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SPW > SEC Filings for SPW > Form 10-Q on 2-Nov-2011All Recent SEC Filings

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Form 10-Q for SPX CORP


2-Nov-2011

Quarterly Report


ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

(in millions, except per share data)

EXECUTIVE OVERVIEW

During the third quarter of 2011, our revenue trends generally were consistent with the first half of the year, as organic revenues for the quarter, compared to the respective 2010 period, increased 4.1% (organic revenue for the first nine months of 2011, compared to the respective 2010 period, increased 5.6%). The increase in organic revenue continued to be driven by our Flow Technology and Test and Measurement segments, as organic revenue growth for these segments totaled 16.3% and 4.8%, respectively, during the third quarter of 2011. Third quarter 2011 organic revenues for our Thermal Equipment and Services and Industrial Products and Services segments continued to be affected negatively by volume declines in China and lower volumes and pricing on power transformers, respectively.

Segment income for the three and nine months ended October 1, 2011 totaled $156.4 and $403.2, respectively, compared to $157.7 and $399.9 during the three and nine months ended October 2, 2010. Segment income during 2011 has been impacted favorably by the revenue growth within our Flow Technology and Test and Measurement segments. However, these year-over-year increases in segment income have been offset by the impact of unfavorable project mix within our Thermal Equipment and Services segment and lower volumes and pricing on power transformers in our Industrial Products and Services segment.

For the first nine months of 2011, cash flows from operations totaled $124.0, compared to $43.7 during the first nine months of 2010, with the increase attributable to a decline in working capital investments during the nine months ended October 1, 2011.

During the fourth quarter of 2011, we expect the organic revenue growth trends for the Flow Technology and Test and Measurement segments to continue at rates comparable to those experienced during the first nine months of 2011, and more favorable trends within our Thermal Equipment and Services and Industrial Products and Services segments.

Other matters of note, including items that impacted our financial performance for the first nine months of 2011, were as follows:

† Acquisitions:

† On August 24, 2011, in the Flow Technology segment, we entered into an agreement to purchase Clyde Union (Holdings) S.A.R.L. ("Clyde Union"). On November 1, 2011, we executed an amendment to that agreement. The purchase price, under the amended agreement, includes an initial payment of 565.0 British Pounds ("GBP"), plus potential earn-out payments of up to 185.0 GBP (see Note 3 to the condensed consolidated financial statements for additional details on the potential earn-outs).

†          The acquisition is targeted to close by December 22, 2011.

†          The purchase price will be funded with available cash and the two
term loans noted below.

†          In the Flow Technology segment, we completed the acquisition of B.W.

Murdoch Ltd. ("Murdoch"), an engineering company supplying processing solutions for the food and beverage industry, for a purchase price of $8.1.

† In the Test and Measurement segment, we completed the acquisition of substantially all of the assets of Teradyne, Inc.'s Diagnostic Solutions business ("DS"), a global supplier of diagnostic solutions for transportation OEMs and automotive dealerships, for a purchase price of $40.2.

† Long-Term Debt:

† Following the end of the quarter, on October 5, 2011 we modified our senior credit facilities in order to provide additional committed senior secured financing in an aggregate amount of $800.0, consisting of two term loans.

† In June 2011, we entered into new senior credit facilities, with a total capacity of $1,800.0, which replaced our then-existing senior credit facilities.

† In June 2011, we redeemed our outstanding 6.25% senior notes, resulting in a principal payment of $21.3.

† In January 2011, we redeemed our outstanding 7.50% senior notes, resulting in a principal payment of $28.2.

† Income Taxes - During the third quarter of 2011, we recorded an income tax benefit of $27.8 associated with the reversal of the valuation allowance on our existing foreign tax credit carryforwards. This benefit was offset partially by $6.9 of federal income taxes that were recorded in connection with our plan to repatriate a portion of the earnings of a foreign subsidiary.

† Other:

† Beginning on August 30, 2011, we entered into foreign currency protection agreements to hedge a significant portion of the purchase price of the Clyde Union acquisition, which, as previously noted, will be paid in GBP. From the inception of these agreements until October


1, 2011, the U.S. dollar strengthened against the GBP by approximately 5.0%. As a result, we recorded a non-cash charge during the third quarter of 2011 of $30.6, which was recorded in "Other expense, net" and based on the fair value of these agreements as of October 1, 2011.

