UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the fiscal year ended December 31, 2019
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the Transition period from to
Commission File No. 001-05672
Incorporated in the State of Indiana | ||
(State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification No.) | |
(Principal Executive Office)
Telephone Number: (914) 641-2000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
☑ | ☐ | Accelerated filer | ☐ | Non-accelerated filer | Smaller reporting company | ||
Emerging growth company | |||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No þ
The aggregate market value of the common stock of the registrant held by non-affiliates of the registrant on June 30, 2019 was approximately $5.7 billion. As of February 19, 2020, there were outstanding 87.8 million shares of common stock, $1 par value, of the registrant.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Definitive Proxy Statement to be filed with the Securities and Exchange Commission pursuant to Regulation 14A for its 2020 Annual Meeting of Shareholders are incorporated by reference in Part II and Part III of this Form 10-K.
TABLE OF CONTENTS
WHERE YOU CAN FIND MORE INFORMATION
We file annual, quarterly and current reports, proxy statements and other information with the U.S. Securities and Exchange Commission (the SEC). The SEC maintains a website at www.sec.gov on which you may access our SEC filings. In addition, we make available free of charge at www.itt.com/investors copies of materials we file with, or furnish to, the SEC as soon as reasonably practical after we electronically file or furnish these reports, as well as other important information that we disclose from time to time. Information contained on our website, or that can be accessed through our website, does not constitute a part of this Annual Report on Form 10-K. We have included our website address only as an inactive textual reference and do not intend it to be an active link to our website.
Our corporate headquarters are located at 1133 Westchester Avenue, White Plains, New York 10604 and the telephone number of this location is (914) 641-2000.
FORWARD-LOOKING AND CAUTIONARY STATEMENTS
Some of the information included herein includes forward-looking statements intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. These forward-looking statements are not historical facts, but rather are based on current expectations, estimates, assumptions and projections about our business, future financial results and the industry in which we operate, and other legal, regulatory and economic developments. These forward-looking statements include, but are not limited to, future strategic plans and other statements that describe the company’s business strategy, outlook, objectives, plans, intentions or goals, and any discussion of future events and future operating or financial performance.
We use words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “target,” “future,” “may,” “will,” “could,” “should,” “potential,” “continue,” “guidance” and other similar expressions to identify such forward-looking statements. Forward-looking statements are uncertain and to some extent unpredictable, and involve known and unknown risks, uncertainties and other important factors that could cause actual results to differ materially from those expressed or implied in, or reasonably inferred from, such forward-looking statements.
Where in any forward-looking statement we express an expectation or belief as to future results or events, such expectation or belief is based on current plans and expectations of our management, expressed in good faith and believed to have a reasonable basis. However, there can be no assurance that the expectation or belief will occur or that anticipated results will be achieved or accomplished.
Among the factors that could cause our results to differ materially from those indicated by forward-looking statements are risks and uncertainties inherent in our business including, without limitation:
• | uncertainties regarding our exposure to pending and future asbestos claims and related liabilities and insurance recoveries; |
• | uncertain global economic and capital markets conditions, including trade disputes between the U.S. and its trading partners; |
• | risks due to our operations and sales outside the U.S. and in emerging markets; |
• | fluctuations in foreign currency exchange rates; |
• | uncertainty surrounding the impact of the recent 2019 novel coronavirus outbreak; |
• | fluctuations in customers’ levels of capital investment and maintenance expenditures, especially in the oil and gas, chemical, and mining markets, or changes in our customers' anticipated production schedules, such as the shifts in production of Boeing's 737 MAX; |
• | failure to compete successfully in our markets; |
• | the extent to which there are quality problems with respect to manufacturing processes or finished goods; |
• | failure to integrate acquired businesses or achieve expected benefits from such acquisitions; |
• | risks related to government contracting, including changes in levels of government spending and regulatory and contractual requirements applicable to sales to the U.S. government; |
• | volatility in raw material prices and our suppliers’ ability to meet quality and delivery requirements; |
• | failure to manage the distribution of products and services effectively; |
• | loss of or decrease in sales from our most significant customer; |
• | fluctuations in our effective tax rate; |
• | failure to retain existing senior management, engineering and other key personnel and attract and retain new qualified personnel; |
• | failure to protect our intellectual property rights or violations of the intellectual property rights of others; |
• | the risk of material business interruptions, particularly at our manufacturing facilities; |
• | the risk of cybersecurity breaches; |
• | changes in laws relating to the use and transfer of personal and other information; |
• | failure of portfolio management strategies, including cost-saving and revenue growth initiatives, to meet expectations; |
• | changes in environmental laws or regulations, discovery of previously unknown or more extensive contamination, or the failure of a potentially responsible party to perform; |
• | failure to comply with the U.S. Foreign Corrupt Practices Act or other applicable anti-corruption legislation, export controls and trade sanctions, including recently announced tariffs; |
• | risk of product liability claims and litigation; and |
• | risk of liabilities from past divestitures and spin-offs. |
Refer to Item 1A, "Risk Factors" for more information on factors that could cause actual results or events to differ materially from those anticipated and disclosed within this Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q and in other documents we file from time to time with the SEC. The forward-looking statements included in this report speak only as of the date of this report. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.
