Rockwell Automation, Inc. — Q1 FY2016 Form 10-Q
Reporting period: Three months ended December 31, 2015; comparisons are with the three months ended December 31, 2014 unless noted. Rockwell provides industrial automation products, solutions and services. The interim financial statements are unaudited and reviewed by Deloitte; management says quarterly results are not necessarily indicative of full-year results.
Financial performance
- Sales: $1.427 billion, down 9.4%. Organic sales fell 3.3%; currency translation reduced reported sales by 6.1 percentage points. Pricing contributed about 1 percentage point.
- Profit and margins: Gross profit was $612.7 million, down from $687.5 million; gross margin was approximately 43.0%, versus 43.6%. Net income was $185.5 million, down 13.4%; diluted EPS was $1.40 versus $1.56. Pre-tax margin was 16.6%, versus 18.3%.
- Segment results: Architecture & Software sales were $642.9 million (down 9.2%) and operating margin was 27.4% (down 3.9 points). Control Products & Solutions sales were $783.7 million (down 9.6%); margin improved to 15.3% from 14.5%, primarily due to productivity. Total segment operating earnings declined 15% to $295.9 million; total segment margin was 20.7%, versus 22.0%.
- Cash flow: Operating cash flow was $184.8 million, down from $268.2 million. Capital expenditures were $40.2 million; company-defined free cash flow was $145.3 million, versus $232.6 million. Management attributed the decline mainly to lower net income and higher working capital.
- Liquidity and debt: Cash and cash equivalents were $1.449 billion and short-term investments were $770.6 million at December 31. Total debt was $1.654 billion ($161.0 million short-term and $1.493 billion long-term); debt-to-total-capital was 42.5%, up from 39.9% at September 30. The company had a $1.0 billion revolving credit facility, no borrowings under it, and reported covenant compliance. About 90% of cash, cash equivalents and short-term investments were held by non-U.S. subsidiaries whose undistributed earnings were permanently reinvested.
- Shareholder returns: Cash dividends were $0.725 per share, versus $0.65. The company repurchased approximately 1.2 million shares for $121.8 million and had about $323.4 million remaining under its $1.0 billion authorization.
- Taxes: The effective tax rate was 21.7%, down from 25.5%, primarily reflecting the retroactive and permanent extension of the U.S. federal research and development tax credit and lower non-U.S. tax rates.
Material changes and operating conditions
- Reported sales fell across both segments and all geographic regions. Organic sales were weaker in the U.S. (down 5.9%) and Asia Pacific (down 10.8%), while EMEA (up 5.8%) and Latin America (up 7.6%) grew organically; currency reduced reported sales in non-U.S. regions.
- Management reported declines across most industries, with the largest weakness in heavy industries, particularly oil and gas. Logix sales decreased approximately 12% and process initiative sales approximately 20% year over year.
- U.S. manufacturing indicators softened: the December-quarter PMI was 48.0 and capacity utilization was 77.0%, both below the prior quarter. Management cited a stronger U.S. dollar and weaker industrial production outlook. It also described subdued conditions in China and parts of Latin America and Canada, while Europe was growing moderately.
- Currency translation and lower organic sales contributed to lower segment earnings. Architecture & Software margin contracted; Control Products & Solutions margin improved despite lower sales.
Outlook, risks and notable items
- The filing gives long-term financial goals—above-market organic sales growth, EPS growth above sales growth, return on invested capital above 20%, and free cash flow of about 100% of Adjusted Income—but does not provide a specific FY2016 sales or earnings forecast in the provided text.
- Management noted that third-party industrial production growth projections for 2016 had turned negative in the U.S. and been lowered outside the U.S.; it expects continued market uncertainty. Actual results may be affected by customer capital spending, economic and currency conditions, commodity prices, competition, technology and cybersecurity, supply availability, litigation, taxes, pensions and execution of productivity initiatives.
- Contingencies include asbestos-related personal-injury lawsuits and other litigation. The company said it believes pending matters will not materially affect results or financial condition, while acknowledging uncertainty in asbestos litigation and possible future indemnification payments.
- Gross unrecognized tax benefits were $44.3 million. The company said up to $31.8 million could be reduced within 12 months through tax matters and statute expirations; any resolution is uncertain.
- The company adopted balance-sheet classification guidance for deferred taxes early, retrospectively reclassifying $151.2 million at September 30, 2015. It was evaluating the effect of the new revenue-recognition standard, effective for it beginning in fiscal 2019.
- Disclosure controls were reported effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether organic demand, especially in heavy industries, stabilizes and whether currency continues to materially reduce reported sales.
- How segment margins and earnings respond to lower sales, productivity measures and further changes in mix.
- Whether operating cash flow and free cash flow recover as working capital changes, alongside continued dividends and share repurchases.
- Debt, liquidity and the location and availability of funds held by non-U.S. subsidiaries; monitor commercial-paper access and covenant headroom.
- Developments in asbestos and other litigation, tax examinations and unrecognized tax benefits.