Helios Technologies, Inc. (then Sun Hydraulics Corporation) — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018; comparisons are with the periods ended July 1, 2017. The company announced on August 6, 2018 that it had adopted Helios Technologies as its business name. Figures below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Business context
Helios operates Hydraulics and Electronics segments. The quarter includes Faster S.p.A. from its April 5, 2018 acquisition; the comparative periods do not. Faster makes hydraulic quick-release couplings. Enovation Controls comprises the Electronics segment. Helios stated its Vision 2025 goal of reaching $1 billion in sales, including organic growth and acquisitions.
Financial results and liquidity
- Q2 revenue: $136.2 million, up 52.5%. Faster contributed $38.7 million; reported organic growth contributed $8.2 million. Gross profit was $50.4 million, up 30.6%, while gross margin declined to 37.0% from 43.2%.
- Q2 earnings: Operating income was $17.0 million, down 17.9%, with operating margin of 12.5% versus 23.2%. Net income was $6.8 million, down 6.8%; diluted EPS was $0.22 versus $0.27.
- First six months: Revenue was $233.5 million, up 36.8%; gross profit was $88.0 million, up 23.2%, and gross margin was 37.7% versus 41.8%. Operating income was $34.3 million, down 6.0%, while net income rose 6.9% to $18.7 million. Diluted EPS declined to $0.61 from $0.65.
- Segments: Q2 Hydraulics revenue was $103.6 million, including $38.7 million from Faster; operating income was $25.4 million. Electronics revenue was $32.5 million and operating income was $6.5 million. Segment results exclude corporate and acquisition-related costs.
- Cash flow: Six-month operating cash flow was $31.1 million, versus $21.7 million. Investing cash outflow was $540.3 million, primarily reflecting the $527.1 million net cash acquisition of Faster and $10.6 million in capital expenditures. Financing provided $474.5 million, including $240.6 million in stock proceeds and acquisition-related borrowings. Cash declined $33.9 million to $29.9 million.
- Debt and liquidity at June 30: Revolver borrowings were $256.8 million and term debt was $97.6 million net of issuance costs; cash was $29.9 million. The revolving facility had $143.3 million of additional availability, subject to covenant compliance. The company reported it was in compliance with debt covenants. The amended facility provides a $400 million revolver, a $100 million term loan and a further $200 million accordion feature.
- Balance sheet: Total assets were $992.4 million and total liabilities $489.0 million, versus $459.8 million and $187.1 million, respectively, at year-end 2017; the increase largely reflects Faster. Goodwill was $346.0 million and other intangibles $328.9 million. Accounts receivable was $74.3 million and inventory $77.3 million.
- Other measures: Q2 net interest expense was $4.2 million versus $1.0 million, reflecting increased acquisition debt. The six-month effective tax rate was 25.5% versus 32.8%. The company declared a quarterly dividend of $0.09 per share.
Material changes and unusual items
- Q2 sales growth included Faster and organic growth, but profitability and margins fell. Management attributed margin pressure to acquisition-related inventory step-up amortization, higher acquisition-related intangible amortization and transaction costs, as well as costs of meeting elevated demand.
- Six-month corporate and other costs included $4.3 million of Faster transaction costs, $3.1 million of inventory step-up charges and $10.0 million of acquisition-related intangible amortization. Faster recorded $38.7 million in sales and a $1.5 million pretax loss from acquisition through quarter-end; its loss included purchase-accounting and intangible amortization charges.
- Working capital increased: receivables rose $36.8 million and inventories $35.7 million from year-end. Management reported days sales outstanding of 50, versus 41 a year earlier, and inventory days of 85, versus 63; it cited Faster’s collection period and business model as key factors.
- Foreign-currency translation reduced six-month other comprehensive income by $24.7 million. Q2 foreign-currency transaction loss was $3.3 million. The company also reported $3.5 million in six-month forward-contract losses, including a $2.5 million loss on a contract associated with the Faster acquisition.
Outlook, risks and contingencies
- 2018 outlook: Revenue of $510–$525 million, including Hydraulics of $388–$398 million and Electronics of $122–$127 million. Adjusted operating margin, before acquisition-related amortization and one-time costs, is expected at 21.7%–23.0%. Net interest expense is expected at $13.5–$14.5 million; the effective tax rate at 24.5%–26.5%; capital expenditures at $25–$30 million. Management estimated depreciation of $16.5–$17.5 million and amortization of $22.5–$23.5 million.
- Management cited strong demand across regions but supply-chain constraints, overtime, added staffing, freight, material-cost inflation and customer incentives as pressures on margins and shipments. It noted that capital-goods markets are cyclical and results are exposed to economic conditions and foreign-exchange movements.
- Management said operating cash and available revolving credit should fund foreseeable operating expenses and capital expenditures. It noted that prolonged severe economic weakness could prompt postponement of capital spending, expense reductions or a dividend reduction or suspension.
- Supplier purchase commitments totaled $33.2 million, expected to be fulfilled during 2018–2020. Routine legal matters were not expected by management to materially affect results, financial position or cash flows.
- The company reported $4.8 million of unrecognized tax benefits and ongoing IRS examinations of U.S. federal returns for 2007–2012; outcomes and settlement timing are uncertain. Analysis of certain Tax Cuts and Jobs Act effects remained incomplete at quarter-end.
- Subsequent events: Helios paid $17.3 million in July on Enovation contingent consideration and acquired Custom Fluidpower on August 1 for approximately A$35.0 million (about $25.9 million), partly funded with credit-facility borrowings and partly with shares. The acquisition occurred after the reporting date.
Important facts for investors to verify
- How much reported growth and future guidance depend on Faster and Custom Fluidpower versus organic performance, and how comparable pro forma results are.
- Whether supply constraints, higher input and labor costs, and elevated working-capital needs improve or continue to pressure margins and cash conversion.
- Post-acquisition leverage, interest costs, covenant headroom and remaining revolver availability, including funding needs for subsequent acquisitions and contingent consideration.
- The final Faster purchase-price allocation and the realization of anticipated synergies; the filing notes the allocation was preliminary and could change materially.
- Resolution of IRS examinations and remaining tax-accounting judgments, as well as execution against the 2018 outlook.