ESCO Technologies Inc. — Form 10-Q Summary
Business context and period: This quarterly report covers the fiscal quarter and nine months ended June 30, 2013, compared with the periods ended June 30, 2012. ESCO reports three continuing-operation segments: Utility Solutions Group (USG), Test, and Filtration. In the quarter, the board approved a process to sell Aclara Technologies, which is presented as discontinued operations and held for sale in the reported periods.
Financial performance
| Metric | Three months ended June 30, 2013 | Three months ended June 30, 2012 | Nine months ended June 30, 2013 | Nine months ended June 30, 2012 |
|---|---|---|---|---|
| Net sales, continuing operations | $116.9 million | $118.4 million | $345.5 million | $355.1 million |
| EBIT, continuing operations | $11.4 million | $16.5 million | $31.2 million | $39.5 million |
| EBIT margin | 9.8% | 14.0% | 9.0% | 11.1% |
| Net earnings from continuing operations | $6.5 million | $11.5 million | $17.4 million | $25.3 million |
| Diluted EPS from continuing operations | $0.24 | $0.43 | $0.65 | $0.94 |
| Net earnings (including discontinued operations) | $4.9 million | $13.8 million | $6.7 million | $29.2 million |
- Margins and costs: Cost of sales was $69.6 million for the quarter and $209.2 million year to date. SG&A was $31.5 million (26.9% of sales) and $96.8 million (28.0%), respectively. EBIT and continuing earnings fell year over year; reported causes included project timing and product mix, prior-year Xtensible earnout revaluation income, and current-period restructuring and write-down costs.
- Discontinued operations: Aclara recorded pretax losses of $2.8 million for the quarter and $17.5 million for the nine months, compared with pretax income of $3.6 million and $6.5 million in the comparable 2012 periods. Aclara sales were $44.6 million and $127.5 million, respectively.
- Cash flow: Nine-month operating cash flow was $12.2 million, down from $35.0 million. Continuing operations used $1.3 million of operating cash, while discontinued operations provided $13.5 million. Investing activities used $67.7 million, including $19.5 million for acquisitions, $10.2 million of capital expenditures, and $5.6 million of capitalized software. Financing activities provided $57.7 million.
- Liquidity and debt: June 30 cash was $31.6 million; working capital from continuing operations was $116.4 million, versus $75.3 million at September 30, 2012. Total borrowings were $187 million ($50 million current and $137 million long-term), up from $115 million at September 30, 2012. ESCO reported approximately $251 million available under its revolving facility and was in compliance with its covenants.
- Other balance-sheet items: Total assets were $1.119 billion and shareholders’ equity was $625.4 million at June 30, 2013. Inventory increased to $94.4 million from $82.1 million at September 30, 2012.
Material changes and management commentary
- Quarterly sales declined 1.3%; nine-month sales declined 2.7%. Test sales fell 12.4% in the quarter and 14.4% year to date, while Filtration sales grew 5.5% and 7.4%. USG quarterly sales increased 3.5%, but were down 1.6% year to date.
- Continuing-operation orders were $141.2 million in the quarter versus $134.0 million; year-to-date orders were $388.4 million versus $367.0 million. Backlog was $288.5 million at June 30, compared with $245.6 million at September 30, 2012.
- ESCO acquired Canyon Engineering Products and its manufacturing facility for a combined $16.2 million in June 2013. The acquisition was included in Filtration.
- Quarterly and year-to-date other expenses included restructuring costs, including the planned closures or consolidations of the Doble Lemke facility in Germany and a Test facility in Illinois. Corporate costs also included a $1.5 million pretax write-down of the Doble Lemke trade name. Management expected about $1.9 million of additional Doble Lemke shutdown costs in the fourth quarter.
- Management’s fiscal 2013 outlook was adjusted continuing-operations EPS of $1.35–$1.45. It described Filtration growth as strong and sustainable, Test as on track with commitments, and Doble as expecting slightly lower revenue while generally maintaining its profit plan. The estimated fiscal 2013 continuing-operations effective tax rate was approximately 39%.
Guidance, risks, and contingencies
The Aclara sale process had advanced to selection of participants for the next phase; management expected completion of the process within 90 days but gave no assurance a sale would occur, or as to its price, terms, or timing. Proceeds, if any, were expected to support debt repayment and provide liquidity for acquisitions. Key risks include obtaining acceptable offers and approvals, customer order and project timing, market conditions, restructuring execution, acquisition integration, and tax and litigation uncertainties. Management stated that existing claims and litigation were adequately reserved, insured, or not expected to have a material adverse effect. Disclosure controls were assessed as effective, and no material change in internal control over financial reporting was reported.
Important facts for investors to verify
- Progress, final terms, timing, and any proceeds from the proposed Aclara divestiture.
- Whether backlog converts to revenue and whether Test project timing and Filtration growth support the stated EPS outlook.
- Cash conversion and working-capital trends, given negative operating cash flow from continuing operations and increased inventory.
- Debt repayment, facility availability, covenant compliance, and the effect of the $50 million current debt balance.
- Actual restructuring costs and savings, including the expected Doble Lemke shutdown costs and Test segment savings.
- Tax-rate developments, including foreign transfer-pricing positions and the possible reduction in unrecognized tax benefits.