Business context and reporting period
Filing identity: The supplied filing is Rexnord Corporation’s Form 10-Q, not a filing by Zurn Elkay Water Solutions Corp. Rexnord’s Water Management platform includes Zurn-branded products, but the reported financials are for Rexnord and its consolidated subsidiaries.
The report covers the three months ended June 30, 2020, compared with the three months ended June 30, 2019. After its March 31, 2020 fiscal year-end, Rexnord changed to a December 31 year-end; April–December 2020 is a nine-month transition period.
Rexnord operates Process & Motion Control and Water Management platforms, serving industrial markets and primarily nonresidential building markets, respectively.
Financial performance and position
| Metric (USD millions, except per-share data and margins) | Q2 2020 | Q2 2019 |
|---|---|---|
| Net sales | $449.1 | $508.3 |
| Gross profit / gross margin | $176.9 / 39.4% | $201.6 / 39.7% |
| Operating income / operating margin | $66.0 / 14.7% | $80.2 / 15.8% |
| Net income from continuing operations | $35.8 | $48.5 |
| Net income attributable to common stockholders | $35.6 | $40.7 |
| Diluted EPS attributable to common stockholders | $0.29 | $0.38 |
| Cash provided by operating activities | $47.6 | $19.0 |
| Capital expenditures | $8.5 | $5.9 |
- Sales declined 11.6% year over year. Process & Motion Control sales fell 16.9% to $274.4 million; Water Management sales fell 2.0% to $174.7 million.
- Process & Motion Control operating income was $39.6 million, down 28.1%, with a 14.4% margin versus 16.7%. Water Management operating income was $40.1 million, essentially unchanged, with a 23.0% margin versus 22.4%.
- Cash and cash equivalents were $353.4 million at June 30, versus $573.4 million at March 31. Total debt was $1,224.4 million, down from $1,473.4 million; the quarter included $250.3 million of debt repayments, primarily repayment of the revolving facility.
- Current assets were $1,015.3 million and current liabilities $403.0 million. The filing reports $278.6 million of additional borrowing capacity at June 30, including $261.3 million on the revolver and $17.3 million under the receivables facility.
- Operating cash flow improved year over year, supported by working-capital movements and payment timing, despite lower net income. Financing cash use was $263.0 million, including debt repayments and $9.6 million of common dividends.
- Adjusted EBITDA, a non-GAAP measure, was $103.1 million for the quarter. The trailing-twelve-month total net leverage ratio was 2.1x, below the 6.75x covenant threshold.
Material changes versus the prior comparable period
- Management attributed the sales decline primarily to COVID-19-related demand reductions and customer buying-pattern changes. Process & Motion Control core sales fell 15%, excluding a 2% unfavorable currency effect. Water Management core sales fell 5%, excluding a 3% acquisition contribution.
- Touchless and hygienic Water Management products saw increased demand, but this did not offset broader market weakness.
- Lower volume pressured Process & Motion Control margins; cost reductions and productivity measures helped support Water Management margins and reduce corporate expenses.
- Interest expense declined to $13.4 million from $15.5 million, reflecting lower borrowings and interest rates. The effective tax rate increased to 32.5% from 23.4%, partly reflecting foreign, state, GILTI, withholding, and compensation-related taxes.
- Q2 2019 included a $1.8 million loss from discontinued VAG operations and $5.8 million of preferred dividends. The preferred stock converted to common stock in November 2019; there were no preferred dividends in Q2 2020.
Outlook, commentary, risks and unusual items
- The filing gives no specific earnings or sales guidance. Backlog was $370.8 million at June 30; management expected approximately 78% of remaining performance obligations to be recognized as revenue during the remaining six months of the transition period and approximately 22% in 2021 and beyond.
- Management said essentially all global facilities were operating by June 30, with intermittent interruptions. It cautioned that the pandemic, government measures, supply-chain disruption, customer demand, and economic conditions could continue to adversely affect operations, results, and cash flows.
- The company implemented furloughs, workforce reductions, and spending controls. It reported $1.7 million of restructuring charges in the quarter and expected further restructuring costs; future amounts were not estimable.
- On July 10, 2020, Rexnord repaid the remaining $74.9 million of receivables-securitization borrowings. On July 23, the board declared a $0.08-per-share dividend payable September 8, 2020.
- Asbestos-related claims: the company estimated $50.0 million of potential liability for current and expected claims over the next ten years and recorded a $50.0 million insurance receivable considered probable of recovery. Management noted uncertainty around future claims and insurance availability. Other disclosed matters include environmental remediation and routine legal proceedings; management did not expect unresolved legal matters overall to have a material adverse effect based on information then available.
- The company was undergoing IRS and foreign tax examinations. Management said potential tax payments from ongoing examinations were not expected to be significant, while noting valuation-allowance changes could affect future results.
Most important facts for investors to verify
- Confirm the issuer and investment being analyzed: this 10-Q is Rexnord Corporation’s filing, not Zurn Elkay Water Solutions Corp’s filing.
- Track the duration and severity of COVID-19 effects on sales, manufacturing, supply chains, and segment margins, especially the recovery in Process & Motion Control.
- Assess whether operating cash flow, cash balances, and available borrowing capacity remain adequate after debt repayments and as working capital changes.
- Review debt maturities, facility availability and covenants, and the sustainability of the reported 2.1x leverage ratio.
- Monitor conversion of the $370.8 million backlog into revenue, including timing assumptions, and the cost and benefits of restructuring actions.
- Evaluate asbestos-liability estimates and insurance recoverability, along with tax examinations and other indemnity or legal exposures.