Watts Water Technologies, Inc. announced results for the fourth quarter and year ended December 31, 2013.
In a release on February 18, the Company noted that sales for the fourth quarter of 2013 increased 6.1 percent, or 4.6 percent organically, as compared to the fourth quarter of 2012. Sales for the year ended December 31, 2013 increased 3.2 percent, or 2.1 percent organically, as compared to the year ended December 31, 2012. Net income per diluted share from continuing operations (EPS) for the fourth quarter and year ended December 31, 2013 was $0.23 and $1.71, respectively, as compared to $0.51 and $1.95 for the fourth quarter of 2012 and the year ended December 31, 2012, respectively. Adjusting for special items, fourth quarter 2013 adjusted EPS was $0.57 compared to fourth quarter 2012 adjusted EPS of $0.60 and adjusted EPS for the year ended December 31, 2013 was $2.22 compared to $2.17 for the year ended December 31, 2012.
All financial information and period-to-period references are on a continuing operations basis unless otherwise noted. 2012 fourth quarter and year-to-date results have been recast to reflect Watts Insulation GmbH (Austroflex) as a discontinued operation.
Fourth Quarter/Full Year Highlights:
-Fourth quarter organic sales growth of 4.6 percent is a level we haven't achieved since the third quarter of 2009 and full year 2013 sales were the highest in the Company's history.
-During 2013, we made significant progress with our lead free conversion program. As part of the transition, we incurred incremental costs from manufacturing inefficiencies of $1.4 million during the fourth quarter and $5.8 million for the year ended December 31, 2013.
-In December 2013, we reached an agreement in principle to settle a class action lawsuit, as previously disclosed. In connection with the settlement, we recorded a $13.6 million net charge.
-We have commenced a process to transform the Europe, Middle East and Africa (EMEA) business from a regional focus to a pan European focus. A resulting charge of $1.2 million for non-recurring deployment costs was incurred in the fourth quarter of 2013. We expect this transformation program to be ongoing through 2016.
-Adjusted operating margins decreased 0.6 percentage points to 9.8 percent for the fourth quarter of 2013 as compared to the fourth quarter of 2012, primarily due to $3.0 million in incremental customer rebate costs and $1.4 million in manufacturing inefficiencies related to lead free conversion, with an impact to EPS in the quarter of $0.08.
-2013 free cash flow of $92.1 million represented a 151.2 percent cash conversion rate of free cash flow to net income from continuing operations and is the sixth consecutive year that the Company generated free cash flows in excess of 135 percent of net income.
-Adjusted 2013 full year EPS from continuing operations of $2.22 was $0.05, or 2.3 percent, higher than the full year 2012. The share repurchase program (net) and the effect of foreign exchange positively affected adjusted EPS from continuing operations by $0.06, as compared to 2012.
The Americas sales increased $14.7 million to $220.6 million in the fourth quarter of 2013, compared to $205.9 million for the fourth quarter of 2012. This increase was due to an organic sales increase of $16.2 million, or 7.9 percent, partially offset by unfavorable foreign exchange movements of $1.5 million associated with the weakening of the Canadian dollar against the U.S. dollar. Sales into the Americas wholesale, OEM and DIY markets grew organically by 8.7 percent, 4.1 percent and 6.6 percent, respectively, during the fourth quarter as compared to the same period in 2012, primarily from increased sales of residential and commercial products and HVAC and gas products.
EMEA sales increased $5.6 million to $146.2 million for the fourth quarter of 2013, compared to $140.6 million for the fourth quarter of 2012. The increase was due to favorable foreign exchange movements associated with the strengthening of the euro versus the U.S. dollar of $6.6 million, offset by a reduction in organic sales of $1.0 million or (0.7 percent). Organic sales in the EMEA wholesale market decreased by 3.5 percent but were substantially offset by a 3.7 percent increase in OEM sales as compared to the fourth quarter of 2012. EMEA segment sales represented approximately 39 percent and 40 percent of total Company sales in the fourth quarters of 2013 and 2012, respectively.
Asia Pacific sales increased $1.2 million, or 15 percent, to $9.2 million for the fourth quarter of 2013, compared to $8.0 million for the fourth quarter of 2012. The increase was primarily due to an organic increase of $1.0 million, or 12.5 percent.
