expenditures rose to $170 million from $124 million.
- Investing cash outflows declined sharply because 2016 included approximately $1.782 billion of acquisition spending; 2017 acquisition spending was approximately $33 million.
- Financing cash flow was negative $421 million in 2017, reflecting debt repayment, dividends, and share repurchases, compared with positive $1.034 billion in 2016 when acquisition-related debt was issued.
- Foreign currency translation produced a favorable $22 million cash impact and increased reported revenue by approximately 0.9%.
- Research and development spending increased to $180 million, or 3.8% of revenue, from $110 million, or 2.9% of revenue.
Liquidity, Debt, and Capital Allocation
Xylem had $2.2 billion of total debt at December 31, 2017, consisting primarily of fixed-rate senior notes due 2021, 2023, 2026, and 2046. The $600 million revolving credit facility was undrawn, the commercial paper program was undrawn, and the Company reported compliance with its debt covenants. Management stated that operating cash flow, cash balances, commercial paper access, committed credit facilities, and public debt-market access were expected to provide sufficient liquidity for the next twelve months.
The Company paid $130 million of dividends in 2017 and declared dividends of $0.72 per share for the year. It repurchased approximately 0.5 million shares for $25 million, including $7 million under the $500 million board-authorized repurchase program; $413 million remained available under that program at year-end.
Guidance, Outlook, Risks, and Unusual Items
- For 2018, management expected total revenue growth of 8% to 10%, including approximately 2% from the Pure Technologies acquisition, and organic revenue growth of 4% to 6%.
- Management expected approximately $10 million of incremental net savings in 2018 from restructuring actions and approximately $35 million of restructuring, realignment, and integration costs.
- The January 31, 2018 acquisition of Pure Technologies was funded partly with a new approximately $280 million term loan. Purchase accounting was preliminary at the filing date.
- The 2017 effective tax rate increased to 29.2% from 23.5%, primarily because of the Tax Cuts and Jobs Act. Xylem recorded a provisional $46 million discrete tax expense, including a $153 million repatriation transition-tax expense and a $107 million deferred-tax benefit from the corporate rate reduction. Certain Tax Act accounting remained incomplete.
- Xylem recognized $20 million of restructuring costs, a $5 million asset impairment charge, $22 million of Sensus acquisition-related costs, and $11 million of special charges in operating expenses during 2017. Two businesses held for sale generated an estimated $16 million loss in the fourth quarter.
- Goodwill and other indefinite-lived intangible assets totaled approximately $3 billion. No goodwill or indefinite-lived intangible impairment was identified in the 2017 annual assessment, but future impairment charges remain possible.
- Key risks include international operations and currency exposure, tariffs and commodity inflation, customer project delays or cancellations, cybersecurity and information-technology disruptions, acquisitions and integration, restructuring execution, product liability, environmental matters, litigation, pension obligations, tax uncertainty, and debt-service requirements.
- Environmental liabilities accrued at year-end were $4 million; stand-by letters of credit, bank guarantees, and surety bonds totaled $240 million. The Company also reported $10 million accrued for general legal matters and $82 million of product warranty accruals.
Most Important Facts for Investors to Verify
- Whether 2018 revenue and organic growth guidance were achieved, including the contribution and integration of Pure Technologies.
- Whether Measurement & Control Solutions can sustain growth and improve margins after Sensus purchase-accounting effects and integration costs subside.
- Whether adjusted margin performance translates into GAAP earnings and cash flow after restructuring, acquisition, tax, and other special items.
- The final accounting for the Tax Cuts and Jobs Act, including the provisional transition tax, deferred-tax remeasurement, GILTI treatment, and repatriation assumptions.
- Debt reduction, covenant compliance, refinancing requirements, and liquidity following the Pure acquisition financing.
- Progress on restructuring savings and the remaining costs of approximately $23 million for 2017 actions and approximately $1 million for 2016 actions at year-end.
- Potential changes in goodwill, intangible-asset values, environmental liabilities, legal contingencies, warranty costs, and pension funding requirements.