Garrett Motion Inc. — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Garrett designs and sells turbocharger, electric-boosting and automotive software products, primarily to vehicle OEMs and the aftermarket. The filing attributes a significant business and financial impact to COVID-19 and related automotive production disruptions.
Financial performance and position
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net sales | $477 million | $802 million | $1,222 million | $1,637 million |
| Gross profit / margin | $84 million / 17.6% | $182 million / 22.7% | $226 million / 18.5% | $378 million / 23.1% |
| Net income (loss) | $(9) million | $66 million | $43 million | $139 million |
| Basic EPS | $(0.12) | $0.88 | $0.57 | $1.87 |
| Adjusted EBITDA (non-GAAP) | $63 million | $154 million | $171 million | $313 million |
- Sales fell 40.5% in Q2 and 25.4% for the half year. Management attributed the declines principally to lower volumes; Q2 sales volume accounted for a 39.4% decrease, partly offset by price.
- Q2 gross margin declined 5.1 percentage points. Management cited lower volume leverage, mix and price, inflation and premium costs, partly offset by lower warranty costs and foreign exchange.
- Q2 interest expense was $20 million, versus $18 million. The six-month tax expense was $12 million versus $45 million; Q2’s effective tax rate was unusually high at 550% on only $2 million of pretax income.
- Six-month operating cash flow was negative $95 million, compared with positive $37 million; capital expenditures were $63 million versus $51 million. Operating cash flow less capital expenditures, a non-GAAP measure, was negative $158 million versus negative $14 million.
- Cash and cash equivalents were $139 million at June 30, down from $187 million at year-end 2019. Current assets were $1.004 billion and current liabilities $1.165 billion.
- At June 30, debt comprised $1.403 billion of long-term debt, $4 million of current maturities and $135 million drawn on the revolving facility. Obligations payable to Honeywell totaled $1.341 billion ($37 million current). Stockholders’ deficit was $2.103 billion.
Material changes, outlook and risks
- COVID-19 closures and reduced operating capacity affected facilities in China, Mexico, India and Europe. Garrett said it expected the pandemic to materially negatively affect Q3 2020 and future-quarter performance, and expected a contraction in turbocharger industry revenue in 2020. The filing provides no specific full-year financial guidance.
- Management described the 2020 automotive downturn as potentially exceeding the 2008–2009 financial crisis. It cited high uncertainty in vehicle demand and production, with Europe and the U.S. expected to be more affected than China.
- Cost and cash actions included postponing capital expenditures, working-capital optimization, reduced discretionary spending, workforce flexibility and hiring restrictions. Garrett expected 2020 capital expenditures to be materially reduced, without an adverse effect on delivery of long-term projects.
- A June 2020 credit amendment suspended the existing total leverage and interest coverage maintenance covenants during a relief period, replacing them with minimum liquidity tests ($125 million through March 2021, then $200 million), quarterly net secured leverage limits and a $165 million maximum-cash test. Garrett reported compliance with its financial covenants as of June 30, 2020. Relief may end early if specified conditions occur; the company did not anticipate such an event before 2022.
- The amendment increased certain borrowing margins and tightened restrictions on additional debt, liens, investments and restricted payments. Garrett drew approximately $470 million of remaining revolving capacity in April for flexibility and repaid the unused proceeds at quarter-end.
- Garrett’s Honeywell obligations include asbestos/environmental indemnity payments and tax-related payments. The Q2 indemnity payment and the April tax installment were deferred to December 31, 2020. Garrett estimated $193 million remained payable for its share of the mandatory transition tax as of June 30.
- Garrett is litigating against Honeywell over the Subordinated Indemnity Agreement and asserted in July that Honeywell materially breached, and that the Tax Matters Agreement is unenforceable. Outcomes and potential financial effects are uncertain. The filing also highlights leverage, customer award and dual-sourcing concerns, pandemic disruption, supply-chain and capital-market risks.
Key facts for investors to verify
- Whether automotive production, customer demand and Garrett’s facility operations recover as assumed in management’s scenarios.
- Cash generation, working-capital movements, available revolver capacity and compliance with the amended liquidity and leverage tests.
- Debt service costs and the effect of higher credit-facility margins and any ratings-related margin increase.
- Timing and amount of deferred Honeywell payments, remaining tax installments, and the status and potential consequences of both Honeywell disputes.
- Whether reduced capital spending and cost actions can protect liquidity without impairing product development, awarded business or customer confidence.