ITT Corporation 2012 Q3 Form 10-Q Summary
Business Context and Reporting Period
ITT Corporation is a diversified manufacturer of engineered components and technology solutions serving energy infrastructure, electronics, aerospace and transportation markets. Its reportable segments are Industrial Process, Motion Technologies, Interconnect Solutions and Control Technologies.
The unaudited filing covers the quarter and nine months ended September 30, 2012, with comparisons to the corresponding 2011 periods. Exelis and Xylem were spun off on October 31, 2011; their prior-period results are presented as discontinued operations.
Key Financial Metrics
| Metric | Q3 2012 | Q3 2011 | 9M 2012 | 9M 2011 |
|---|---|---|---|---|
| Revenue | $555.9 million | $515.9 million | $1,700.3 million | $1,601.4 million |
| Gross profit | $168.8 million | $155.2 million | $515.4 million | $499.3 million |
| Gross margin | 30.4% | 30.1% | 30.3% | 31.2% |
| Operating income | $36.9 million | $(11.3) million | $131.1 million | $25.6 million |
| Operating margin | 6.6% | (2.2)% | 7.7% | 1.6% |
| Income from continuing operations | $60.8 million | $(29.5) million | $87.7 million | $(32.3) million |
| Net income | $73.0 million | $108.5 million | $93.0 million | $399.5 million |
| Diluted EPS from continuing operations | $0.65 | $(0.32) | $0.93 | $(0.35) |
Q3 organic revenue growth was 9.9%, while reported revenue increased 7.8%. Nine-month organic revenue growth was 8.2%, compared with reported growth of 6.2%, after unfavorable foreign-currency effects of $20.4 million in Q3 and $54.5 million year to date.
- Segment performance: Q3 Industrial Process revenue rose 27.4% and operating income rose 36.6%; Motion Technologies revenue was flat but operating income increased 5.1%; Interconnect Solutions revenue declined 10.3% and reported a $0.9 million operating loss; Control Technologies revenue declined 6.4% while operating income increased 6.3%.
- Cash flow: Nine-month cash provided by continuing operations was $177.1 million, compared with cash used of $111.8 million in 2011. Capital expenditures were $43.9 million, and adjusted free cash flow was $221.0 million versus $(15.3) million.
- Liquidity: Cash and cash equivalents were $762.0 million at September 30, 2012, versus $689.9 million at December 31, 2011. The $500 million revolving credit facility had no borrowings outstanding, and covenant ratios were within required thresholds.
- Debt: The filing states that $1.25 billion of long-term debt was extinguished in the fourth quarter of 2011. It does not provide a clear total debt balance at September 30, 2012 in the supplied text.
- Capital returns: The company paid $17.2 million of dividends and repurchased $76.9 million of common stock during the first nine months. It expected to repurchase up to $50.0 million over the following six months.
Material Changes Versus the Prior Comparable Period
- Revenue and gross profit increased in Q3, but nine-month gross margin declined 90 basis points because of lower Interconnect Solutions volume, unfavorable mix and pricing, and foreign-currency effects.
- Operating income improved substantially, principally because net asbestos costs declined to $12.8 million from $59.3 million in Q3 and transformation costs declined to $2.6 million from $19.8 million.
- Interest and non-operating expense changed from $22.5 million of expense in Q3 2011 to $5.1 million of net income in Q3 2012, primarily reflecting the 2011 debt extinguishment and a reversal of accrued interest related to tax matters.
- Net income declined despite improved continuing operations because 2011 included $138.0 million of income from discontinued operations, compared with $12.2 million in Q3 2012. For the first nine months, discontinued-operation income fell to $5.3 million from $431.8 million.
- Interconnect Solutions was materially weaker, reflecting industry softness, market-share losses, lower aerospace and defense sales, and reduced production at a major smartphone customer.
- The company reduced its estimated asbestos liability by $75.8 million and its related asset by $78.7 million after its annual review. A September 2012 settlement reduced asbestos liabilities by $245.2 million and related assets by $233.8 million; ITT expects a $10.0 million cash payment from the counterparty.
Guidance, Outlook, Commentary, Risks and Unusual Items
- Management expected approximately $5.0 million of additional after-tax repositioning costs during the remainder of 2012 and approximately $20.0 million during 2013 and 2014. Expected related cash outflows were approximately $6.0 million for the remainder of 2012 and $25.0 million thereafter.
- Management expected approximately $2.0 million of after-tax transformation costs during the remainder of 2012 and no significant transformation costs thereafter.
- ITT agreed to acquire Bornemann Pumps for approximately €200 million, reduced by approximately €30 million of assumed debt, funded with cash on hand. Closing was expected in the fourth quarter of 2012, subject to regulatory approval.
- Asbestos liabilities were $1,346.7 million and related assets were $631.0 million, producing net exposure of $715.7 million at September 30, 2012. Approximately 96,000 asbestos claims were pending. Estimated insurer recovery was 47%, declining to a projected 24% in the tenth year.
- Management projected net asbestos cash outflows through approximately 2028, averaging $10 million to $20 million annually over the next five years and approximately $35 million to $45 million annually over the remainder of the projection period. Claims beyond the next 10 years were not recorded because they could not be reasonably estimated.
- Environmental liabilities, net of recorded insurance recoveries, were $89.5 million. The reasonably possible gross environmental liability range was $77.6 million to $167.2 million across 68 active sites.
- Key risks include asbestos and environmental exposures, insurer solvency and recoveries, foreign-currency volatility, European economic weakness, defense and connector-market declines, pricing and mix pressure, restructuring execution, tax valuation allowances, pension funding requirements, liquidity access and acquisition integration.
Most Important Facts for Investors to Verify
- Reconcile reported and adjusted earnings, particularly the effects of asbestos charges, tax items, transformation costs, repositioning costs and other unusual items.
- Confirm the company’s total debt and maturity profile at September 30, 2012, which are not fully presented in the supplied filing text.
- Assess the sensitivity of asbestos net exposure to claim frequency, settlement values, insurer recoveries, policy exhaustion and claims arising after 2022.
- Evaluate whether Interconnect Solutions’ market-share losses and weakness in communications, aerospace and defense markets are stabilizing.
- Verify the timing, financing and regulatory status of the Bornemann Pumps acquisition and its effect on cash balances and leverage.
- Monitor the effectiveness and cash cost of planned restructuring and repositioning actions, especially in Europe.
- Review the sustainability of operating cash flow excluding tax refunds, settlement proceeds and other nonrecurring items.