Air Products & Chemicals, Inc. — Form 10-Q Summary
Business context and reporting period
This quarterly report covers the three and six months ended 31 March 2017, Air Products’ fiscal second quarter and first half of fiscal 2017. Results are presented primarily on a continuing-operations basis. The former Electronic Materials Division was spun off as Versum Materials on 1 October 2016, and the Performance Materials Division was sold to Evonik for approximately $3.8 billion on 3 January 2017. Both businesses, together with the Energy-from-Waste business, are classified as discontinued operations.
Financial performance and liquidity
| Metric | Three months ended 31 March | Six months ended 31 March |
|---|---|---|
| Sales | $1,980.1 million, up 11% | $3,862.6 million, up 6% |
| Operating income | $391.2 million, up 5% | $719.3 million, down 3% |
| Operating margin | 19.8%, down 110 basis points | 18.6%, down 180 basis points |
| Income from continuing operations attributable to Air Products | $304.4 million | $556.0 million |
| Diluted EPS from continuing operations | $1.39, versus $1.28 | $2.53, versus $2.57 |
| Adjusted EBITDA | $651.6 million; 32.9% margin | $1,304.0 million; 33.8% margin |
| Cash provided by operating activities | Not separately provided | $861.2 million |
Reported net income attributable to Air Products was $2,130.0 million for the quarter and $2,429.8 million for the six months, versus losses in the prior-year periods. The improvement was dominated by the $1,833 million after-tax gain on the PMD sale; therefore, total-company EPS is not representative of recurring operating performance. Diluted total-company EPS was $9.70 for the quarter and $11.06 for the six months.
- Cash and cash items were $1,869.3 million at 31 March 2017, including $1,423.2 million of short-term investments.
- Total debt was $3,843.2 million, down from $5,210.9 million at 30 September 2016. Debt represented 29.0% of total debt plus capitalization, versus 41.9% at fiscal year-end.
- The company entered into a new five-year $2.5 billion revolving credit agreement; no borrowings were outstanding under it at quarter-end. The sole stated financial covenant limits total debt to total capitalization to 70%.
- Capital expenditures were $532.2 million on a GAAP basis for the six months, and fiscal 2017 capital expenditures were expected to be approximately $1.0 billion.
- Dividends paid during the first six months were $374.0 million. The quarterly dividend increased 10% to $0.95 per share, marking the 35th consecutive annual increase.
Material changes versus the prior comparable period
- Quarterly sales growth reflected 7% higher volumes and 5% higher energy and natural-gas pass-through, partly offset by 1% unfavorable currency. Six-month sales growth reflected 5% higher underlying sales and 3% pass-through, partly offset by 2% unfavorable currency.
- Quarterly adjusted operating income increased 4%, but adjusted operating margin declined to 20.5% from 22.0%. Adjusted EBITDA increased 2%, while its margin declined 300 basis points to 32.9%.
- For the six months, GAAP operating income declined 3%, while adjusted operating income increased 5%. The GAAP comparison was affected by $60.3 million of cost-reduction and asset-action charges and $30.2 million of business-separation costs.
- Industrial Gases–Global benefited from the Saudi Aramco Jazan equipment project: six-month sales increased 91% to $364.4 million and operating income improved to $31.0 million from a $30.1 million loss.
- Corporate and other operating loss increased to $70.0 million for the six months, primarily because of lower LNG project activity, partly offset by transition-service income from Versum and Evonik.
- Six-month operating cash flow declined to $861.2 million from $890.0 million, while investing cash use increased substantially because of $1.823 billion of short-term investment purchases and $532.2 million of capital expenditures.
Guidance, outlook, risks, contingencies and unusual items
- Management expected approximately $1.0 billion of fiscal 2017 capital expenditures and expected additional pension settlement losses during the second half of fiscal 2017. Total fiscal 2017 pension contributions were expected to be approximately $65 million to $85 million.
- Management expected delays in new LNG project orders because of continued weakness in energy markets. Latin American volume weakness was also identified for further assessment.
- Sales backlog was $717 million at 31 March 2017, down from $1,057 million at 30 September 2016.
- Changes in percentage-of-completion project estimates favorably affected second-quarter operating income by approximately $12 million. Future revisions to project revenue or cost forecasts could materially affect earnings.
- Cost-reduction and asset-action charges totaled $60.3 million for the six months, including a $45.7 million write-down of an EMEA air-separation unit and severance related primarily to approximately 140 eliminated positions.
- The Energy-from-Waste discontinued operation retained a $64.9 million accrual at 31 March 2017, primarily for land-lease and other contract obligations. Management stated that additional exit costs may arise.
- A Brazilian competition-law matter carries a maximum possible loss of approximately $57 million plus interest, but management and counsel concluded that an adverse final judgment was not probable; no provision was recorded.
- Environmental accruals totaled $86.1 million, with estimated exposure ranging from $86 million to a reasonably possible upper exposure of $99 million and payments potentially extending up to 30 years.
- Principal forward-looking risks include global and regional economic conditions, Brexit-related effects, foreign-exchange and interest-rate movements, energy-market volatility, project awards and execution, customer cancellations or delays, asset impairments, litigation, environmental obligations, regulatory changes and divestiture-related stranded costs.
Most important facts for an investor to verify
- Separate recurring continuing-operations performance from the $1.833 billion after-tax PMD-sale gain and other discontinued-operation items.
- Assess whether the Jazan project’s contribution and the reported $12 million estimate benefit are recurring or timing-related.
- Monitor LNG weakness, the declining backlog, Latin American volumes and EMEA currency exposure.
- Verify the sustainability of margins after energy pass-through, volume mix, restructuring charges and pension settlement losses.
- Review the use and investment of PMD-sale proceeds, debt reduction, short-term investments and the new revolving credit facility.
- Track remaining Energy-from-Waste, environmental and Brazilian litigation exposures, including potential changes in estimates.