Business Context and Reporting Period
This unaudited Form 10-Q is for Regal Beloit Corporation, not Regal Rexnord Corporation, for the three and nine months ended October 1, 2016, compared with October 3, 2015. The company manufactures electric motors, controls, power generation products, climate solutions, and power transmission products through Commercial and Industrial Systems, Climate Solutions, and Power Transmission Solutions.
Key Financial Metrics
| Metric | Q3 2016 | Q3 2015 | 9M 2016 | 9M 2015 |
|---|---|---|---|---|
| Net sales | $809.6 million | $882.3 million | $2,466.4 million | $2,736.2 million |
| Gross profit | $231.7 million | $241.1 million | $672.0 million | $713.4 million |
| Gross margin | 28.6% | 27.3% | 27.2% | 26.1% |
| Income from operations | $89.8 million | $100.1 million | $250.5 million | $266.9 million |
| Operating margin | 11.1% | 11.4% | 10.2% | 9.8% |
| Net income attributable to Regal | $59.6 million | $63.4 million | $157.8 million | $162.6 million |
| Diluted EPS | $1.32 | $1.41 | $3.51 | $3.61 |
| Operating cash flow | Not separately provided | Not separately provided | $328.4 million | $267.2 million |
Cash and equivalents were $281.6 million at October 1, 2016, versus $252.9 million at January 2, 2016. Working capital was $898.0 million, with a 2.3:1 current ratio. Total debt was approximately $1.51 billion, including $100.8 million of current maturities, compared with $1.72 billion at January 2, 2016. Revolver borrowings were $13.0 million, with $454.7 million of available capacity and $32.3 million of standby letters of credit.
Nine-month capital expenditures were $46.1 million, dividends paid were $31.3 million, and no shares were repurchased under the authorized program. The quarterly dividend declared was $0.24 per share, compared with $0.23 in the prior-year quarter.
Material Changes Versus the Prior Comparable Period
- Third-quarter sales declined 8.2%; management attributed the decrease to a 7.1% organic decline, a 0.6% unfavorable currency impact, and a 0.5% impact from the Mastergear divestiture.
- Nine-month sales declined 9.9%, consisting of a 10.0% organic decline and a 1.0% unfavorable currency impact, partially offset by 1.0% acquisition-related sales.
- Weak demand affected North American and Chinese industrial markets, oil and gas, power generation, industrial distribution, metals, agriculture, Middle East HVAC, and commercial refrigeration.
- Gross margins improved despite lower volume, reflecting Simplification initiatives and cost controls. Prior-year results included $20.6 million of PTS purchase-accounting inventory step-up costs and $4.9 million of GSP duty refunds that did not recur in 2016.
- Income from operations and diluted EPS declined in the third quarter and nine-month period, although the nine-month operating margin improved to 10.2% from 9.8%.
- Operating cash flow increased $61.2 million, primarily from lower working-capital investment and planned inventory reductions.
- Debt declined by approximately $211.4 million from year-end, including $214.9 million of net term-loan repayments. Proceeds from the Mastergear sale were used to reduce debt.
- The company completed the purchase of the remaining Elco joint-venture interest for $19.6 million and sold Mastergear for $25.5 million, recording an $11.6 million gain. It also sold its Venezuelan subsidiary’s assets for $3.0 million, with $2.0 million payable in installments.
Outlook, Commentary, Risks, and Unusual Items
Management expected weak global demand from industrial end markets to continue through the remainder of 2016, negatively affecting sales volume and operating income. Simplification initiatives and cost controls were expected to provide partial mitigation. No specific quantitative earnings or sales guidance was provided.
The company performed an interim goodwill impairment test for the Power Transmission Solutions reporting unit because of continued declines in oil and gas, distribution, and agricultural markets. No impairment was recorded, but the reporting unit’s estimated fair value exceeded carrying value by only 2.5%, leaving material sensitivity to changes in forecasts, discount rates, market multiples, and end-market conditions.
Restructuring and restructuring-related costs were $4.2 million for the nine months. Current restructuring activities were expected to conclude by the end of the first quarter of fiscal 2017, with approximately $4.9 million of additional charges expected. The company also carried significant hedging exposures, including $39.2 million of net hedging-related accumulated other comprehensive losses, of which $21.2 million was expected to be realized within twelve months.
Key risks include further industrial and oil-and-gas weakness, foreign exchange and commodity-price volatility, floating-rate debt, customer and supplier concentration, integration and acquisition liabilities, restructuring execution, product warranty and liability claims, litigation, goodwill impairment, and the company’s ability to service debt. Management stated that the company was in compliance with all debt covenants and believed operating cash flow plus revolver availability would fund operations for the foreseeable future.
The filing states that claims relating to sub-fractional motors acquired in 2007 and ordinary-course litigation were not expected to have a material effect, although actual outcomes could differ. Disclosure controls were deemed effective, and no material changes to internal control over financial reporting were reported.
Investor Verification Points
- Confirm the issuer identity: the filing is for Regal Beloit Corporation, while the request metadata identifies Regal Rexnord Corp.
- Evaluate the sustainability of improved gross margins amid continuing organic sales declines and weak industrial end markets.
- Monitor the Power Transmission Solutions goodwill cushion, reported at only 2.5% above carrying value.
- Verify debt maturities, floating-rate exposure, covenant compliance, and the company’s planned debt-reduction pace.
- Assess the timing and total cost of the remaining restructuring program, including the estimated $4.9 million of future charges.
- Review the impact of currency, commodity, and interest-rate hedges, including deferred losses expected to enter earnings.
- Reconcile reported year-over-year results for the effects of the PTS acquisition, Mastergear divestiture, prior-year purchase accounting, and nonrecurring duty refunds.