EnPro Industries, Inc. — Q1 2020 Form 10-Q Summary
Business context and reporting period
EnPro designs, manufactures, services and markets engineered industrial products through its Sealing Products and Engineered Products segments. The filing covers the unaudited three months ended March 31, 2020, compared with March 31, 2019. Fairbanks Morse, formerly the entire Power Systems segment, was sold on January 21, 2020 and is reported as discontinued operations.
Key financial metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $282.7 million | $303.0 million | Down 6.7% |
| Gross profit | $95.3 million | $99.5 million | Down 4.2% |
| Gross margin | 33.7% | 32.8% | Up 0.9 percentage points |
| Operating income | $20.5 million | $16.6 million | Up 23.5% |
| Income from continuing operations attributable to EnPro | $10.1 million | $7.8 million | Up 29.5% |
| Diluted EPS from continuing operations | $0.49 | $0.37 | Up $0.12 |
| Net income attributable to EnPro | $218.7 million | $13.1 million | Includes Fairbanks Morse gain |
| Diluted EPS | $10.59 | $0.63 | Includes discontinued operations |
| Adjusted EBITDA | $40.6 million | $34.0 million | Up 19.4% |
| Cash flow from continuing operations | $0.3 million provided | $1.3 million used | Improved $1.6 million |
Continuing-operations operating margin increased to approximately 7.3% from 5.5%. Sealing Products sales declined 3.7% to $216.1 million, while segment profit increased 23.6% to $25.7 million and margin rose to 11.9% from 9.3%. Engineered Products sales declined 14.6% to $67.9 million; segment profit fell 45.2% to $3.4 million and margin declined to 5.0% from 7.8%.
The Fairbanks Morse transaction generated $450.0 million of proceeds and a preliminary gain of $274.3 million before tax, or $209.7 million after tax. Discontinued operations contributed $208.6 million of net income in Q1 2020, compared with $5.3 million in Q1 2019.
Liquidity, debt and balance sheet
- Cash and cash equivalents were $391.0 million at March 31, 2020, up from $121.2 million at December 31, 2019.
- Net cash provided by investing activities was $434.1 million, primarily reflecting $441.3 million of proceeds from business sales.
- Financing activities used $146.5 million, including $159.3 million of debt repayments, $5.3 million of share repurchases and $5.5 million of dividends.
- Total long-term debt, including current maturities, was approximately $495.0 million at March 31, 2020, compared with $629.3 million at December 31, 2019.
- The company had $387.4 million of borrowing availability under its $400.0 million revolving facility after $12.6 million of letters of credit. Term Loan borrowings were $149.1 million, and the company had $350.0 million of 5.75% Senior Notes due 2026.
- Management stated that the company was in compliance with all credit-facility covenants at March 31, 2020.
- Backlog was $202.9 million at March 31, 2020, with approximately 96% expected to be satisfied within one year; management cautioned that backlog is not necessarily predictive of future sales.
Material changes versus the prior comparable period
- Sales declined because organic demand weakness, particularly in heavy-duty truck, automotive, general industrial and chemical and material processing markets, more than offset growth in semiconductor, food and pharmaceutical markets and the contribution from 2019 acquisitions.
- Profitability improved despite lower sales, driven by cost reductions, favorable product mix, material-cost reductions, lower travel and incentive compensation, tariff refunds and improved heavy-duty truck results.
- Engineered Products performance weakened substantially because of lower volume and adverse market conditions.
- The sale of Fairbanks Morse materially changed the company’s capital structure, liquidity and reported earnings profile.
- EnPro adopted the current expected credit loss standard in January 2020, recording a $0.1 million reduction to retained earnings and ending the quarter with a $4.1 million allowance for credit losses.
- Share repurchases were suspended in March 2020 due to the COVID-19 pandemic. Approximately $29.7 million remained authorized at quarter-end.
Guidance, outlook, commentary and risks
The filing does not provide specific numerical full-year revenue or earnings guidance. Management expects COVID-19 to negatively affect 2020 results and possibly subsequent periods. Several facilities were temporarily closed, although all primary manufacturing facilities had reopened by the filing date and management reported no significant supply-chain disruptions at that time.
Management cited reduced order levels in certain businesses and heightened risks in automotive, oil and gas, heavy-duty truck, general industrial and chemical markets. The company is using cost controls, discretionary-spending reductions, capital-expenditure prioritization, headcount actions, working-capital monitoring and suspended repurchases to protect liquidity. Management believes the remaining Fairbanks Morse proceeds and revolving-credit availability provide ample liquidity for an extended weak economic environment.
- The COVID-19 pandemic could cause additional facility closures, customer or supplier disruptions, lower demand, raw-material shortages, increased costs and asset impairments.
- The company had $20.5 million of accrued environmental liabilities at March 31, 2020. Potential costs for the Lower Passaic River matter could exceed the remaining $2.7 million accrual, and the filing states that additional losses for certain matters cannot be estimated.
- A BorgWarner claim carried a reasonably possible loss range of approximately €0.4 million to €6.6 million, plus potentially undetermined proceeding expenses; a court ruling was expected in late Q2 2020.
- The Senior Notes indenture could require an offer to repurchase notes in Q2 2021 using Fairbanks Morse sale proceeds not sufficiently reinvested or used to repay qualifying debt.
- Disclosure controls remained ineffective because a material weakness in income-tax accounting controls had not been fully remediated as of March 31, 2020.
- The effective tax rate increased to 43.2% from 27.1%, reflecting foreign tax rates, minimum taxes and increased valuation allowances.
Important facts for investors to verify
- Whether COVID-19 caused further demand declines, facility closures or supply-chain disruptions after March 31, 2020.
- Use of the $441.3 million of business-sale proceeds, including debt reduction, reinvestment and any future Senior Notes repurchase obligation.
- Progress in remediating the income-tax internal-control material weakness.
- Actual performance and margin recovery in Engineered Products and the most exposed end markets.
- Resolution and financial impact of the BorgWarner litigation and environmental contingencies.
- Future cash generation, dividend sustainability and whether the share-repurchase program remains suspended.