Badger Meter, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; unaudited. Badger Meter supplies flow measurement, control and communication products, primarily for municipal water utilities, with additional flow-instrumentation sales. More than 85% of its products are used in water applications.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $113.6 million | $104.2 million | $218.7 million | $205.8 million |
| Gross margin | $41.5 million; 36.5% | $41.1 million; 39.4% | $78.3 million; 35.8% | $79.7 million; 38.7% |
| Operating earnings | $16.4 million | $16.8 million | $26.3 million | $30.4 million |
| Net earnings | $6.2 million | $10.6 million | $13.7 million | $19.4 million |
| Diluted EPS | $0.21 | $0.36 | $0.47 | $0.67 |
- Sales rose 9.0% in Q2 and 6.3% in the first half. Municipal water sales increased 9.9% in Q2 and 6.4% in the first half; flow-instrumentation sales increased 6.2% and 5.7%, respectively.
- Q2 gross margin dollars edged up, but gross margin percentage fell 2.9 percentage points. Management cited higher brass and healthcare costs and a greater mix of lower-margin project work. First-half operating earnings declined 13.5% amid lower margins and higher selling, engineering and administration costs.
- Net earnings were also reduced by an $8.2 million non-cash pension settlement charge recorded in Q2. The effective income-tax rate fell to 22.2% from 35.5% in Q2 and 34.9% for the first half of 2017, primarily reflecting the lower federal tax rate.
- First-half operating cash flow was $25.2 million, versus $37.3 million. The company attributed the decline mainly to higher receivables and the absence of the prior-year inventory reduction. Capital expenditures were $5.2 million; acquisitions used $8.0 million of cash.
Financial position and liquidity
- At June 30, cash was $12.1 million, receivables $65.3 million, inventories $85.7 million, and total assets $401.1 million. Short-term debt was $42.4 million, down from $44.6 million at year-end 2017.
- The company extended its $125 million credit facility to September 2021. The facility supports commercial paper borrowings of up to $70 million and includes a $5 million Euro line. Badger Meter reported $90.7 million of unused credit lines and compliance with its financial covenants.
- Dividends paid in the first half were $7.5 million; dividends declared were $0.13 per share in Q2. Management said operating cash flow and available borrowing capacity were adequate for operating needs, capital spending and product development.
Material developments, outlook and risks
- The company expects to complete termination of its frozen U.S. pension plan in Q3 2018. Final distributions were expected to cause an additional settlement charge, estimated at $10.5 million; the ultimate settlement obligation depends on participant elections and market conditions. Management expected no further 2018 pension contributions.
- Badger Meter acquired Florida distributor Innovative Metering Solutions in April for approximately $12.0 million in total consideration. The purchase-price allocation remained preliminary; the acquisition was not material to the consolidated financial statements.
- Revenue growth reflected higher prices and domestic volumes for newer meters and radio technologies, stronger service revenue, and improved international sales, particularly in the Middle East. Flow instrumentation benefited from an oil-and-gas-market rebound. The company gave no specific financial guidance in this filing.
- Risks highlighted include material-cost volatility, especially brass; competition and pricing; supplier concentration for brass castings and certain components; foreign-exchange and trade-policy effects; execution and warranty obligations on technology projects; cybersecurity; and potential environmental costs. No material legal proceedings were pending, and environmental compliance spending in 2017 and the first half of 2018 was not material.
- Topic 606 revenue recognition was adopted January 1, 2018; it reduced opening retained earnings by $0.1 million and Q2 and first-half revenue by $35,000 and $76,000, respectively. Management expected adoption of the new lease standard in 2019 to increase reported assets and liabilities for operating leases; the impact was still under evaluation.
Important facts for investors to verify
- Whether the expected Q3 pension settlement charge is near the $10.5 million estimate and whether the plan termination is completed as expected.
- Whether margin pressure from brass, healthcare costs and lower-margin project mix eases, and whether anticipated higher-margin projects materialize.
- Whether receivables growth and lower operating cash flow reverse as sales and collections develop.
- How the final purchase-price allocation for IMS and future performance of the acquired distributor affect results.
- Potential environmental exposure and the operational impact of reliance on single-source suppliers.