MSA Safety Incorporated — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; comparisons are with Q1 2016 unless otherwise noted. MSA develops and supplies safety products globally. Results are unaudited.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change / context |
|---|---|---|---|
| Net sales | $265.8 million | $279.3 million | Down 4.8% reported; down 4.1% at constant currency |
| Gross profit / margin | $119.7 million / 45.0% | $120.7 million / 43.2% | Profit down 0.8%; margin improved 1.8 percentage points |
| Operating income | $19.4 million | $28.7 million | Down 32%, mainly due to restructuring charges |
| Adjusted operating income | $32.7 million | $31.1 million | Non-GAAP measure excluding restructuring and currency exchange gains/losses |
| Net income attributable to MSA | $14.4 million | $11.8 million | Up 23%; Q1 2017 benefited from a substantially lower effective tax rate |
| Diluted EPS | $0.37 | $0.31 | Continuing-operations diluted EPS was $0.37 versus $0.34 |
| Operating cash flow | $96.4 million | $(11.0) million | Improvement driven substantially by insurance collections and working-capital changes |
| Capital expenditures | $1.4 million | $5.8 million | Investing activities used $1.3 million, versus providing $9.9 million |
| Cash and cash equivalents | $104.4 million | $113.8 million at Dec. 31, 2016 | Down $9.3 million during the quarter |
| Debt | Approximately $295 million | Approximately $391 million at Dec. 31, 2016 | Net repayments reduced debt by about $96.6 million |
The effective tax rate was 10.9%, compared with 48.7% in Q1 2016. Q1 2017 included an approximately $2.8 million discrete tax benefit from adopting share-based payment accounting rules; Q1 2016 included European reorganization exit taxes. The company cautioned that the new tax treatment may make its effective tax rate more volatile.
Segments and material changes
- Americas: Sales were $166.6 million, down 0.5% reported and 0.9% at constant currency. Adjusted operating income rose 22% to $38.1 million, supported by stronger core-product margins and lower SG&A.
- International: Sales were $99.2 million, down 11.4% reported and 8.9% at constant currency. Adjusted operating income fell 21% to $6.6 million, primarily on lower volumes, including military helmets, fall protection, and breathing apparatus.
- Consolidated gross margin improved through value engineering, particularly for G1 SCBA, and a more favorable product mix. SG&A fell 4%, while R&D rose 6% to $11.0 million.
- Core products represented approximately 84% of sales, versus 83% a year earlier. Military gas mask and ballistic helmet sales were $10.4 million, versus $13.5 million.
Liquidity, debt, and cash flow
Operating cash flow included approximately $85.0 million of insurance collections net of product-liability settlements, compared with $19.7 million of net settlement payments in Q1 2016. MSA received approximately $80.9 million from North River during the quarter. The filing says proceeds were used in part for net debt repayments and dividends; financing activities used $106.0 million, including $12.5 million of dividends.
At March 31, cash was $104.4 million, including $101.4 million held by foreign subsidiaries whose earnings were considered indefinitely reinvested. The company reported $473.6 million of unused capacity under its $575 million revolving facility, including letters of credit, and stated total access to approximately $573.6 million of capital. It was in compliance with debt covenants. Approximately 68% of long-term debt carried fixed rates; the revolving facility was variable-rate.
Outlook, risks, and unusual items
- Management expected 2017 R&D expense to be 4.0%–4.5% of sales and cited continued development of new products, including the iTIC thermal imaging camera launched in February. The filing provides no broader revenue or earnings guidance.
- Q1 included $12.7 million of restructuring charges, principally an $11.4 million non-cash special termination benefit for 83 employees who accepted a voluntary retirement incentive. Benefits were paid from an overfunded North American pension plan.
- MSA reported 1,572 cumulative-trauma lawsuits comprising 2,797 claims. The $9.2 million recorded reserve excludes certain coal-dust claims and incurred-but-not-reported claims; management said the exposure could not be comprehensively estimated and future reserve adjustments could be material.
- MSA LLC was appealing the $7.2 million James Couch verdict. Management considered reversal reasonably possible and had not accrued the verdict; an unsuccessful or partial appeal could result in a loss, including $4.0 million of punitive damages not covered by insurance, plus potential interest.
- Insurance recovery remains a key uncertainty. Insurance receivables were $58.5 million at quarter-end, down from $159.9 million at year-end, while insurance-company notes receivable totaled $83.1 million. Recovery depends on insurer payment capacity, negotiations, and ongoing coverage litigation. April 2017 settlements with Travelers and Wausau are subsequent events, with payments expected in 2018.
- Management expected MSA LLC to become largely self-insured for cumulative-trauma claim costs at some point within the next 18 months. The timing and future insurance reimbursement were uncertain; self-insurance may increase earnings variability.
- Foreign currency exposure includes $83.8 million in forward contracts. Management estimated that a hypothetical 10% dollar strengthening or weakening would change reported quarterly sales and net income by approximately $12.0 million and $1.6 million, respectively.
Key facts investors should verify
- Whether the higher gross margin and Americas adjusted operating income can persist as sales remain weaker, particularly in International markets.
- How much of the unusually strong operating cash flow reflects repeatable operations versus insurance collections, and the timing and collectibility of insurance receivables and notes.
- Developments in cumulative-trauma claims, the Couch appeal, coverage litigation, the $9.2 million reserve, and the expected transition to largely self-insured exposure.
- The sustainability of reported earnings and EPS given the unusually low 10.9% tax rate and the expected volatility from share-based tax benefits.
- Debt repayment, liquidity, and foreign cash availability, including the potential tax cost of repatriation.