Business context and reporting period
Modine Manufacturing Company filed this unaudited Form 10-Q for the quarter ended September 30, 2015, the second quarter of fiscal 2016 (fiscal year ending March 31). Its segments are Americas, Europe, Asia and Building HVAC. Comparative segment results were recast after North and South America were combined into Americas effective April 1, 2015; consolidated results were unaffected.
Financial performance and liquidity
Amounts are in millions, except per-share data. Three-month and six-month comparisons are to the periods ended September 30, 2014.
| Metric | Quarter FY2016 | Quarter FY2015 | Six months FY2016 | Six months FY2015 |
|---|---|---|---|---|
| Net sales | $334.0 | $377.3 | $680.1 | $769.8 |
| Gross profit / margin | $45.7 / 13.7% | $56.7 / 15.0% | $102.7 / 15.1% | $124.4 / 16.2% |
| Operating income (loss) | $(32.1) | $7.9 | $(20.5) | $32.0 |
| Net income (loss) attributable to Modine | $(22.5) | $1.7 | $(17.4) | $15.4 |
| Basic and diluted EPS | $(0.47) | $0.04 | $(0.37) | $0.32 |
Quarter sales fell 11%; six-month sales fell 12%. Management attributed the declines primarily to unfavorable foreign-exchange effects and lower off-highway sales, partly offset by stronger automotive and Building HVAC demand. Gross margin fell 130 basis points for the quarter and 110 basis points year to date. The reported operating loss includes a $39.2 million non-cash pension settlement charge.
For the six months, operating cash flow was $29.8 million (versus $23.6 million), capital expenditures were $30.2 million, and net cash used in investing activities was $37.0 million. Cash declined $5.6 million to $64.9 million. At September 30, current assets were $459.1 million and current liabilities $310.2 million. Reported debt totaled approximately $150.7 million: $20.1 million short-term, $0.5 million current long-term and $130.1 million long-term. The $175 million U.S. revolver had no borrowings; total available credit lines were $211 million. The company reported compliance with debt covenants.
Segment highlights for the quarter: Americas sales were $144.2 million and operating income $7.8 million; Europe sales were $127.7 million and operating income $5.0 million; Asia sales were $18.1 million and operating loss $1.2 million; Building HVAC sales were $48.8 million and operating income $3.9 million.
Material changes and unusual items
- The September 2015 voluntary U.S. pension lump-sum program paid $60.8 million from plan assets for approximately 2,000 former employees, reducing the pension obligation by the same amount. The settlement generated a $39.2 million non-cash expense ($30.9 million in SG&A and $8.3 million in cost of sales); a discrete $15.2 million tax benefit partly offset its earnings impact.
- Quarter revenue was reduced by $34.7 million from foreign exchange, according to management; six-month revenue was reduced by $74.9 million. Lower off-highway sales also weighed on results. Weak Brazilian conditions reduced Americas demand.
- The company announced a plan to close its Washington, Iowa facility and completed the transfer of production from McHenry, Illinois. Fiscal 2016 restructuring costs were $3.6 million for the six months, versus $1.8 million.
- In October 2015, after quarter-end, Modine announced its “Strengthen, Diversify & Grow” strategic framework and authorized a discretionary, 12-month, $50 million share repurchase program.
Outlook, risks and contingencies
No quantitative earnings or revenue guidance is provided in the filing. Management said it expected to remain within debt covenants and did not expect the Airedale fire to significantly harm liquidity, given anticipated insurance reimbursements. Reconstruction of the leased Rawdon, U.K. facility was expected to be completed in the second half of fiscal 2016. The company had received $85.6 million in cumulative fire-insurance proceeds; at September 30 it recorded $48.8 million of estimated reconstruction costs and a $2.8 million insurance advance in other current liabilities.
Key risks cited include foreign-exchange volatility, particularly the euro, Brazilian real, British pound and Indian rupee; weak markets, including Brazil; customer pricing pressure and off-highway demand; commodity costs; manufacturing and product-launch disruptions; execution of restructuring and the new strategy; and completing the Airedale rebuild while maintaining customer service. The company also disclosed environmental matters, including $3.9 million of environmental accruals, and a Brazil antitrust investigation with a $2.5 million accrual; its ultimate resolution was uncertain. It maintained valuation allowances of $44.1 million on certain foreign deferred tax assets and $5.8 million on certain U.S. deferred tax assets, and said approximately $3.0 million of a foreign allowance might be released in late fiscal 2016 or fiscal 2017.
Important facts for investors to verify
- How much of the operating and net loss reflects the one-time pension settlement versus ongoing operating performance.
- Whether revenue, margins and demand recover as foreign-exchange effects and off-highway weakness evolve, especially in Europe and Brazil.
- Progress, remaining costs and insurance recoveries for the Airedale reconstruction, including the expected second-half FY2016 return to the site.
- Execution and costs of facility consolidations, the Washington closure and the “Strengthen, Diversify & Grow” strategy.
- Debt-covenant headroom, realization of deferred tax assets, and outcomes of the Brazil antitrust and environmental matters.
- Whether the board-approved share repurchase is implemented and how it affects liquidity and capital priorities.