Park-Ohio Holdings Corp. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. Unaudited consolidated results; dollar amounts in millions except per-share data. Park-Ohio operates Supply Technologies, Assembly Components and Engineered Products.
Financial performance
- Q2 revenue: $432.2, up 23.2% year over year; management cited 13% organic growth and $37.0 of sales from CDF and 2017 acquisitions. First-half revenue was $837.9, up 20.6%, including 11% organic growth and $68.0 from acquisitions.
- Profit and margins: Q2 gross profit was $73.1, with a 16.9% gross margin (17.0% prior year); operating income was $25.3, up 11.9%; net income attributable to common shareholders was $14.8 versus $3.0; diluted EPS was $1.18 versus $0.24. First-half common-shareholder income was $24.6 versus $12.8; diluted EPS was $1.96 versus $1.03. First-half gross margin remained 16.5%; operating income rose 9.7% to $47.4.
- Segment trends, Q2: Supply Technologies revenue rose 17% to $166.2, while operating margin eased to 8.1% from 8.3%. Assembly Components revenue rose 22% to $153.2, but margin fell to 7.6% from 9.9%, reflecting mix and start-up costs at facilities in China and Mexico. Engineered Products revenue rose 37% to $112.8 and margin improved to 8.4% from 6.7%, supported by organic growth and CDF.
- Cash flow: First-half operating cash flow was negative $1.3 versus positive $9.0, as higher working-capital needs outweighed improved earnings. Investing cash outflow was $55.1, including $22.3 of capital expenditures and $35.6 for CDF. Financing cash inflow was $64.6, largely revolving-credit borrowings. Cash increased $5.6 to $88.4. Operating cash flow less capital expenditures was negative $23.6.
- Liquidity and debt: June 30 cash was $88.4; current assets were $768.4 and current liabilities $300.9. Gross debt was $615.6, including $199.3 drawn on the revolving facility; long-term debt, net of current portion and issuance costs, was $591.9. The company reported $161.6 of unused revolver availability. Net debt, calculated as gross debt less cash, was approximately $527.2. The facility was expanded from $350 to $375, with an option for up to $100 of additional availability. The debt-service coverage ratio was 2.2, and the company reported compliance with covenants.
- Other metrics: Q2 interest expense was $8.8, up from $7.9. The Q2 effective tax rate was 26.8% versus 38.5%; the first-half rate was 30.9% versus 33.5%, including a $1.2 Tax Act-related adjustment. Cash held by foreign subsidiaries was $80.3.
Material changes and unusual items
- The February 2018 CDF acquisition cost $35.6; the company said CDF had approximately $60 in annual revenue. Its purchase-price allocation remained preliminary. Recent acquisitions contributed to revenue growth and increased borrowings.
- Q2 included a $1.9 pretax gain on a land sale, with $2.8 cash proceeds. The 2017 comparison included an $11.0 debt-extinguishment loss in Q2 and a $3.3 litigation-settlement gain in the first half; these items affect year-over-year earnings comparisons.
- Adoption of the new revenue standard on January 1, 2018 resulted in $13.6 of previously unrecognized revenue and a $2.6 increase to opening retained earnings. Over-time arrangements represented 16% of first-half sales.
- Currency translation reduced first-half other comprehensive income by $6.2. The company reported no material change in risk factors from its 2017 annual report.
Outlook, risks and contingencies
- No specific revenue or earnings guidance was provided. Management expected available resources and anticipated operating cash flow to cover requirements for at least the next 12 months, and expected to remain covenant-compliant through 2018. Management cautioned that lower sales could affect covenant compliance and that customer payment problems could reduce borrowing availability.
- Risks highlighted include substantial indebtedness, economic and end-market cyclicality, customer demand and credit quality, raw-material and energy costs, tariffs and other trade barriers, interest and currency movements, acquisition integration, and covenant compliance. A 100-basis-point increase in rates was estimated to add about $1.0 of interest expense on the floating-rate revolver over six months.
- The company disclosed approximately 92 asbestos cases involving 199 plaintiffs and said it did not expect their ultimate resolution to materially affect its financial condition, liquidity or results. It also described an SEC review and DOJ investigation concerning a third party and a 2007 payment to a foreign tax official that may implicate the Foreign Corrupt Practices Act; the outcome and impact were uncertain. Routine litigation and contractual or warranty disputes remain contingencies.
- The board declared a $0.125-per-share quarterly dividend payable August 27, 2018; future dividends remain at the board’s discretion. The company estimated the payment would require about $1.6 in cash.
Important facts for investors to verify
- Whether working-capital investment moderates and operating cash flow recovers as sales grow.
- Whether acquired businesses, particularly CDF, deliver expected growth and margins, and whether preliminary acquisition accounting changes materially.
- Whether Assembly Components’ margin pressure and new-facility start-up costs improve, and whether organic demand remains strong across end markets.
- Debt levels, revolver availability and covenant headroom, especially if sales weaken or interest rates rise.
- Developments in the SEC/DOJ matter and asbestos, litigation and warranty exposures, which the filing says cannot be predicted with certainty.
- Tax Act adjustments and the eventual accounting treatment and financial impact of new lease guidance, for which the company had not yet estimated an impact.