Kennametal Inc. Form 10-Q Summary
Reporting period: Three and nine months ended March 31, 2017, fiscal third quarter of fiscal 2017. The request metadata identifies “2016 Q3,” but the filing is for fiscal 2017 Q3 and compares with the period ended March 31, 2016.
Business Context
Kennametal manufactures tooling, engineered components and advanced materials for industrial, transportation, aerospace and defense, earthworks, energy, construction and related markets. Fiscal 2017 introduced three reportable segments: Industrial, Widia and Infrastructure. The filing was unaudited and included continuing operations.
Key Financial Metrics
| Metric | Three months ended March 31 | Nine months ended March 31 |
|---|---|---|
| Sales | $528.6 million, up 6% | $1,493.3 million, down 5% |
| Gross profit | $186.3 million; 35.2% margin | $477.4 million; 32.0% margin |
| Operating income | $57.9 million; 11.0% margin | $72.7 million; 4.9% margin |
| Net income attributable to Kennametal | $38.9 million | $24.5 million |
| Diluted earnings per share | $0.48 | $0.30 |
| Cash flow from operations | Not separately provided | $80.0 million |
| Capital expenditures | Not separately provided | $94.1 million |
- Quarterly sales growth reflected 5% organic growth and 2% more business days, partly offset by a 1% unfavorable currency effect. All segments and regions reported higher sales.
- Quarterly operating income benefited from approximately $20 million of incremental restructuring benefits, organic growth, higher absorption and productivity, and favorable mix. These benefits were partly offset by higher performance-based compensation and raw-material costs.
- Cash and cash equivalents were $100.8 million at March 31, 2017, compared with $161.6 million at June 30, 2016.
- Total debt, including notes payable, was approximately $696.2 million; long-term debt and capital leases were $694.6 million. No borrowings were outstanding under the $600 million revolving credit facility, which matures in April 2021.
- Working capital was $616.2 million, down from $648.1 million at June 30, 2016. Total assets were $2.335 billion and total Kennametal shareholders’ equity was $946.0 million.
- The company paid $48.0 million of cash dividends during the nine-month period and declared dividends of $0.20 per share for each reported quarter.
Material Changes Versus Prior Comparable Period
- Quarterly sales increased $30.8 million, while nine-month sales decreased $83.9 million, primarily because the prior-year period included divested businesses and unfavorable currency effects.
- Quarterly gross margin improved from 31.6% to 35.2%; nine-month gross margin improved from 28.5% to 32.0%.
- Quarterly operating income more than doubled from $27.3 million to $57.9 million. Nine-month operating income improved from a $200.0 million loss to $72.7 million of income.
- Prior-year nine-month results included a $130.8 million pre-tax divestiture loss and $108.5 million of non-cash asset impairment charges. These unusual items did not recur in the current period.
- Quarterly Widia operating income was $0.6 million versus a $1.7 million loss, representing its first quarterly profit under the new structure. Industrial operating margin was 13.3%, and Infrastructure operating margin was 10.3%.
- Operating cash flow declined to $80.0 million from $145.4 million, primarily due to higher inventory and accounts receivable, higher restructuring payments and other working-capital uses.
- Capital expenditures increased to $94.1 million from $83.3 million, while prior-year investing cash flows benefited from $61.1 million of divestiture proceeds.
Guidance, Outlook, Risks and Unusual Items
- Restructuring programs are expected to be completed by December 2019. Total pre-tax charges are estimated at $165 million to $195 million, with expected annual ongoing pre-tax savings of $165 million to $180 million once completed.
- Total restructuring and related charges recorded since inception were $124.5 million through March 31, 2017. The company anticipated approximately $90 million of annualized savings from employment reductions and an additional $75 million to $90 million of annualized savings from other restructuring programs once completed.
- Management stated that product and process simplification, factory modernization and End-to-End initiatives were expected to provide additional benefits over the following two to three years.
- The company was exploring strategic alternatives for a non-core Infrastructure business with an estimated net book value of approximately $30 million. Management stated that potential additional impairment charges could not yet be determined.
- Widia goodwill of approximately $27.0 million was allocated following the operating realignment. The Widia reporting unit’s fair value approximated its carrying value, increasing impairment sensitivity to weaker cash flows, higher discount rates or failure to achieve restructuring benefits.
- Environmental reserves were $12.1 million. The company participates in Superfund and other remediation matters, and stated that related liabilities could change materially as facts, remediation requirements or the financial condition of other responsible parties change.
- Key disclosed risks include economic weakness, international and currency exposure, raw-material and energy costs, competition, labor relations, restructuring execution, goodwill impairment, environmental liabilities, product liability, cybersecurity and supply or operational disruptions.
- Management stated that it had sufficient resources for the next 12 months, was in compliance with debt covenants and had investment-grade senior credit ratings.
Important Facts for Investors to Verify
- Verify the fiscal-period labeling: this is fiscal 2017 Q3, not fiscal 2016 Q3.
- Assess whether restructuring savings are recurring and sustainable, and compare them with remaining cash charges and execution requirements.
- Monitor Widia’s profitability and goodwill valuation because its fair value approximately equaled carrying value.
- Reconcile operating cash flow with earnings and track working-capital investment, particularly inventory and receivables.
- Evaluate leverage and liquidity, including approximately $696.2 million of total debt versus $100.8 million of cash.
- Separate underlying operating improvement from the absence of prior-year divestiture losses and impairment charges.
- Review the potential disposition or impairment of the non-core Infrastructure business and the uncertainty surrounding environmental contingencies.