Westinghouse Air Brake Technologies Corporation (Wabtec) — FY 2018 Form 10-K
Reporting period: Year ended December 31, 2018. The results reflect Wabtec before the GE Transportation merger, which closed on February 25, 2019. All financial amounts below are in U.S. dollars.
Business context
Wabtec supplies equipment, systems and services to global freight rail and passenger transit markets through its Freight and Transit segments. Transit generated 64% of 2018 sales and Freight 36%. Aftermarket parts and services were approximately 57% of sales; customers outside the U.S. accounted for approximately 67%. The company reported about 18,000 employees and a $4.5 billion backlog at year-end.
Key financial results
| Metric | FY 2018 | FY 2017 | Change |
|---|---|---|---|
| Net sales | $4.364 billion | $3.882 billion | +12.4% |
| Gross profit / margin | $1.234 billion / 28.3% | $1.065 billion / 27.4% | Margin +0.9 percentage points |
| Operating income / margin | $473.4 million / 10.9% | $421.1 million / 10.8% | Income +12.4% |
| Net income attributable to Wabtec shareholders | $294.9 million | $262.3 million | +12.5% |
| Diluted EPS | $3.05 | $2.72 | +12.1% |
| Operating cash flow | $314.7 million | $188.8 million | +$125.9 million |
| Capital expenditures | $93.3 million | $89.5 million | +$3.8 million |
| Debt at year-end | $3.857 billion | $1.871 billion | +$1.986 billion |
| Cash and restricted cash | $2.342 billion | $233.4 million | Includes $1.761 billion restricted |
Operating cash flow less capital expenditures was approximately $221.4 million. Current assets were $4.450 billion versus current liabilities of $1.647 billion; however, much of the reported cash was restricted for the GE transaction. Wabtec also reported approximately $1.171 billion of available borrowing capacity under its revolving facility, subject to covenants. The filing does not provide a clear standalone liquidity measure excluding restricted cash.
Changes versus the prior comparable period
- Sales rose in both segments: Freight increased 12.0% to $1.564 billion and Transit increased 12.6% to $2.799 billion. Growth reflected higher demand in specialty/electronics and brake products, acquisitions, and favorable foreign exchange.
- Gross margin improved as cost of sales declined to 71.7% of revenue from 72.5%. Operating expenses rose faster than sales, increasing to 17.4% of sales from 16.6%, partly due to GE transaction costs, restructuring, acquisitions and employee benefit costs.
- Interest expense increased to $112.2 million from $77.9 million, including $29.3 million related to the proposed GE transaction. The effective tax rate declined to 20.6% from 25.5%, reflecting the U.S. tax rate reduction and earnings mix, among other items.
- Operating cash flow improved, aided by working capital and higher earnings, but inventory absorbed $108.9 million of cash as Wabtec prepared for anticipated demand. Debt rose substantially as the company raised financing for the GE transaction.
- Fourth-quarter 2018 sales were $1.118 billion and attributable net income was $34.4 million, compared with $1.076 billion and $48.9 million, respectively, in fourth-quarter 2017.
Outlook, commentary, risks and unusual items
- Management’s long-term priorities include cash generation, margin improvement through its Wabtec Excellence Program, product innovation, international expansion, aftermarket growth and selective acquisitions. No specific consolidated 2019 revenue or earnings guidance is provided.
- Wabtec estimated 2019 global locomotive deliveries of about 2,900, freight car deliveries of about 174,000, and passenger transit vehicle orders at approximately 30,000. These are market estimates, not company financial guidance.
- The GE Transportation combination was valued at approximately $10.2 billion using the February 22, 2019 Wabtec share price. Management expected approximately $250 million of annual run-rate operating synergies within four years and projected the combined business at roughly $8.0 billion in revenue. These are forward-looking expectations, not 2018 results.
- To finance the transaction, Wabtec issued $2.5 billion of senior notes in September 2018. Moody’s lowered the rating to Ba1 on February 12, 2019; the new notes’ interest rate increases by 0.25 percentage points from the next interest period. Wabtec reported compliance with debt covenants at year-end.
- Principal risks include cyclical railroad and transit demand, government funding, customer concentration, competition, raw-material and supplier availability, foreign currency and interest-rate exposure, and execution/integration of acquisitions. The company also identified cybersecurity, regulatory, environmental, product warranty and liability risks.
- Unusual or contingent matters include a January 2019 Siemens patent-trial jury award of $6.7 million, subject to court proceedings and potential appeals; related patent and antitrust disputes remain ongoing. Asbestos claims continue, but management said the ultimate liability cannot be estimated. A proposed DOJ consent decree regarding employee non-solicitation allegations and related class actions were also disclosed.
- 2018 included $17.6 million of restructuring costs in cost of sales and elevated SG&A costs, including $21.3 million related to the GE transaction. The company reported no goodwill impairment. The 2018 adoption of ASC 606 did not materially affect the consolidated income statement or balance sheet.
Most important facts for investors to verify
- Post-merger debt, unrestricted cash, leverage, refinancing needs and covenant headroom, including the impact of the Ba1 rating and higher note interest.
- Whether GE integration delivers the expected $250 million in annual run-rate synergies within four years, and the associated costs and timing.
- Underlying organic sales and margin trends by segment, separating acquisition and foreign-exchange effects from demand growth.
- Cash conversion and working-capital requirements, particularly inventory growth and the availability of cash restricted for the transaction.
- Developments and potential financial exposure in the Siemens disputes, asbestos claims and other contract, warranty and legal contingencies.
- Reconcile the MD&A segment comparison table, which lists 2018 shareholder net income as $300.3 million, with the audited consolidated statements, which report $294.9 million attributable to Wabtec shareholders.