Business context and reporting period
Woodward, Inc. filed this unaudited Form 10-Q for the quarter and six months ended March 31, 2014, its second quarter and first half of fiscal 2014. The company serves aerospace and energy markets through its Aerospace and Energy segments. Financial amounts below are in millions of dollars unless stated otherwise.
Financial performance
| Metric | Q2 FY2014 | Q2 FY2013 | First half FY2014 | First half FY2013 |
|---|---|---|---|---|
| Net sales | $482.5 | $485.5 | $911.5 | $893.9 |
| Net earnings | $44.8 | $42.4 | $68.2 | $69.8 |
| Diluted EPS | $0.66 | $0.61 | $1.00 | $1.00 |
| Gross margin | 29.5% | 28.3% | 28.1% | 28.7% |
| Net margin | 9.3% | 8.7% | 7.5% | 7.8% |
| EBIT (non-GAAP measure as presented) | $62.9 | $57.3 | $101.8 | $102.2 |
| EBITDA (non-GAAP measure as presented) | $82.6 | $77.2 | $140.7 | $140.1 |
Q2 earnings before tax were $56.8 million versus $50.3 million; the effective tax rate was 21.1% versus 15.7%. First-half earnings before tax were $89.7 million versus $88.9 million, with an effective tax rate of 24.0% versus 21.4%.
For the first half, operating cash flow was $124.6 million versus $93.0 million. Capital expenditures were $68.6 million versus $47.2 million, producing reported free cash flow of $56.1 million versus $45.8 million. Cash at March 31 was $56.7 million; working capital was $611.3 million.
Total debt was $605.0 million, up from $550.0 million at September 30, 2013. Of March debt, $21.0 million was short-term and $584.0 million long-term. The company reported $488.4 million of available capacity under its revolving facility, net of letters of credit, plus $28.2 million under foreign facilities. Management said it was in compliance with debt covenants.
Material changes versus comparable periods
- Q2 sales declined 0.6%, while net earnings rose 5.5% and diluted EPS rose from $0.61 to $0.66. Higher gross margin and lower SG&A and interest costs contributed to improved quarterly earnings.
- First-half sales increased 2.0%, including $31.4 million of Duarte Business sales in the first quarter. Excluding that contribution, organic sales were down 1.5%. First-half net earnings fell 2.3%, while diluted EPS was unchanged.
- Aerospace Q2 sales declined to $261.0 million from $270.5 million; segment earnings decreased 2.3% to $40.3 million. First-half Aerospace earnings fell 13.7% to $62.8 million.
- Energy Q2 sales increased to $221.4 million from $215.0 million, and segment earnings rose 31.6% to $31.9 million. First-half Energy earnings increased 22.5% to $59.0 million.
- Operating cash flow improved, primarily due to working-capital movements. Financing cash flow shifted to a $48.4 million use, including $99.7 million of stock repurchases, compared with $145.7 million provided in the prior-year half, which included acquisition-related borrowing.
Outlook, management commentary, risks and unusual items
- Management expects operating cash generation and revolving-credit borrowings to fund ongoing operations, including capital expansion. It anticipates approximately $500 million of investment through fiscal 2016 across its Rockford-area and Niles, Illinois facilities and Fort Collins campus.
- The Rockford-area campus supports awarded aerospace platforms, particularly narrow-body aircraft; management expects the area workforce could grow 70%–90% from current levels by the end of 2021.
- Management expects continued quarterly variability in defense sales amid U.S. budget uncertainty. Defense sales were weaker year over year, particularly aftermarket spare parts and repairs for rotorcraft programs. Commercial aircraft deliveries and aftermarket activity improved. Energy gains included aero-derivative turbine and renewable-power markets; lower CNG-system sales were a partial offset.
- Tax comparisons were affected by the prior-year retroactive research and experimentation credit, which reduced Q2 and first-half FY2013 tax expense by $6.8 million. FY2014 included a net favorable $5.6 million from tax-matter resolutions and statute expirations. Management cautions that interim tax rates can be volatile.
- Woodward issued $250 million of senior unsecured notes in fiscal 2014, using proceeds to repay maturing notes and reduce its former uncommitted credit line. Debt agreements contain leverage, net-worth and other restrictive covenants.
- Legal claims and proceedings arise in the ordinary course of business; management does not expect resulting liabilities to materially affect liquidity, financial condition or results. The filing identifies risks including customer and market weakness, defense-budget changes, input costs, supplier performance, foreign exchange, debt covenants, pension assumptions, and legal or regulatory matters. Management reported no material change in the risk factors from its latest Form 10-K.
- The company completed purchase-price allocation for the Duarte acquisition, retrospectively increasing acquired liabilities and goodwill/intangibles by approximately $12.8 million; previously reported earnings were not materially affected. Q2 and first-half results are interim and not necessarily indicative of full-year results.
Important facts for investors to verify
- Whether defense-market weakness and lower CNG sales continue, and how much commercial aerospace and other Energy-market strength offsets them.
- Execution, cost and timing of the planned capital program, including the expected $500 million investment through FY2016.
- Debt levels, covenant headroom, borrowing availability, and the impact of financing expansion and share repurchases on liquidity.
- Whether first-half cash-flow improvement is sustained, given working-capital effects and rising capital expenditures.
- Tax-rate comparability and the effect of discrete tax items; the filing does not provide a clear full-year earnings or revenue guidance target.
- Progress on acquired Duarte obligations, warranty and other contingencies, and any changes in legal or regulatory exposure.