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NPO > SEC Filings for NPO > Form 10-Q on 6-Aug-2014All Recent SEC Filings

Show all filings for ENPRO INDUSTRIES, INC

Form 10-Q for ENPRO INDUSTRIES, INC


6-Aug-2014

Quarterly Report


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

The following is management's discussion and analysis of certain significant factors that have affected our financial condition, cash flows and operating results during the periods included in the accompanying unaudited consolidated financial statements and the related notes. You should read this in conjunction with those financial statements and the audited consolidated financial statements and related notes included in our annual report on Form 10-K for the fiscal year ended December 31, 2013.
Forward-Looking Information
This quarterly report on Form 10-Q includes statements that reflect projections or expectations of the future financial condition, results of operations and business of EnPro that are subject to risk and uncertainty. We believe those statements to be "forward-looking" statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. When used in this report, the words "may," "hope," "will," "should," "expect," "plan," "anticipate," "intend," "believe," "estimate," "predict," "potential," "continue," "likely," and other expressions generally identify forward-looking statements.
We cannot guarantee actual results or events will not differ materially from those projected, estimated, assigned or anticipated in any of the forward-looking statements contained in this report. Important factors that could result in those differences include those specifically noted in the forward-looking statements and those identified in Item 1A, "Risk Factors" of the Company's annual report on Form 10-K for the year ended December 31, 2013 and in Item 1A of Part II of this quarterly report on Form 10-Q, which include:
the value of pending claims and the number and value of future asbestos claims against our subsidiaries;

               risks inherent and potential adverse developments that may occur
                in the Chapter 11 reorganization proceeding involving Garlock
                Sealing Technologies LLC ("GST LLC"), The Anchor Packing Company
                ("Anchor") and Garrison Litigation Management Group, Ltd.
                ("Garrison"), including risks presented by


efforts of asbestos claimant representatives to assert claims against us based on various theories of derivative corporate responsibility, including veil piercing and alter ego;

               general economic conditions in the markets served by our
                businesses, some of which are cyclical and experience periodic
                downturns;

prices and availability of raw materials; and

               the amount of any payments required to satisfy contingent
                liabilities related to discontinued operations of our
                predecessors, including liabilities for certain products,
                environmental matters, employee benefit obligations and other
                matters.

We caution our shareholders not to place undue reliance on these statements, which speak only as of the date on which such statements were made. Whenever you read or hear any subsequent written or oral forward-looking statements attributed to us or any person acting on our behalf, you should keep in mind the cautionary statements contained or referred to in this section. We do not undertake any obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events. Overview and Outlook
Overview. We are a leader in the design, development, manufacture and marketing of proprietary engineered industrial products. We have 60 primary manufacturing facilities located in 13 countries, including the United States. We manage our business as three segments: a Sealing Products segment, an Engineered Products segment, and a Power Systems segment.
Our Sealing Products segment designs, manufactures and sells sealing products, including: metallic, non-metallic and composite material gaskets, dynamic seals, compression packing, resilient metal seals, elastomeric seals, hydraulic components, expansion joints, heavy-duty truck wheel-end component systems including brake products, flange sealing and isolation products, pipeline casing spacers/isolators, casing end seals, modular sealing systems for sealing pipeline penetrations, hole forming products, manhole infiltration sealing systems, safety-related signage for pipelines, bellows and bellows assemblies, pedestals for semiconductor manufacturing, PTFE products, conveyor belting and sheeted rubber products. These products are used in a variety of industries, including chemical and petrochemical processing, petroleum extraction and refining, pulp and paper processing, heavy-duty trucking, power generation, food and pharmaceutical processing, primary metal manufacturing, mining, water and waste treatment, aerospace, medical, filtration and semiconductor fabrication. In many of these industries, performance and durability are vital for safety and environmental protection. Many of our products are used in highly demanding applications, e.g., where extreme temperatures, extreme pressures, corrosive environments, strict tolerances, and/or worn equipment make product performance difficult.
Our Engineered Products segment includes operations that design, manufacture and sell self-lubricating, non-rolling, metal-polymer, solid polymer and filament wound bearing products, aluminum blocks for hydraulic applications, and precision engineered components and lubrication systems for reciprocating compressors. These products are used in a wide range of applications, including the automotive, pharmaceutical, pulp and paper, natural gas, health, power generation, machine tool, air treatment, refining, petrochemical and general industrial markets.
Our Power Systems segment designs, manufactures, sells and services heavy-duty, medium-speed diesel, natural gas and dual fuel reciprocating engines. Effective the first quarter of 2014, we changed the name of what had previously been called the Engine Products and Services segment to the Power Systems segment to more accurately reflect that the segment's products are the principal components of systems that generate electrical power and other types of energy. There was no change to the composition of this segment and there is no impact on the sales, segment profit, assets or cash flows of the previously reported segment. The historical business operations of certain subsidiaries of the Company's subsidiary, Coltec Industries Inc ("Coltec"), principally GST LLC and Anchor, have resulted in a substantial volume of asbestos litigation in which plaintiffs have alleged personal injury or death as a result of exposure to asbestos fibers. Information about GST LLC's asbestos litigation is contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations in the "Asbestos" subsection of the "Contingencies" section and in Note 16 to our Consolidated Financial Statements.
On June 5, 2010 (the "Petition Date"), GST LLC, Anchor and Garrison filed voluntary petitions for reorganization under Chapter 11 of the United States Bankruptcy Code in the U.S. Bankruptcy Court for the Western District of North Carolina in Charlotte (the "Bankruptcy Court"). GST LLC, Anchor and Garrison are sometimes referred to jointly as "GST" in