Adjusted operating income for the fourth quarter of 2013 decreased by $0.3 million, or 0.8 percent, to $36.7 million, as compared to the fourth quarter of 2012. The Americas adjusted operating margins decreased by 1.3 percentage points to 12.3 percent, as the segment incurred incremental customer rebate charges of $3.0 million and $1.4 million in manufacturing inefficiencies related to the lead free conversion. EMEA adjusted operating margins increased 0.9 percentage points to 11.1 percent on flat sales due to productivity and cost savings initiatives.
During the fourth quarter, the Company spent approximately $3.0 million to repurchase its shares on the open market as part of the $90.0 million share repurchase program announced in April 2013. The Company repurchased approximately 52.1 thousand shares during the fourth quarter and for the full year 2013 spent approximately $23 million to repurchase 453.9 thousand shares.
The full year 2013 sales increase of $46.1 million was primarily due to organic growth of $30.6 million and favorable foreign exchange movements of $14.8 million. Organic sales growth in the Americas of 5.5 percent and Asia Pacific of 20.5 percent, was partially offset by a decrease in EMEA organic sales of 3.6 percent.
Full year free cash flow was $92.1 million in 2013, as compared to free cash flow of $103 million in 2012. The conversion rate of free cash flow to net income from continuing operations was 151.2 percent as compared to 146.3 percent in 2012. This is the sixth consecutive year that the Company generated free cash flows in excess of 135 percent of net income. At December 31, 2013, net debt to capitalization ratio was 3.8 percent, as compared to 10.8 percent at December 31, 2012, the decrease driven primarily by cash generation during the year. As of year-end, the Company had approximately $268.0 million of cash on hand.
Effective February 18, the Company entered into a new unsecured line of credit agreement (the Agreement) with a syndicate of banks. The Agreement provides a credit line of up to $500 million, matures in February 2019, and provides an applicable rate, as defined in the Agreement, on funds borrowed that is lower than our prior credit agreement. The Company expects to use the proceeds from any drawdowns under the Agreement for general corporate purposes, acquisitions and the repayment of existing debt.
Dean P. Freeman, interim Chief Executive Officer and Chief Financial Officer, commented, "We continued to see positive developments in our business during the fourth quarter. We delivered global organic sales growth of 4.6 percent in the quarter, a growth level we haven't achieved since the third quarter of 2009. Organic sales continued to grow in the Americas as all major channels grew in the quarter. In EMEA, organic sales were only marginally below the fourth quarter of 2012 despite a difficult macro environment. Asia Pacific sustained its double digit sales growth trend with continued expansion of HVAC products.
"Adjusted operating margins of 9.8 percent in the quarter were impacted by a couple of items. They included customer rebates in the Americas and manufacturing inefficiencies in the Americas related to the lead free conversion. The incremental rebate costs were driven primarily by accrual true-up adjustments for certain customers attaining higher incentive targets in 2013. The incremental costs for manufacturing inefficiencies in the quarter related to the lead free conversion and we believe any material incremental costs are now behind us."
"Operating margins on a GAAP basis include a net charge for the settlement in principle of a class action lawsuit in the Americas in the amount of $13.6 million, which we previously disclosed in December. Also included is a charge of $1.2 million for non- recurring deployment costs, mostly professional service expenses, incurred in connection with a process to transform the EMEA business from a regional focus to a pan European focus. We expect this transformation program to be ongoing through 2016 and to generate incremental costs and savings in addition to the restructuring efforts announced last July. We anticipate total non-recurring external spend of between $12.0 million and $12.5 million with total forecasted annual savings of $18.0 million by 2018 relating to this program."
Freeman concluded, "Overall, we believe 2013 moved us in a positive direction. In the Americas, we made significant progress with our lead free conversion program, successfully transitioning both our manufacturing processes and our customers' product requirements. In EMEA, although organic sales decreased for year, the rate of decline decreased sequentially as the year progressed. We are undertaking both a restructuring effort and a business transformation initiative in Europe to drive more profitable growth. And we were very pleased with our continued progress in Asia Pacific, as the team delivered 20.5 percent organic growth in 2013 on top of 18 percent organic growth in 2012. For 2014, we expect to benefit from a continued residential construction recovery and a steady repair and replacement market, we believe there should be some stabilization in the European markets and we expect that we would continue to participate in the market expansion opportunities that we see in Asia Pacific."
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