Pentair, Inc. — Q1 2012 Form 10-Q
Business context and period. Unaudited results cover the three months ended March 31, 2012, compared with the three months ended April 2, 2011. Pentair reported two segments: Water & Fluid Solutions and Technical Products. The filing is for Pentair, Inc.; it describes the proposed combination with Tyco Flow Control and the planned creation of New Pentair.
Financial performance
| Metric | Q1 2012 | Comparable period |
|---|---|---|
| Net sales | $858.2 million | $790.3 million |
| Gross profit / margin | $280.7 million / 32.7% | $249.1 million / 31.5% |
| Operating income / margin | $85.0 million / 9.9% | $86.2 million / 10.9% |
| Net income attributable to Pentair | $60.8 million | $50.5 million |
| Diluted EPS | $0.61 | $0.51 |
| Operating cash flow | $(67.5) million | $(48.2) million |
| Free cash flow | $(81.6) million | $(61.4) million |
- Sales increased 8.6%. Water & Fluid Solutions sales rose 13.9% to $587.0 million; Technical Products sales declined 1.3% to $271.2 million. Management attributed consolidated growth principally to the CPT acquisition, with reported sales components including an 8.6% acquisition contribution, 1.5% price contribution, 0.6% lower volume and 0.9% adverse currency impact.
- Gross margin improved 1.2 percentage points, supported by CPT-related sales mix, pricing and operational savings, partly offset by raw-material and labor inflation. Operating income fell despite higher sales as SG&A rose, including Tyco transaction costs, CPT integration and amortization, and labor costs.
- Net interest expense increased 58.4% to $14.8 million, primarily reflecting higher debt following the CPT acquisition. The effective tax rate fell to 12.7% from 32.5%, mainly due to tax audit resolutions, global earnings mix and CPT-related tax benefits.
- Cash used in operations increased to $67.5 million, primarily from working-capital needs and other asset and liability changes. Capital expenditures were $15.6 million. Cash ended at $55.4 million.
- At March 31, 2012, total debt was $1.415 billion, versus $1.309 billion at year-end 2011 and $808.4 million a year earlier; long-term debt was $1.395 billion. Current assets were $1.389 billion and current liabilities $659.3 million. Revolver availability was $435.7 million, limited to $362.2 million by the leverage covenant. The company reported compliance with its covenants.
Changes, outlook and material items
- Q1 operating income declined about 1.4% year over year while net income attributable to Pentair rose about 20%, with the lower tax rate materially supporting net income growth.
- CPT, acquired in May 2011 for $715.3 million, contributed $68.2 million of Q1 2012 sales and $1.6 million of income from continuing operations. The 2012 comparison therefore includes CPT, unlike the reported 2011 period.
- Management expected 2012 capital expenditures of approximately $75–$85 million and stated it continued to expect full-year free cash flow to exceed net income before noncontrolling interest. It also cited a long-term goal of free cash flow at least equal to net income. No full-year revenue, earnings or EPS guidance is provided in the supplied filing text.
- Seasonality typically makes Q1 a borrowing period, with demand for pools and some pumping equipment strongest from April through August. Management cited mixed industrial-market prospects, continued inflation and uncertainty around commodity prices, and ongoing softness in U.S. housing and pool construction. It anticipated higher 2012 pension expense than in 2011.
- The March 27 proposed tax-free, all-stock Tyco Flow Control transaction valued that business at approximately $4.9 billion, including assumed net debt of $275 million and minority interest. Pentair shareholders were expected to own about 47.5% of New Pentair and Tyco shareholders about 52.5%. Completion was expected at the end of September 2012, subject to shareholder, regulatory and other approvals. A $145 million termination fee could apply in specified circumstances if the transaction fails.
- Other notable items: Pentair recorded a $200.5 million non-cash goodwill impairment in Q4 2011 in Residential Filtration; a $105 million private-placement debt obligation was due in May 2012 and classified as long-term based on intent and ability to refinance; and Sibrape was acquired after quarter-end for approximately $21.5 million. Management reported no material market-risk changes, no material new legal-proceeding developments, and effective disclosure controls.
- Principal risks include transaction approval, delay or failure; integration and synergy execution; customer or employee uncertainty; potential share-price volatility and dilution; leverage and refinancing access; weak housing and pool markets; competition, pricing, inflation, foreign exchange and goodwill impairment. The filing also cites general economic, supply-chain, regulatory and contingent-liability risks.
Important facts for investors to verify
- Whether the Tyco Flow Control separation and merger received required approvals and closed on the anticipated terms and timetable, including transaction costs and any resulting debt.
- How much of sales growth and future earnings reflects CPT versus organic demand, and whether acquisition integration and expected benefits are being realized.
- Whether operating cash flow and free cash flow recover from Q1 working-capital outflows, and whether the stated full-year cash-flow expectation is achieved.
- Debt refinancing and maturity execution, revolver availability under covenant limits, and continued compliance with leverage covenants.
- Whether housing, pool and residential filtration demand, commodity and labor costs, and the Residential Filtration reporting unit’s outlook affect margins or trigger further impairment.
- The sustainability of the unusually low Q1 effective tax rate and its effect on comparable earnings.