The Timken Company (NYSE: TKR) — 2017 Form 10-K Summary
Business context and reporting period
This annual report covers the fiscal year ended December 31, 2017; the filing also provides unaudited fourth-quarter results. Timken manufactures bearings and mechanical power-transmission products and provides related services. Its two reportable segments are Mobile Industries and Process Industries. The company operated in 33 countries and had approximately 15,000 employees.
Key financial metrics
| Metric | 2017 | 2016 |
|---|---|---|
| Net sales | $3,003.8 million | $2,669.8 million |
| Gross profit / gross margin | $810.4 million / 27.0% | $668.5 million / 25.0% |
| Operating income | $284.7 million | $174.5 million |
| Net income attributable to Timken | $203.4 million | $140.8 million |
| Diluted EPS | $2.58 | $1.78 |
| Cash provided by operating activities | $236.8 million | $403.9 million |
| Capital expenditures | $104.7 million | $137.5 million |
| Total debt / net debt | $962.3 million / $836.9 million | $659.2 million / $507.7 million |
| Cash and cash equivalents | $121.6 million | $148.8 million |
Mobile Industries sales were $1,640.0 million, with EBIT of $132.1 million and an 8.1% EBIT margin. Process Industries sales were $1,363.8 million, with EBIT of $220.5 million and a 16.2% margin. Fourth-quarter 2017 sales were $778.0 million and net income attributable to Timken was $29.2 million; fourth-quarter 2016 sales were $654.8 million and the company reported a $6.9 million attributable net loss.
Material changes versus the prior period
- Full-year sales increased 12.5%; management attributed the increase to $186 million of organic growth, $131 million from acquisitions and $17 million from currency. Higher demand was led by off-highway, industrial distribution and heavy truck markets; rail demand declined.
- Gross margin increased 200 basis points. Higher volume, acquisitions and manufacturing performance contributed, partly offset by higher material and logistics costs and unfavorable price/mix.
- Cash from operations fell $167.1 million, principally due to a $107.2 million year-over-year adverse swing in working-capital cash flow and higher cash taxes. Inventory increased $185.2 million on the balance sheet.
- Three 2017 acquisitions—Groeneveld, PT Tech and Torsion Control Products—added products in lubrication, clutches and brakes, and torsional couplings. Acquisition spending was $346.8 million net of cash acquired.
- Net debt rose to $836.9 million from $507.7 million, and net debt to capital increased to 36.2% from 27.9%, largely reflecting acquisition-related borrowing.
- Reported 2016 results included $59.6 million of net CDSOA income, a nonrecurring distribution-related item. Comparisons are also affected by Timken’s retrospective accounting change that immediately recognizes pension and postretirement actuarial gains and losses; the filing revised prior-period results.
Outlook, management commentary and risks
Management expected 2018 sales to rise 9%–10% and earnings to be higher than 2017, citing demand, pricing, acquisitions and currency, partly offset by higher operating costs, taxes and interest expense. It forecast approximately $350 million of operating cash flow and capital expenditures of 3.5%–4.0% of sales. No specific 2018 EPS guidance was provided.
Liquidity included $448.0 million available under the $500 million Senior Credit Facility and $19.4 million available under the Accounts Receivable Facility at year-end. Management said it believed liquidity was sufficient through at least the Senior Credit Facility term. The receivables facility matures in November 2018 and was being evaluated for refinancing. Most year-end cash was held outside the United States and repatriation could involve taxes or restrictions.
- U.S. Tax Reform produced provisional 2017 tax expense of $35.3 million, including an estimated $25.2 million charge on unremitted foreign earnings and $10.1 million from remeasuring deferred taxes. The tax accounting remained incomplete, including assessment of GILTI provisions.
- Pension and postretirement results are sensitive to discount rates, asset returns and other assumptions. Under the changed accounting method, actuarial remeasurement effects may make earnings more volatile.
- Principal business risks include cyclical demand, competitive pricing, steel and other input costs, supply disruption, foreign exchange, international regulatory exposure, product claims, environmental obligations, pension funding and integration of acquisitions.
- Contingencies include environmental remediation, a Brazilian antitrust investigation and customer claims concerning bearings sold into the wind-energy sector. Management did not expect these matters to materially affect consolidated financial position, but period-specific earnings effects could be material. The Lovejoy site remediation exposure could be significant; the recorded total environmental accrual was $5.0 million.
- The company reported compliance with debt covenants and effective financial-reporting controls. The controls assessment excluded the three 2017 acquisitions, which represented 13% of year-end assets, 3% of sales and 5% of net income.
Important facts for investors to verify
- Whether 2018 sales, earnings and operating-cash-flow forecasts were achieved, and how much growth came from organic demand versus acquisitions, pricing and currency.
- Working-capital conversion, especially inventory levels, receivables and cash generation following the 2017 build-up.
- Debt reduction, refinancing of the receivables facility before its November 2018 maturity, and ongoing covenant headroom.
- Final accounting for U.S. Tax Reform and the effects of pension mark-to-market charges on reported earnings.
- Acquisition integration and returns, particularly for Groeneveld, and completion and terms of the proposed ABC Bearings transaction in India.
- Developments in the environmental, antitrust and wind-energy warranty matters, including any costs above recorded reserves.