Flowserve Corporation — Form 10-Q Summary
Business context and reporting period
Flowserve Corporation manufactures engineered pumps, valves, seals, automation products and related aftermarket services for oil and gas, chemical, power generation, water management and general industrial markets. Operations are conducted through the Flowserve Pump Division (FPD) and Flow Control Division (FCD), with approximately 15,000 employees in more than 50 countries.
The filing covers the quarter and nine months ended September 30, 2022, with comparisons to the corresponding 2021 periods. The financial statements are unaudited.
Key financial metrics
| Metric | Q3 2022 | Q3 2021 | 9M 2022 | 9M 2021 |
|---|---|---|---|---|
| Sales | $872.9 million | $866.1 million | $2,576.2 million | $2,621.6 million |
| Gross profit | $239.6 million | $253.5 million | $699.1 million | $782.6 million |
| Gross margin | 27.4% | 29.3% | 27.1% | 29.9% |
| Operating income | $24.2 million | $57.4 million | $91.9 million | $185.6 million |
| Operating margin | 2.8% | 6.6% | 3.6% | 7.1% |
| Net earnings attributable to Flowserve | $38.4 million | $49.8 million | $67.4 million | $109.2 million |
| Diluted EPS | $0.29 | $0.38 | $0.51 | $0.83 |
| Operating cash flow | Not separately provided | Not separately provided | $(109.5) million | $151.1 million |
Q3 sales increased 0.8%, while nine-month sales declined 1.7%. Aftermarket sales represented approximately 53% of sales in both the quarter and nine-month period, compared with approximately 51% and 52%, respectively, in the prior-year periods.
Bookings increased 34.2% in Q3 to $1,223.3 million and 19.3% for nine months to $3,346.7 million. Backlog was $2,601.9 million at September 30, 2022, up 29.9% from December 31, 2021, despite approximately $139 million of negative currency effects.
Liquidity, debt and balance sheet
- Cash and cash equivalents were $351.9 million at September 30, 2022, down from $658.5 million at December 31, 2021.
- Total debt and finance lease obligations were $1.280 billion, including $1.232 billion of long-term debt.
- The $800 million revolving credit facility had $157.3 million of borrowing capacity at September 30, 2022, after covenant and letter-of-credit limitations. The company borrowed $45 million under the facility on October 14, 2022.
- The company was in compliance with applicable debt covenants at September 30, 2022.
- Capital expenditures were $45.8 million during the first nine months. Management estimated full-year 2022 capital expenditures of $60 million to $70 million, before acquisitions.
- Dividends paid during the first nine months were $78.4 million; declared dividends were $0.20 per share in Q3 and $0.60 per share year to date.
Material changes versus the prior comparable period
- Operating income declined 57.8% in Q3 and 50.5% for the first nine months, primarily due to lower gross profit and higher SG&A.
- Gross margins fell 190 basis points in Q3 and 280 basis points for nine months, reflecting supply-chain and freight costs, lower backlog conversion, manufacturing under-absorption and inventory reserves.
- SG&A increased 10.1% in Q3 and 2.0% for nine months. Q3 included higher asbestos-related costs, $4.8 million of acquired in-process research and development expense, increased bad-debt expense and $5.5 million of incremental lease expense from an accounting correction.
- Operating cash flow changed from $151.1 million provided in the first nine months of 2021 to $109.5 million used in 2022, driven principally by working-capital investment, including $151.9 million of inventory increases and $78.4 million of accounts receivable increases.
- Interest expense declined to $11.6 million in Q3 and $33.3 million for nine months, compared with $14.7 million and $45.8 million, respectively, largely due to lower effective interest rates.
- Other income was $28.7 million in Q3 and $28.2 million for nine months, compared with an expense in the prior-year periods, primarily due to foreign-currency gains, including a $23.6 million remeasurement gain on an intercompany loan.
- Foreign currency translation losses increased accumulated other comprehensive loss by $170.2 million for the first nine months, contributing to a $153.8 million decline in other comprehensive income.
Guidance, outlook, commentary and unusual items
- Management expected to return to growth in 2022 and continue executing the elevated backlog, although supply-chain, logistics and labor constraints were expected to lengthen cycle times. Management did not provide specific full-year revenue or earnings guidance in the filing.
- Q3 sales were negatively affected by approximately $30 million from operational interruptions related to an enterprise resource planning system implementation at certain North American quick response centers. Management expected to largely recover the affected sales in future periods.
- Flowserve permanently ceased operations in Russia. It recorded a $20.2 million pretax charge, or $21.0 million after tax, in Q1 2022 for contract cancellations, asset reserves, exit costs and other exposure. Management determined that no material additional reserve was required as of September 30.
- The company recorded a $6.4 million cumulative correction for an operating-lease accounting error, including $5.5 million in SG&A and $0.9 million in cost of sales. The correction had no cash-flow impact.
- COVID-19 effects, supplier delays, labor constraints, inflation and higher freight costs continued to pressure production and margins. Management expected these adverse effects to decline but continue through the remainder of 2022.
- Asbestos-related claims totaled 8,857 at September 30, 2022, with an accrued liability of $101.6 million. Nine-month asbestos-related expense was approximately $13.0 million.
- Management estimated that approximately $155 million of the $597 million of unsatisfied or partially unsatisfied long-term performance obligations would be recognized as revenue during the remainder of 2022, with the balance expected in 2023 and thereafter.
- Management stated that existing cash, expected operating cash flows and available borrowing capacity should satisfy short- and long-term needs, but noted exposure to customer demand, order cancellations, working capital, foreign exchange, supply-chain disruption, inflation, litigation and financing-market conditions.
Important facts for investors to verify
- Whether the significant increase in bookings and backlog converts into revenue at acceptable margins, particularly the large Middle East pump orders.
- Progress in recovering the approximately $30 million of Q3 sales affected by the ERP implementation and preventing further operational disruption.
- Operating cash-flow recovery, inventory normalization and accounts-receivable collections, including the increase in days sales outstanding to 79 days.
- Available revolver capacity after the October 14, 2022 $45 million borrowing, upcoming term-loan repayments and covenant headroom.
- The potential for additional costs from Russia-related contract cancellations, supply-chain inflation and the exit of Russian operations.
- The development of asbestos claims, insurance recoveries and actuarial liability estimates.
- Foreign-currency volatility, which generated substantial translation losses and materially affected reported equity and results.
- Potential tax benefits or charges from ongoing tax examinations and possible release of foreign deferred-tax valuation allowances.