Flowserve Corporation — Form 10-Q Summary
Reporting period: Three and six months ended June 30, 2015; filed July 30, 2015. Financial statements are unaudited. Flowserve manufactures flow-control equipment and provides aftermarket services through its Engineered Product, Industrial Product and Flow Control divisions, serving oil and gas, chemical, power, water and industrial markets.
Key Financial Metrics
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Sales | $1,162.2 million | $1,224.4 million | $2,176.9 million | $2,292.5 million |
| Gross profit | $369.1 million | $430.3 million | $700.8 million | $807.4 million |
| Gross margin | 31.8% | 35.1% | 32.2% | 35.2% |
| Operating income | $127.6 million | $194.3 million | $221.0 million | $358.6 million |
| Operating margin | 11.0% | 15.9% | 10.2% | 15.6% |
| Net earnings attributable to Flowserve | $75.0 million | $123.5 million | $102.7 million | $231.2 million |
| Diluted EPS | $0.56 | $0.90 | $0.76 | $1.67 |
| Operating cash flow | Not separately provided | Not separately provided | $18.1 million | $(11.3) million |
Liquidity and Capital Structure
- Cash and cash equivalents were $315.3 million at June 30, 2015, versus $450.4 million at December 31, 2014.
- Total debt was $1.694 billion, including $67.4 million due within one year and $1.626 billion due thereafter, compared with total debt of $1.155 billion at year-end 2014.
- Flowserve issued €500 million of 1.25% senior notes due 2022, generating approximately $526.3 million of proceeds. The proceeds helped fund the SIHI acquisition and other corporate purposes.
- No amounts were outstanding under the $1.0 billion revolving credit facility; $914.5 million of borrowing capacity remained after letters of credit. The company complied with all debt covenants.
- Six-month investing cash outflow was $453.5 million, including $341.5 million for acquisitions and $113.8 million of capital expenditures. Management expected full-year 2015 capital expenditures of $170 million to $180 million.
- The quarterly dividend increased to $0.18 per share from $0.16. Six-month share repurchases totaled $139.6 million, with $324.8 million of authorization remaining at June 30.
Material Changes Versus Prior Comparable Period
- Q2 sales declined 5.1% and six-month sales declined 5.0%, with negative currency effects of approximately $121 million and $209 million, respectively. Excluding SIHI, sales declined 11.4% in Q2 and 11.3% year to date.
- Bookings declined 19.4% in Q2 and 16.3% year to date, driven primarily by oil and gas weakness, pricing pressure, deferred aftermarket spending and foreign exchange. Excluding SIHI, year-to-date bookings declined 22.0%.
- Gross and operating margins contracted significantly due to realignment charges, lower-margin projects, unfavorable absorption, SIHI purchase-accounting adjustments and weaker original-equipment demand.
- Six-month net earnings attributable to Flowserve fell 55.6%, while the effective tax rate increased to 35.9% from 27.5%, primarily because of realignment-related tax effects and the Venezuelan currency remeasurement loss.
- Backlog was $2.676 billion at June 30, down 1.1% from December 31, 2014 after a $103 million currency impact. Approximately 25% of backlog was aftermarket-related.
- SIHI, acquired January 7, 2015 for $341.5 million, contributed $77.2 million of Q2 sales and $144.1 million of six-month sales, but generated operating losses of $16.4 million and $49.2 million, respectively, including acquisition, purchase-accounting and realignment costs.
- Six-month other comprehensive loss was $84.8 million, compared with income of $15.1 million in the prior year, primarily reflecting currency translation effects.
Outlook, Management Commentary and Risks
- Management expected broad-based capital-spending weakness, particularly in oil and gas, pricing pressure, currency headwinds, geopolitical and Latin American weakness, refinery strikes and deferred repair and maintenance spending to persist at least through the remainder of 2015.
- Two realignment programs were initiated. The company expected approximately $150 million of near-term investment, including projects not yet approved, an approximately 5% workforce reduction and annualized run-rate savings of approximately $100 million, with increasing benefits expected in 2016 and 2017. Most remaining charges were expected through late 2015 and early 2016.
- Recorded realignment charges were $33.2 million in Q2 and $59.4 million for the six months. The filing indicates that total planned program investments and realized savings may differ from current estimates.
- Management believed operating cash flow, existing cash and available revolving-credit capacity would satisfy cash needs for the next 12 months, subject to operating, market, currency, interest-rate and geopolitical risks.
- Venezuelan receivables represented approximately 8% of gross accounts receivable; collection delays persisted, and approximately 58% of that customer balance was classified as long term. A first-quarter bolivar remeasurement loss totaled $20.6 million, including $18.5 million in other expense.
- Material contingencies include asbestos claims, environmental remediation, a continuing SEC subpoena and DOJ/SEC cooperation concerning a potential Foreign Corrupt Practices Act violation. Management did not expect these matters to have a material adverse impact, but outcomes remain uncertain.
- The French court dismissed the company’s United Nations Oil-for-Food case in June 2015, but the prosecutor appealed in July. Management did not expect material additional costs.
- Key recurring risks include oil and gas and other cyclical end-market weakness, order cancellations, backlog conversion and margin execution, foreign exchange, emerging-market collections, acquisition integration, litigation, compliance, suppliers, pensions and potential goodwill or intangible-asset impairment.
Investor Verification Priorities
- Verify the pace and cost of SIHI integration, including purchase-accounting effects, acquisition-related costs and whether the business reaches profitability.
- Assess whether bookings, backlog and aftermarket demand stabilize, particularly excluding currency effects and SIHI contributions.
- Track realignment spending, workforce reductions and delivery of the approximately $100 million annualized savings target.
- Reconcile cash generation with acquisition spending, capital expenditures, dividends, repurchases and the higher debt balance.
- Monitor Venezuelan receivable collections, currency exposure and the potential for additional remeasurement losses.
- Review legal, regulatory and compliance developments, including asbestos claims and the SEC/DOJ investigation.
- Confirm the effect of foreign exchange movements, tax audits and potential tax-benefit changes on future earnings and cash taxes.