Flowserve Corporation Form 10-Q Summary
Business Context and Reporting Period
Flowserve Corporation filed its unaudited Form 10-Q for the quarter and six months ended June 30, 2020. The company manufactures flow-control equipment and provides aftermarket services through its Flowserve Pump Division (FPD) and Flow Control Division (FCD), serving oil and gas, chemical, power generation, water management and general industrial markets. Results were materially affected by the COVID-19 pandemic, distressed and volatile oil prices, reduced customer capital spending and supply-chain disruptions.
Financial Performance and Liquidity
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Sales | $925.0 million, down 6.6% | $1.819 billion, down 3.2% |
| Gross profit | $267.2 million; margin 28.9% | $533.1 million; margin 29.3% |
| Operating income | $42.9 million; margin 4.6% | $68.4 million; margin 3.8% |
| Net earnings attributable to Flowserve | $8.6 million; diluted EPS $0.07 | $8.0 million; diluted EPS $0.06 |
| Operating cash flow | Not separately provided | $21.2 million |
- Compared with the prior-year periods, net earnings attributable to Flowserve declined from $58.2 million to $8.6 million in the quarter and from $115.4 million to $8.0 million year to date.
- Gross margin declined from 32.1% to 28.9% in the quarter and from 32.6% to 29.3% year to date. Management attributed the decline primarily to realignment charges, COVID-19-related underutilized manufacturing capacity and, year to date, a shift toward lower-margin original equipment sales.
- Cash and cash equivalents were $561.7 million at June 30, 2020, compared with $671.0 million at December 31, 2019. Net cash decreased by $109.3 million during the first six months.
- Six-month investing cash flow was an outflow of $21.2 million, including $32.0 million of capital expenditures. Financing cash flow was an outflow of $91.9 million, including $52.1 million of dividends and $32.1 million of share repurchases.
- Total debt and finance lease obligations were $1.377 billion, including $1.356 billion of senior notes. The company had no revolving loans outstanding and $722.2 million of effective borrowing availability under its $800 million unsecured credit facility, subject to covenants and letters of credit.
- The company reported approximately $1.3 billion of liquidity, consisting of cash and available credit-facility borrowings, and stated that it expected available liquidity and operating cash flows to cover cash needs for the next 12 months.
Material Changes Versus the Prior Comparable Period
- Second-quarter bookings fell 26.9% to $808.3 million; six-month bookings fell 17.6% to $1.784 billion. The declines were concentrated in oil and gas and other industrial markets and were driven primarily by lower original equipment bookings.
- Backlog was $2.067 billion at June 30, 2020, down 4.2% from December 31, 2019. Approximately 35% of backlog related to aftermarket orders.
- FPD second-quarter sales were broadly flat, but segment operating income declined 20.7% to $60.4 million. FCD sales declined 20.4% and segment operating income declined 48.9% to $23.6 million.
- SG&A increased 1.7% in the quarter and 9.8% year to date, while SG&A as a percentage of sales increased to 24.6% and 25.9%, respectively.
- The six-month effective tax rate increased to 77.3% from 24.5%, primarily because the company established a valuation allowance against certain deferred tax assets in light of COVID-19 and distressed oil prices.
- Accumulated other comprehensive loss increased to $643.2 million at June 30, 2020, primarily because of unfavorable foreign-currency translation effects.
- Upon adoption of the current expected credit loss standard on January 1, 2020, the company recorded a $7.3 million after-tax reduction to opening retained earnings. The allowance for short-term receivables increased to $72.1 million from $53.4 million at year-end.
Outlook, Management Commentary, Risks and Unusual Items
- Management expected second-half 2020 bookings to decline approximately 20% and revenue to decline approximately 15% versus the second half of 2019. These expectations were subject to significant uncertainty.
- The company initiated a 2020 Realignment Program to reduce workforce costs and optimize manufacturing. Total investment was expected to be approximately $65 million, with most charges expected in 2020. Second-quarter realignment and transformation charges totaled $64.1 million; year-to-date charges totaled $80.5 million.
- Management reported approximately $5 million of cost savings achieved by June 30, 2020 and expected approximately $100 million of full-year run-rate cost savings after completion of the realignment activities. Actual savings could vary.
- The company planned approximately $100 million of 2020 cost reductions, excluding realignment charges, and reduced expected 2020 capital expenditures to approximately $60 million.
- COVID-19 caused temporary facility closures, employee and health-safety costs, under-absorption of manufacturing costs, logistics and freight increases, delayed customer spending and supplier disruptions. As of July 30, 2020, all facilities were open and operating near pre-pandemic levels, according to management.
- Key risks include the duration and severity of COVID-19, oil and gas market weakness, customer cancellations or delayed orders, backlog conversion and project-margin risk, receivable collectability, foreign-currency volatility, supply-chain disruptions, goodwill or other asset impairment, tax valuation allowances, litigation and asbestos-related claims.
- The company was in compliance with applicable debt covenants at June 30, 2020. Management stated that routine litigation was not expected to be material, while noting that asbestos-related outcomes remain inherently uncertain.
Important Facts for Investors to Verify
- Whether the projected 20% second-half bookings decline and 15% revenue decline occurred and how subsequent COVID-19 developments affected the outlook.
- Whether the $65 million realignment investment and projected $100 million run-rate savings were achieved, including the timing and cash cost of workforce and facility actions.
- Changes in backlog, bookings, cancellations and aftermarket demand, particularly in oil and gas and FCD markets.
- Cash generation, working-capital trends, credit-facility availability and compliance with financial covenants.
- Changes in expected credit-loss allowances, deferred-tax asset valuation allowances, receivable recoveries and foreign-currency exposure.
- Developments in asbestos-related claims, other litigation and any potential material contingent liabilities.