Eaton Corporation plc — 2014 Form 10-K
Reporting period: Year ended December 31, 2014. This is an annual report; fourth-quarter figures are included below. Amounts are in U.S. dollars unless noted.
Business context
Eaton is a global power-management company with approximately 102,000 employees, operations in more than 60 countries and sales in more than 175 countries. Its five segments are Electrical Products, Electrical Systems and Services, Hydraulics, Aerospace and Vehicle. Results continue to include the Cooper Industries business acquired in November 2012; Eaton sold two Aerospace businesses to Safran in May 2014.
Financial performance and position
| Metric | 2014 | 2013 | Change |
|---|---|---|---|
| Net sales | $22.552 billion | $22.046 billion | +2% |
| Gross profit | $6.906 billion | $6.677 billion | +3% |
| Gross margin | 30.6% | 30.3% | +0.3 percentage points |
| Income before tax | $1.761 billion | $1.884 billion | -7% |
| Net income attributable to Eaton shareholders | $1.793 billion | $1.861 billion | -4% |
| Diluted EPS | $3.76 | $3.90 | -4% |
| Operating cash flow | $1.878 billion | $2.285 billion | -$407 million |
| Capital expenditures | $632 million | $614 million | +$18 million |
Organic sales grew 4%; currency translation and the Aerospace divestiture each reduced reported sales growth by 1%. Segment operating profit totaled $3.312 billion, up from $3.178 billion. By segment, sales and operating profit were: Electrical Products $7.254 billion and $1.184 billion; Electrical Systems and Services $6.457 billion and $843 million; Hydraulics $2.975 billion and $367 million; Aerospace $1.860 billion and $273 million; and Vehicle $4.006 billion and $645 million.
Operating cash flow less capital expenditures was approximately $1.246 billion in 2014, compared with $1.671 billion in 2013 (calculated from reported figures). Cash was $781 million and short-term investments were $245 million at year-end. Total debt was $9.034 billion, including $1.008 billion current and $8.024 billion long-term, versus $9.549 billion total debt in 2013. Current assets of $8.100 billion exceeded current liabilities of $5.355 billion. Eaton reported no borrowings under its $2.0 billion revolving credit facilities and stated it was in compliance with debt covenants.
Cash dividends declared were $1.96 per share, up from $1.68. Eaton repurchased 9.6 million shares for $650 million during the year, including 4.8 million shares for $326 million in the fourth quarter. Pension liabilities were $1.812 billion; the company expects $326 million of pension contributions in 2015.
Fourth-quarter results and changes versus comparable periods
Fourth-quarter 2014 sales were $5.565 billion, compared with $5.527 billion in fourth-quarter 2013. Eaton-shareholder net income was $581 million versus $479 million, and diluted EPS was $1.23 versus $1.00. Fourth-quarter gross margin was 30.9%, compared with 29.8%.
For the full year, modest end-market growth, particularly in North America, supported sales and gross-margin improvement. Eaton said higher sales volumes contributed to better margins, while currency movements weighed on results in the second half. Earnings were reduced by $644 million of litigation-settlement expense; this was partly offset by a $154 million pretax gain on the Aerospace divestiture. Diluted EPS also included a $0.21 per-share reduction from acquisition integration charges and transaction costs; the filing attributes a $0.70 per-share reduction to litigation settlements, partly offset by the divestiture gain.
Operating cash flow declined mainly because the Meritor, Triumph and related litigation settlements reduced cash flow by $654 million. Reported non-GAAP operating earnings, excluding after-tax acquisition integration charges and transaction costs, were $1.895 billion, down 4%; non-GAAP diluted operating EPS was $3.97, down 4%.
Outlook, commentary and risks
- Management described 2014 end-market growth as modest and said reported results faced adverse currency effects. The filing says EPS was broadly in line with guidance at the start of the year after excluding litigation settlements and the Aerospace gain; it does not provide a clear forward-year EPS guidance figure in the supplied text.
- Eaton expected approximately $675 million of 2015 capital expenditures. Cooper-related restructuring initiatives were expected to continue through 2015.
- Key risks include economic and end-market volatility, execution of Cooper integration and synergy plans, pricing and raw-material cost pressures, currency and interest-rate movements, cybersecurity or operational disruption, tax-rate changes and litigation or environmental exposures.
- Significant unusual items include the Meritor settlement of $500 million and Triumph settlement of $147.5 million, both paid in 2014, and the $270 million sale of the two Aerospace businesses, producing a $154 million pretax gain.
- Tax contingencies include IRS proposed assessments of $75 million plus penalties for 2005–2006 and $190 million plus penalties for 2007–2010, primarily concerning transfer pricing; the earlier matter was scheduled for U.S. Tax Court trial in June 2015. Eaton contests the assessments. Brazilian tax assessments are also contested. The filing reports $493 million of gross unrecognized tax benefits and $120 million of accrued interest and penalties.
- Environmental remediation accruals were $140 million at year-end. Management said it did not expect environmental matters to exceed recorded amounts by a material amount. The company reported 150 remediation sites, none individually significant.
- Foreign-currency translation and related hedging reduced 2014 other comprehensive income by $1.019 billion; total comprehensive income attributable to Eaton shareholders was $454 million, down from $2.265 billion.
Most important facts for investors to verify
- Reconcile the $644 million litigation charge, settlement cash payments and reported EPS impact, including the offset from the Aerospace sale.
- Assess whether Cooper integration and restructuring deliver expected synergies as the stated initiatives continue through 2015.
- Review the 2015 debt maturities, pension funding needs and the capacity of operating cash flow to support dividends, investment and repurchases.
- Track outcomes of the IRS transfer-pricing litigation and other tax assessments, including the potential effect on tax expense and cash payments.
- Monitor segment trends and currency exposure, particularly North American growth, Electrical Systems and Services margin pressure, and weakness noted in agricultural and China construction markets.
- Confirm the annual financial statements and reported controls: Ernst & Young issued unqualified opinions, and management and the auditor concluded internal control over financial reporting was effective at December 31, 2014.