† In the second quarter of 2011, within our Thermal Equipment and Services segment, we recorded an impairment charge of $24.7 related to the goodwill and indefinite-lived intangible assets of our SPX Heat Transfer Inc. reporting unit.

† During the first quarter of 2011, we recorded an insurance recovery of $6.3, within our Industrial Products and Services segment, related to a product liability matter.

† For one of our domestic pension plans, in the first quarter of 2011, we began amortizing the unrecognized gains (losses) over the average remaining life expectancy of the inactive participants as opposed to the average remaining service period of the active participants, as almost all of the plan participants have become inactive. This change resulted in a reduction in pension expense of approximately $5.0 and $15.0 during the three and nine months ended October 1, 2011.

RESULTS OF CONTINUING OPERATIONS

The unaudited information included in this Quarterly Report on Form 10-Q should be read in conjunction with the consolidated financial statements contained in our 2010 Annual Report on Form 10-K. Interim results are not necessarily indicative of results for a full year. We establish actual interim closing dates using a "fiscal" calendar, which requires our businesses to close their books on the Saturday closest to the end of the calendar quarter for the first quarter, with the second and third quarters being 91 days in length. Our fourth quarter ends on December 31. The interim closing dates for the first, second and third quarters of 2011 are April 2, July 2 and October 1, compared to the respective April 3, July 3 and October 2, 2010 dates. This practice only impacts the quarterly reporting periods and not the annual reporting period. We had one fewer day in the first quarter of 2011 and will have one more day in the fourth quarter of 2011 than in the respective 2010 periods.

Seasonality and Competition - Many of our businesses closely follow changes in the industries and end markets that they serve. In addition, certain businesses have seasonal fluctuations. Our heating and ventilation products businesses tend to be stronger during the third and fourth quarters, as customer buying habits are driven largely by seasonal weather patterns. Demand for cooling towers and related services is highly correlated to timing on large construction contracts, which may cause significant fluctuations from period to period. Revenues for our Service Solutions business typically follow program launch timing for diagnostic systems and service equipment. In aggregate, our businesses tend to be stronger in the second half of the year.

Although our businesses operate in highly competitive markets, our competitive position cannot be determined accurately in the aggregate or by segment since our competitors do not offer all the same product lines or serve all of the same markets. In addition, specific reliable comparative figures are not available for many of our competitors. In most product groups, competition comes from numerous concerns, both large and small. The principal methods of competition are service, product performance, technical innovations and price. These methods vary with the type of product sold. We believe we can compete effectively on the basis of each of these factors as they apply to the various products and services we offer.

Non-GAAP Measures - Organic revenue growth (decline) presented herein is defined as revenue growth (decline) excluding the effects of foreign currency fluctuations, acquisitions and divestitures. We believe that this metric is a useful financial measure for investors in evaluating our operating performance for the periods presented, as when read in conjunction with our revenues, it presents a useful tool to evaluate our ongoing operations and provides investors with a tool they can use to evaluate our management of assets held from period to period. In addition, organic revenue growth (decline) is one of the factors we use in internal evaluations of the overall performance of our business. This metric, however, is not a measure of financial performance under accounting principles generally accepted in the United States ("GAAP") and should not be considered a substitute for revenue growth (decline) as determined in accordance with GAAP and may not be comparable to similarly titled measures reported by other companies.


The following table provides selected financial information for the three and nine months ended October 1, 2011 and October 2, 2010, respectively, including the reconciliation of organic revenue growth to net revenue growth:

                                     Three months ended                         Nine months ended
                            October 1,     October 2,                 October 1,     October 2,
                               2011           2010       % Change        2011           2010       % Change
Revenues                   $    1,387.2   $    1,288.4         7.7   $    3,970.2   $    3,561.8        11.5
Gross profit                      391.1          378.0         3.5        1,123.7        1,044.2         7.6
% of revenues                      28.2 %         29.3 %                     28.3 %         29.3 %
Selling, general and
administrative expense            268.0          253.7         5.6          837.1          756.5        10.7
% of revenues                      19.3 %         19.7 %                     21.1 %         21.2 %
Intangible amortization             8.3            6.8        22.1           24.8           19.4        27.8
Impairment of goodwill
and other intangible
assets                                -              -           *           24.7              -           *
Special charges, net                7.7            8.9       (13.5 )         19.7           20.1        (2.0 )
Other expense, net                (34.6 )         (6.8 )     408.8          (33.7 )        (20.7 )      62.8
Interest expense, net             (22.3 )        (21.4 )       4.2          (67.3 )        (59.6 )      12.9
Loss on early
extinguishment of
interest rate protection
agreements and term loan              -          (25.6 )         *              -          (25.6 )         *
Equity earnings in joint
ventures                            6.9            6.4         7.8           20.7           22.3        (7.2 )
Income from continuing
operations before income
taxes                              57.1           61.2        (6.7 )        137.1          164.6       (16.7 )
Income tax benefit
(provision)                         4.8          (21.5 )    (122.3 )        (16.2 )        (37.4 )     (56.7 )
Income from continuing
operations                         61.9           39.7        55.9          120.9          127.2        (5.0 )

