EnerSys Form 10-Q Summary
Business Context and Reporting Period
EnerSys manufactures, markets and distributes industrial batteries, chargers, power equipment, accessories, enclosures and related services. Its products serve reserve-power and motive-power applications globally through the Americas, EMEA and Asia regions.
The filing covers the second quarter and six months of fiscal 2018 ended October 1, 2017, compared with the periods ended October 2, 2016. The company served more than 10,000 customers in over 100 countries, with approximately half of sales and expenses transacted in foreign currencies.
Key Financial Metrics
| Metric | Quarter Ended October 1, 2017 | Prior-Year Quarter | Six Months Ended October 1, 2017 | Prior-Year Six Months |
|---|---|---|---|---|
| Net sales | $617.3 million | $576.0 million | $1,239.9 million | $1,176.7 million |
| Gross profit | $159.9 million | $161.3 million | $323.0 million | $327.6 million |
| Gross margin | 25.9% | 28.0% | 26.0% | 27.8% |
| Operating earnings | $64.0 million | $62.9 million | $133.6 million | $128.9 million |
| Operating margin | 10.4% | 10.9% | 10.8% | 11.0% |
| Net earnings attributable to EnerSys stockholders | $43.2 million | $45.6 million | $91.4 million | $90.2 million |
| Diluted EPS | $1.00 | $1.04 | $2.09 | $2.06 |
Six-month cash flow from operating activities was $45.5 million, compared with $113.9 million in the prior-year period. Capital expenditures were $26.6 million, business acquisitions used $3.0 million, and investing activities used $29.4 million. Cash and cash equivalents increased by $39.8 million to $540.1 million, including a $32.0 million favorable foreign-currency translation effect.
At October 1, 2017, current assets were $1.55 billion and current liabilities were $451.8 million. Primary working capital was $690.2 million, or 28.0% of annualized quarterly sales, compared with 24.9% at March 31, 2017. The increase was primarily driven by higher inventory.
Total debt consisted of $300.0 million of 5.00% senior notes due 2023, $435.2 million outstanding under the new 2017 Credit Facility and $13.0 million of short-term debt. Available and undrawn credit lines totaled approximately $465.7 million. Management stated that the company was in compliance with its debt covenants.
Material Changes Versus the Prior Comparable Period
- Second-quarter sales increased 7.2%; six-month sales increased 5.4%. Management attributed growth primarily to approximately 4% pricing increases, with additional volume and foreign-currency benefits in selected periods.
- Second-quarter sales increased in the Americas by 5.1%, EMEA by 9.6% and Asia by 10.3%. Motive-power sales grew 8.9% in the quarter, compared with 5.3% growth in reserve-power sales.
- Gross margin declined 210 basis points in the quarter and 180 basis points for the six months because commodity costs, particularly lead, increased by approximately $34 million and $68 million, respectively. Price recoveries and cost-saving initiatives only partially offset the cost inflation.
- Operating earnings rose 1.7% in the quarter and 3.6% for the six months, but operating margin declined because of commodity-cost pressure. Operating expenses and restructuring charges were lower than in the prior-year periods.
- Quarterly net earnings attributable to EnerSys stockholders and diluted EPS declined despite higher sales, primarily because of lower gross profit, higher interest expense and unfavorable foreign-currency impacts. Six-month net earnings and diluted EPS increased modestly, aided by a lower effective tax rate.
- The effective tax rate decreased to 21.7% from 26.2% in the quarter and to 21.2% from 25.3% for the six months, primarily because of changes in the geographic mix of earnings.
- Operating cash flow decreased substantially, reflecting higher working capital, lower accrued expenses and payments associated with legal proceedings, payroll and taxes.
- EnerSys refinanced its prior credit facility on August 4, 2017 with a $600.0 million revolving facility and a $150.0 million term loan maturing September 30, 2022.
Guidance, Outlook, Risks and Unusual Items
The filing does not provide specific earnings, sales or EPS guidance. Management described North American and EMEA economic activity as limited, while Asia was growing faster than other regions. Management expects commodity costs and foreign-currency exposures to remain volatile and stated that approximately 72% of lead costs for the remaining two quarters of fiscal 2018 were known through hedges, purchases and the lead-tolling program.
- A 10% increase in lead costs was estimated to increase cost of goods sold by approximately $17 million for the quarter and $34 million for the six months. A 100-basis-point increase in interest rates was estimated to increase annualized interest expense by approximately $4.5 million.
- Approximately 30% of revenue was subject to lead-indexed pricing agreements. The company also used lead and foreign-currency derivatives, primarily with maturities of less than one year, to reduce volatility.
- Restructuring charges were $1.8 million in the quarter and $2.6 million for the six months. Remaining restructuring reserves were $2.7 million, and management expected certain programs to continue through fiscal 2018.
- The company completed the sale of its Cleveland facility and recorded a $0.2 million non-cash loss and $0.1 million of other cash charges.
- European competition matters resulted in payments of $14.8 million related to Germany and $11.2 million related to the Netherlands during the period. A German reserve-power fine of $11.4 million was under appeal and was not accrued. Total reserves for the disclosed competition matters were $2.0 million at October 1, 2017, compared with $25.6 million at March 31, 2017.
- The company remained exposed to environmental and safety liabilities related to lead and acid, including a $1.1 million reserve for the former Yuasa facility in South Carolina.
- Other stated risks included cyclical customer industries, raw-material availability and pricing, foreign exchange, interest rates, competition, product quality, environmental regulation, litigation, acquisitions, restructuring execution, goodwill impairment, customer credit and information-system disruptions.
- The company adopted the intra-entity asset transfer income-tax standard during the first quarter of fiscal 2018, recording a $0.1 million cumulative-effect adjustment. It was still assessing the potential effects of new revenue-recognition, lease, retirement-benefit and derivatives standards.
During the six months, EnerSys repurchased $121.2 million of common stock, including a $100.0 million accelerated share repurchase agreement. The board subsequently approved a new $100.0 million repurchase authorization. The quarterly dividend remained $0.175 per share.
Investor Verification Checklist
- Verify whether pricing actions and lead-indexed contracts can continue to offset rising lead and other commodity costs without further gross-margin deterioration.
- Monitor inventory and primary working capital, which increased materially and reduced operating cash flow.
- Review leverage, variable-rate debt exposure and compliance with the new secured credit facility’s covenants.
- Track the appeal and potential cash impact of the $11.4 million German reserve-power competition fine and any additional European regulatory claims.
- Assess the final share count and settlement of the accelerated share repurchase agreement scheduled for January 5, 2018.
- Evaluate performance in EMEA and Asia, including EMEA restructuring execution and the slowdown in Chinese telecom spending.
- Confirm the company’s eventual adoption plans and financial impacts for the new accounting standards under evaluation.
- Reconcile reported earnings and cash flow with the effects of foreign-currency translation, commodity hedges, restructuring charges and other unusual items.