ITT Corporation — 2009 Third-Quarter Form 10-Q
Business context and reporting period
ITT is a global multi-industry engineering and manufacturing company operating through Defense Electronics & Services, Fluid Technology, and Motion & Flow Control. The filing covers the three and nine months ended September 30, 2009; financial statements are unaudited and presented in millions except per-share amounts.
Financial performance and liquidity
| Metric | Q3 2009 | Q3 2008 | 9M 2009 | 9M 2008 |
|---|
| Sales and revenues | $2,697.7 | $2,879.3 | $8,034.8 | $8,749.8 |
| Gross profit | $774.4 | $810.7 | $2,222.3 | $2,438.7 |
| Gross margin | 28.7% | 28.2% | 27.7% | 27.9% |
| Operating income | $92.7 | $328.0 | $621.4 | $966.9 |
| Operating margin | 3.4% | 11.4% | 7.7% | 11.1% |
| Income from continuing operations | $66.0 | $204.5 | $455.1 | $599.7 |
| Net income | $59.0 | $216.3 | $444.5 | $609.2 |
| Diluted EPS from continuing operations | $0.36 | $1.11 | $2.48 | $3.25 |
- Revenue declined 6.3% in the quarter and 8.2% year to date. Organic revenue declined 4.4% and 4.6%, respectively, with additional adverse foreign-exchange effects.
- Operating results included asbestos-related costs of $222.9 in the quarter and $224.5 year to date. Restructuring and asset impairment charges were $8.9 and $40.0, respectively.
- SG&A decreased 7.1% in the quarter and 8.6% year to date, while research and development increased 5.1% and 0.9%, respectively.
- Cash provided by operating activities was $1,056.7 for the first nine months, compared with $896.0 in the prior-year period. Free cash flow was $454.7 in the quarter and $916.3 year to date.
- Capital expenditures were $140.4 and acquisitions used $34.2 year to date. Dividends paid were $109.2, and no share repurchases occurred during the period.
- Cash and cash equivalents were $1,347.7 at September 30, 2009, versus $964.9 at December 31, 2008.
- Total debt was $1,682.5, compared with $2,146.9 at year-end 2008. Net debt was $334.8 and net debt to net capitalization was 8.5%, versus 27.9% at year-end.
- Short-term debt and current maturities were $242.8; long-term debt was $1,439.7. ITT had a $1,750.0 revolving credit facility and $224.8 of commercial paper outstanding at September 30, 2009.
Segment performance
| Segment | Q3 revenue | Q3 operating income | Q3 margin | 9M revenue | 9M margin |
|---|
| Defense Electronics & Services | $1,567.4 | $203.3 | 13.0% | $4,680.0 | 12.2% |
| Fluid Technology | $825.6 | $108.0 | 13.1% | $2,439.0 | 11.8% |
| Motion & Flow Control | $306.9 | $40.4 | 13.2% | $921.0 | 11.0% |
- Defense revenue increased 1.8% in the quarter and operating income increased 8.3%; however, quarterly orders declined 33.6% to $1,275.3, partly because of unusually large prior-year awards and order timing.
- Fluid Technology revenue declined 13.0% in the quarter and 14.6% year to date, reflecting weak residential, commercial, municipal, and industrial demand, foreign exchange, and lower volumes.
- Motion & Flow Control revenue declined 22.1% in the quarter and 26.7% year to date, driven by weakness in automotive, aerospace, industrial, connector, and marine markets.
Material changes versus the prior comparable period
- Quarterly operating income fell 71.7% and nine-month operating income fell 35.7%, primarily because of the newly recorded asbestos charge, lower volumes, unfavorable currency, higher benefit costs, and restructuring.
- Income from continuing operations decreased 67.7% in the quarter and 24.1% year to date. Discontinued operations produced losses of $7.0 and $10.6, compared with income of $11.8 and $9.5 in the comparable 2008 periods.
- Gross margin improved 50 basis points in the quarter because productivity gains more than offset volume pressure, but declined 20 basis points year to date.
- In May 2009, ITT issued $500.0 of 4.9% senior notes due 2014 and $500.0 of 6.125% senior notes due 2019. Proceeds were used primarily to repay commercial paper and other debt.
- Restructuring activity expanded materially: 702 planned position eliminations were announced during the first nine months, compared with 98 in the comparable 2008 period. Actual reductions through September 30 totaled 926, leaving 286 planned reductions.
Outlook, risks, contingencies, and unusual items
- Management expected approximately $35.0 to $40.0 of additional restructuring costs in the fourth quarter of 2009, in addition to $40.0 incurred during the first nine months.
- Management cited continuing uncertainty in global economic conditions, real estate, municipal funding, oil and gas, power, chemical, mining, commercial aerospace, automotive, marine, and connector markets.
- Management expected 2009 net periodic pension cost of approximately $46.9 and additional pension contributions of $4.0 to $6.0 during the fourth quarter.
- ITT increased its estimated undiscounted asbestos liability by $686.1 to $917.4 for pending claims and unasserted claims estimated over the next ten years. The related asbestos asset was $659.0, including an estimated insurance asset of $630.2. Estimated net exposure was $258.4.
- Insurance was estimated to cover 69% of asbestos costs over the next ten years, declining to approximately 25% in the tenth projected year. Claims beyond ten years are probable but not reasonably estimable and could materially affect future results or cash flows.
- There were 106,121 open asbestos claims at September 30, 2009, excluding 34,813 claims on inactive dockets. Management estimated approximately 90% of open claims had little or no value.
- Environmental liabilities were accrued at $140.9 across 97 active sites, with an estimated range of $114.1 to $252.9. Management did not expect a material consolidated impact based on current information.
- ITT recorded a $5.1 loss contingency related to a $50.2 residual-value guarantee on a corporate aircraft sale-leaseback arrangement.
- Management stated that liquidity was adequate through operating cash flow, cash balances, the revolving credit facility, and access to commercial paper and public debt markets. The filing nevertheless identifies risks from credit-market conditions, counterparty and insurer solvency, defense-budget changes, foreign exchange, pension funding, and legal and environmental matters.
Most important facts for investors to verify
- Whether the asbestos liability and estimated insurance recoveries remain supportable as claims experience, insurer solvency, coverage interpretations, and the rolling ten-year projection change.
- Actual fourth-quarter restructuring charges, workforce reductions, cash payments, and realized savings versus management’s estimates.
- Order trends and backlog conversion in Defense Electronics & Services, particularly after the significant third-quarter order decline.
- Demand recovery and foreign-exchange effects in Fluid Technology and Motion & Flow Control.
- Cash-flow conversion, debt maturities, commercial-paper access, and compliance with the $1.75 billion revolving-credit facility.
- Pension asset performance, required contributions, and recoverability of pension costs under U.S. government contracts.
- Developments in asbestos, environmental, insurance-coverage, silica, derivative litigation, and other legal contingencies.
