ITT Corporation 2010 Form 10-K Summary
Business Context and Reporting Period
ITT Corporation filed its annual report for the fiscal year ended December 31, 2010. ITT operated as a global engineering and manufacturing company with approximately 40,000 employees, operations in more than 60 countries, and three principal segments: Defense and Information Solutions, Fluid Technology, and Motion and Flow Control.
The company generated revenue from engineered products and services serving defense and security, water and fluids management, transportation, aerospace, industrial, communications, and related markets. The U.S. Government represented 46% of consolidated revenue, compared with 52% in 2009.
Financial Performance and Position
| Metric | 2010 | 2009 | Change |
|---|---|---|---|
| Revenue | $10,995 million | $10,674 million | 3.0% |
| Gross profit | $3,175 million | $3,024 million | 5.0% |
| Gross margin | 28.9% | 28.3% | +60 basis points |
| Operating income | $900 million | $894 million | 0.7% |
| Operating margin | 8.2% | 8.4% | -20 basis points |
| Income from continuing operations | $654 million | $641 million | 2.0% |
| Diluted EPS from continuing operations | $3.53 | $3.49 | 1.1% |
| Net income | $798 million | $644 million | 23.9% |
| Operating cash flow from continuing operations | $1,234 million | $1,258 million | -1.9% |
| Free cash flow | $937 million | $1,049 million | -10.7% |
| Cash and cash equivalents | $1,032 million | $1,216 million | -15.1% |
| Total debt | $1,365 million | $1,506 million | -9.4% |
Adjusted income from continuing operations, excluding selected asbestos and tax-related special items, was $818 million, or $4.41 per diluted share, compared with $686 million, or $3.73 per diluted share, in 2009. Management identified this as a non-GAAP measure.
- Defense: Revenue declined 2.8% to $5,897 million; operating income declined 1.2% to $752 million, while operating margin improved to 12.8%.
- Fluid: Revenue increased 9.1% to $3,670 million, aided by acquisitions; operating income increased 21.9% to $479 million and margin improved to 13.1%.
- Motion and Flow: Revenue increased 15.0% to $1,441 million; operating income increased 51.7% to $179 million and margin improved to 12.4%.
Capital expenditures were $328 million, compared with $271 million in 2009. ITT spent $1,041 million on acquisitions, primarily Nova Analytics and Godwin Pumps, and received $237 million from the sale of CAS. Dividends paid were $176 million, and no shares were repurchased during 2010.
ITT had a $1.5 billion revolving credit facility supporting its commercial paper program. No commercial paper was outstanding at year-end. Debt-to-total-capitalization was 23.3%, compared with 28.0% in 2009, and net debt-to-net-capitalization was 6.9%.
Material Changes Versus the Prior Comparable Period
- Revenue growth reflected a gradual recovery in commercial markets and $270 million of net acquisition and divestiture contribution, partly offset by a $29 million foreign-currency translation impact.
- Defense revenue was pressured by approximately $608 million of lower activity in CREW 2.1 and SINCGARS programs, although other government, international, and service programs partly offset the decline.
- Fluid and Motion and Flow benefited from higher volumes, improved market conditions, acquisitions, productivity programs, and lower restructuring costs.
- Net asbestos-related operating costs increased to $385 million from $238 million, reducing 2010 operating margin by approximately 130 basis points.
- Income from discontinued operations increased to $144 million from $3 million, principally due to a $130 million after-tax gain on the sale of CAS.
- The postretirement benefit obligation remained materially underfunded, with total underfunding of approximately $1.7 billion as described by management and a reported balance-sheet liability of $1.733 billion.
- Funded defense backlog declined to $4.1 billion from $5.1 billion, while unfunded backlog increased to approximately $7.4 billion from $4.9 billion.
Guidance, Outlook, Risks, and Unusual Items
For 2011, management expected revenue of approximately $11.4 billion and adjusted diluted EPS of approximately $4.62 to $4.82. Expected segment trends were approximately 2% organic consolidated revenue growth, a 2% decline in Defense revenue, 12% Fluid revenue growth with approximately 5% organic growth, and 7% Motion and Flow revenue growth with approximately 5% organic growth. This guidance excluded the effects of the planned business separation.
On January 12, 2011, ITT announced a plan to separate into three publicly traded companies by the end of 2011: a water-related company, a defense-related company, and a smaller industrial ITT. Estimated pro forma 2011 revenue was approximately $3.6 billion for the water business, $5.8 billion for the defense business, and $2.1 billion for the remaining ITT. Completion was subject to board, tax, SEC registration, and other conditions.
- Asbestos: At December 31, 2010, recorded asbestos liability was $1,676 million, related recovery assets were $1,034 million, and net exposure was $642 million. ITT had 103,575 open claims. Management stated that liabilities beyond the modeled ten-year period could be material and were not reasonably estimable.
- Asbestos cash flows: Net annual outflows were projected to average approximately $25 million over the next five years and $50 million to $60 million over the remainder of the projection period. Expected recovery rates were projected to decline over time.
- Pensions and other benefits: ITT expected 2011 net periodic postretirement cost of approximately $184 million and anticipated contributions of approximately $90 million to $110 million to pension plans.
- Government exposure: Defense results depended heavily on U.S. defense budgets, appropriations, contract timing, fixed-price contract performance, and the government's ability to terminate contracts.
- Other risks: The filing identified economic and credit-market conditions, raw-material costs, supplier concentration, foreign currency, cybersecurity, international regulation, environmental matters, litigation, tax uncertainty, and the planned spinoffs as material risks.
- Environmental matters: ITT accrued $139 million for environmental liabilities; the disclosed reasonably possible range was $117 million to $251 million.
- Other unusual item: ITT recorded a $17 million loss contingency related to a residual-value guarantee on a corporate aircraft sale-leaseback.
Management and Deloitte & Touche reported effective disclosure controls and internal control over financial reporting. Deloitte issued unqualified opinions on the consolidated financial statements and internal controls.
Important Facts for Investors to Verify
- Reconcile GAAP continuing-operations results with management's adjusted EPS and adjusted income measures, particularly the treatment of asbestos and tax items.
- Review the asbestos liability methodology, insurance recoveries, claim trends, projected cash outflows, and exposure beyond the ten-year estimate.
- Assess the effect of the proposed three-way separation on debt allocation, pension obligations, asbestos liabilities, tax treatment, stranded costs, and future liquidity.
- Evaluate the sustainability of commercial-segment growth after acquisition benefits and post-recession restocking effects fade.
- Monitor U.S. defense appropriations, backlog conversion, program cancellations, and declining activity in Iraq- and Afghanistan-related programs.
- Review pension funding requirements, assumptions for discount rates and asset returns, and the expected increase in postretirement expense.
- Confirm acquisition integration, goodwill balances, and the carrying value of Fluid-related goodwill following the Nova and Godwin transactions.