FLOWSERVE CORP annual report, FY2022

Flowserve Corporation: Fiscal 2022 Form 10-K Summary

Business context and reporting period

Flowserve Corporation designs, manufactures and services pumps, valves, seals, automation systems and related aftermarket solutions for oil and gas, chemical, power generation, water management and general industrial customers. Operations are reported through the Flowserve Pump Division (FPD) and Flow Control Division (FCD). This filing covers the fiscal year ended December 31, 2022; it is not a standalone fourth-quarter filing, although it includes fourth-quarter items.

Key financial metrics

Metric	2022	2021	Change
Sales	$3,615.1 million	$3,541.1 million	+2.1%
Gross profit	$994.3 million	$1,049.7 million	-5.3%
Gross margin	27.5%	29.6%	-210 bps
Operating income	$197.2 million	$270.8 million	-27.2%
Operating margin	5.5%	7.6%	-210 bps
Net earnings attributable to Flowserve	$188.7 million	$125.9 million	+49.8%
Diluted EPS	$1.44	$0.96	+50.0%
Cash flow from operations	$(40.0) million	$250.1 million	Decrease of $290.1 million
Capital expenditures	$76.3 million	$54.9 million	+38.8%

Net earnings benefited from a $43.6 million income tax benefit, compared with a $2.6 million benefit in 2021, as well as the absence of the $46.2 million loss on extinguishment of debt recorded in 2021 and lower other expense and interest expense. The reported tax benefit was primarily driven by releases of valuation allowances in Germany, Mexico and on certain U.S. foreign tax credits.

Aftermarket revenue was approximately 53% of sales, up from 52% in 2021. International customers represented approximately 62% of sales, compared with 67% in 2021.

Bookings, backlog and segment performance

Total bookings were $4.45 billion, up 17.8% from $3.77 billion in 2021. Backlog increased 36.5% to $2.74 billion at year-end, including approximately $2.01 billion in FPD and $745.5 million in FCD.
Management expects to recognize approximately 81% of year-end backlog in 2023, with approximately 77% of FPD backlog and 90% of FCD backlog expected to convert to revenue during 2023.
FPD sales increased 2.1% to $2.52 billion, while segment operating income declined 14.5% to $208.0 million. FPD operating margin fell to 8.2% from 9.8%.
FCD sales increased 2.3% to $1.10 billion, while segment operating income declined 5.3% to $113.4 million. FCD operating margin fell to 10.3% from 11.1%.
Oil and gas represented approximately 40% of total bookings, up from 35% in 2021. General industries and chemical each represented approximately 22%, power generation 12% and water management 4%.

Liquidity, debt and balance-sheet matters

Cash and cash equivalents were $435.0 million at December 31, 2022, down from $658.5 million at December 31, 2021.
Total debt and finance lease obligations were $1.27 billion, including $989.2 million of fixed-rate senior notes and $259.6 million under the term loan facility. The senior notes mature in 2030 and 2032.
Available borrowing capacity under the senior credit facility was approximately $293.9 million after financial covenants and letters of credit. Total stated liquidity was approximately $729 million, including cash and available borrowings.
The company was in compliance with its debt covenants at year-end. The credit facility matures in September 2026; a February 2023 amendment replaced LIBOR with SOFR and adjusted certain acquisition and covenant provisions.
Dividends paid were $104.5 million, or $0.80 per share declared. No shares were repurchased during 2022; $96.1 million remained available under the repurchase authorization.
Working capital absorbed significant cash: accounts receivable used $152.0 million and inventory used $147.5 million. Fourth-quarter DSO increased to 75 days from 72 days, and inventory turns declined to 3.6 from 3.8.

Material changes versus the prior comparable period

Revenue grew modestly, but gross profit and operating income declined because of lower backlog conversion, supply-chain and freight costs, inflation, labor constraints, operational interruptions related to an ERP implementation and Russia-related charges.
Operating cash flow deteriorated from $250.1 million provided in 2021 to $40.0 million used in 2022, primarily because of receivable, inventory and contract-asset growth.
Net income and EPS increased despite weaker operating performance, mainly because of the tax benefit and nonrecurrence of 2021 debt-extinguishment losses.
Other comprehensive loss was $82.9 million, primarily reflecting foreign-currency translation losses, compared with other comprehensive income of $44.7 million in 2021.
The company recorded $33.8 million of operating loss impact in 2022 related to its Russia exposure, including a $13.6 million incremental pre-tax charge in the fourth quarter. Flowserve stopped accepting new Russian orders in February 2022 and decided to cease Russian operations in March 2022.
The company corrected a $6.4 million cumulative operating-lease accounting error in the third quarter of 2022, including $5.5 million recorded in SG&A and $0.9 million in cost of sales.

Guidance, outlook, risks and unusual items

Management expects growth in 2023, supported by higher backlog and improved end markets. It expects 2023 bookings to be comparable with 2022 levels.
Supply-chain, logistics, inflation and labor-availability pressures are expected to continue in 2023, although management expects them to lessen. Backlog conversion may take longer than originally expected.
Estimated 2023 capital expenditures are $75 million to $85 million, excluding acquisitions. Expected non-U.S. pension contributions are approximately $2 million.
Management expects higher 2023 interest expense because cross-currency swaps were terminated in December 2022. The company received $66.0 million from the termination.
Flowserve agreed in February 2023 to acquire Velan Inc. for approximately $245 million in cash, subject to customary approvals and conditions, with closing expected by the end of the second quarter of 2023.
Material risks include cyclical customer capital spending, oil and gas exposure, backlog delays or cancellations, inflation and raw-material costs, supply-chain disruption, foreign-exchange volatility, cyber risk, international sanctions, restrictive debt covenants, pension obligations, asbestos litigation, environmental liabilities and potential goodwill impairment.
Asbestos liability was $98.7 million at year-end, with estimated insurance receivables of approximately $42.5 million. The actuarial range of possible future asbestos liability was approximately $81.8 million to $127.3 million.
No material goodwill impairment was recorded. Pump-reporting-unit fair value exceeded carrying value by approximately 65%, but management identified goodwill impairment testing as a significant judgment area.

Important facts for investors to verify

Whether backlog converts to revenue and cash at the expected rate, particularly given supply-chain constraints and longer cycle times.
Whether gross margins recover from 27.5% as pricing, aftermarket mix, productivity and logistics conditions improve.
Whether working-capital investment reverses and operating cash flow returns to positive levels.
The funding, leverage and covenant implications of the planned Velan acquisition and any related borrowing.
The sustainability of the 2022 tax benefit and the realizability of deferred tax assets, including $356.6 million of valuation allowances.
Potential additional costs from Russia-related contract cancellations, sanctions and the exit of Russian operations.
Future asbestos, environmental, warranty, pension and legal exposures, including the adequacy of insurance recoveries and reserves.
The sensitivity of pump-unit goodwill and reported earnings to weaker oil and gas markets, lower margins, higher discount rates or adverse foreign-exchange movements.