this report. The filings were the initial step in a claims resolution process, which is ongoing. GST LLC is one of the businesses in our broader Garlock group and, prior to the Petition Date, was included in our Sealing Products segment. GST LLC and its subsidiaries operate five primary manufacturing facilities, including operations in Palmyra, New York and Houston, Texas. The filings did not include EnPro Industries, Inc. or any other EnPro Industries, Inc. operating subsidiary.
GST LLC now operates in the ordinary course under court protection and supervision. All pending litigation against GST is stayed during the process. We address our actions to permanently resolve GST LLC's asbestos litigation, and provide an update on its claims resolution process, in this Management's Discussion and Analysis of Financial Condition and Results of Operation in the "Garlock Sealing Technologies LLC and Garrison Litigation Management Group, Ltd." and "Contingencies -Subsidiary Bankruptcy" sections.
The financial results of GST and subsidiaries were included in our consolidated results through June 4, 2010, the day prior to the Petition Date. However, U.S. generally accepted accounting principles require an entity that files for protection under the U.S. Bankruptcy Code, whether solvent or insolvent, whose financial statements were previously consolidated with those of its parent, as GST's and its subsidiaries' were with ours, generally must be prospectively deconsolidated from the parent and the investment accounted for using the cost method. At deconsolidation, our investment was recorded at its estimated fair value as of June 4, 2010. The cost method requires us to present our ownership interests in the net assets of GST at the Petition Date as an investment and not recognize any income or loss from GST and subsidiaries in our results of operations during the reorganization period. Our investment of $236.9 million as of June 30, 2014 is subject to periodic reviews for impairment. When GST emerges from the jurisdiction of the Bankruptcy Court, the subsequent accounting will be determined based upon the applicable facts and circumstances at such time, including the terms of any plan of reorganization. See Note 15 to our Consolidated Financial Statements for condensed financial information for GST and subsidiaries.

In March 2014, we acquired the remaining interest of the Stemco Crewson LLC joint venture. We now own all of the ownership interests in Stemco Crewson LLC. The joint venture was formed in 2009 with joint venture partner Tramec, LLC to expand our brake product offering to include automatic brake adjusters. The purchase of the remaining interest in the joint venture will allow us to accelerate investment in new product development and commercial strategies focused on market share growth for these products.
In March 2014, we acquired the business of Strong-Tight Co. Ltd., a Taiwanese manufacturer and seller of gaskets and industrial sealing products, by acquiring certain assets and assuming certain liabilities of the business. This acquisition adds an established Asian marketing presence and manufacturing facilities from which we can serve the Asian market.
Both of the acquired businesses are included in our Sealing Products segment. We paid $4.3 million in 2014, net of cash acquired, for these businesses. Outlook