Components of
consolidated revenue
growth:
Organic growth                                                 4.1                                       5.6
Foreign currency                                               2.5                                       3.6
Acquisitions                                                   1.1                                       2.3
Net revenue growth                                             7.7                                      11.5


*Not meaningful for comparison purposes.

Revenues - For the three and nine months ended October 1, 2011, the increase in revenues, compared to the respective 2010 periods, was due to organic revenue growth, the impact of the weaker U.S. dollar, and incremental revenues of $13.7 and $80.9 associated with the acquisitions of Murdoch and DS in 2011, and the Anhydro business ("Anhydro"), Torque Tension Systems Ltd. ("TTS"), and Gerstenberg Schrφder A/S ("Gerstenberg") in July, April and February 2010, respectively. The organic revenue growth was attributable primarily to sales into the food and beverage, power and energy and general industrial end markets of our Flow Technology segment, as well as increased demand from the automotive OEM customers and their dealers within our Test and Measurement segment. These increases in organic revenue were offset partially by organic declines within our Thermal Equipment and Services segment, associated primarily with volume declines of dry cooling products in China and at SPX Heat Transfer Inc., and our Industrial Products and Services segment, related primarily to lower sales of power transformers.

Gross Profit - The increase in gross profit during the three and nine months ended October 1, 2011, compared to the respective 2010 periods, was due primarily to the revenue performance described above. Gross profit for the nine months ended October 1, 2011 also was favorably impacted by an insurance recovery of $6.3 during the first quarter of 2011 related to a product liability matter. Despite the revenue performance described above, gross profit as a percentage of revenues declined for the three and nine months ended October 1, 2011, when compared to the same periods in 2010, primarily as a result of unfavorable project mix within the Thermal Equipment and Services and Flow Technology segments and lower pricing on power transformers within the Industrial Products and Services segment. In addition, we incurred start-up costs of $3.2 and $7.0 during the three and nine months ended October 1, 2011, respectively, associated with the expansion of our power transformer facility in Waukesha, WI.


Selling, General and Administrative ("SG&A") expenses - For the three and nine months ended October 1, 2011, the increase in SG&A expense, compared to the respective 2010 periods, was due primarily to:

† Incremental SG&A associated with the Murdoch, DS, Anhydro, TTS and Gerstenberg acquisitions of $1.8 and $18.7, respectively;

†          Additional SG&A to support the organic revenue growth during the
periods;

†          An increase of $2.5 and $9.1, respectively, in stock compensation

expense, primarily attributable to a higher fair value for the 2011 stock compensation awards resulting from an increase in our share price;

† Higher corporate expense, primarily as a result of costs associated with certain corporate-led initiatives (e.g., global expansion and innovation); and

† A weaker U.S. dollar (compared to the respective 2010 periods), which resulted in an increase in SG&A of $5.9 and $24.6, respectively.

These increases were offset partially by a reduction in pension expense for the three and nine months ended October 1, 2011 primarily as a result of a change in the amortization period of the unrecognized gains/losses for one of our domestic pension plans.

Intangible Amortization - For the three and nine months ended October 1, 2011, compared to the respective 2010 periods, the increase in intangible amortization was due primarily to amortization associated with intangible assets purchased in the Murdoch, DS, Anhydro, TTS, and Gerstenberg acquisitions.

Impairment of Goodwill and Other Intangible Assets - For the nine months ended October 1, 2011, we recorded an impairment charge of $24.7 associated with the goodwill and indefinite-lived intangible assets of our SPX Heat Transfer Inc. reporting unit, with $17.2 of the charge related to goodwill and $7.5 to tradenames. See Note 7 to the condensed consolidated financial statements for further discussion.

