Badger Meter, Inc. — Q2 2016 Form 10-Q
Business context and reporting period: Unaudited results for the three and six months ended June 30, 2016, compared with the same 2015 periods. Badger Meter sells municipal water meters and related technologies, as well as flow instrumentation. Municipal water represented 77.1% of Q2 sales and 77.0% of first-half sales.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $103.8M | $98.9M | $204.4M | $182.5M |
| Gross margin | $39.4M; 37.9% | $35.1M; 35.5% | $78.4M; 38.4% | $65.2M; 35.7% |
| Operating earnings | $14.9M | $12.2M | $27.7M | $19.2M |
| Net earnings | $9.4M | $7.9M | $17.4M | $12.1M |
| Diluted EPS | $0.65 | $0.55 | $1.20 | $0.84 |
- Revenue and mix: Q2 sales increased 5.0%; municipal water sales rose 7.2% to $80.0M, led by commercial meters (+29.1%) and residential meters (+3.5%). Flow instrumentation fell 2.1% to $23.8M. First-half sales increased 11.9%; municipal water grew 18.2% to $157.3M, while flow instrumentation declined 4.8% to $47.1M.
- Margins and earnings: Q2 and first-half gross margins improved year over year. Management attributed the improvement to volume, modestly higher prices and lower material costs, particularly brass, partly offset by lower sales mix of higher-margin flow instrumentation. Operating earnings rose 22.1% in Q2 and 44.3% in the first half. The first-half effective tax rate was 36.1% versus 34.8%; Q2 was 36.0% versus 33.4%.
- Cash flow and investment: First-half operating cash flow was $27.7M versus $19.2M. Capital expenditures were $5.5M versus $7.6M. Cash declined $0.8M to $7.4M, after $17.8M of net debt repayment and $5.8M of dividends.
- Debt and liquidity: Short-term debt was $53.6M at June 30, down from $71.4M at year-end 2015. The company reported $59.1M of unused credit lines and compliance with credit covenants. Total shareholders’ equity increased to $245.9M from $232.3M.
- Working capital and other items: Receivables were $61.3M, up from $56.6M at year-end; inventory was $80.7M, up from $78.6M, partly due to delayed anticipated sales. Selling, engineering and administration expense rose 6.5% in Q2 and 10.2% for the first half. It included about $0.7M in Q2 and $0.9M in the first half related to exploring shareholder-value options and an early-retirement program for certain flow instrumentation employees.
Outlook, risks and contingencies
- The filing provides no quantified revenue, earnings or EPS guidance. Management said operating cash flow, borrowing capacity and access to capital should provide adequate resources for operations, capital spending and product development; it expected to renew its credit facility.
- Management described continued growth in BEACON AMA sales and the opportunity from water-utility adoption of radio metering; it estimated fewer than 53% of U.S. water meters had converted to radio solutions. It also noted ultrasonic meters may affect the competitive landscape.
- Risks include municipal customer funding and economic conditions, intense pricing competition, product and technology execution, alliance-partner relationships, foreign exchange and input costs, supplier concentration, and prime-contractor performance and warranty obligations. Flow instrumentation faced soft markets, lower oil and gas meter sales and the loss of two key customers.
- The company is a potentially responsible party in two landfill matters and defendant in asbestos-related lawsuits. It did not expect material adverse effects, but noted outcomes are uncertain and future environmental costs could be material. No material legal proceedings were otherwise pending.
- The United Utilities acquisition’s purchase-price allocation remained under review; the acquisition was not material to the consolidated statements. The company also disclosed adoption work underway for new accounting standards on leases, inventory and revenue recognition.
Important facts for investors to verify
- Whether municipal water growth and the shift toward higher-value metering technologies continue, and whether flow instrumentation weakness persists.
- Whether gross-margin gains from volume, pricing and lower material costs are sustainable, particularly as product mix changes.
- Receivables, inventory and cash conversion, including the timing of delayed sales and the continued reduction of short-term debt.
- The duration and financial impact of shareholder-value review and early-retirement costs, and the tax-rate comparison with 2015.
- Developments in landfill and asbestos claims, supplier availability, and the completion of the United Utilities purchase-price allocation.