TIMKEN CO annual report, FY2022

Business context and reporting period

The Timken Company filed this Form 10-K for the fiscal year ended December 31, 2022; it is an annual report, not a standalone fourth-quarter filing. Timken designs and manufactures engineered bearings and industrial motion products and provides related services, operating globally through its Mobile Industries and Process Industries segments. The company stated that it would reorganize into Engineered Bearings and Industrial Motion reportable segments beginning in 2023.

Financial performance and liquidity

Sales rose 8.8%; management attributed the increase to organic growth, including pricing, and the net contribution from acquisitions and divestitures, partly offset by adverse currency movements. Gross margin expanded 190 basis points. Favorable price/mix and higher volume supported gross profit, while material and logistics costs, manufacturing performance, and currency were offsets. Operating income increased 18.3%. Adjusted EBITDA, a non-GAAP measure, was $855.9 million, or 19.0% of sales, versus $718.0 million, or 17.4%, in 2021; adjusted EPS was $6.02 versus $4.72.

For the fourth quarter, sales were $1,082.0 million versus $1,007.3 million a year earlier; net income attributable to Timken was $97.2 million versus $62.9 million, and diluted EPS was $1.32 versus $0.82. Fourth-quarter gross profit was $296.1 million versus $233.1 million.

Process Industries sales increased 10.3% to $2,390.2 million and EBITDA rose 22.8% to $621.5 million, with margin increasing to 26.0% from 23.4%. Mobile Industries sales increased 7.2% to $2,106.5 million, but EBITDA fell 9.6% to $217.1 million and margin declined to 10.3% from 12.2%, reflecting higher costs and impairment/restructuring charges.

At year-end, cash and cash equivalents were $331.6 million; total debt was $1,963.2 million and net debt was $1,631.6 million, compared with $1,464.9 million and $1,207.8 million, respectively, in 2021. Net debt to adjusted EBITDA was 1.9x, up from 1.7x. Timken reported $828.2 million available under committed credit lines, was in compliance with debt covenants, and reported leverage and interest coverage ratios of 1.85x and 12.02x. Total equity was $2,352.9 million. The company returned $303 million to shareholders through dividends and repurchases and repurchased 3.25 million shares during the year.

Material changes, outlook and unusual items

• Timken acquired GGB Bearing Technology for $302.5 million, net of cash acquired, and Spinea for $151.2 million, net of cash acquired. Their 2022 results contributed less than 1% each of consolidated sales. Purchase price allocations remained preliminary at year-end.
• The company divested Timken Aerospace Drive Systems (ADS) and Timken Russia. The ADS sale followed a $29.3 million impairment; Russia-related charges included asset impairments and write-downs, and the Timken Russia sale generated a $2.7 million loss. The continuing Russia rail joint venture had $8.5 million of cash classified as restricted and presently not repatriable.
• Impairment and restructuring charges totaled $44.1 million, versus $8.9 million in 2021. Other significant items included pension actuarial losses, acquisition costs, currency translation losses, and the effects of rising interest rates. The effective tax rate increased to 24.3% from 20.0%.
• Operating cash flow improved, but working capital consumed $163.4 million, principally from inventory and receivables. Investing cash outflow increased to $573.3 million, mainly reflecting acquisition spending.
• Management expected 2023 revenue to increase approximately 6% at the midpoint, with earnings also expected to rise. The outlook assumed modest organic growth and acquisition/divestiture benefits, partly offset by currency; expected earnings support from price/mix and lower material and logistics costs; and offsets from higher manufacturing, SG&A, and interest costs. Operating cash flow was expected to increase, and capital spending was expected to be higher but roughly 4.0% of sales.
• On January 30, 2023, Timken agreed to acquire Nadella, subject to customary closing conditions; on February 1, it acquired American Roller Bearing. The filing also disclosed planned plant closures and transfers, including the Gaffney, South Carolina bearing plant and Indianapolis chain plant.

Risks and contingencies

Principal risks include cyclicality and weaker industrial demand, competitive pricing pressure, inflation and the ability to recover higher input and logistics costs, supply-chain disruption, currency movements, rising interest rates and debt costs, and integration and execution risks from acquisitions. The filing also highlights geopolitical and trade risks, including Russia-related uncertainty; labor availability and work stoppages; cybersecurity and data privacy; environmental, climate and regulatory compliance; and pension plan asset and obligation volatility.

Product warranty liabilities increased to $23.5 million from $11.7 million, primarily due to additional accruals for certain automotive and wind-energy products. Timken was evaluating customer claims concerning wind-sector bearing performance; management did not expect a material effect on consolidated financial position, but acknowledged costs above reserves could materially affect an individual period. Environmental accruals were $4.8 million. Management stated that ordinary-course litigation and pending environmental matters were not expected to materially affect consolidated results or financial position, while noting that future requirements or findings could increase costs.

The financial statements received an unqualified audit opinion, and management and the auditor concluded internal control over financial reporting was effective. The auditor identified pension benefit obligation measurement and valuation of GGB acquired intangible assets as critical audit matters.

Key facts investors should verify

• Whether 2023 growth and margin expectations were achieved, including the effects of pricing, costs, currency, and acquired businesses.
• Progress on integrating GGB and Spinea, final acquisition valuations, and the returns and cash generation from these transactions.
• Developments in wind-energy warranty claims and whether the $23.5 million warranty reserve proves adequate.
• Use of cash, debt levels, variable-rate exposure, and covenant headroom following the acquisitions and share repurchases.
• Restrictions and potential impairment exposure relating to the Russia rail joint venture and its restricted cash.
• Execution costs, capacity effects, and expected savings from announced plant closures and production transfers.
• Pension funding needs and the sensitivity of benefit obligations and earnings to asset returns and actuarial assumptions.