Littelfuse, Inc. — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended July 2, 2016; comparisons are to the periods ended June 27, 2015. Amounts are in U.S. dollars. The interim results are unaudited.
Business context and results
Littelfuse designs and sells circuit protection, power control and sensing products through its Electronics, Automotive and Industrial segments. Results this quarter were significantly affected by the March acquisition of PolySwitch and the April acquisition of Menber’s.
| Metric | Q2 2016 | Q2 2015 | First six months 2016 | First six months 2015 |
|---|---|---|---|---|
| Net sales | $271.9 million | $222.0 million | $491.3 million | $432.3 million |
| Gross profit | $97.9 million | $85.3 million | $185.0 million | $161.6 million |
| Gross margin | 36.0% | 38.4% | 37.7% | 37.4% |
| Operating income | $29.7 million | $36.2 million | $62.1 million | $65.7 million |
| Net income | $27.2 million | $28.7 million | $46.4 million | $48.7 million |
| Diluted EPS | $1.20 | $1.26 | $2.05 | $2.13 |
Q2 sales increased 22% year over year; excluding PolySwitch revenue of $36.4 million, sales rose 6%. Six-month sales increased 14%; excluding PolySwitch, they rose 5%. Q2 segment sales were Electronics $132.2 million (+25%), Automotive $111.4 million (+30%) and Industrial $28.4 million (-7%). Acquisition contributions and currency effects mean reported growth is not equivalent to organic growth.
Q2 operating margin was 10.9%, versus 16.3% a year earlier; six-month operating margin was 12.6%, versus 15.2%. The company reported $14.1 million of Q2 special charges, including the $6.9 million non-cash PolySwitch inventory step-up and acquisition-related costs. Excluding specified charges, management reported Q2 gross margin of 39% in both years and operating expenses of 23% versus 21% of sales; these are management-adjusted comparisons, not GAAP results.
Cash flow, debt and liquidity
- Six-month operating cash flow was $35.3 million, compared with $62.0 million in 2015. Capital expenditures were $20.2 million, implying approximately $15.1 million of operating cash flow after capital expenditures.
- Investing cash outflow was $374.2 million, primarily for PolySwitch and Menber’s acquisitions and capital expenditures. Financing cash inflow was $188.8 million, largely reflecting net borrowings. Cash declined $149.3 million from year-end to $179.5 million.
- At July 2, cash was $179.5 million; total debt carrying value was $368.0 million, including $237.5 million under the revolving facility and $123.4 million under the term loan. Cash and cash equivalents less total debt imply net debt of approximately $188.5 million.
- The new five-year credit agreement provides a $575 million revolving facility and up to $125 million in term loans. Available revolving capacity was $337.4 million; the company reported compliance with all covenants. Credit-facility debt carried variable rates; a 100-basis-point increase was estimated to add $3.6 million to annual interest expense.
- Current assets were $519.9 million and current liabilities $178.8 million; the reported current ratio was 3.0. Days sales outstanding rose to 66 from 62 a year earlier.
- $166.5 million of cash was held by foreign subsidiaries. Management said it did not expect to repatriate most of these funds; approximately $20.1 million could be repatriated with minimal tax consequences.
Material changes, outlook and risks
- PolySwitch was acquired for $350 million, funded with cash and a new credit facility. Since acquisition, it contributed approximately $36.4 million of Q2 sales and a $9.1 million pretax loss. Menber’s contributed approximately $6.8 million of sales and $0.6 million of pretax income after its acquisition.
- Interest expense increased with acquisition-related borrowing. Q2 foreign-exchange gains were $6.2 million, compared with $1.3 million a year earlier, partially supporting pretax income.
- Management expected Q3 2016 sales of $262 million to $272 million, including approximately $40 million from PolySwitch. It also expected flat-to-declining automotive sensor revenue in the second half as it exited certain low-margin legacy business.
- Management cited weakness in heavy truck, construction and agricultural markets; mining, oil and gas and potash softness; and a slowdown in the U.S. solar market. It noted that the custom-products reporting unit’s fair value exceeded carrying value by less than 10% at July 2; further deterioration could result in goodwill impairment.
- Market exposures include variable interest rates, foreign currencies and metals. The filing estimates that a 10% commodity-price change would affect annual pretax profit by approximately $2.1 million for copper, $0.7 million for zinc, $0.6 million for silver and $0.1 million for gold. The company had no interest-rate protection agreements at quarter-end.
- The company identified a potentially additional foreign tax liability relating to 2011–2015, including interest. It recorded a cumulative $4.9 million adjustment as of January 2, 2016 and revised prior annual statements; management concluded the prior-period errors were immaterial. A $1.4 million impairment charge related to the sale of a marine product line was also recorded in the first quarter.
Most important facts for investors to verify
- How much of reported sales growth and future performance is attributable to acquired businesses versus underlying demand, and whether PolySwitch integration meets expectations.
- Whether acquisition-related charges, purchase-accounting inventory costs and higher amortization continue to weigh on margins and earnings.
- Cash generation, working-capital trends and debt reduction after the acquisition-driven increase in borrowings, including sensitivity to variable interest rates.
- Developments in industrial end markets and the custom-products reporting unit’s goodwill impairment headroom.
- Resolution and cash impact of the foreign tax matter, and exposure to foreign exchange and commodity-price movements.