Emerson Electric Co. — Form 10-Q Summary
Reporting period: Third quarter and nine months ended June 30, 2016. Financial amounts are in millions of dollars, except per-share data. Emerson is a diversified industrial company reporting across five business segments.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Net sales | $5,126 | $5,503 | $14,767 | $16,490 |
| Gross margin | 40.8% | 40.6% | 40.5% | 40.5% |
| Earnings before taxes | $744 | $796 | $1,855 | $3,165 |
| Net earnings attributable to common stockholders | $479 | $564 | $1,197 | $2,062 |
| Diluted EPS | $0.74 | $0.84 | $1.84 | $3.01 |
| Adjusted EPS, as reported by the company | $0.80 | $0.84 | $2.02 | $2.24 |
- Q3 sales fell 7%; underlying sales declined 5%, reflecting 4% lower volume and 1% lower price. Currency and net divestitures/acquisitions each reduced sales by about 1%.
- Q3 common-stockholder earnings fell 15% and diluted EPS fell 12%. Excluding $0.06 per share of portfolio-separation costs, adjusted EPS declined 5%.
- Nine-month reported earnings and EPS fell sharply, but comparisons include the prior-year $932 million pretax ($528 million after-tax) gain on the sale of the power transmission solutions business. Excluding that gain and current-year separation costs, adjusted EPS declined 10%.
- Q3 operating cost reductions helped lift gross margin by 0.2 percentage points. SG&A was 23.4% of sales versus 23.2% a year earlier, reflecting lower-volume deleverage. Q3 effective tax rate was 34%, versus 28%.
Cash flow, debt and liquidity
- For the first nine months, operating cash flow was $1,924 million, up from $1,428 million. Free cash flow (operating cash flow less capital expenditures) was $1,570 million, versus $912 million. Lower working-capital investment contributed to the operating cash-flow increase; 2015 cash flow also included $360 million of taxes paid on the divestiture gain, while 2016 included $113 million of separation-cost payments.
- Capital expenditures were $354 million. Cash dividends paid were $922 million, and long-term debt repayments were $252 million. Share repurchases were $555 million and were supported by short-term borrowing.
- At June 30, cash and equivalents were $3,516 million; short-term borrowings and current maturities were $3,220 million, and long-term debt was $4,062 million. Total debt was therefore $7,282 million. Total debt-to-capital was 48.0%, compared with 45.8% at September 30, 2015; net debt-to-net capital was 32.3%, versus 31.3%.
- Working capital was $1,894 million and the current ratio was 1.2, compared with $2,249 million and 1.3 at September 30, 2015. Management said available resources and borrowing capacity should meet foreseeable funding needs. Interest coverage was 12.5 times for the nine months; management attributed the decline from the prior-year period to lower earnings and the prior-year divestiture gain.
Segments and material changes
- Process Management: Q3 sales decreased 13% to $1,804 million; earnings decreased 27% to $271 million and margin fell to 15.0%. Weak oil and gas spending was the main pressure.
- Industrial Automation: Q3 sales decreased 11% to $883 million; earnings decreased 17% to $130 million and margin fell to 14.7%, amid weak industrial and upstream oil and gas markets.
- Network Power: Q3 sales increased 8% to $1,111 million; earnings rose to $101 million from $37 million and margin improved to 9.1%, reflecting higher volume, cost actions and lower rationalization expense.
- Climate Technologies: Q3 sales decreased 2% to $1,102 million, while earnings increased 11% to $247 million and margin rose to 22.4%, mainly on cost and materials savings.
- Commercial & Residential Solutions: Q3 sales decreased 16% to $400 million, largely due to a prior-year divestiture; earnings were nearly flat at $97 million. The divestiture benefited the segment’s margin comparison.
- Across the company, management cited depressed oil and gas spending, weak industrial capital spending, emerging-market pressure and currency effects. Cost reductions and materials containment partly offset lower volume and unfavorable mix.
Outlook, transactions and risks
- Management expected fiscal 2016 underlying sales to decline 5%–6%, excluding negative currency translation and an approximately 2% impact each from completed divestitures. Reported sales were forecast to decline 9%–10%.
- Fiscal 2016 adjusted EPS guidance was $2.90–$3.00, excluding estimated separation costs of $200–$250 million ($0.30–$0.38 per share) and an approximately $100 million ($0.15 per share) loss related to the sale of power generation, motors and drives. Reported EPS guidance was $2.37–$2.55.
- Management said oil and gas spending was expected to remain depressed, with no recovery anticipated until the second half of 2017. It said underlying orders and sales appeared to have bottomed at a decline of roughly 4.5%–5%.
- After quarter-end, Emerson agreed to sell Network Power Systems for $4.0 billion in cash, subject to adjustments, and agreed to sell its power generation, motors and drives businesses for $1.2 billion in value, including assumed postretirement liabilities. Both transactions were expected to close by the end of calendar 2016, subject to customary regulatory approvals. The company expected to report the businesses as held for sale and their results in discontinued operations in its fiscal-year statements.
- The company preliminarily estimated combined pretax gains of $450–$550 million but an after-tax loss of $50–$150 million from the transactions. It also cited potential U.S. tax costs of about $200 million if it repatriates approximately $1.5 billion of offshore proceeds. The transactions are expected to strengthen the balance sheet but will remove the businesses’ cash flows.
- Other risks include execution, closing and financial impacts of the portfolio changes, economic and currency conditions, market demand, pricing, competition and technology. Full-year 2016 rationalization expense was expected to be $90–$100 million. Disclosure controls were reported effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether both announced divestitures closed on expected terms and timing, and the final proceeds, gains or losses, separation costs and tax consequences.
- Whether sales and orders stabilized near management’s indicated decline range, especially in oil and gas, industrial automation and emerging markets.
- Performance against fiscal 2016 sales and EPS guidance, including the distinction between adjusted and reported results and the treatment of transaction-related costs.
- Whether free cash flow, debt ratios and liquidity remain adequate after the divestitures, considering the loss of the sold businesses’ cash flows.
- The filing reports Q3 separation costs of $37 million in one discussion while describing $13 million of tax expense and $28 million of other costs elsewhere; investors should check the detailed filing or subsequent disclosures for reconciliation.