Stoneridge, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. Financial statement amounts below are in millions of U.S. dollars, except per-share data. Stoneridge designs and manufactures electrical and electronic components and systems for automotive, commercial, off-highway, motorcycle and agricultural vehicle markets. Results include Orlaco from its January 31, 2017 acquisition; PST became wholly owned on May 16, 2017.
Key financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $203.6 | $173.8 | $617.0 | $523.4 |
| Gross margin | 30.7% | 28.6% | 30.3% | 28.2% |
| Operating income | $13.3 | $11.8 | $44.1 | $33.9 |
| Operating margin | 6.5% | 6.8% | 7.1% | 6.5% |
| Net income attributable to Stoneridge | $8.0 | $10.3 | $26.3 | $29.1 |
| Diluted EPS | $0.28 | $0.36 | $0.92 | $1.03 |
- Q3 sales rose 17.1%; nine-month sales rose 17.9%. Q3 growth reflected higher sales in all segments, especially Electronics, which included Orlaco. Nine-month growth also included Orlaco, new Control Devices product sales and higher PST monitoring revenues.
- Gross margin improved in both comparisons, supported by lower material and overhead costs as a share of sales, favorable currency movements and product mix. Q3 operating margin nevertheless declined as SG&A and development costs rose.
- Q3 attributable net income fell $2.2 million despite higher operating income, primarily because income tax expense increased $2.9 million. The effective tax rate was 32.1% versus 8.4%; for the first nine months it was 34.2% versus 10.3%. Management attributed the higher rates mainly to the prior-year valuation-allowance position and non-deductible acquisition earn-out revaluations.
- For the first nine months, operating cash flow was $51.1 million, versus $37.0 million. Investing cash use was $102.1 million, including $77.3 million for the Orlaco acquisition and $24.9 million of capital expenditures. Financing provided $47.1 million. Cash ended at $50.8 million, little changed from $50.4 million at year-end 2016.
Liquidity, debt and balance-sheet changes
- At September 30, cash was $50.8 million, current assets $297.2 million and current liabilities $132.7 million.
- Revolving-credit borrowings increased to $126.0 million from $67.0 million at December 31, 2016, largely to fund Orlaco, with subsequent voluntary repayments. Total debt, including the revolving facility, was approximately $135.5 million. The $300 million facility matures in September 2021; the company reported covenant compliance.
- PST debt was $9.5 million, with a reported weighted-average interest rate of 11.7%. Scheduled PST principal repayments include $4.4 million from October 2017 through September 2018.
- Assets rose to $540.3 million from $394.5 million, mainly reflecting Orlaco-related goodwill and intangibles. Goodwill was $38.2 million and net intangible assets $78.0 million at quarter-end.
Material developments, outlook and risks
- Acquisitions and unusual items: Orlaco consideration was $83.9 million, including cash and estimated contingent consideration. Its preliminary purchase-price allocation included $34.0 million of goodwill. Orlaco contributed $18.5 million of Q3 sales and $47.0 million of nine-month sales. Acquisition-related costs and earn-out fair-value expense increased reported expenses; the nine-month earn-out fair-value change was $4.6 million. The Orlaco purchase allocation remained preliminary. Stoneridge also acquired the remaining 26% of PST for $1.5 million cash plus uncapped performance-based earn-out consideration.
- Management outlook: Management said top-line growth exceeded underlying markets and cited product launches, emission-sensor demand, Orlaco and operating-efficiency improvements. It expected 2017 North American automotive production to decline by 0.6 million units to 17.2 million, but anticipated Stoneridge sales growth there and in China. It expected North American and European commercial-vehicle markets to be roughly flat versus 2016. Management saw PST performance improving with stabilization of Brazil’s economy and expected that improvement to continue for the rest of 2017. No company-wide numerical earnings or sales guidance was provided in the supplied filing text.
- Tax and currency: Management expected a higher 2017 effective tax rate than in 2016, while cash taxes as a percentage of income were expected to remain consistent with historical levels. Currency movements affect both reported results and input costs; the weaker U.S. dollar had favorably affected costs and reported results in the first nine months. The company uses currency forwards for selected exposures.
- Contingencies: A Brazilian tax assessment of about $31.3 million, including interest and penalties, was considered reasonably possible but not probable; no accrual was recorded. Other PST civil, labor and tax contingencies totaled about $11.0 million and also were not accrued. A proposed vehicle-control-device class settlement remained subject to court approval; a $0.525 million liability was recorded. Environmental remediation liability was $0.267 million. The company noted potential product warranty, recall and product-liability exposure; warranty and recall liability was $9.8 million.
- Other risks and controls: Risks include customer loss or reduced purchases, vehicle-production changes, pricing pressure, cost-reduction execution, supplier and labor disruption, currency and commodity volatility, debt and covenant restrictions, and acceptance of new products. Management reported disclosure controls effective as of September 30, 2017. Orlaco was excluded from the 2017 internal-control assessment during the permitted post-acquisition integration period.
Important facts for investors to verify
- How much of ongoing sales and margin growth is attributable to Orlaco versus organic demand, and whether acquisition synergies offset its added SG&A and development costs.
- Whether the higher tax rate, acquisition earn-out revaluations and associated non-deductible items continue to weigh on earnings.
- Cash conversion and working-capital needs, including receivables and inventory growth, alongside planned capital spending and credit-facility repayments.
- The final Orlaco purchase-price allocation and contingent consideration, and the eventual PST earn-out obligation.
- Developments in the Brazilian tax dispute, PST contingencies, product warranty/recall claims and the court approval and cost of the proposed class settlement.
- Whether stated vehicle-market assumptions, currency effects and PST’s anticipated recovery materialize; the filing cautions that forward-looking statements are subject to risks and actual results may differ.