We expect improving conditions in most of our markets for the balance of the year. Order activity has remained robust in semiconductor, aerospace and trucking markets, and has improved in some of the process industries served by our businesses. We expect second half revenues and segment profits in the Power Systems segment to increase over the first half of 2014 and the second half of 2013, primarily as a result of higher engine revenues and stronger aftermarket sales.
Our effective tax rate is directly impacted by the relative proportions of revenue and income before taxes in the jurisdictions in which we operate. Based on the expected mix of domestic and foreign earnings, we anticipate our annual effective tax rate for 2014 will be between 30% and 33%. Discrete tax events may cause our effective rate to fluctuate on a quarterly basis. Certain events, including, for example, acquisitions and other business changes, which are difficult to predict, may also cause our effective tax rate to fluctuate. The anticipated effective tax rate is higher than prior results primarily due to the expiration of certain US federal tax provisions that have not been renewed for 2014. These include the research and development credit, certain employment credits, and an exclusion for passive income earned by controlled foreign corporations. The absence of an exclusion for passive income earned between our affiliated foreign subsidiaries results in such income being taxed in the US as a dividend, in addition to being taxed in the local jurisdiction. If these tax incentives are renewed during the year, it could have a significant positive effect on tax expense in the period when renewed. We are subject to changing tax laws, regulations, and interpretations in multiple jurisdictions. Corporate tax reform continues to be a priority in the U.S. and other jurisdictions. Changes to the tax system in the U.S. could have significant effects, positive and negative, on our effective tax rate, and on our deferred tax assets and liabilities.
Our U.S. defined benefit plans continue to be underfunded. Based on currently available data, which is subject to change, we have estimated we will be required to contribute $15.3 million to our U.S. defined benefit pension plans in 2014, of which $10.2 million was contributed during the first six months of 2014. Additional significant contributions are likely to be


required in 2015. Future contribution requirements depend on pension asset returns, pension valuation assumptions, plan design, and legislative actions. We estimate annual pension expense for the full year of 2014 will be $2.2 million, which would be $8.3 million less than in 2013. The expected decrease in pension expense is primarily due to a higher discount rate used in the actuarial computations, contributions made during 2013 and expected in 2014, and the strong performance of the pension assets. We continue to make regular pension contributions in excess of the minimum required amounts and expect to contribute a total of $20.4 million in 2014.
In connection with our growth strategy, we plan to evaluate additional acquisition opportunities in 2014. However, the effects of such acquisitions, if any, cannot be predicted and therefore are not reflected in this outlook. We address our outlook regarding our actions to permanently resolve GST LLC's asbestos litigation in this Management's Discussion and Analysis of Financial Condition and Results of Operations in the "Garlock Sealing Technologies LLC and Garrison Litigation Management Group, Ltd." and "Subsidiary Bankruptcy" sections.
Results of Operations

                              Quarters Ended           Six Months Ended
                                  June 30,                  June 30,
                              2014        2013         2014         2013
                                            (in millions)
Sales
Sealing Products           $  175.4     $ 165.9     $   330.4     $ 312.5
Engineered Products            95.5        95.1         187.3       186.9
Power Systems                  43.0        45.0          84.1        94.4
                              313.9       306.0         601.8       593.8
Intersegment sales             (0.8 )      (0.2 )        (1.5 )      (1.1 )
Net sales                  $  313.1     $ 305.8     $   600.3     $ 592.7
Segment Profit
Sealing Products           $   22.8     $  27.7     $    39.9     $  49.0
Engineered Products             8.9         8.6          17.6        14.4
Power Systems                   3.4         6.4           6.7        11.2
Total segment profit           35.1        42.7          64.2        74.6
Corporate expenses            (10.7 )      (8.5 )       (20.8 )     (17.6 )
Interest expense, net         (10.1 )     (11.0 )       (21.0 )     (22.0 )
Other expense, net             (2.8 )      (9.7 )        (8.6 )     (11.8 )
Income before income taxes $   11.5     $  13.5     $    13.8     $  23.2

Segment profit is total segment sales reduced by operating expenses, restructuring and other expenses identifiable with the segment. Corporate expenses include general corporate administrative costs. Expenses not directly attributable to the segments, corporate expenses, net interest expense, gains and losses related to the sale of assets, impairments, and income taxes are not included in the computation of segment profit. The accounting policies of the reportable segments are the same as those for EnPro.
Other expense, net in the table above contains all items included in other (operating) expense and other expense (non-operating) on our Consolidated Statements of Operations for the quarters ended June 30, 2014 and 2013 and the six months ended June 30, 2014 and 2013 with the exception of $0.5 million, $2.0 million, $0.6 million and $2.9 million, respectively, of restructuring costs. As noted previously, restructuring costs are considered to be a part of segment profit. Additionally, other expense, net in the table above for the quarters ended June 30, 2014 and 2013 and the six months ended June 30, 2014 and 2013 also includes $0.3 million, $2.6 million, $1.8 million and $4.7 million, respectively, of miscellaneous expenses that are either not associated with a particular segment or not considered part of administering the corporate headquarters. These expenses are included in selling, general and administrative expense on our Consolidated Statements of Operations.


