The Timken Company — Q1 2017 Form 10-Q
Business context and period. The filing covers the three months ended March 31, 2017. Timken manufactures bearings and related power-transmission products and services, reporting through Mobile Industries and Process Industries. Amounts below are in millions, except per-share data.
Key financial results
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net sales | $703.8 | $684.0 | +2.9% |
| Gross profit / margin | $180.5 / 25.6% | $183.1 / 26.8% | Margin down 120 bps |
| Operating income | $59.2 | $55.3 | +$3.9 |
| Net income attributable to Timken | $38.2 | $65.9 | -$27.7 |
| Diluted EPS | $0.48 | $0.82 | -$0.34 |
| Operating cash flow | $46.7 | $48.6 | -$1.9 |
Sales growth reflected approximately $16 million from acquisitions and $6 million of higher organic revenue, partly offset by currency. Lower gross profit chiefly reflected $14 million of unfavorable price/mix and pension remeasurement effects, partly offset by volume, acquisitions and improved manufacturing performance. The much lower year-over-year net income principally reflects the absence of $47.7 million of pretax Continued Dumping and Subsidy Offset Act (CDSOA) income recognized in 2016; management cited its after-tax benefit as $31.1 million.
Process Industries sales were $320.8 million, up 6.6%, and EBIT was $43.0 million, up 27.2% (margin 13.4%, up 220 bps). Mobile Industries sales were $383.0 million, roughly flat, and EBIT was $30.8 million, down 3.8% (margin 8.0%, down 40 bps).
Balance sheet, cash and debt
- At March 31, cash and cash equivalents were $129.5 million, down from $148.8 million at year-end; total current assets were $1,270.7 million and current liabilities $498.4 million.
- Total debt was $637.3 million, versus $659.2 million at December 31; net debt was $504.9 million and net debt to capital 27.1% (27.9% at year-end). The company reported compliance with debt covenants.
- Operating cash flow was $46.7 million; investing activities used $26.9 million and financing activities used $43.0 million. Cash declined $19.3 million during the quarter. Working capital used $36.6 million, including a $50.3 million use from receivables.
- Approximately $120 million of cash was held outside the United States; repatriation could result in taxes and some funds may face governmental restrictions. The $500 million senior credit facility had $457.2 million available; the receivables facility had $23.4 million available at quarter-end.
Outlook, commentary and notable items
- Management expected 2017 sales to rise approximately 5%–6% and earnings to be higher than in 2016. Drivers included higher industrial and off-highway volume and acquisitions; offsets included unfavorable price/mix, weaker rail volume and foreign exchange. The earnings outlook excludes any possible fourth-quarter pension mark-to-market adjustments.
- Expected 2017 operating cash was approximately $325 million, about $79 million below 2016, reflecting no repeat of CDSOA receipts, higher tax payments and unfavorable working capital. Capital expenditures were expected to be about 4% of sales.
- Expected segment sales growth was 2%–3% for Mobile Industries and 9%–10% for Process Industries. Mobile EBIT was expected to increase, though to be relatively flat excluding lower expected pension remeasurement and restructuring charges; Process EBIT was expected to increase.
- Timken adopted a pension accounting change retrospectively: actuarial gains and losses are recognized promptly in benefit cost and plan assets are measured at fair value rather than smoothed. The change reduced retained earnings by $239 million at January 1, 2017. It increased reported Q1 2017 net income by $7.4 million versus the prior method; Q1 2016 was revised upward by $2.9 million, affecting comparability.
- A pension remeasurement triggered by lump-sum payments resulted in a $4.4 million actuarial loss in Q1. Management estimated 2017 pension expense of approximately $15 million, excluding potential fourth-quarter remeasurement effects.
- Restructuring charges were $1.7 million, down from $10.5 million. The Altavista plant closure was completed March 31, 2017; the Pulaski plant closure was ongoing. On April 3, 2017, Timken completed its acquisition of Torsion Control Products, with approximately $20 million of 2016 annual sales.
- The company was evaluating customer claims concerning bearings sold into the wind energy sector. Accruals were included in warranty liabilities; management did not expect a material effect on consolidated financial position, but excess costs could materially affect an individual period. Management also noted possible volatility in quarterly tax rates and uncertainty around foreign exchange, demand, pricing, pension performance and integration of acquisitions.
Investor verification priorities
- Separate underlying earnings trends from the nonrecurring 2016 CDSOA income and the retrospective pension-accounting effects.
- Monitor price/mix, gross-margin recovery, and whether Process Industries growth offsets softness in Mobile Industries markets such as rail.
- Track working-capital conversion, especially receivables, against management’s $325 million operating-cash-flow outlook.
- Review debt availability, covenant headroom and the practical accessibility and tax cost of offshore cash.
- Follow pension remeasurement exposure, wind-energy warranty claims, restructuring costs and the performance of the newly acquired business.