PART I
ITEM 1. | DESCRIPTION OF BUSINESS |
(Amounts reported in this Annual Report on Form 10-K, except per share amounts, are stated in millions unless otherwise specified. References herein to "ITT," "the Company," and such words as "we," "us," and "our" include ITT Inc. and its subsidiaries on a consolidated basis, unless the context otherwise indicates.)
COMPANY OVERVIEW
ITT is a diversified manufacturer of highly engineered critical components and customized technology solutions for the transportation, industrial, and oil and gas markets. We manufacture components that are integral to the operation of systems and manufacturing processes in these key markets. Our products provide enabling functionality for applications where reliability and performance are critically important to our customers and the users of their products.
BUSINESS OVERVIEW | |
• Sales in Approximately 125 Countries | • Strategic Proximity to Customers |
• 2019 Revenue of $2.85 Billion | • 65% of Revenue Outside the U.S. |
• Approx. 10,500 Employees in 35 Countries | • Balanced & Diversified Portfolio |
3 Segments: Motion Technologies (MT), Industrial Process (IP), and Connect & Control Technologies (CCT) | |
MT produces friction, and shock and vibration isolation equipment; IP delivers industrial flow equipment and services; and CCT produces electronic connectors, fluid handling, motion control, composite materials, and noise and energy absorption products.
Our businesses share a common, repeatable operating model centered on our engineering capabilities. Each business applies its technology and engineering expertise to solve our customers' most pressing challenges. Our applied engineering provides a valuable business relationship with our customers given the critical nature of our applications. This in turn provides us with unique insight into our customers' requirements and enables us to develop solutions to better assist our customers to achieve their business goals. Our technology and customer intimacy together produce opportunities to capture recurring revenue streams, aftermarket opportunities, and long-lived platforms from original equipment manufacturers (OEMs).
OUR KEY BRANDS | |||
MT | • ITT Friction Technologies | • KONI | • Wolverine Advanced Materials |
• Axtone | • Novitek | ||
IP | • Goulds Pumps | • Bornemann | • Engineered Valves |
• PRO Services | • C'treat | • i-ALERT | |
• Rheinhütte Pumpen* | |||
CCT | • Cannon | • VEAM | • BIW Connector Systems |
• Aerospace Controls | • Enidine | • Compact Automation | |
• Neo-Dyn Process Controls | • Conoflow | • Matrix Composites* | |
* Acquired in 2019
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These brands are associated with quality, reliability, durability, and engineering excellence. Our brands have a strong international presence and participate in many emerging markets, including China, Mexico, Brazil, Saudi Arabia, and Russia.
We are committed to continue creating long-term sustainable value for our stakeholders with our strategic framework of customer centricity, operational excellence, and effective capital deployment. Our strategy is designed to achieve premier financial performance by combining profitable growth with operational improvements, and share gains in all our businesses while keeping our customers at the center of everything we do.
The main focus of our strategy is expanding in global markets and investing in new products that leverage our deep engineering capabilities, combined with operational improvements that optimize safety, quality, on time delivery, and productivity. We are on a journey to establish a high performance culture that goes beyond the factory floor to improve the efficiency and effectiveness of all critical processes in the value chain and in all functions. These initiatives encompass not only continuous improvement principles, but also leadership, talent, and cultural aspects.
We believe that we have the opportunity to continue to expand geographically, broaden our product lines, improve our market position, and increase earnings through organic growth and targeted acquisitions. We continue to prioritize acquisitions in close-to-core businesses that have unique and differentiated products, services, and technologies. Effective capital deployment, including resource optimization and a disciplined focus on cash flow management are a major part of how we plan to achieve our financial performance goals and deliver strong shareholder return.
Segment Information
See Note 3, Segment Information, to the Consolidated Financial Statements for financial information about each of our segments.
Motion Technologies (MT)
The Motion Technologies segment, MT, is a manufacturer of brake pads, shims, shock absorbers, energy absorption components, and sealing technologies primarily for the transportation industry, including passenger cars, light- and heavy-duty commercial and military vehicles, buses, and rail. MT consists of three main business units: Friction Technologies, Wolverine, and KONI & Axtone.
Friction Technologies
Friction Technologies manufactures a range of brake pads installed as original equipment (OE) on passenger cars and light- and heavy-duty commercial vehicles. Demand for MT's products stem from a variety of end customers and automotive platforms around the world. OE pads are sold either directly to OEMs or to Tier-1 brake manufacturers. Our OE pads are designed to meet customer specifications and environmental regulations, and to satisfy an array of performance standards across multiple geographies. Most automotive OEM platforms (car models) require specific brake pad formulations and have demanding quality, delivery, and volume schedules.
