NN, Inc. — 2017 Form 10-K Summary
Business context and reporting period
Annual report for the fiscal year ended December 31, 2017; the filing was signed April 2, 2018. NN designs and manufactures precision components and assemblies for medical, aerospace and defense, electrical, automotive, and industrial markets. Unless noted otherwise, financial amounts below are in U.S. dollars and rounded to millions.
In August 2017, NN sold its Precision Bearing Components business (PBC) for approximately $388.5 million. PBC is presented as discontinued operations, so continuing-operations sales and segment results exclude it. NN acquired medical-products supplier Vandalia in October 2017 for approximately $38.7 million. From January 2018, the company reorganized into Mobile Solutions, Power Solutions, and Life Sciences.
Financial performance and liquidity
| Metric | 2017 | 2016 |
|---|---|---|
| Net sales, continuing operations | $619.8 million | $585.0 million |
| Income from operations | $33.1 million; 5.3% margin | $34.8 million; 5.9% margin |
| Income (loss) from continuing operations | $25.4 million | $(9.5) million |
| Net income | $163.1 million | $6.7 million |
| Cash from operating activities | $(59.8) million | $69.4 million |
- Sales rose 6.0%, driven mainly by higher volume in medical/life sciences, automotive, and general industrial markets, foreign-exchange effects, and $6.7 million of Vandalia sales. Operating income declined despite revenue growth; cost of sales and SG&A increased, while restructuring expense fell.
- 2017 net income included a $127.7 million after-tax gain on the PBC sale. Continuing-operations income benefited from a $51.8 million net tax benefit related to the Tax Cuts and Jobs Act; the company reported a 134.2% effective tax rate for continuing operations.
- Operating cash outflow was attributed principally to increased income-tax receivables, including excess estimated payments related to the PBC sale, and the $31.6 million cash premium paid to redeem senior notes. Investing activities provided $282.5 million, principally from the PBC sale; capital expenditures were $43.7 million.
- Cash and cash equivalents were $224.4 million at year-end, versus $6.3 million on the balance sheet at December 31, 2016. Working capital was $368.9 million, compared with $142.1 million.
- Gross debt principal was $828.6 million; no revolver borrowings were outstanding and $97.6 million was available, subject to limitations. NN reported compliance with credit-facility covenants. Debt is predominantly variable-rate; a one-percentage-point rate increase was estimated to add about $8.2 million to annual interest expense on the term loans.
- Continuing segment sales and operating income: Autocam Precision Components, $336.9 million and $34.4 million; Precision Engineered Products, $282.9 million and $36.7 million. Dividends were $0.28 per share for 2017, unchanged from 2016.
Material changes, outlook, and key risks
- NN refinanced its 10.25% senior notes in April 2017 with a new $300 million term loan and amended its credit facility again in November, lowering term-loan margins by 50 basis points. Refinancing and modification charges totaled $42.1 million in 2017; interest expense fell $10.8 million year over year.
- Management expected capital expenditures to remain relatively consistent over the next 12 months and said continuing-operations cash flow, existing cash, and revolver availability should fund debt service, capital spending, and working capital. No specific revenue or earnings guidance was provided.
- Management cited demand improvements in life sciences, automotive, and industrial markets. The company plans to pursue growth through acquisitions and strategic investment, particularly in medical markets. In February 2018, it acquired medical-device company Bridgemedica for $15 million.
- Important risks include customer concentration (the top ten customers represented about 46% of 2017 net sales), substantial leverage, variable interest rates, foreign-currency exposure, raw-material and steel-tariff costs, competitive pricing pressure, acquisition integration and goodwill impairment, and medical-device and environmental regulation.
- A Brazilian ICMS tax-credit dispute has an estimated possible loss range of $0–$6 million; no amount was accrued, and management said it believed loss was not probable. The company expects indemnification from former Autocam shareholders, subject to contractual limits.
- The auditor concluded that the financial statements were fairly presented, but found that NN did not maintain effective internal control over financial reporting at year-end. Material weaknesses involved staffing and control environment, tax-accounting communication and controls, business-combination accounting, and income taxes. Prior-period financial statements were revised for identified errors. The company also disclosed late filings of its 2017 quarterly and annual reports.
- Tax-reform accounting was provisional and could be adjusted during the permitted measurement period. NN also expected to adopt the new revenue-recognition standard in 2018 with an opening retained-earnings adjustment below $0.1 million; lease-standard effects were still under evaluation.
Most important facts for investors to verify
- Whether operating cash generation recovers after the 2017 tax-related working-capital outflow and what cash proceeds from the PBC sale remain available for debt reduction or investment.
- Debt repayment capacity, covenant headroom, and sensitivity to LIBOR increases, given $828.6 million of debt principal and largely variable-rate borrowing.
- Progress and independent testing of remediation for the material weaknesses, and whether future filings are timely and free of further revisions.
- Underlying continuing-operations earnings excluding the PBC disposal gain and tax-reform benefit, and the durability of 2017 segment growth and margins.
- Final tax-reform accounting, the Brazilian tax matter, Vandalia and Bridgemedica integration results, and the effects of the 2018 segment reorganization.