CTS Corporation — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017; compared with the corresponding 2016 periods. Amounts below are in millions of dollars unless stated otherwise. CTS designs and manufactures sensors, actuators, and electronic components for automotive and other end markets.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $106.2 | $99.7 | $312.1 | $295.1 |
| Gross margin | $37.5 (35.3%) | $36.6 (36.8%) | $107.6 (34.5%) | $104.6 (35.4%) |
| Operating earnings | $13.1 (12.3%) | $12.5 (12.5%) | $38.5 (12.4%) | $49.0 (16.6%) |
| Net earnings | $9.6 | $3.7 | $28.1 | $26.1 |
| Diluted EPS | $0.29 | $0.11 | $0.84 | $0.79 |
| Operating cash flow | — | — | $47.0 | $34.1 |
- Quarterly changes: Sales rose 6.6%, with automotive sales up 5.8% and other sales up 7.9%. Noliac contributed $2.6 million of Q3 sales; favorable currency movements added $0.2 million. Gross margin declined, primarily due to product mix and an unfavorable currency impact. Operating earnings increased 5.0%; net earnings increased 158.6%, alongside a lower effective tax rate (31.1% versus 68.3%).
- Nine-month changes: Sales rose 5.8%; automotive sales increased 3.9% and other sales 9.4%. Noliac contributed $4.1 million, while currency movements reduced sales by $1.4 million. Gross margin fell 0.9 percentage points, which management attributed mainly to product mix, first-half production rework costs, and unfavorable foreign exchange. Operating earnings declined 21.4%; net earnings increased 7.7%, supported by lower taxes and improved other income.
- Comparability items: 2016 nine-month results included an $11.5 million gain on sale of assets, mainly the sale of a Canadian building; 2017 included a $0.7 million loss on sale of vacant land. Q3 2017 other income was primarily driven by foreign-currency translation gains. The 2017 nine-month effective tax rate was 30.0%, compared with 43.2% in 2016; management cited restricted-stock tax benefits, release of foreign NOL valuation allowances, and favorable foreign tax rates, partly offset by other tax items.
Cash, debt, and liquidity
- Cash and equivalents were $116.2 million at September 30, 2017, versus $113.8 million at year-end 2016. Approximately $114.8 million was held outside the U.S.
- Long-term debt was $82.3 million, down from $89.1 million; the weighted-average interest rate was 2.3%. The $300 million revolving facility had $215.6 million available. CTS reported compliance with its debt covenants.
- Nine-month operating cash flow of $47.0 million funded, in part, $19.1 million for the Noliac acquisition and $12.0 million in capital expenditures. Investing cash use was $30.6 million; financing cash use was $13.5 million, including $6.8 million of net long-term debt repayments and $3.9 million of dividends.
- Management stated that operating cash flows and available revolver borrowings should cover working capital, capital expenditures, and debt service for at least the next 12 months. The company may pursue additional financing for liquidity or acquisitions.
Outlook, risks, and notable items
- The filing provides no specific revenue or earnings guidance. Management’s liquidity statement is its principal near-term outlook assertion.
- The June 2016 restructuring plan was revised in Q3 to add $1.1 million of planned costs for consolidating the Lisle headquarters and Bolingbrook plant. Total expected plan costs are approximately $13.4 million, affecting about 230 employees; $6.0 million had been incurred through September 30, 2017. Elkhart production is planned to phase out by mid-2018, with the facility becoming an R&D center.
- CTS acquired Noliac A/S in May 2017 for $19.3 million in cash. Purchase-price allocation remained preliminary, including $7.2 million of goodwill and $9.1 million of intangible assets.
- Environmental remediation reserves were $17.6 million. Management said adequate provisions were recorded, but cautioned that ultimate environmental liabilities could materially exceed the reserve. Other ordinary-course claims were not expected to materially affect results based on information then available.
- Risks highlighted include customer reliance, acquisition integration, product demand and pricing, production issues, foreign exchange and international operations, and environmental, litigation, and product-liability contingencies. Cummins represented 14.6% of Q3 sales; Honda represented 11.7%. The filing reported no significant changes to risk factors since year-end 2016.
Important facts for investors to verify
- Whether gross-margin pressure from mix, rework, and currency persists, and whether operating profitability improves after the unusually weak nine-month comparison.
- The sustainability of earnings growth given the lower effective tax rate and foreign-currency gains, and the absence of specific forward guidance.
- Noliac’s post-acquisition performance and the final purchase-price allocation, including goodwill and intangible-asset assumptions.
- Remaining restructuring costs and execution of the Elkhart and facility-consolidation plans.
- Environmental reserve adequacy, offshore cash availability, and continued compliance with revolving-credit covenants.