Twin Disc, Inc. — Form 10-Q Summary
Business context and reporting period
Reports the first quarter of fiscal 2013, the three months ended September 28, 2012; comparatives are for the three months ended September 30, 2011. Twin Disc manufactures and distributes marine and heavy-duty off-highway power transmission equipment. Figures below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Financial performance and position
| Metric | Q1 FY2013 | Q1 FY2012 |
|---|---|---|
| Net sales | $68.8 million | $81.3 million |
| Gross profit / margin | $19.4 million / 28.2% | $30.8 million / 37.8% |
| Operating earnings / margin | $2.8 million / 4.1% | $14.9 million / 18.3% |
| Net earnings attributable to Twin Disc | $1.3 million | $9.6 million |
| Diluted EPS | $0.11 | $0.83 |
| Operating cash flow | $2.1 million provided | $1.6 million used |
- Cash was $21.5 million at September 28, 2012, up $5.8 million from June 30. Net working capital was $136.9 million, up $6.4 million.
- Total borrowings were $39.0 million, up $6.8 million from fiscal year-end; cash less total borrowings was approximately negative $17.5 million. The company reported $15.6 million available under its $40 million revolving facility and compliance with debt covenants.
- Inventory rose $9.6 million to $112.8 million. Six-month order backlog fell to $82.4 million from $98.7 million at June 30 and $164.5 million a year earlier.
- Capital expenditures were $1.3 million. Fiscal 2013 expected capital investment is $10–15 million. Management expected approximately $4.4 million of pension contributions for the year.
Material changes and management commentary
- Sales declined 15.4% year over year. Management attributed the main weakness to lower North American pressure-pumping demand and softer European and global mega-yacht markets; stronger North American and Asian commercial marine demand partly offset this.
- Foreign currency translation reduced revenue by approximately $2.1 million before segment eliminations. Manufacturing sales fell 17.9%; distribution sales fell 9%.
- Gross margin contracted 9.6 percentage points. Management cited lower volumes, a less profitable oil-and-gas product mix, and weaker manufacturing efficiency and absorption. Lower warranty expense and incentive compensation partly offset these pressures.
- Marketing, engineering and administrative expense increased to $16.6 million from $15.9 million, or 24.2% of sales versus 19.6%. Management cited higher research and development, wage inflation, and added headcount, particularly in Asia.
- The effective tax rate increased to 45.6% from 35.3%, reflecting the lower earnings base, reduced tax credits, and a changed mix of foreign and domestic earnings.
- Management said covenant headroom was expected to decrease during fiscal 2013 but anticipated continued compliance and did not expect a covenant breach. It also said cash generation and available borrowings should cover near-term operating and investing needs. No specific earnings or revenue forecast was provided.
Risks, contingencies, and unusual items
- Demand weakness in North American oil and gas and pressure pumping drove lower sales and backlog; elevated oil-and-gas transmission inventory had yet to work through sales. Inventory equaled 137% of six-month backlog, versus 104% at June 30.
- Risks include foreign exchange movements, floating-rate debt, and steel and aluminum price fluctuations. The company reported no outstanding forward currency contracts at quarter-end and does not hedge commodity price risk.
- The company disclosed litigation with outcomes not presently determinable, but management did not expect a material impact. Separate product liability claims were described as insured or immaterial.
- Warranty reserve was $5.5 million at quarter-end; management cautioned actual claims may differ from estimates. Unrecognized tax benefits, including related interest and penalties, were approximately $635,000; the company anticipated a decrease of about $323,000 after a tax settlement.
- The filing corrects a prior-period cash flow classification of stock-compensation excess tax benefits from operating to financing activities. The company concluded the error was not material and reported no effect on prior-period comprehensive income.
- Disclosure controls were reported effective; management reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether weaker pressure-pumping demand and the backlog decline persist, and how quickly the elevated inventory converts to sales.
- Progress in gross-margin recovery, operating expenses, and the impact of the higher effective tax rate.
- Debt covenant headroom as earnings and backlog change; verify borrowing availability and cash location, since most cash was held overseas.
- The expected fiscal 2013 capital spending and pension contributions. The filing gives pension contributions made as $3.491 million in a note and approximately $3.8 million in one MD&A passage, while other passages say approximately $3.5 million; the filing text does not provide a consistent value.
- Resolution and timing of tax audits, uncertain tax positions, warranty claims, and disclosed litigation.