Dover Corporation 2014 Second-Quarter Form 10-Q Summary
Business Context and Reporting Period
Dover Corporation is a diversified global manufacturer operating through four segments: Energy, Engineered Systems, Fluids, and Refrigeration & Food Equipment. This unaudited Form 10-Q covers the three and six months ended June 30, 2014, compared with the corresponding 2013 periods.
On February 28, 2014, Dover completed the tax-free spin-off of Knowles Corporation. Knowles’ historical results, assets, liabilities, and cash flows have been presented as discontinued operations for all periods shown.
Financial Performance and Liquidity
| Metric | Q2 2014 | Q2 2013 | Change |
|---|---|---|---|
| Revenue | $2.048 billion | $1.932 billion | 6.0% increase |
| Gross profit | $796.4 million | $755.8 million | 5.4% increase |
| Gross margin | 38.9% | 39.1% | 20-basis-point decrease |
| Operating earnings | $340.3 million | $320.2 million | 6.3% increase |
| Operating margin | 16.6% | 16.6% | Approximately unchanged |
| Earnings from continuing operations | $217.4 million | $258.1 million | 15.7% decrease |
| Diluted EPS from continuing operations | $1.29 | $1.49 | 13.4% decrease |
| Net earnings | $214.0 million | $330.0 million | 35.2% decrease |
| Diluted net EPS | $1.27 | $1.91 | 33.5% decrease |
The year-over-year decline in continuing-operations earnings primarily reflects the absence of significant 2013 discrete tax benefits. Excluding those prior-year tax benefits, management stated that continuing-operations earnings increased 10.9% in the quarter and 9.0% year to date.
| Six-month metric | 2014 | 2013 |
|---|---|---|
| Revenue | $3.932 billion | $3.696 billion |
| Gross profit | $1.533 billion | $1.437 billion |
| Gross margin | 39.0% | 38.9% |
| Operating earnings | $624.2 million | $585.4 million |
| Earnings from continuing operations | $393.8 million | $425.3 million |
| Diluted EPS from continuing operations | $2.31 | $2.44 |
| Cash flow from continuing operations | $237.5 million | $307.1 million |
| Free cash flow | $160.1 million | $248.8 million |
Second-quarter organic revenue growth was 2.7%, with 3.0% acquisition-related growth and a 0.3% favorable foreign-exchange effect. Six-month organic growth was 3.3%, with 3.0% acquisition-related growth and a minor favorable currency effect.
- Cash and cash equivalents were $547.4 million at June 30, 2014, compared with $803.9 million at December 31, 2013.
- Total debt was $2.647 billion, including $48.0 million of commercial paper. Long-term debt was $2.596 billion.
- Net debt was $2.100 billion, and net debt to net capitalization increased to 35.0% from 27.4%, primarily because of the Knowles separation, share repurchases, dividends, and lower cash.
- Dover maintained a $1.0 billion unsecured revolving credit facility expiring November 10, 2016, with no borrowings outstanding. The company reported a 12.1-to-1 EBITDA-to-net-interest coverage ratio against a 3.0-to-1 covenant requirement.
- Operating cash flow declined because of higher working-capital investment and income-tax payments. Adjusted working capital increased 15.1% to approximately $1.6 billion.
Segment Results and Material Changes
| Segment | Q2 2014 Revenue | Q2 Revenue Change | Q2 Segment Earnings Change |
|---|---|---|---|
| Energy | $481.0 million | 3.2% increase | 4.9% increase |
| Engineered Systems | $699.0 million | 9.3% increase | 9.4% increase |
| Fluids | $346.3 million | 11.7% increase | 7.4% increase |
| Refrigeration & Food Equipment | $522.4 million | 0.9% increase | 3.3% increase |
- Energy benefited from improving well activity, increased rig counts, and higher drilling shipments; Bearings & Compression revenue declined modestly.
- Engineered Systems benefited from broad-based industrial growth and acquisitions, particularly in Printing & Identification.
- Fluids benefited substantially from acquisitions, specialty chemical demand, and fuel transportation and retail-fueling markets. Acquisitions reduced the segment’s operating margin by approximately 160 basis points.
- Refrigeration & Food Equipment was affected by softer Latin American refrigeration demand and shipment timing during the transition to a consolidated Atlanta manufacturing center. Management expected related shipments to be completed in the second half of 2014.
Dover acquired three businesses during the first six months for net cash consideration of $143.1 million. The acquisitions contributed approximately $20.8 million of second-quarter revenue and $2.4 million of earnings.
Guidance, Outlook, Risks, and Unusual Items
- Management raised 2014 diluted EPS guidance to $4.75–$4.85 from the previous range of $4.60–$4.80.
- Management expected organic revenue growth near the high end of the prior 3.0%–4.0% range, acquisition-related growth of approximately 3.0%, and total revenue growth near the high end of 6.0%–7.0%. Full-year segment margin expectations remained approximately 18.0%.
- Management expected full-year capital expenditures of approximately 2.5% of revenue and free cash flow of approximately 11.0% of revenue.
- Restructuring charges were $3.0 million in the quarter and $6.4 million year to date. Full-year restructuring expense was estimated at $10 million–$20 million, with programs expected to be substantially completed within 12–18 months.
- Discontinued operations included $26.7 million of Knowles separation costs year to date. Dover also recorded a $7.2 million loss in the quarter to reduce the carrying value of DEK International to estimated fair value.
- On July 2, 2014, Dover completed the sale of DEK International and expected proceeds of approximately $174 million. Final working-capital adjustments were not expected to be significant.
- Other income in the quarter included approximately $4 million related to an insurance settlement and acquisition termination fees, plus foreign-exchange gains and other nonrecurring items.
- Key disclosed risks include global economic conditions, customer demand and well activity, acquisitions and integration, pricing pressure, raw-material costs, foreign-exchange and interest-rate volatility, regulatory and environmental matters, intellectual-property claims, supply-chain disruptions, and potential credit-rating downgrades.
- Environmental reserves were $29.4 million, legal reserves were $1.1 million, and outstanding letters of credit and guarantees totaled approximately $161.0 million.
Important Facts for Investors to Verify
- Separate continuing-operations performance from discontinued operations and account for the Knowles spin-off when comparing periods.
- Assess the sustainability of reported earnings excluding the unusually favorable 2013 tax benefits and the effect of 2014 acquisition costs and amortization.
- Monitor working-capital use, free-cash-flow conversion, cash balances, and the increase in net debt to net capitalization.
- Evaluate whether the raised EPS and revenue guidance is supported by bookings, backlog, organic growth, and segment-margin performance.
- Verify the timing and proceeds of the DEK International sale and any final working-capital adjustment.
- Review acquisition integration, restructuring execution, manufacturing-center transition costs, and the effect of market conditions in Energy and Refrigeration.
- Consider foreign-currency exposure, including the $23.7 million fair-value loss on the Swiss-franc net-investment hedge and the euro-denominated debt hedge.