Second Quarter of 2014 Compared to the Second Quarter of 2013 Sales of $313.1 million in the second quarter of 2014 increased 2.4% from $305.8 million in the second quarter of 2013. The following table summarizes the impact of acquisitions, foreign currency, and engine sales, by segment:

Sales                          Percent Change 2nd Quarter 2014 vs. 2nd Quarter 2013
                                         Foreign        Engine
increase/(decrease)    Acquisitions     Currency        Sales           Other         Total
EnPro Industries, Inc.       0.6 %         1.2 %        (1.2 )%          1.8  %       2.4  %
Sealing Products             1.1 %         1.0 %         n/a             3.6  %       5.7  %

Engineered Products - % 2.2 % n/a (1.8 )% 0.4 % Power Systems - % - % (8.0 )% 3.6 % (4.4 )%

Following are the key points regarding changes in sales for the second quarter of 2014 compared to the same period in 2013:

               Favorable foreign currency exchange rate fluctuations in the
                second quarter of 2014 as compared to the same period in 2013


               The acquisitions in the first quarter of 2014 included in the
                Sealing Products segment

Increased sales in the Sealing Products segment

A decrease in engine sales in the Power Systems segment

See below for additional discussion on segment sales and segment profits. Corporate expenses for the second quarter of 2014 increased $2.2 million as compared to the same period in 2013. The increase was primarily driven by an increase in employee medical costs ($0.8 million), purchased services ($0.5 million), employee incentive compensation ($0.4 million), and salaries and benefits ($0.3 million).
Interest expense, net in the second quarter of 2014 decreased $0.9 million as compared to the same period of 2013, primarily due to a reduction in the aggregate principal of convertible debentures outstanding following the privately negotiated exchange transactions completed in March 2014 and June 2014 partially offset by increased interest expense due to payment-in-kind interest being added to the note payable to GST principal balance.
Other expense, net in the second quarter of 2014 decreased $6.9 million as compared to the same period of 2013, primarily due to lower environmental reserve adjustments recorded during the quarter ($6.2 million), decreased legal and other fees as activity related to GST's asbestos liability estimation trial slowed ($1.1 million), and pension expense related to previously owned businesses ($1.0 million), partially offset by a loss on exchange of debt ($2.4 million).
We recorded income tax expense of $3.2 million on pre-tax income from continuing operations of $11.5 million in the second quarter of 2014, resulting in an effective tax rate for the quarter of 27.2%. During the second quarter of 2013, our effective tax rate was 40.8% as we recorded income tax expense of $5.5 million on pre-tax income of $13.5 million. Our effective tax rate generally fluctuates based on the portion of our profits earned within the U.S. versus lower rate foreign jurisdictions. The effective tax rate in the current quarter decreased because more of our forecasted earnings are taxable in lower tax jurisdictions outside the U.S.
Net income was $8.3 million, or $0.32 per share, in the second quarter of 2014 compared to net income of $8.0 million, or $0.35 per share, in the same quarter of 2013. Earnings per share are expressed on a diluted basis.
Following is a discussion of operating results for each segment during the quarter:
Sealing Products. Sales of $175.4 million in the second quarter of 2014 reflect a 5.7% increase compared to the $165.9 million reported in the same quarter of 2013. Excluding the benefit of acquisitions ($1.9 million) and favorable foreign exchange ($1.7 million), sales were up 3.6% or $6.0 million. Higher demand in the nuclear markets ($1.6 million), aerospace markets ($1.2 million), semiconductor markets ($1.1 million), and North American heavy-duty truck markets ($5.9 million) and selected price increases at the consolidated Garlock operations and Stemco ($0.9 million) more than offset lower volumes at the consolidated Garlock operations ($3.7 million) due to lower activity in oil and gas, pipeline, and infrastructure project spending.


