Lear Corporation: Form 10-Q Summary
Business Context and Reporting Period
Lear Corporation is a global Tier 1 automotive supplier of complete seating systems and electrical power management systems and related components. The company serves major automotive original equipment manufacturers worldwide through its Seating and Electrical Power Management Systems (EPMS) segments.
This unaudited quarterly report covers the thirteen-week quarter and nine months ended October 1, 2011, compared with the corresponding periods ended October 2, 2010. Lear emerged from Chapter 11 bankruptcy in November 2009 and applies fresh-start accounting.
Key Financial Metrics
| Metric | Q3 2011 | Q3 2010 | First 9 Months 2011 | First 9 Months 2010 |
|---|---|---|---|---|
| Net sales | $3,460.0 million | $2,820.3 million | $10,648.0 million | $8,798.1 million |
| Gross profit | $280.5 million | $235.8 million | $950.5 million | $783.4 million |
| Gross margin | 8.1% | 8.4% | 8.9% | 8.9% |
| Income before taxes | $139.1 million | $103.9 million | $547.2 million | $366.7 million |
| Net income attributable to Lear | $100.7 million | $95.3 million | $434.2 million | $321.2 million |
| Diluted earnings per share | $0.95 | $0.88 | $4.05 | $2.97 |
| Cash flow from operations | Not separately provided | Not separately provided | $516.5 million | $384.1 million |
Q3 sales increased 22.7%, pretax income increased 33.9%, and Lear-attributable net income increased 5.7%. First-nine-month sales increased 21.0%, while Lear-attributable net income increased 35.2%. The Q3 net margin was approximately 2.9%, versus 3.4% in the prior-year quarter; the nine-month net margin was approximately 4.1%, versus 3.7%.
- Q3 Seating sales were $2,687.8 million, up 21.7%, with segment earnings of $169.9 million and a 6.3% margin, unchanged from the prior year.
- Q3 EPMS sales were $772.2 million, up 26.3%, with segment earnings of $40.6 million and a 5.3% margin, compared with 4.0% in Q3 2010.
- For the first nine months, Seating segment earnings were $601.8 million on $8,272.7 million of sales, and EPMS segment earnings were $133.2 million on $2,375.3 million of sales.
- Capital expenditures were $247.7 million in the first nine months, compared with $115.3 million in the prior-year period. Management estimated approximately $325 million of capital spending for full-year 2011.
Liquidity, Debt, and Balance Sheet
- Cash and cash equivalents were $1,676.5 million at October 1, 2011, compared with $1,654.1 million at December 31, 2010.
- Total assets were $7,215.9 million, compared with $6,621.1 million at year-end 2010. Accounts receivable increased to $2,082.3 million and inventories increased to $708.9 million.
- Long-term debt was $695.2 million, consisting of $350 million principal amount of 7.875% senior notes due 2018 and $350 million principal amount of 8.125% senior notes due 2020. No short-term borrowings were outstanding at quarter-end.
- In June 2011, Lear increased its revolving credit facility from $110 million to $500 million and extended its maturity to June 17, 2016. No borrowings were outstanding, and the company reported compliance with applicable debt covenants.
- Operating cash flow of $516.5 million was more than offset by $224.8 million of investing cash outflows and $264.5 million of financing cash outflows, resulting in a $22.4 million increase in cash before foreign currency translation.
- Financing uses included $194.2 million of common-stock repurchases, $38.3 million of dividends to Lear stockholders, and $18.5 million of dividends to noncontrolling interests.
- Lear stated that approximately $1.7 billion of cash and $500 million of available revolver capacity should meet ordinary-course liquidity needs, subject to operating performance, industry conditions, and restructuring requirements.
Material Changes Versus the Prior Comparable Period
- Revenue growth was driven by new business, higher production volumes on Lear platforms, and favorable foreign-exchange effects. For the first nine months, these factors contributed approximately $705 million, $564 million, and $399 million, respectively, to sales growth.
