Watts Water Technologies, Inc. — Q1 2015 Form 10-Q
Business and period. The company supplies water quality, safety, flow-control and conservation products, along with heating and related products, through its Americas, EMEA and Asia-Pacific segments. This unaudited filing covers the 13-week first quarter ended March 29, 2015; comparisons are with the quarter ended March 30, 2014. Amounts below are in millions except per-share data.
Financial performance and liquidity
| Metric | Q1 2015 | Q1 2014 |
|---|---|---|
| Net sales | $356.2 | $365.2 |
| Gross profit / gross margin | $130.5 / 36.6% | $133.3 / 36.5% |
| Operating income | $22.8 | $25.8 |
| Net income | $11.6 | $14.1 |
| Diluted EPS | $0.33 | $0.40 |
| Cash from operating activities | $0.8 | $(18.7) |
| Capital expenditures | $5.6 | $5.0 |
| Free cash flow (company-defined) | $(4.8) | $(23.6) |
- SG&A was $105.7, or 29.7% of sales, versus $103.3, or 28.3%. Restructuring and other charges were $2.0 versus $4.2. Interest expense rose to $5.9 from $4.9, primarily due to borrowings used to acquire AERCO.
- At March 29, cash was $261.8, total debt including current maturities was $578.9, and company-defined net debt was $317.1. Net debt to capitalization was 27.2%, up from 23.4% at year-end 2014.
- Current assets were $838.6 and current liabilities $328.6; the current ratio was 2.6 to 1. Working capital was $510.0, compared with $528.6 at December 31, 2014. Cash declined from $301.1, partly due to foreign exchange, repurchases, dividends and capital spending.
- The $500 million revolving credit facility had $275 million drawn, $200.1 million of unused available credit and $24.9 million of standby letters of credit. The company reported compliance with its debt covenants.
Material changes and operating drivers
- Sales declined $9.0, or 2.5%. Unfavorable foreign exchange reduced sales by $24.2 and organic sales declined $7.0; acquired AERCO sales contributed $22.2. Currency effects primarily reflected depreciation of the euro and Canadian dollar.
- Americas sales rose to $237.4 from $219.1, including AERCO; EMEA sales fell to $109.0 from $139.1; Asia-Pacific sales increased to $9.8 from $7.0. Management attributed EMEA organic weakness to difficult markets, including France and Germany. Americas organic sales were affected by DIY product exits and severe winter weather; Asia-Pacific growth reflected expanded sales in China and Australia.
- Operating income fell $3.0, or 11.6%. EMEA operating income decreased to $5.4 from $8.9, primarily on lower volume and foreign exchange. Americas operating income increased to $24.2 from $22.6, with AERCO, product mix, pricing and material savings among the factors cited. Corporate costs increased.
- Foreign currency translation produced a $65.1 other comprehensive loss for the quarter, compared with a $4.3 loss in Q1 2014. Total comprehensive loss was $53.3.
Outlook, risks and unusual items
- Americas and Asia-Pacific product rationalization: The company expects to eliminate $175–$200 of combined sales, primarily in the DIY channel, as it exits low-margin, non-core product lines. The initial estimated pre-tax charge was $40–$50; after interest from prospective buyers, the company revised the low end to $27, including $17 of non-cash charges. Estimated total after-tax charges are $22–$40; remaining costs were expected in 2015. The final disposition and cost remain uncertain.
- EMEA transformation: Management expects approximately $11.2 of savings in 2015 and annual savings of $19.1 by 2018. It anticipated $4.8 of non-recurring external deployment costs in 2015; the broader project is expected to continue through 2018.
- Spending and pension: The company expected $25–$30 of capital spending for the remainder of 2015 and total 2015 capital equipment purchases of approximately $30–$35. It expected $40–$45 of pension-plan contributions and settlement cash outflow for the remainder of 2015, subject to plan assets, rates, timing and participant elections. Pension distributions were expected to be completed by year-end 2015.
- AERCO: Acquired in December 2014 for approximately $272.2, financed with credit-facility borrowings. Q1 2015 included AERCO revenue of $22.2 and operating income of $1.2, including $0.9 of purchase-accounting charges; the final working-capital adjustment remained pending.
- Legal and product exposure: The company estimated approximately $6.4 of aggregate reasonably possible legal losses above accrued amounts. It could not estimate a loss range for putative connector class actions, including claims involving water-heater and Floodsafe connectors. It also faced approximately 250 asbestos-related lawsuits; the filing reported no judgments against the company and no evidence of substantial exposure to its products to date. Management said outcomes could affect a particular period, though it did not expect the matters to materially harm financial condition overall.
- Other risks: Results are exposed to foreign-exchange movements, raw-material costs, construction and remodeling demand, competition, product liability, regulatory compliance and execution of restructuring and acquisitions. Approximately $236.5 of cash was held by foreign subsidiaries; repatriation could incur tax, and management said it had no current plan to repatriate undistributed foreign earnings.
- The board declared a quarterly dividend of $0.17 per share on April 28, 2015, payable May 29, up from $0.15 per share paid in Q1. The company repurchased approximately 164,000 shares for $9.4 during Q1, with approximately $18 million remaining authorized at March 29.
Investor facts to verify
- Whether organic sales and margins stabilize, particularly in EMEA, and how currency movements affect reported results.
- The final sale or wind-down decision, sales impact, and total cost of the Americas and Asia-Pacific rationalization program.
- Whether the expected EMEA savings, 2015 capital expenditure plans and pension settlement cash needs are realized.
- Available borrowing capacity, covenant compliance, cash held overseas and the company’s ability to fund U.S. cash requirements without repatriation.
- Developments in connector litigation, other legal contingencies and any changes to related accruals or reasonably possible losses.