Segment profit of $22.8 million in the second quarter of 2014 decreased 18% from $27.7 million reported in the second quarter of 2013. Excluding the effects of acquisitions and foreign exchange, profit was down $4.9 million or 18%. The decrease in segment profit was primarily due to lower volumes at the consolidated Garlock operations ($2.9 million), increased manufacturing costs across the segment ($5.1 million) due to shift in products with higher cost and increased overtime, increased headcount across the segment ($1.9 million), and higher R&D spending across the segment ($1.6 million), partially offset by increased volumes at Technetics and Stemco ($6.4 million) and selected price increases ($0.9 million). Operating margins for the segment declined from 16.7% in 2013 to 13.0% in 2014.
Engineered Products. Sales in the second quarter of 2014 were relatively flat at $95.5 million compared to the $95.1 million reported in the same quarter of 2013. Excluding the impact of favorable foreign exchange ($2.1 million), sales were down 1.8% or $1.7 million due to weakness in the North American oil and gas markets ($2.5 million) partially offset by selected price increases across the segment ($1.2 million).
Segment profit in the second quarter of 2014 was $8.9 million compared to $8.6 million in the same quarter last year. Excluding the effect of foreign exchange, profit was up $0.1 million or 1% due to selected price increases ($1.2 million) partially offset by lower volumes. Operating margins for the segment were 9.3%, which increased from the 9.0% reported in the comparable quarter last year. Power Systems. Sales of $43.0 million in the second quarter of 2014 decreased 4% from the $45.0 million reported in the second quarter of 2013. The decrease in sales was due to lower engine sales ($3.6 million) partially offset by higher parts and service revenue ($2.7 million).
The segment reported a profit of $3.4 million in the second quarter of 2014 compared to $6.4 million in the second quarter of 2013. The quarter-over-quarter decline in segment profit was primarily due to a less favorable mix in engine programs ($1.7 million), increased R&D spend ($1.2 million), and higher manufacturing costs ($1.2 million), partially offset by a restructuring charge related to an early retirement program in 2013 ($1.9 million). Operating margins for the segment decreased from 14.2% in 2013 to 7.9% in 2014.
Six Months Ended June 30, 2014 Compared to the Six Months Ended June 30, 2013 Sales of $600.3 million in the first six months of 2014 increased 1.3% from $592.7 million in the first six months of 2013. The following table summarizes the impact of acquisitions, foreign currency, and engine sales, by segment:

Sales                               Percent Change First Six Months of 2014 vs. First Six Months of 2013
                                              Foreign            Engine
increase/(decrease)      Acquisitions        Currency             Sales               Other              Total
EnPro Industries, Inc.         0.3 %             1.1 %            (0.5 )%              0.4  %                1.3  %
Sealing Products               0.7 %             1.0 %             n/a                 4.0  %                5.7  %

Engineered Products - % 1.7 % n/a (1.5 )% 0.2 % Power Systems - % - % (3.2 )% (7.7 )% (10.9 )%

The factors contributing to sales and segment profit results for the first six months of 2014 compared to the same period in 2013 were essentially the same as those affecting the comparison of the results between the second quarters of 2014 and 2013, except in the Power Systems segment, which saw lower environmental upgrades ($4.5 million) driven by the strong sales in Q1 2013. Following are the segment margins for the six months ended June 30, 2014 and 2013.

                    2014  2013
Segment Totals      10.7% 12.6%
Sealing Products    12.1% 15.7%

Engineered Products 9.4% 7.7%
Power Systems 8.0% 11.9%

Corporate expenses for the first six months of 2014 were $3.2 million higher than the first six months of 2013. The increase was primarily driven by an increase in purchased services ($1.6 million), employee medical costs ($0.8 million), professional fees ($0.4 million), and director's fees ($0.4 million), partially offset by lower employee incentive compensation ($1.0 million). Interest expense, net for the first six months of 2014 was $1.0 million lower than the first six months of 2013 for the same factors affecting the comparison of the results between the second quarters of 2014 and 2013.


Other expense, net for the first six months of 2014 was $3.2 million lower than the first six months of 2013 for the same factors affecting the comparison of the results between the second quarters of 2014 and 2013.
Income tax expense during the first six months of 2014 was $4.2 million compared to $6.6 million in the comparable period of 2013, resulting in a 2014 year-to-date effective tax rate of 30.3%. During the first six months of 2013, our effective tax rate was 28.5%. The effective tax rate the first six months of 2013 reflected a discrete benefit related to the January 2013 passage of the American Taxpayer Relief Act of 2012, which retroactively extended previously expired tax provisions. As a result, the entire 2012 benefit of these expired . . .

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