Special Charges, net - For the three and nine months ended October 1, 2011, special charges, net related primarily to restructuring initiatives to consolidate manufacturing, distribution, and administrative facilities and functions. The amount for the nine months ended October 1, 2011 also included an impairment charge of $3.7 related to the rationalization of certain software assets that occurred as a result of the integration of the DS acquisition. See Note 5 to the condensed consolidated financial statements for the details of actions taken in 2011 and 2010.

Other Expense, net - Other expense, net, for the three months ended October 1, 2011 was composed primarily of a decrease in the fair value of our foreign currency protection agreements ("FX forward contracts") of $35.2, partially offset by gains on our currency forward embedded derivatives ("FX embedded derivatives") of $3.8 and foreign currency transaction gains of $0.2. The expense associated with the FX forward contracts includes a non-cash charge of $30.6 related to our hedging a significant portion of the purchase price of the Clyde Union acquisition, which will be paid at closing in GBP. From the inception of these FX forward contracts through October 1, 2011, the U.S. dollar strengthened against the GBP by approximately 5.0%. Other expense, net, for the three months ended October 2, 2010 was composed primarily of a charge associated with the net decrease in the fair value of our FX forward contracts and FX embedded derivatives of $1.4 and foreign currency transaction losses of $5.9, partially offset by investment income of $0.7.

Other expense, net, for the nine months ended October 1, 2011 was composed primarily of a decrease in the fair value of our FX forward contracts of $33.6 and foreign currency transaction losses of $4.6, partially offset by gains on FX embedded derivatives of $0.8 and insurance settlements of $2.8 related to death benefits received and a property insurance claim. The expense associated with the FX forward contracts includes a non-cash charge incurred during the third quarter of 2011 of $30.6 related to our hedging a significant portion of the purchase price of the Clyde Union acquisition. Other expense, net, for the nine months ended October 2, 2010 consisted primarily of a charge associated with the net decrease in the fair value of our FX forward contracts and FX embedded derivatives of $20.5 (see Note 11 to our condensed consolidated financial statements) and foreign currency transaction losses of $2.2, partially offset by investment income of $2.2.

Interest Expense, net - Interest expense, net, includes both interest expense and interest income. The increase in interest expense, net, compared to the 2010 periods, was the result of replacing the term loan under our then-existing senior credit facilities (a loan that carried an interest rate, inclusive of the impact of the related interest rate protection agreements ("Swaps"), of approximately 5.0%) with the $600.0 of 6.875% senior notes in August 2010. In addition, in connection with the refinancing of our senior credit facilities, which was completed on June 30, 2011, we wrote off $0.4 of deferred financing fees associated with our then-existing senior


credit facilities. See Note 10 to our condensed consolidated financial statements for further discussion. Also, refer to the discussion of Liquidity and Financial Condition in our 2010 Annual Report on Form 10-K for details pertaining to our 2010 debt activity.

Loss on Early Extinguishment of Interest Rate Protection Agreements and Term Loan - The amount for the three and nine months ended October 2, 2010 was incurred in connection with the August 2010 repayment of the term loan under our senior credit facilities (see Note 10 to our condensed consolidated financial statements), with $24.3 associated with the early termination of the related Swaps and the remainder with the write-off of deferred financing costs and early termination fees.

Equity Earnings in Joint Ventures - Our equity earnings in joint ventures were primarily attributable to earnings from our EGS Electrical Group, LLC and subsidiaries joint venture, which totaled $6.7 and $6.2 for the three months ended October 1, 2011 and October 2, 2010, respectively, and $20.0 and $21.3 for the nine months ended October 1, 2011 and October 2, 2010, respectively.

Income Tax Provision - For the three months ended October 1, 2011, we recorded an income tax benefit of $4.8 on $57.1 of pre-tax income from continuing operations, resulting in an effective tax rate of (8.4%). This compares to an income tax provision for the three months ended October 2, 2010 of $21.5 on $61.2 of pre-tax income from continuing operations, resulting in an effective tax rate of 35.1%. During the third quarter of 2011, we adopted an alternative method of allocating certain expenses between foreign and domestic sources for federal income tax purposes. As a result of this election, we have determined that it is more likely than not that we will be able to utilize our existing foreign tax credits within the remaining carryforward period. Accordingly, during the third quarter of 2011, we reversed the valuation allowance on our foreign tax credit carryforwards, resulting in an income tax benefit of $27.8. This favorable adjustment was partially offset by $6.9 of federal income taxes that were provided in connection with our plan to repatriate a portion of the earnings of a foreign subsidiary.

