Sensata Technologies Holding N.V. — Q3 2014 Form 10-Q
Reporting period: Three and nine months ended September 30, 2014. The filing presents unaudited U.S. GAAP results. The company operates sensors and controls businesses serving automotive, heavy vehicle, industrial, and other markets.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $577.1m | $498.9m | $1,704.5m | $1,475.7m |
| Operating income | $92.1m | $100.1m | $295.3m | $265.5m |
| Operating margin | 16.0% | 20.1% | 17.3% | 18.0% |
| Net income | $82.0m | $66.0m | $214.2m | $121.1m |
| Diluted EPS | $0.48 | $0.37 | $1.24 | $0.67 |
| Operating cash flow | — | — | $280.1m | $308.8m |
- Revenue growth: Q3 revenue rose 15.7%; sensors increased 19.8% and controls 5.2%. Nine-month revenue rose 15.5%; sensors increased 19.9% and controls 4.5%.
- Profitability: Q3 cost of revenue was 64.5% of revenue versus 62.0% a year earlier, while SG&A rose to 9.2% from 8.1%. Q3 operating income declined despite higher sales. Nine-month operating income grew, but operating margin narrowed.
- Net income and taxes: Q3 net income included a $22.0m tax benefit, including a $32.5m valuation-allowance release tied to the DeltaTech acquisition. Nine-month tax provision was $6.9m, versus $48.2m in 2013; acquisition-related tax benefits totaled $40.8m.
- Cash flow and investment: Nine-month capital expenditures were $101.1m and acquisition payments, net of cash received, were $298.5m. Operating cash flow fell year over year, primarily due to inventory growth and timing of receipts and payments. Inventory increased to $274.3m from $183.4m at year-end.
- Cash and debt: Cash was $196.7m at September 30, down from $317.9m at December 31, 2013. Gross debt, including capital leases and other financing obligations, was $1.881bn. Revolver availability was $85.1m, net of letters of credit. The company reported compliance with debt covenants.
- Margins and cash conversion: Reported gross margin was approximately 35.5% in Q3 versus 38.0%; nine-month gross margin was approximately 35.6% versus 36.3%. Nine-month operating cash flow was below net income.
Material changes and business developments
- Acquisitions contributed to growth: Wabash and DeltaTech helped drive sensors revenue; Magnum Energy contributed to controls revenue. The acquired businesses contributed $92.6m of revenue in the first nine months of 2014; their net income contribution was not material.
- Q3 sensors organic revenue grew 8.1%, with acquisitions contributing 11.3% to sensors growth. Management cited vehicle production and increased sensor content, partly offset by pricing. Nine-month sensors organic revenue grew 11.0%.
- On October 14, 2014, after quarter-end, the company acquired Schrader for $1.0bn, subject to post-closing adjustments. It financed the transaction with $400m of 5.625% senior notes due 2024, a $600m incremental term loan due 2021, and cash on hand; proceeds also repaid Schrader debt and covered fees and expenses. The filing does not provide a post-transaction pro forma leverage figure.
- Q3 “Other, net” was a loss of $8.6m, compared with income of $9.4m a year earlier, largely reflecting commodity-derivative and foreign-currency remeasurement losses. Nine-month other expense improved to $4.1m from $25.4m, including fewer commodity-hedge losses and no repeat of the 2013 debt-refinancing loss.
- The company repurchased approximately $181.7m of shares in the first nine months, including $169.7m spent to repurchase 4.0m shares from its former major shareholder. Approximately $74.7m remained under the buyback program at September 30. Secondary offerings by that shareholder generated no proceeds for the company.
Outlook, risks, and unusual items
- Management expected 2014 capital expenditures of approximately $120m–$140m, funded from operating cash flow. It stated that available liquidity was expected to cover operations, capital expenditures, repurchases, and debt service for at least 12 months, while warning that cash generation and future borrowing availability were not assured. No revenue or earnings guidance was provided in the filing text.
- Management cited regulatory demand drivers, including emissions, fuel-efficiency, and vehicle-safety requirements, and design wins supporting future sensor content. It also noted pricing pressure and weaker appliance and HVAC markets in controls.
- Key risks include high leverage and refinancing needs; acquisition integration, synergies, and assumed liabilities, particularly Schrader’s known and unknown contingencies; customer and end-market demand and pricing; foreign-currency and commodity-price volatility; and international operations and export-control compliance.
- Contingencies include seven remaining Ford-related vehicle-fire lawsuits, with TI indemnification subject to contractual thresholds and a $300m cap; a probable Italian product-defect claim with a $0.3m accrual; and probable automotive-customer product claims with a $0.9m accrual. The filing also describes Korean supplier litigation and regulatory investigations, for which no loss was considered probable and no accrual was recorded.
- The company continued to cooperate with the SEC on a previously disclosed FCPA inquiry; it reported that the DOJ had closed its inquiry in 2012 but could reopen it. No provision was recorded because potential penalties could not be estimated.
- Q3 results included $4.5m of restructuring and special charges. The quarterly tax benefit materially boosted net income. The company completed an Oracle ERP upgrade during the quarter and reported effective disclosure controls.
Important facts for investors to verify
- Post-Schrader debt, interest expense, integration costs, contingent liabilities, and realized synergies; the filing does not provide a clear pro forma leverage value.
- Whether acquisition-driven growth translates into organic growth and improved operating margins, given higher cost of revenue and SG&A.
- Inventory normalization and cash conversion, including the stated ERP-transition and customer-delivery rationale for the inventory build.
- The sustainability of reported net income growth after the acquisition-related tax benefits and volatility in commodity and currency results.
- Updates to litigation, the Korean investigations, the SEC FCPA inquiry, and the amount and scope of any indemnification recoveries.
- Capital spending versus the $120m–$140m outlook, revolving-credit availability, and compliance with debt covenants following the subsequent financing and acquisition.