BorgWarner Inc. 10-Q Summary: Quarter Ended September 30, 2008
Business Context and Reporting Period
This report covers the quarterly period ended September 30, 2008. BorgWarner Inc. is a global supplier of highly engineered systems and components for powertrain applications, operating primarily in two segments: Engine and Drivetrain. The company serves original equipment manufacturers (OEMs) of light vehicles, commercial trucks, and agricultural vehicles worldwide. The reporting period reflects significant headwinds from the global financial crisis and a sharp decline in North American automotive production.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2008 | Nine Months Ended Sep 30, 2008 |
|---|---|---|
| Net Sales | $1,316.9 million | $4,332.4 million |
| Gross Profit | $202.3 million (15.4% margin) | $764.6 million (17.6% margin) |
| Operating Income (Loss) | $(101.7) million | $146.0 million |
| Net Earnings (Loss) | $(130.4) million | $45.8 million |
| Diluted EPS | $(1.12) | $0.39 |
| Cash and Cash Equivalents | $135.8 million (as of Sep 30, 2008) | |
| Net Cash from Operating Activities | $265.1 million (Nine Months) | |
| Total Debt (Current + Long-Term) | $714.3 million (as of Sep 30, 2008) | |
| Debt-to-Capital Ratio | 24.0% |
Material Changes vs. Prior Period
- Revenue: Q3 2008 net sales were flat compared to Q3 2007 ($1,316.9M vs. $1,313.6M), driven by a 15% drop in North American light-vehicle production offset by currency strength (primarily the Euro) and growth in Asia-Pacific. For the nine months, sales increased 9.5% to $4,332.4M.
- Profitability: The company reported a net loss of $130.4 million for Q3 2008, a reversal from a net profit of $83.2 million in Q3 2007. This was primarily due to a $146.8 million goodwill impairment charge related to the BERU AG acquisition and $25.0 million in restructuring expenses.
- Margins: Gross margin for Q3 declined to 15.4% from 17.4% in the prior year due to unfavorable product mix (decline in light trucks/SUVs) and higher raw material costs ($13M increase).
- Segment Performance: The Engine segment saw sales rise 4.3% but EBIT fall 6.7%. The Drivetrain segment saw sales drop 10.3% and EBIT turn negative ($2.9M loss) due to lower North American production of torque transfer products.
Guidance, Outlook, and Risks
- Outlook: Management is cautious regarding the remainder of 2008 and 2009 due to the financial sector crisis and deteriorating global economic conditions. The company expects difficult conditions to persist.
- Restructuring: On July 31, 2008, the company announced a restructuring plan to reduce the North American workforce by approximately 1,200 people (16%) and the European workforce by 500 people (6%). Total restructuring charges were $25.0 million ($18.0M employee termination, $7.0M asset impairment).
- BERU AG Transaction: The company completed a Domination and Profit Transfer Agreement (DPTA) with BERU AG. This resulted in a $146.8 million goodwill impairment charge in Q3 due to declining European market conditions. The company also recorded a $4.0 million charge related to a court decision on retiree healthcare litigation.
- Liquidity: The company maintains an investment-grade credit rating (A- from S&P, Baa1 from Moody's) and has a $600 million revolving credit facility with no borrowings outstanding as of September 30, 2008. Management believes current cash, operating cash flow, and credit facilities are sufficient for operations through 2008.
- Contingencies: The company faces ongoing asbestos-related product liability claims (approx. 38,000 pending) and environmental liabilities. Management does not expect these to have a material adverse effect, citing significant insurance coverage and successful defense history.
Key Facts for Investor Verification
- Goodwill Impairment: Verify the assumptions used in the fair value assessment of BERU AG that led to the $146.8 million charge, specifically regarding European market projections.
- Restructuring Execution: Monitor the actual cash outflow for the $18.0 million employee termination liability and the timeline for realizing cost savings from the workforce reduction.
- BERU DPTA Obligation: Track the $124.6 million total obligation associated with the BERU DPTA, including the perpetual dividend payments and potential appraisal proceedings challenging the buyout price.
- Raw Material Costs: Assess the impact of rising steel, copper, and aluminum costs on future gross margins, given the company's limited ability to pass these costs to customers in a weak market.
- Asbestos Litigation: Review the status of the declaratory judgment action regarding insurance coverage apportionment, which impacts the recovery of the $29.5 million outstanding balance paid in advance of insurer reimbursement.