Kennametal Inc. — Q1 Fiscal 2011 Form 10-Q Summary
Reporting period: Three months ended September 30, 2010. The interim financial statements are unaudited. Kennametal manufactures tooling, engineered components and advanced materials through its Industrial and Infrastructure segments.
Financial performance and position
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Sales | $529.2 million | $409.4 million | Up 29.3% |
| Gross profit | $188.7 million | $117.8 million | Up $70.9 million |
| Gross margin | 35.7% | 28.8% | Up 6.9 percentage points |
| Operating income | $57.5 million | $(9.5) million | Improved $67.0 million |
| Operating margin | 10.9% | (2.3)% | Improved 13.2 percentage points |
| Net income attributable to Kennametal | $34.9 million | $(9.8) million | Returned to profitability |
| Diluted EPS | $0.42 | $(0.12) | Improved $0.54 |
| Operating cash flow | $26.4 million | $17.3 million | Up $9.1 million |
- Sales growth was driven by increased industrial activity across major end markets and geographies. Organic sales growth was approximately 34%, partially offset by a 3% unfavorable foreign-currency effect and fewer business days.
- Industrial sales increased 33.1% to $330.7 million, with operating income of $36.1 million versus a $17.9 million loss in the prior-year quarter.
- Infrastructure sales increased 23.3% to $198.5 million, with operating income rising to $26.5 million from $11.6 million.
- Higher volumes, improved manufacturing-cost absorption, favorable mix and restructuring benefits supported margins. These benefits were partly offset by higher raw-material costs, foreign-currency effects, restored compensation costs and higher professional fees.
- Cash and cash equivalents were $124.2 million at September 30, 2010. Total debt was $318.8 million, consisting primarily of long-term debt; there were no borrowings under the $500 million revolving credit facility.
- Working capital was $608.9 million, up from $522.9 million at June 30, 2010, primarily due to higher inventories and receivables.
- Capital expenditures were $10.1 million. Cash dividends paid were $10.0 million, and the quarterly dividend remained $0.12 per share.
Material changes versus the prior comparable period
- The company moved from a $9.8 million attributable loss to $34.9 million of attributable net income.
- Gross margin expanded substantially as production volumes increased and restructuring benefits were realized.
- Operating cash flow increased despite a $34.0 million inventory investment to support expected demand.
- Prior-year investing cash flow benefited from $27.0 million of proceeds from the divestiture of the high-speed steel drills business; no comparable proceeds were received in the current quarter.
- Prior-year financing cash flow included $120.7 million of net equity-offering proceeds. Current-quarter financing cash flow included a $17.2 million net reduction in borrowings.
- The company implemented a new market-sector operating structure effective July 1, 2010, replacing the prior product-focused segments with Industrial and Infrastructure. Prior-year segment information was restated.
- Foreign-currency translation increased accumulated other comprehensive equity by approximately $68.9 million and contributed to higher reported assets and equity.
Outlook, commentary, risks and unusual items
- Management stated that restructuring programs were on track to produce annual ongoing pretax savings of approximately $160 million to $165 million once fully implemented. Approximately $39 million of benefits were realized in the quarter.
- Cumulative restructuring and related charges totaled $133 million through September 30, 2010. Total charges are expected to reach approximately $160 million to $165 million, with remaining actions expected to be completed within six to nine months and to be mostly cash expenditures.
- Restructuring and related charges were $4.3 million in the quarter, including $3.3 million classified as restructuring charges and $1.0 million in cost of goods sold.
- Research and development expense was $17.4 million, and approximately 40% of sales came from new products.
- No specific revenue or earnings guidance was provided in the filing. Management described growth across all major served end markets but cautioned that results remain exposed to economic conditions, raw-material and commodity costs, currency movements, energy costs, competition and demand volatility.
- Environmental reserves were $5.8 million. The company is also a potentially responsible party at certain Superfund sites where ultimate costs cannot yet be estimated.
- The company was in compliance with its debt covenants at September 30, 2010 and reported investment-grade credit ratings.
- On October 26, 2010, the board authorized repurchases of up to 8 million shares. Shareholders also approved the 2010 Stock and Incentive Plan authorizing up to 3.5 million shares plus remaining shares under the prior plan.
- Management concluded that disclosure controls and procedures were effective as of September 30, 2010, with no material changes to internal control over financial reporting.
Key facts investors should verify
- Whether the projected $160 million to $165 million of annual restructuring savings are realized and whether remaining cash charges remain within the stated range.
- Whether demand growth and operating leverage continue after the strong year-over-year rebound.
- Inventory growth, working-capital conversion and the effect of future production levels on cash flow.
- Exposure to raw-material prices, foreign exchange, energy costs and global industrial-market conditions.
- Future debt maturities, interest-rate exposure and continued compliance with revolving-credit covenants.
- Potential changes in environmental remediation costs and valuation allowances on deferred tax assets.
- The timing and financial effect of the authorized 8 million-share repurchase program.