Flowserve Corporation — Form 10-Q Summary
Business Context and Reporting Period
Flowserve designs, manufactures, distributes and services industrial flow-management equipment, including pumps, valves, mechanical seals, automation products and aftermarket services. Its principal markets include oil and gas, chemical, power generation, water management and general industry. Operations are organized into Engineered Product Division (EPD), Industrial Product Division (IPD) and Flow Control Division (FCD).
This unaudited filing covers the quarter and six months ended June 30, 2012, compared with the corresponding 2011 periods. Flowserve employed approximately 16,500 people in more than 50 countries and operated 176 Quick Response Centers.
Key Financial Metrics
| Metric | Q2 2012 | Q2 2011 | Change |
|---|---|---|---|
| Sales | $1,182.2 million | $1,125.8 million | +5.0% |
| Gross profit | $384.6 million | $369.3 million | +4.1% |
| Gross margin | 32.5% | 32.8% | -30 bps |
| Operating income | $164.8 million | $140.1 million | +17.6% |
| Operating margin | 13.9% | 12.4% | +150 bps |
| Net earnings attributable to Flowserve | $107.3 million | $98.7 million | +8.7% |
| Diluted EPS | $1.98 | $1.76 | +12.5% |
| Cash dividend per share | $0.36 | $0.32 | +12.5% |
| Metric | Six Months 2012 | Six Months 2011 | Change |
|---|---|---|---|
| Sales | $2,257.2 million | $2,123.0 million | +6.3% |
| Gross profit | $743.8 million | $717.0 million | +3.7% |
| Gross margin | 33.0% | 33.8% | -80 bps |
| Operating income | $307.3 million | $270.4 million | +13.6% |
| Operating margin | 13.6% | 12.7% | +90 bps |
| Net earnings attributable to Flowserve | $200.4 million | $195.7 million | +2.4% |
| Diluted EPS | $3.67 | $3.48 | +5.5% |
Cash Flow, Debt and Liquidity
- Operating cash flow was $60.4 million in the first six months of 2012, compared with an operating cash outflow of $237.8 million in 2011. Working capital consumed cash, principally through a $155.7 million increase in inventory and a $46.8 million decrease in accounts payable.
- Investing cash outflow was $54.6 million, including $56.9 million of capital expenditures. Management expected 2012 capital expenditures of $125 million to $135 million, excluding potential acquisitions.
- Financing cash outflow was $167.2 million, including $432.9 million of share repurchases and $37.1 million of dividends, partially offset by $300.0 million of short-term financing proceeds.
- Cash and cash equivalents were $175.2 million at June 30, 2012, versus $337.4 million at December 31, 2011. Approximately $157.5 million was held by foreign subsidiaries, including $120.1 million considered permanently reinvested outside the United States.
- Total debt and capital lease obligations were $796.8 million, consisting primarily of a $462.5 million term loan, a $250.0 million bridge loan and $50.0 million drawn under the revolving credit facility. Debt due within one year was $370.6 million.
- Revolving credit availability, after outstanding letters of credit, was $294.6 million. Net available capacity under the European letter-of-credit facility was approximately $59.0 million.
- Management stated that operating cash flow, existing cash and available revolving-credit capacity were expected to be sufficient for the next 12 months. The company complied with its debt covenants through June 30, 2012.
Material Changes Versus the Prior Comparable Period
- Bookings increased 0.2% in the quarter and 3.4% year to date, despite negative currency effects of approximately $84 million and $111 million, respectively. Backlog increased 6.4% from December 31, 2011, to $2.863 billion; approximately 24% was aftermarket-related.
- Operating performance improved primarily because of higher sales, cost management and lower SG&A. SG&A as a percentage of sales declined to 18.9% from 20.7% in the quarter and to 19.8% from 21.5% year to date.
- Gross margins declined because certain large, lower-margin EPD projects shipped from backlog. Aftermarket sales represented approximately 40% of quarterly sales and 41% of year-to-date sales.
- IPD results benefited from the absence of $7.1 million of recovery-plan realignment charges recorded in the second quarter of 2011. IPD quarterly operating income increased to $23.8 million from $9.6 million.
- Other expense, net, was $8.0 million in the quarter and $13.0 million year to date, compared with other income of $6.0 million and $14.5 million in the prior-year periods. The deterioration primarily reflected foreign-exchange contract losses and transaction losses related to the weakening euro.
- Other comprehensive income declined substantially because of foreign-currency translation losses: comprehensive expense was $56.1 million in the quarter and $21.3 million year to date.
- Share repurchases rose materially. Flowserve repurchased $432.9 million of common stock during the first six months, including a $300.0 million accelerated share repurchase program funded partly with the new bridge loan. Remaining authorization was $624.7 million at June 30, 2012.
- The quarterly dividend was increased from $0.32 to $0.36 per share beginning in April 2012.
Guidance, Outlook, Commentary and Risks
- Management reported improved long-cycle project bookings and favorable aftermarket conditions. Oil and gas conditions were stable, chemical activity increased in Asia Pacific, the Middle East and North America, while European bookings declined and power-generation investment slowed pending regulatory clarity.
- Management targeted a long-term gross leverage ratio of 1.0x to 2.0x total debt to EBITDA, compared with approximately 0.7x at the time of the announcement, and announced an expanded $1.0 billion share-repurchase authorization.
- Management expected U.S. pension contributions of approximately $10 million to $20 million in 2012, excluding direct benefits paid. It also estimated that tax matters could reduce tax expense by $14.3 million to $26.9 million within the following 12 months.
- Key operating risks include converting backlog into profitable sales, project cost overruns, order cancellations or delays, raw-material inflation, international political and currency exposure, dependence on oil and gas, chemical, power and water markets, supplier performance and competition.
- Material contingencies include asbestos-related claims, a French investigation and related civil litigation concerning the United Nations Oil-for-Food Program, and environmental remediation obligations at seven former waste-disposal sites. Management did not expect these matters to have a material adverse effect, but noted that outcomes are inherently uncertain.
- The company had no direct investments in European sovereign or non-sovereign debt and reported no direct measurable disruption from the European sovereign debt crisis during the periods presented.
- The filing does not provide formal revenue or earnings guidance for the full year. It provides capital-expenditure expectations and liquidity commentary as described above.
Most Important Facts to Verify
- Whether the $2.863 billion backlog converts into revenue at targeted margins, particularly given the lower-margin EPD projects already shipped.
- The company’s ability to fund or refinance the $250.0 million bridge loan and meet scheduled debt repayments, including $56.3 million due in the third quarter of 2012.
- The pace and financing impact of the remaining $624.7 million share-repurchase authorization.
- Inventory growth, shipment delays, accounts-receivable collections and working-capital conversion.
- Foreign-exchange sensitivity, including the disclosed approximate $14 million earnings impact from a 10% currency-rate change for the six months ended June 30, 2012.
- Resolution and potential financial exposure from asbestos claims, the Oil-for-Food matters, environmental sites and tax examinations.