SMITH A O CORP annual report, FY2023

A. O. Smith Corporation — 2023 Form 10-K Summary

Reporting period: Fiscal year ended December 31, 2023. This is an annual filing, not a standalone fourth-quarter report. A. O. Smith manufactures water heaters, boilers and water-treatment products through its North America and Rest of World segments.

Financial performance

Metric20232022
Net sales$3,852.8 million$3,753.9 million
Gross profit / margin$1,484.8 million / 38.5%$1,329.6 million / 35.4%
Net earnings$556.6 million$235.7 million
Diluted EPS$3.69$1.51
Adjusted diluted EPS (non-GAAP)$3.81$3.14
Cash from operations$670.3 million$391.4 million
Free cash flow (non-GAAP)$597.7 million$321.1 million
  • Sales rose 2.6%, primarily from higher residential and commercial water-heater volumes; unfavorable currency translation reduced sales by approximately $56 million.
  • Gross margin improved mainly because of lower material costs. SG&A increased by $56.5 million, largely due to employee compensation and higher incentive expenses.
  • North America sales grew to $2,922.9 million; segment margin increased to 24.9% from 9.4%. Rest of World sales declined to $956.9 million, while segment margin fell to 8.7% from 10.0%.
  • Cash and marketable securities totaled $363.4 million at year-end, versus $481.8 million a year earlier. Working capital was $555.0 million, down from $699.5 million.
  • Total debt was approximately $127.3 million, down $217.2 million year over year; debt-to-capitalization was 6.5%, versus 16.5%. The $500 million revolving credit facility had no outstanding borrowings and was fully available; the company reported covenant compliance.
  • Capital expenditures were $72.6 million. The company repurchased 4.377 million shares for $306.5 million and paid dividends of $1.22 per share.

Material changes and unusual items

  • 2022 GAAP earnings included a $417.3 million pretax pension settlement expense related to termination of the defined-benefit plan. This makes the sharp increase in 2023 GAAP earnings less representative of underlying operating growth; adjusted EPS rose from $3.14 to $3.81.
  • 2023 included $18.8 million of restructuring and impairment expenses, including charges associated with the sale of the Turkey business and an exit from a Far East business.
  • In 2022, results included an $11.5 million patent judgment income and $4.3 million of expenses related to a terminated acquisition.
  • The company acquired a North American water-treatment business in 2023 for $16.8 million, net of cash acquired.

Outlook, risks and contingencies

  • For 2024, management expects sales growth of 3%–5% and diluted EPS of $3.90–$4.15. It forecasts operating cash flow of $640–$690 million, free cash flow of $525–$575 million, and capital expenditures of $105–$115 million. Guidance excludes potential acquisitions.
  • Management expects North America residential water-heater industry volumes to be approximately flat in 2024; commercial water-heater volumes to grow low single digits; boiler sales to increase 8%–10%; and North America water-treatment sales to increase 10%–12%. China sales are projected to grow 3%–5% in local currency.
  • Key exposures include economic and construction-market softness, steel and other input-cost volatility, competition, foreign-exchange movements, China market conditions, customer concentration, cybersecurity, product liability and evolving energy-efficiency and decarbonization regulation. Five largest customers accounted for approximately 42% of 2023 sales; China accounted for approximately 22%.
  • Product-warranty liability was $188.1 million at year-end. The auditor identified valuation of this liability as a critical audit matter. The company reported ordinary-course legal and environmental matters and believes reserves and insurance are adequate; it does not expect them to materially affect results.
  • The company reported effective disclosure controls and internal control over financial reporting; the auditor issued unqualified opinions on the financial statements and internal controls.

Important facts for investors to verify

  • Whether 2024 sales and EPS guidance is achieved, including the assumed recovery in boilers and water treatment after channel-inventory adjustments.
  • How much of the 2023 margin and earnings improvement reflects sustainable operating factors, particularly lower material costs, rather than comparison effects from the 2022 pension settlement.
  • Exposure to China, currency translation and the concentration of sales among a small group of customers.
  • Whether warranty claims, product-liability exposure, and regulatory changes require higher costs or capital investment.
  • Planned 2024 share repurchases of approximately $300 million and their effect on cash, liquidity and per-share results.