Allison Transmission Holdings, Inc. — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015; comparisons are with the corresponding 2014 periods. Allison designs and manufactures commercial and defense fully automatic transmissions, serving markets worldwide. Amounts are in U.S. dollars; financial figures are in millions unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net sales | $511.0 | $536.1 | $1,014.6 | $1,029.7 |
| Gross profit / margin | $236.3 / 46.2% | $238.5 / 44.5% | $475.5 / 46.9% | $461.0 / 44.8% |
| Operating income / margin | $137.5 / 26.9% | $132.2 / 24.7% | $279.8 / 27.6% | $247.0 / 24.0% |
| Net income / margin | $54.4 / 10.6% | $57.2 / 10.7% | $122.8 / 12.1% | $109.3 / 10.6% |
| Diluted EPS | $0.30 | $0.31 | $0.68 | $0.59 |
| Adjusted EBITDA / margin | $185.5 / 36.3% | $186.1 / 34.7% | $375.6 / 37.0% | $351.9 / 34.2% |
Q2 sales decreased 5% year over year, while operating income rose 4%; net income fell 5%, reflecting a $25.1 million charge for the tender offer and redemption of debt. For the first half, sales declined 1%, but operating income increased 13% and net income increased 12%. Adjusted EBITDA and other adjusted measures are non-GAAP measures; the company cautions that they are not substitutes for GAAP results.
- Cash flow: First-half operating cash flow was $233.7, versus $242.0 in 2014. Investing activities used $14.7, and financing activities used $272.4. Adjusted free cash flow was $226.8 versus $230.4. Cash and cash equivalents were $216.8 at June 30, down from $263.0 at year-end 2014.
- Debt and liquidity: Debt totaled $2,414.6 at June 30; cash less debt implies net debt of approximately $2,197.8. The company had $455.8 available under its revolving facility, net of letters of credit, and reported a 2.88x total leverage ratio and compliance with its credit covenants. Current assets were $725.5 and current liabilities $321.8.
- Capital allocation: First-half debt principal payments were $104.6. The company repurchased $124.1 of shares and paid $53.9 in dividends in the first half. Dividends declared were $0.15 per share in Q2, versus $0.12 a year earlier.
Material changes and operating drivers
- Q2 North America On-Highway sales increased 14% to $277, driven by demand for Rugged Duty and Highway Series models. Outside North America On-Highway sales rose 18% to $73.
- Declines in Q2 included North America Off-Highway (57%), Outside North America Off-Highway (67%), Defense (41%), North America hybrid-propulsion transit bus systems (29%), and Service Parts, Support Equipment and Other (12%). Management cited weaker energy and mining demand, defense spending, lower service-parts demand, and non-hybrid alternatives.
- Gross margin improved as price increases, favorable material costs and lower incentive compensation more than offset lower volume. SG&A declined 11%, including favorable warranty adjustments; R&D was up 9% in Q2 due to product initiatives.
- In April and May, the company issued $470.0 of additional Term B-3 loans and used proceeds and cash to repurchase and redeem all remaining 7.125% Senior Notes. It recognized $25.1 in related premiums and expenses. Long-term debt fell from $2,520.5 at year-end to $2,414.6 at June 30.
- First-half results included a $1.3 impairment charge associated with H3000 and H4000 hybrid-propulsion production assets. Goodwill remained $1,941.0; no goodwill impairment was reported.
Outlook, risks and contingencies
Management expected full-year 2015 net sales to decline year over year and Q3 sales to be below Q3 2014, without providing quantified guidance. It expected North America On-Highway recovery to be more than offset by uncertainty and weak demand in Off-Highway and Service Parts, Support Equipment and Other markets, lower defense spending, continued weakness in Outside North America On-Highway, and lower North America hybrid-transit demand.
- Key disclosed risks include substantial indebtedness and variable-rate exposure, competitive and economic conditions, customer concentration, international operations and currency movements, product defects and warranty costs, and disruption from labor disputes.
- The company used interest-rate, foreign-currency and commodity derivatives as economic hedges, not for speculation. Interest-rate derivative liabilities were $21.6. Aluminum hedges covered approximately 29% of forecast 2015 and 16% of forecast 2016 requirements.
- Ordinary-course legal claims include commercial, product liability, personal injury and workers’ compensation matters. Management said any exposure beyond recorded provisions or insurance was not expected to materially affect financial position, results or cash flows. No material changes to previously disclosed risk factors were reported.
- Management stated that cash, operating cash generation and available borrowing capacity were expected to meet cash requirements for the next 12 months. Cash held by foreign subsidiaries was $40.0; repatriating certain foreign earnings could trigger U.S. taxes.
- Management assessed disclosure controls as effective; no material change in internal control over financial reporting was reported.
Most important facts for investors to verify
- Whether the forecast decline in full-year and Q3 sales materialized, especially given continued weakness in Off-Highway, defense and service-parts markets.
- Whether stronger gross and operating margins can persist despite lower sales, and how much recent improvement reflects pricing, material costs and warranty adjustments.
- Debt, refinancing and interest-rate exposure, including the impact of the 2015 note redemption, variable-rate loans and interest-rate swaps.
- Cash conversion and capital allocation: first-half operating cash flow, ongoing share repurchases and dividends, and liquidity available after debt service.
- Potential further impairment or warranty costs associated with hybrid-propulsion products, and any material developments in litigation or other contingencies.