Illinois Tool Works Inc. — Q1 2018 Form 10-Q
Period: Three months ended March 31, 2018; unaudited results compared with Q1 2017. ITW is a diversified global industrial manufacturer operating through seven segments.
Financial performance
| Metric | Q1 2018 | Q1 2017 / comparison |
|---|---|---|
| Revenue | $3.744 billion | $3.471 billion; up 7.9%, including 2.6% organic growth and 5.3% favorable currency impact |
| Operating income and margin | $903 million; 24.1% | $807 million; 23.2%; margin up 90 basis points |
| Net income | $652 million | $536 million |
| Diluted EPS | $1.90 | $1.54; up 23.4% |
| Operating cash flow / free cash flow | $538 million / $444 million | $463 million / $399 million |
| Cash and equivalents | $1.940 billion | $3.094 billion at December 31, 2017 |
| Total debt | $7.549 billion | $8.328 billion at December 31, 2017 |
| Total debt / trailing-twelve-month EBITDA | 1.9x | 2.1x at December 31, 2017 |
| Dividends paid | $266 million; $0.78 per share | $226 million; $0.65 per share |
Q1 free cash flow is the company-defined non-GAAP measure of operating cash flow less capital expenditures. The current ratio was approximately 2.2x; net working capital was $3.498 billion, down from $4.225 billion at year-end.
Material changes and segment results
- All seven segments recorded worldwide organic revenue growth and operating margins above 20%. Test & Measurement and Electronics led organic growth at 7.6%, followed by Welding at 7.6%; Food Equipment, Polymers & Fluids, and Specialty Products grew 0.4%, 0.3%, and 0.5%, respectively.
- Management attributed consolidated margin expansion primarily to 110 basis points of benefits from enterprise initiatives and lower restructuring costs, partly offset by 50 basis points of unfavorable price/cost.
- The effective tax rate declined to 23.2% from 28.3%, primarily reflecting the lower U.S. federal corporate tax rate and a $14 million foreign-tax-credit benefit. Excluding specified discrete benefits, rates were 25.5% and 30.0%.
- ITW repurchased approximately 3.0 million shares for $500 million at an average price of $164.04. Approximately $1.9 billion remained authorized under its repurchase program at quarter-end.
Liquidity, accounting items, outlook, and risks
- The company repatriated approximately $1.5 billion of overseas cash in Q1, primarily to repay commercial paper and fund share repurchases. Cash decreased by $1.154 billion during the quarter, while financing activities used $1.608 billion, including $840 million of net repayments of short-term debt.
- Short-term debt was $660 million, including $649 million of notes due March 1, 2019 reclassified from long-term debt. Long-term debt was $6.889 billion. Management said cash, free cash flow, credit facilities, and debt-market access were adequate for debt service and capital allocation needs.
- Management estimated a full-year 2018 effective tax rate of approximately 25%. The filing gives no specific full-year revenue or EPS guidance. Management emphasized continued focus on organic growth, customer-back innovation, enterprise initiatives, and disciplined investment.
- Accounting adoption adjustments effective January 1, 2018 reduced retained earnings by $406 million for intra-entity asset-transfer tax accounting and $9 million for revenue recognition. The revenue standard had an immaterial Q1 impact. ITW also early-adopted a tax-effects reclassification, moving $45 million between accumulated other comprehensive loss and retained earnings.
- The company expects to adopt lease accounting in 2019 and anticipates recognizing right-of-use assets and liabilities for operating leases; it had not completed its impact assessment.
- Risks highlighted include market weakness, raw-material cost increases or shortages, currency fluctuations, financing and credit-rating conditions, tax-law uncertainty, pension exposure, cybersecurity and data-privacy incidents, and adverse legal outcomes. An IRS dispute concerning a 2006 transaction asserts $70 million of additional tax plus interest and penalties; ITW recorded no reserve and said a Tax Court decision was expected in 2018. Ongoing tax audits could also affect unrecognized tax benefits.
Important facts for investors to verify
- Whether organic growth and margin gains persist, especially given modest growth in several segments and unfavorable price/cost pressures.
- How the lower reported tax rate, discrete tax benefits, and tax-law accounting adjustments affect comparable earnings and future periods.
- The use of cash for repurchases and dividends alongside debt maturities, and the company’s liquidity after the quarter’s substantial cash decline.
- Outcome and potential financial effect of the IRS tax dispute and other ongoing tax audits.
- Potential effects of operating-lease recognition and the cybersecurity and data-privacy risks described in the filing.