The Timken Company (NYSE: TKR) — FY 2011 Form 10-K
Reporting period: Fiscal year ended December 31, 2011. The filing also reports fourth-quarter results. Timken manufactures bearings, mechanical power transmission products, specialty steel and related components and services, across Mobile Industries, Process Industries, Aerospace and Defense, and Steel.
Financial performance and liquidity
| Metric | FY 2011 | FY 2010 |
|---|---|---|
| Net sales | $5,170.2 million | $4,055.5 million |
| Gross profit / margin | $1,369.7 million / 26.5% | $1,021.7 million / 25.2% |
| Operating income | $729.1 million | $436.2 million |
| Net income attributable to Timken | $454.3 million | $274.8 million |
| Diluted EPS | $4.59 | $2.81 |
| Cash from operating activities | $211.7 million | $312.7 million |
| Capital expenditures | $205.3 million | $115.8 million |
| Cash and cash equivalents at year-end | $464.8 million | $877.1 million |
| Total debt at year-end | $515.1 million | $513.7 million |
Net debt was $46.7 million, versus net cash of $363.4 million a year earlier. The company had no borrowings under its $500 million senior credit facility and $482.8 million of availability after letters of credit; its $150 million receivables facility was also undrawn. It reported compliance with debt covenants. Pension plan assets of approximately $2.6 billion were below obligations of approximately $3.1 billion.
Fourth-quarter 2011 sales were $1,264.7 million and net income attributable to Timken was $109.1 million; diluted EPS was $1.11. Fourth-quarter 2010 sales were $1,070.7 million, net income attributable to Timken was $90.3 million and diluted EPS was $0.91.
Material changes and management commentary
- FY 2011 sales rose 27.5% and diluted EPS rose 63.3%. Management attributed sales growth to higher volumes, surcharges, pricing and mix, acquisitions, and foreign exchange. Higher raw-material and logistics costs partly offset gross-profit gains.
- Steel sales increased 46.1%; Process Industries increased 37.8%; Mobile Industries increased 13.4%. Aerospace and Defense sales declined 4.2%, and segment EBIT fell 54.5%, reflecting weaker volume, a product warranty charge and an inventory write-down.
- Operating cash flow declined despite higher earnings, primarily because pension and postretirement contributions and working-capital use increased. Cash declined by $412.3 million during the year, with acquisitions, capital spending, dividends and share repurchases among the cash uses.
- Timken acquired Philadelphia Gear for approximately $199 million and Drives for approximately $93 million in 2011. Together, the acquisitions contributed approximately $120 million to the year’s sales increase; their purchase-price allocations remained subject to adjustment.
- Gross profit benefited from volume, surcharges, pricing and mix; the company reported approximately $335 million of higher raw-material and logistics costs. Steel LIFO expense was $15.2 million, versus $2.8 million in 2010.
Outlook, risks and unusual items
For 2012, management forecast sales growth of approximately 5%–8%, operating cash flow of approximately $515 million, capital expenditures of approximately $345 million, and pension and postretirement contributions of approximately $265 million. It expected growth in Process Industries, Aerospace and Defense, and Steel, while Mobile Industries sales were expected to be relatively flat and segment EBIT to decline. The forecast assumed higher raw-material costs, lower manufacturing utilization in some areas and continued pricing benefits.
- Pension and postretirement plans are significant exposures: 2011 cash contributions and payments totaled $456 million, including $291 million to defined-benefit pension plans and $125 million to a VEBA trust. Lower discount rates and below-assumption investment returns increased pension obligations; management expected higher pension expense in 2012.
- Environmental risks include remediation at the former Sao Paulo facility. The estimated liability for that site ranged from $10.5 million to $16.1 million; the company recorded a $16.3 million total environmental accrual at year-end. Management did not expect pending legal or environmental matters to materially affect consolidated results, but future requirements or findings could increase costs.
- Other principal risks include cyclicality and weakness in customer end markets, intense bearing and steel price competition, volatile raw-material and energy costs, surcharge recovery timing, foreign-exchange movements, production disruptions, product warranty or liability claims, and acquisition integration.
- The company recorded $14.4 million of impairment and restructuring charges in 2011, mainly exit costs associated with the former Sao Paulo facility. It also recorded an approximately $5 million Aerospace and Defense warranty charge and a $3.2 million inventory write-down tied to exiting certain aftermarket product lines.
- Approximately $247 million of cash was held outside the United States; repatriation could face restrictions and taxes. The company also disclosed $87.2 million of gross unrecognized tax benefits, with an expected $42 million–$43 million decrease over the next 12 months, primarily from settlements.
Most important facts for investors to verify
- Whether 2012 sales, margins and cash generation meet management’s guidance, especially given segment-specific differences and the assumed pricing and volume trends.
- Whether working capital and pension/postretirement funding requirements allow operating cash flow to improve as forecast, while capital expenditures rise.
- How much of 2011’s growth and profitability improvement came from underlying volume and pricing versus surcharges, acquisitions and foreign exchange.
- Integration progress and realized returns from Philadelphia Gear and Drives, including final purchase accounting and acquired-business performance.
- Developments in pension assumptions and funded status, Sao Paulo remediation costs, tax-audit settlements, and the company’s ability to pass through raw-material cost increases.
The filing reports unqualified audit opinions on the financial statements and internal control over financial reporting. The internal-control assessment excluded the two 2011 acquisitions, which management said would be included in the 2012 assessment.