ITT Corporation: Q1 2010 Form 10-Q Summary
Business context and reporting period
ITT is a global engineering and manufacturing company operating through Defense & Information Solutions, Fluid Technology, and Motion & Flow Control. The filing covers the unaudited three months ended March 31, 2010, compared with the same period in 2009. ITT had 183.5 million common shares outstanding as of April 20, 2010.
Key financial metrics
| Metric | Q1 2010 | Q1 2009 | Change |
|---|---|---|---|
| Total revenue | $2,636 million | $2,557 million | +3.1% |
| Gross profit | $728 million | $669 million | +8.8% |
| Gross margin | 27.6% | 26.2% | +140 bps |
| Operating income | $250 million | $222 million | +12.6% |
| Operating margin | 9.5% | 8.7% | +80 bps |
| Income from continuing operations | $146 million | $187 million | -21.9% |
| Diluted EPS from continuing operations | $0.79 | $1.02 | -22.5% |
| Net income | $146 million | $184 million | -20.7% |
| Adjusted diluted EPS | $0.84 | $0.72 | +16.7% |
| Cash flow from operations | $77 million | $213 million | -64% |
| Capital expenditures | $52 million | $48 million | +$4 million |
| Free cash flow | $25 million | $165 million | Decrease of $140 million |
Revenue growth was driven by $16 million of organic growth, $13 million from acquisitions net of divestitures, and $50 million from foreign-currency translation. Service revenue increased to $682 million from $591 million, while product revenue declined slightly to $1,954 million from $1,966 million.
Income tax expense increased to $77 million from $10 million. The 2010 effective tax rate was 34.5%, compared with 5.1% in 2009. The 2010 rate included a $12 million discrete charge related to healthcare reform; the 2009 rate benefited from a $58 million tax provision reduction related to international legal-entity restructuring.
Liquidity, debt and balance sheet
- Cash and cash equivalents were $880 million at March 31, 2010, down from $1,216 million at December 31, 2009.
- Total debt increased to $1,654 million from $1,506 million, primarily reflecting $151 million of net short-term debt issuance used in part to fund the Nova acquisition.
- Short-term debt and current maturities increased to $289 million from $75 million; long-term debt declined to $1,365 million from $1,431 million.
- Net debt increased to $774 million from $290 million. Debt-to-total-capitalization rose to 29.7% from 28.0%.
- ITT had a $1.75 billion revolving credit facility and remained in compliance with its financial covenants. Commercial paper outstanding was $190 million.
- Management stated that cash from operations, available cash, commercial paper access, committed credit facilities and public debt-market access should provide adequate liquidity.
- Shareholders’ equity was $3,919 million at March 31, 2010, compared with $3,878 million at year-end 2009.
Material changes versus the prior comparable period
- Defense revenue decreased 3.8% to $1,450 million and operating income decreased 11.0% to $146 million. Results reflected lower CREW and SINCGARS volumes following unusually large prior-year orders; funded backlog was $5.0 billion versus $5.2 billion at December 31, 2009.
- Fluid revenue increased 7.7% to $801 million, while operating income increased 31.9% to $91 million. The segment benefited from productivity initiatives, the 2009 Laing acquisition and foreign exchange; backlog increased to $918 million from $824 million.
- Motion & Flow revenue increased 26.5% to $387 million and operating income increased 96.4% to $55 million, supported by automotive, rail, beverage, connector and industrial demand, market-share gains and productivity actions.
- Orders totaled $2,518 million, down 2.6% year over year because of two large Defense orders recorded in Q1 2009. Fluid and Motion & Flow order growth partially offset the decline.
- Operating expenses increased 6.9% to $478 million, including $15 million of net asbestos-related costs, $17 million of restructuring and impairment charges, and $63 million of research and development expense.
- Restructuring charges increased to $17 million from $11 million. The Defense realignment involved 606 planned position eliminations, consolidation of seven divisions into three, and anticipated closure of three facilities.
- ITT acquired Nova Analytics on March 23, 2010, for a preliminary purchase price of $385 million net of cash acquired. The acquisition added approximately $235 million of goodwill and was not material to Q1 operating results.
- Cash from operations declined primarily because of working-capital timing, particularly collections in the Defense segment, and higher cash tax payments. Investing cash use increased to $441 million, largely because of the Nova acquisition.
Guidance, outlook, commentary and risks
- Management projected 2010 organic revenue growth of approximately 3% for Defense, 1% for Fluid and 7% for Motion & Flow.
- Management emphasized productivity, sourcing savings, portfolio alignment, organic growth and strategic acquisitions, with a focus on generating free cash flow and expanding operating margins.
- Additional restructuring costs were expected to total approximately $24 million during the remainder of 2010, including approximately $20 million for Defense and $4 million for Fluid. Management estimated net savings of $30 million during the remainder of 2010 and $53 million annually thereafter.
- Management expected approximately $108 million of net periodic postretirement cost for the remainder of 2010, with additional pension contributions of approximately $6 million to $8 million.
- Key risks include changes in U.S. and international defense budgets, timing and success of contract awards, economic weakness in real estate, municipal, industrial, automotive, connector and airline markets, commodity and labor costs, foreign-exchange volatility, refinancing and liquidity access, acquisitions, environmental obligations, employee benefits and asbestos claims.
- Asbestos claims remained a significant contingency: 104,999 open claims were reported at March 31, 2010, with a gross liability of $926 million and related assets of $646 million, for a net amount of $280 million. ITT stated that claims filed beyond the next ten years could have a material adverse effect because they cannot currently be estimated reliably.
- Environmental liabilities had an accrued balance of $141 million, with estimated exposure ranging from $119 million to $259 million. Management did not expect environmental matters to have a material consolidated adverse effect.
- The Department of State terminated ITT’s prior ineligible status and statutory debarment related to historical International Traffic in Arms Regulations violations on February 22, 2010.
- Management reported effective disclosure controls and no material change in internal control over financial reporting.
Most important facts for investors to verify
- Whether projected 2010 organic growth rates and restructuring savings are achieved, particularly in the Defense segment.
- The effect of Defense backlog and order timing, including the potential impact of government budget decisions and major contract awards.
- Cash conversion and working-capital performance after the sharp year-over-year decline in operating cash flow.
- Post-acquisition performance and final purchase-price allocation for Nova Analytics.
- Debt maturities, commercial-paper reliance and the planned second-quarter 2010 retirement of approximately $69 million of 2011 debentures.
- Developments in asbestos claims, insurance recoveries and potential liabilities beyond the ten-year projection period.
- Changes in tax rates and the effects of healthcare reform and other discrete tax items on reported earnings.