For the nine months ended October 1, 2011, we recorded an income tax provision of $16.2 on $137.1 of pre-tax income from continuing operations, resulting in an effective tax rate of 11.8%. This compares to an income tax provision for the nine months ended October 2, 2010 of $37.4 on $164.6 of pre-tax income from continuing operations, resulting in an effective tax rate of 22.7%. The effective income tax rate for the nine months ended October 1, 2011 was impacted by the items noted above for the three months ended October 1, 2011, along with tax benefits of $2.5 associated with the conclusion of a Canadian appeals process and $4.5 of tax credits related to the expansion of our power transformer plant in Waukesha, WI. The effective income tax rate for the nine months ended October 2, 2010 was impacted favorably by a tax benefit of $22.0 that was recorded during the period in connection with the completion of the field examinations of our 2006 and 2007 federal income tax returns. This benefit was offset partially by a domestic charge of $6.2 associated with the taxation of prescription drug costs for retirees under Medicare Part D as a result of the first quarter 2010 enactment of the Patient Protection and Affordable Care Act.

RESULTS OF DISCONTINUED OPERATIONS

As part of our operating strategy, we regularly review and negotiate potential divestitures, some of which are or may be material. As a result of this continual review, we determined that certain of our businesses would be better strategic fits with other companies or investors.

We report businesses or asset groups as discontinued operations when, among other things, we commit to a plan to divest the business or asset group, actively begin marketing the business or asset group, and when the sale of the business or asset group is deemed probable within the next twelve months. The following businesses, which have been sold, met these requirements, and therefore have been reported as discontinued operations for the periods presented:

                                                       Quarter      Quarter Sale
Business                                             Discontinued      Closed
Cooling Spain Packaging business ("Cooling Spain")        Q4 2010        Q4 2010
P.S.D., Inc. ("PSD")                                      Q2 2009        Q1 2010

Cooling Spain - Sold for cash consideration of one Euro (exclusive of cash transferred with the business of $2.3), resulting in a loss, net of taxes, of $1.9 during the fourth quarter of 2010. During the first quarter of 2011, we recorded a net charge of $0.1 to "Gain (loss) on disposition of discontinued operations, net of tax" within our condensed consolidated statements of operations in connection with adjustments to certain liabilities that we retained.

PSD - Sold for cash consideration of $3.0, resulting in a gain, net of taxes, of $3.6 during the first quarter of 2010.

In addition to the businesses discussed above, we recognized a net gain of $0.4 and $1.3 during the three and nine months ended October 1, 2011, respectively, and a net loss of $0.1 and a net gain of $1.2 during the three and nine months ended October 2, 2010, respectively, resulting from adjustments to gains/losses on sales from previously discontinued businesses. Refer to the consolidated financial statements contained in our 2010 Annual Report on Form 10-K for the disclosure of all discontinued businesses


during the 2008 through 2010 period.

During the second quarter of 2010, the field examinations of our 2006 and 2007 federal income tax returns were completed by the Internal Revenue Service ("IRS"). In connection with the completion of these examinations, we reduced our liability for uncertain tax positions and recognized an income tax benefit of $7.3 to "Gain (loss) on disposition of discontinued operations, net of tax" associated with a business previously disposed of and reported as a discontinued operation.

The final sales price for certain of the divested businesses is subject to adjustment based on working capital existing at the respective closing dates. The working capital figures are subject to agreement with the buyers, or if we cannot come to agreement, an arbitration process. Final agreement of the working capital figures for certain of these transactions has yet to occur. In addition, changes in estimates associated with liabilities retained in connection with a business divestiture (e.g., income taxes) may occur. It is possible that the sales price and resulting gains/losses on these, and other previous divestitures, may be materially adjusted in subsequent periods.

For the three and nine months ended October 1, 2011 and October 2, 2010, income
(loss) from discontinued operations and the related income taxes are shown below:

                                       Three months ended               Nine months ended
                                    October 1,     October 2,      October 1,      October 2,
                                       2011           2010            2011            2010
Income (loss) from discontinued
operations                         $        0.7    $      (0.1 )  $       (2.0 )  $         1.9
Income tax (provision) benefit             (0.3 )          0.1             3.2              9.9
Income from discontinued
operations, net                    $        0.4    $         -    $        1.2    $        11.8

For the three and nine months ended October 1, 2011 and October 2, 2010, results . . .

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