ITT

ITT Industries, Inc. - 10-Q Summary (Quarter Ended September 30, 1998)

Business Context and Reporting Period

This is a Quarterly Report (Form 10-Q) for ITT Industries, Inc. for the period ended September 30, 1998. The company operates in four primary segments: Defense Products & Services, Pumps and Complementary Products, Connectors & Switches, and Specialty Products. The reporting period is significantly impacted by the divestiture of its automotive operations (Brake and Chassis and Electrical Systems units), which are now classified as discontinued operations.

Key Financial Metrics

Note: Net Income is heavily influenced by a one-time gain on the sale of discontinued operations.

Material Changes vs. Prior Period

• Divestitures: The company sold its automotive Brake and Chassis unit to Continental AG and its Electrical Systems unit to Valeo, SA in late September 1998. These sales generated approximately $3.6 billion in proceeds and a net after-tax gain of $1,546.9 million.
• Profitability: Continuing operations turned a loss of $65.4 million in Q3 1997 into a profit of $26.9 million in Q3 1998. This improvement is largely due to the absence of significant restructuring and divestiture charges taken in the prior year ($140.8 million in other operating expenses in Q3 1997 vs. $0.9 million in Q3 1998).
• Liquidity: Cash and cash equivalents surged from $192.2 million at year-end 1997 to $2,338.0 million at September 30, 1998, primarily due to divestiture proceeds.
• Debt Reduction: Total external debt decreased from $2.2 billion at December 31, 1997, to $1.2 billion at September 30, 1998, as proceeds were used to repay approximately $1 billion in debt.
• Segment Performance: Defense Products & Services saw revenue growth due to the Kaman Sciences acquisition. Pumps and Complementary Products revenue increased due to the Goulds Pumps acquisition, offsetting weak Asian markets.

Guidance, Outlook, and Risks

• Share Repurchases: The board authorized a $1.1 billion share repurchase program. $359.1 million was utilized in the first nine months of 1998.
• Future Acquisitions: Management intends to use a portion of the divestiture proceeds to finance additional acquisitions.
• Year 2000 (Y2K) Readiness: The company estimates total external Y2K costs at approximately $20 million, with $12 million incurred by September 30, 1998. Approximately 60% of necessary modifications for U.S. operations are complete. Risks include potential disruptions from third-party failures.
• Euro Conversion: The company is adapting systems for the Euro introduction in 1999. Costs are not expected to be material.
• Legal and Environmental: The company faces environmental liability at approximately 135 sites. A significant proceeding involves the San Fernando Valley aquifer in California, where the company is awaiting an appeal ruling regarding cost allocation.
• Accounting Changes: The company adopted a new business segment reporting format effective Q3 1998. It is also assessing the impact of SFAS No. 133 regarding derivative instruments, which may increase earnings volatility.

Investor Verification Checklist

• Gain on Sale: Verify the sustainability of earnings by excluding the $1,546.9 million one-time gain from discontinued operations.
• Tax Liability: Confirm the timing and amount of the $949.3 million accrued tax liability related to the divestiture gains, expected to be paid by year-end 1998.
• Continuing Operations Margins: Analyze operating margins of the four continuing segments (Defense, Pumps, Connectors, Specialty) to assess core business health independent of the automotive exit.
• Y2K Contingency: Review the status of third-party vendor readiness, as the company's operations depend on external suppliers and customers.
• Debt Covenants: Assess the impact of the $1.2 billion remaining debt load against the new capital structure and liquidity position.