Regal Beloit Corporation (now identified in metadata as Regal Rexnord) — Q2 2016 Form 10-Q Summary
Reporting period: Three and six months ended July 2, 2016, compared with July 4, 2015. The filing is unaudited and covers three reportable segments: Commercial and Industrial Systems, Climate Solutions, and Power Transmission Solutions.
Business Context and Reporting Period
The company manufactures electric motors, controls, power generation products, climate solutions, and power transmission products for industrial, commercial, HVAC, energy, agricultural, and other markets. Management reported weak global demand across many industrial end markets, including oil and gas, power generation, metals, agriculture, China industrial markets, Middle East HVAC, and North American residential HVAC.
Key Financial Metrics
| Metric | Q2 2016 | Q2 2015 | Six Months 2016 | Six Months 2015 |
|---|---|---|---|---|
| Net sales | $838.6 million | $942.2 million | $1,656.8 million | $1,853.9 million |
| Gross profit | $222.9 million | $251.4 million | $440.3 million | $472.3 million |
| Gross margin | 26.6% | 26.7% | 26.6% | 25.5% |
| Income from operations | $91.4 million | $103.2 million | $160.7 million | $166.8 million |
| Operating margin | 10.9% | 11.0% | 9.7% | 9.0% |
| Net income attributable to Regal Beloit | $56.6 million | $62.8 million | $98.2 million | $99.2 million |
| Diluted EPS | $1.26 | $1.39 | $2.19 | $2.20 |
- Q2 sales decreased 11.0%; six-month sales decreased 10.6%.
- Q2 diluted EPS declined 9.4%, while six-month diluted EPS declined 0.5%.
- The effective tax rate declined to 24.9% in Q2 and 24.1% for six months, from 26.0% in both prior-year periods.
- Cash dividends declared were $0.24 per share in Q2 and $0.47 per share for six months, versus $0.23 and $0.45, respectively, in the prior-year periods.
Cash Flow, Liquidity, Debt, and Balance Sheet
- Operating cash flow was $174.3 million for the first six months, up from $135.7 million in the prior-year period.
- Investing cash flow used $2.1 million, compared with $1,445.2 million used in the prior year, which included the $1,400.5 million net cash acquisition of PTS.
- Financing cash flow used $149.9 million, compared with $1,225.3 million provided in the prior year. The company made $125.2 million of long-term debt repayments and paid $20.5 million in shareholder dividends.
- Cash and cash equivalents were $271.5 million at July 2, 2016, including $268.4 million held by foreign subsidiaries.
- Working capital was $1,037.0 million and the current ratio was 2.7:1.
- Total debt, net of debt issuance costs, was approximately $1,614.1 million, including $993.1 million under the term facility, $600.0 million of senior notes, and $25.0 million under the revolving facility.
- The revolving facility had $442.8 million of available borrowing capacity, after $25.0 million of borrowings and $32.2 million of standby letters of credit.
- The company stated that it was in compliance with all debt covenants and believed operating cash flow and available borrowing capacity were sufficient to fund operations for the foreseeable future.
Material Changes Versus the Prior Comparable Period
- Organic sales declined 9.8% in Q2 and 11.3% for six months; foreign currency translation reduced sales by 1.0% and 1.1%, respectively.
- Commercial and Industrial Systems sales declined 10.5% in Q2 and 13.9% for six months, primarily due to oil and gas, power generation, China industrial, and broader industrial weakness.
- Climate Solutions sales declined 11.0% in Q2 and 12.7% for six months, reflecting weaker Middle East HVAC, North American residential HVAC, and water-heating demand.
- Power Transmission Solutions sales declined 11.9% in Q2 but were approximately flat for six months because acquisition-related sales offset organic declines.
- Power Transmission Solutions operating income improved to $30.2 million in Q2 and $53.2 million for six months, compared with $18.0 million and $14.9 million, respectively, in the prior-year periods. The comparison benefited from the absence of $7.1 million of Q2 and $20.6 million of six-month PTS inventory purchase-accounting charges recorded in 2015, as well as lower acquisition fees.
- The company sold Mastergear Worldwide on June 1, 2016, receiving $25.0 million and recording an approximately $11.6 million gain. Proceeds were used to reduce debt.
- The company purchased the remaining interest in Elco for $19.6 million, increasing ownership from 55% to 100%.
- Restructuring and restructuring-related costs were $3.1 million for the first six months. Approximately $6.1 million of additional charges were expected, with current restructuring activities expected to conclude by the end of the first quarter of fiscal 2017.
Guidance, Outlook, Risks, and Unusual Items
- Management expected weak global demand in the second half of 2016, with lower sales volume likely to reduce operating income. Benefits from the Simplification initiative and cost controls were expected to partially offset the pressure.
- Key risks include higher debt following the PTS acquisition, debt repayment and covenant requirements, cyclical industrial markets, prolonged oil and gas capital-spending declines, commodity and raw-material costs, foreign currency movements, customer and supplier concentration, acquisition integration, warranty and product-liability claims, litigation, intellectual-property matters, and potential goodwill or intangible-asset impairments.
- The company reported numerous claims involving motors manufactured through 2005 and incorporated into third-party ventilation units. Management did not believe these claims would have a material effect on the interim financial statements.
- At July 2, 2016, accumulated other comprehensive loss was $255.8 million. Net deferred derivative losses of $22.1 million were expected to be realized in earnings over the following twelve months.
- On July 7, 2016, after quarter-end, the company sold the assets of its Venezuelan subsidiary for $3.0 million, consisting of $1.0 million received at closing and $2.0 million payable in 24 monthly installments.
- The company was evaluating new accounting standards covering credit losses, revenue recognition, share-based compensation, and leases; the filing did not provide quantified adoption impacts.
Important Facts for Investors to Verify
- Whether weak industrial and HVAC demand persisted beyond the second quarter and how it affected second-half sales and operating leverage.
- The pace of term-loan repayment, future interest expense, debt maturities, and compliance with financial covenants.
- Whether Simplification savings and cost controls offset volume, currency, commodity, and absorption pressures.
- The sustainability of Power Transmission Solutions margin improvement after excluding 2015 purchase-accounting and acquisition-related charges.
- The timing and amount of the expected $6.1 million of future restructuring charges.
- Potential cash repatriation taxes and the accessibility of the $268.4 million of foreign-held cash.
- Exposure to foreign currency, commodity prices, variable interest rates, product liability, warranty claims, and pending litigation.