ITT Inc. Form 10-Q Summary
Business context and reporting period
ITT Inc. is a diversified manufacturer of engineered components and technology solutions serving transportation, industrial, oil and gas, aerospace and defense, and related markets. Reported segments are Industrial Process, Motion Technologies, and Connect & Control Technologies. This unaudited filing covers the three and six months ended June 30, 2017, compared with the corresponding 2016 periods.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $630.9 million | $626.2 million | $1,256.7 million | $1,235.3 million |
| Gross profit | $204.4 million | $205.6 million | $406.7 million | $400.9 million |
| Gross margin | 32.4% | 32.8% | 32.4% | 32.5% |
| Operating income | $57.7 million | $49.5 million | $113.3 million | $100.5 million |
| Operating margin | 9.1% | 7.9% | 9.0% | 8.1% |
| Net income attributable to ITT | $47.8 million | $32.8 million | $93.8 million | $70.2 million |
| Diluted EPS from continuing operations | $0.54 | $0.36 | $1.05 | $0.78 |
| Operating cash flow | Not separately provided | Not separately provided | $92.7 million | $71.6 million |
Revenue increased 0.8% in the quarter and 1.7% year to date. Organic revenue declined 1.9% in the quarter and was flat year to date, excluding foreign exchange, acquisitions, and divestitures. Orders were $626.3 million in the quarter, up 3.4%, with organic orders up 1.1%.
Segment performance was mixed. Q2 revenue increased 11.7% at Motion Technologies, including $22.0 million from Axtone, but declined 10.2% at Industrial Process and 2.5% at Connect & Control Technologies. Q2 operating margins were 7.7% for Industrial Process, 18.0% for Motion Technologies, and 9.2% for Connect & Control Technologies.
At June 30, 2017, cash and cash equivalents were $355.3 million, compared with $460.7 million at December 31, 2016. Total debt and capital leases were $209.7 million, including $123.0 million of commercial paper and $79.9 million of short-term revolving loans. The company had access to a $500 million revolving credit agreement, with potential increases of up to $200 million, and remained within its leverage and interest-coverage requirements.
Total assets were $3.73 billion and shareholders’ equity was $1.55 billion at June 30, 2017. Capital expenditures were $53.3 million for the first six months, while acquisitions used $113.7 million, primarily for Axtone.
Material changes versus the prior comparable period
- Operating income increased 16.6% in Q2 and 12.7% year to date, helped by restructuring benefits, productivity savings, and lower restructuring charges.
- The effective tax rate declined to 18.1% in Q2 from 35.0% and to 17.4% year to date from 29.4%, primarily because of valuation allowance changes, share-based compensation tax benefits, a Korea deferred-tax-rate change, and a favorable earnings mix.
- Gross margin declined modestly because of unfavorable pricing and mix, higher commodity costs, and impacts from certain military-specification connectors.
- General and administrative expense declined 11.8% in Q2 and 8.0% year to date. Restructuring costs fell to $1.7 million in Q2 and $4.3 million year to date, compared with $14.3 million and $19.8 million, respectively, in 2016.
- Industrial Process revenue remained under pressure from weak oil and gas project activity and weaker general industrial markets, although restructuring and productivity actions significantly improved its operating margin.
- Motion Technologies benefited from automotive brake-pad share gains, sealing solutions, Axtone, and transportation demand. Its margin declined 80 basis points year to date because of pricing, commodity, labor, and investment costs.
- Connect & Control Technologies was affected by restrictions on certain military-specification connectors, a $5.0 million legal accrual, and pricing and mix pressures.
- Operating cash flow improved by $21.1 million year over year, but cash declined by $105.4 million because investing outflows included the Axtone acquisition and higher capital expenditures.
Guidance, outlook, risks, contingencies, and unusual items
Management did not provide formal full-year revenue or earnings guidance in the supplied filing. It expects to continue optimizing execution, leverage prior restructuring and productivity actions, and undertake approximately $20 million of additional restructuring and realignment actions during the remainder of 2017.
- On July 11, 2017, the Defense Logistics Agency removed six military-specification connector products from the Qualified Products List. Estimated annual sales for these products were $8 million to $10 million; the timing of any restoration and additional financial effects were uncertain.
- ITT recorded a $5.0 million accrual for a Department of Justice investigation involving certain connector products. Management stated that any actual loss could exceed the accrued amount but could not estimate a range.
- Asbestos-related liabilities were $942.6 million, offset by estimated insurance recoveries of $369.8 million, for a net exposure of $572.8 million. Approximately 27,000 asbestos claims were pending at June 30, 2017. The company cannot reasonably estimate exposure beyond the next ten years.
- Net asbestos-related cash outflows are projected at $15 million to $25 million annually over the next five years and approximately $30 million to $40 million annually over the remainder of the projection period, subject to substantial uncertainty.
- Environmental liabilities were $73.1 million, with 35 active investigation or remediation sites and a potential high-end liability estimate of $122.8 million. An environmental qualified settlement fund amendment generated $3.8 million of income in Q2.
- A proposed sale of fully depreciated excess property is expected to generate approximately $41 million of cash and a gain of approximately $38 million to $40 million when remaining closing conditions are satisfied, anticipated in the first half of 2018.
- The company acquired Axtone Railway Components for $113.7 million net of cash acquired. The preliminary allocation included $88.4 million of goodwill, and the purchase accounting remained subject to finalization.
- Management expects to adopt new revenue-recognition guidance in the first quarter of 2018 and does not currently expect a material consolidated impact, although timing for certain design-and-build contracts may change.
- Forward-looking results remain exposed to oil and gas market weakness, commodity costs, pricing pressure, foreign exchange, aerospace and defense demand, regulatory and legal matters, asbestos claims, environmental remediation, and acquisition integration.
Most important facts for investors to verify
- Whether the military-connector QPL removal causes additional revenue, margin, backlog, or remediation effects beyond the disclosed $8 million to $10 million annual sales exposure.
- The sustainability of earnings improvement after excluding lower restructuring costs, tax benefits, the environmental settlement income, and other unusual items.
- Industrial Process order trends and the durability of restructuring savings amid continued oil and gas and project-market weakness.
- Motion Technologies’ ability to offset commodity, pricing, labor, and capacity-investment pressures while integrating Axtone.
- Future asbestos claims, insurance recoveries, cash payments, and the potential for exposure beyond the recorded ten-year estimate.
- Environmental remediation developments and the potential liability relative to the $73.1 million recorded obligation and $122.8 million high-end estimate.
- Cash conversion after the Axtone acquisition, capital expenditures, dividends, share repurchases, and asbestos payments.
- Final purchase accounting for Axtone and the timing and amount of any gain from the proposed excess-property sale.