- Gross profit increased, but Q3 gross margin declined to 8.1% from 8.4% due to selling-price reductions, higher launch and commodity costs, and other pressures. The nine-month gross margin remained 8.9%.
- Restructuring costs declined materially: approximately $14 million in the first nine months of 2011 versus $53 million in the prior-year period, including manufacturing inefficiencies.
- Interest expense declined to $24.9 million from $44.2 million for the first nine months, primarily due to lower debt levels and a tax-related interest refund.
- The effective tax rate increased to 22.3% from 5.2% in Q3 and to 16.6% from 7.9% for the first nine months. The 2011 tax provision included a $22.9 million benefit from reversing valuation allowances on two foreign subsidiaries, while the 2010 period included approximately $32.8 million of tax benefits related to tax-reserve reductions.
- Other expense, net increased to $8.5 million from $3.0 million in Q3 and to $5.7 million from $1.5 million for the first nine months, reflecting reduced affiliate income and other items. The 2010 nine-month period included a $11.8 million loss on debt extinguishment that did not recur in 2011.
- Lear repurchased 4.1 million shares for $194.2 million during the first nine months, leaving approximately $205.8 million under the authorized $400 million program. The company also completed a two-for-one stock split and declared quarterly dividends of $0.125 per post-split share.
Guidance, Outlook, Risks, and Unusual Items
- Management expected elevated restructuring actions and related investments of approximately $100 million in 2011, with activity expected to moderate thereafter. Approximately $65 million of additional restructuring costs remained associated with actions initiated as of October 1, 2011.
- Management expected total 2011 pension contributions of approximately $30 million to $35 million, plus approximately $13 million of contributions to its defined-contribution retirement program.
- Lear reported a fire at a European production facility that caused an approximately $1 million loss, net of expected insurance recoveries. Incremental fourth-quarter costs were expected, but management did not anticipate a material full-year impact.
- A putative class action and related lawsuits filed beginning October 5, 2011 alleged antitrust violations involving automotive wire harnesses. Damages were unspecified, and the company stated that the potential loss could not reasonably be estimated and that it intended to defend the claims vigorously.
- Recorded reserves at October 1, 2011 included $17.2 million for legal disputes, $40.0 million for product liability and warranty claims, and $2.9 million for environmental matters. Actual outcomes may differ materially from recorded reserves.
- Key operating risks include vehicle production levels, customer and supplier financial condition, customer price reductions, raw-material and commodity costs, supply disruptions, program launch costs, recalls and warranty claims, foreign exchange, restructuring execution, litigation, environmental matters, and the ability to use tax attributes.
- Foreign-currency derivatives had aggregate notional amounts of approximately $566 million and a fair value of approximately negative $45 million at October 1, 2011. Commodity swaps had $7 million of notional amount and a fair value of approximately negative $1 million.
- Management reported no indicators requiring additional long-lived-asset or goodwill impairment charges as of October 1, 2011, but continued to monitor industry conditions and long-term vehicle production estimates.
Important Facts for Investors to Verify
- Whether automotive production volumes, new program launches, and customer platform awards support continued sales growth.
- Whether selling-price reductions, commodity inflation, launch costs, and foreign-exchange movements pressure gross margin.
- The timing and ultimate cost of the remaining restructuring program, including the estimated $65 million of additional costs.
- Cash conversion and working-capital requirements, particularly the increases in accounts receivable and inventories relative to sales growth.
- Debt covenant compliance, availability of the $500 million revolving facility, and refinancing needs for the 2018 and 2020 senior notes.
- Potential exposure from the automotive wire-harness antitrust litigation, product liability and warranty claims, recalls, and environmental matters.
- The sustainability of tax benefits, valuation-allowance reversals, and the company’s ability to use tax attributes subject to applicable limitations.
- Foreign-exchange derivative losses and the potential reclassification of approximately $37.7 million of accumulated derivative losses into earnings during the twelve months ending October 1, 2012.