Business context and reporting period
This is Ingersoll-Rand plc’s unaudited Form 10-Q for the quarter and six months ended June 30, 2012. The filing predates the later Trane Technologies name; the registrant was Ingersoll-Rand plc. Its four reporting segments were Climate Solutions, Residential Solutions, Industrial Technologies and Security Technologies.
Financial results and liquidity
- Second quarter: Revenue was $3.821 billion, down 6.6% year over year. Operating income was $477.9 million (12.5% margin), versus $298.7 million (7.3%) in 2011, which included a $200.5 million Hussmann impairment charge. Diluted EPS was $1.16, versus $0.26; continuing-operations diluted EPS was $1.14, versus $0.35.
- First half: Revenue was $6.972 billion, down 5.3%. Operating income was $689.9 million (9.9% margin), versus $340.5 million (4.6%) in 2011, which included a $386.8 million Hussmann impairment charge. Diluted EPS was $1.47, versus $0.04; continuing-operations diluted EPS was $1.45, versus $0.15.
- Underlying margin comparison: Management said operating margin improved 0.3 percentage points in Q2 excluding the prior-year Hussmann impairment, and was flat for the first half on that basis. The 2011 comparison also included a $23 million China asset-sale gain.
- Cash flow: First-half cash from continuing operations was $379.5 million, compared with $352.7 million; total operating cash flow, including discontinued operations, was $305.6 million, versus $332.5 million. Continuing capital expenditures were $113.8 million, versus $80.2 million. Cash ended at $903.4 million, down from $1.161 billion at year-end 2011.
- Debt and liquidity: Total debt was $3.294 billion, down from $3.643 billion; reported debt-to-total-capital was 30.8%, versus 34.2%. Cash less total debt was approximately $2.390 billion net debt. The company had $2.0 billion of unused revolving credit facilities and no commercial paper outstanding.
- Other balance-sheet measures: Total assets were $18.739 billion and total equity was $7.387 billion. Current assets were $5.371 billion and current liabilities $3.909 billion.
Material changes and segment performance
- The revenue decline primarily reflected the absence of Hussmann, which contributed $286.8 million of Q2 2011 revenue and $499.9 million for the first half of 2011. Pricing and selected volume gains partly offset the divestiture and currency headwinds.
- Q2 segments: Climate Solutions revenue fell 13.2% (mainly Hussmann); Industrial Technologies revenue rose 2.4% and operating income rose 11.5%; Residential Solutions revenue rose 3.2% and operating income rose 28.3%; Security Technologies revenue fell 2.5% and operating income fell 10.4%.
- First-half segments: Climate Solutions revenue fell 11.3%; Industrial Technologies revenue rose 4.7% and operating income rose 9.8%; Residential Solutions revenue rose 0.8% while operating income fell 15.1%; Security Technologies revenue fell 0.9% and operating income fell 6.7%.
- The $345 million 4.5% Exchangeable Senior Notes were settled in Q2 for $357 million in cash and issuance of 10.8 million ordinary shares. First-half debt repayments were $354.4 million. A $1.0 billion revolving facility was refinanced and extended to 2017; total revolving commitments remained $2.0 billion.
Outlook, commentary, risks and unusual items
- Management anticipated modest revenue growth as conditions stabilized, with expected benefits from restructuring and productivity programs; this filing does not provide a quantified revenue or EPS forecast. Management projected a 2012 effective tax rate of approximately 19%, including discrete tax benefits.
- Management cited challenging residential and consumer markets, low housing construction and consumer confidence, lower-SEER product mix, weak commercial construction affecting Security Technologies, and declines in Europe. It reported moderate growth in American and Asian industrial markets and North American refrigerated transport, and a gradual recovery in commercial HVAC replacement and aftermarket demand.
- Q2 taxes included a net discrete benefit of approximately $47 million, including a $54 million out-of-period adjustment for a Spanish tax-law change. The filing says a further approximately $22 million benefit was expected in Q3 following a subsequent interpretation of the law. The MD&A reports a $44 million first-half net discrete benefit; these period figures should be reconciled against the detailed tax note.
- Control weakness: Management concluded disclosure controls were ineffective due to a material weakness in controls over deferred-tax balances and valuation allowances, including failure to timely identify and account for enacted tax-law changes. Remediation was planned by the 2012 year-end close, subject to successful testing.
- Tax dispute: The IRS continued to assert an alternative tax position concerning 2002 intercompany interest payments, with approximately $84 million of proposed additional tax plus interest and potential 30% penalties. The company disputed the position and said it was adequately reserved, but warned an adverse resolution could materially harm results, financial condition and cash flows. Unrecognized tax benefits were $542.3 million.
- Other exposures: Recorded asbestos liabilities were $904.8 million, with $318.5 million of probable insurance recoveries; actual liabilities and recoveries may differ materially. Environmental reserves were $69.7 million. Trane also had $323.2 million of long-term service and performance guarantees, for which management considered significant losses remote. In November 2012, holders could put up to $306.4 million of debentures; management expected liquidity to be sufficient to repay any exercised puts.
- Other unusual items included $27.5 million of first-half restructuring charges, mainly for workforce reductions and facility consolidation, and a $13.5 million first-quarter reversal of previously recorded stock-option compensation expense. No goodwill impairment was recorded in the first half.
Important facts for investors to verify
- Reconcile the Spanish tax-law out-of-period adjustment, the reported first-half discrete tax benefit and the expected Q3 tax benefit; assess the material weakness and remediation progress.
- Review the IRS dispute, related reserves and potential exposure beyond the 2002 adjustment, alongside the $542.3 million of unrecognized tax benefits.
- Separate the effects of Hussmann’s divestiture, the prior-year impairment and China asset-sale gain from continuing operating trends and margins.
- Monitor cash conversion, working capital, the November debenture put options, and the company’s ability to fund dividends, investment and restructuring while maintaining liquidity.
- Assess segment demand and margin trends, especially Residential Solutions’ first-half profit decline and continued weakness in Security Technologies and European markets.