Friction Technologies also manufactures aftermarket brake pads designed for the automotive service and repairs market. This market consists of both OE dealers, also referred to as original equipment service (OES) networks, and independent aftermarket (AM) networks. Brake pads sold within the OES network generally match the specifications of an original auto platform OE brake pad, while our catalog of AM pads feature technology designed to provide a range of braking performance levels. Within the service and repairs market, pads are sold either directly to OE manufacturers or to Tier-1 brake manufacturers (such as Continental) or indirectly through independent distributor channels.
Sales to Continental, MT's largest customer, represent 22% of 2019 MT revenue. A significant portion of the OEM revenue, typically about half, is derived at the automakers' direction to use an ITT brake pad in Continental's braking systems (calipers), generally through supply agreements signed directly with automakers. The remaining Continental revenue is generated from a long term aftermarket agreement.
Wolverine
Wolverine is a manufacturer of customized damping technologies for automotive braking systems and specialized gasket sealing solutions for harsh operating environments. Brake shims are thin metal and rubber adhesive dampeners that fit onto the brake pad and against the brake caliper to prevent excessive noise and vibration. Gaskets are an anti-vibration and sealing solution that prevent fluid spillage in applications such as engines, transmissions, exhaust systems, fuel systems, and a variety of pneumatic systems.
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KONI & Axtone
The KONI and Axtone businesses service three main product groups: railway rolling stock; car & racing; and bus, truck & trailer.
Railway Rolling Stock provides a wide range of equipment for passenger rail, locomotives, freight cars, high speed trains, and light rail. Offerings include customized energy absorption solutions, hydraulic shock absorbers (primary, lateral, and inter-car), yaw dampers, springs, visco-elastic and hydraulic buffers, coupler components, and crash mitigation. Revenue from for our rail damping systems are balanced between OE and AM customers. Sales are either directly to train manufacturers, train operators carrying out scheduled train maintenance programs, or indirectly through distributors.
Car & Racing features performance shock absorbers often using our Frequency Selective Damping (FSD) technology. FSD products generally have been used by car and racing enthusiasts who desire to modify their cars for increased handling performance and comfort, and are now also being incorporated into new OEM platform designs. KONI aftermarket car shock absorbers are sold around the world, directly to customers and through a distribution network that markets KONI products into specific geographies or customer groups.
Bus, Truck & Trailer manufactures shock absorbers and dampers, for sale to both OEM and AM customers.
Other Information
Due to many years of investment in our core capabilities and our collaboration with major OEMs, today's MT is known for customer satisfaction, quality and on-time delivery. MT has a global manufacturing footprint with advanced automation capabilities, with production facilities in Europe, China, and North America.
MT competes in markets primarily served by large and well-established national and global companies. Key competitive drivers within the brake pad and brake shim business include technical expertise, formulation development capabilities, scale production, product performance, high-quality standards, customer intimacy, reputation, and the ability to meet demanding delivery and volume schedules in a reduced amount of time. OE and OES brake pad customers usually require long-lasting and well-established relationships based on mutual trust, local proximity, and a wide range of cooperative activities, starting from the design, to the sampling, prototyping and testing phases of brake pads. Within the independent AM pads market, MT is a leading European provider in a highly fragmented global market.
Competitive drivers in the rail damping systems business include price, technical expertise and product performance. Rail damping systems are considered critical components because of safety requirements and thus they have to be specifically designed according to many different train applications, and must satisfy strict compliance requirements. MT is a leader in the rail dampers component of the complete rail damper system in Europe and continues to gain market share in China.
Industrial Process (IP)
The Industrial Process segment, IP, is an original equipment manufacturer, and an aftermarket parts and service provider offering an extensive portfolio of industrial pumps, valves, and plant optimization systems and services. IP's products serve an extensive base of customers from large multi-national companies and engineering, procurement and construction (EPC) firms to regional distributors and to various other end-user customers. IP has a global manufacturing footprint with significant operations in the United States, South Korea, and Germany. IP's customers operate in global infrastructure and natural resource markets such as oil and gas, chemical and petrochemical, pharmaceutical, general industrial, mining, pulp and paper, food and beverage, and power generation. Brands include Goulds Pumps, Bornemann, Rheinhütte Pumpen, Engineered Valves, PRO Services, C'treat, and i-ALERT.
Industrial Pumps
Industrial pumps serve a wide array of customers and applications primarily in the chemical, oil and gas, mining, general industrial, pharmaceutical, and power generation markets. IP designs and manufactures configured-to-order industry standards-based industrial pumps that are highly engineered and customized to our customer’s needs. These products include a broad portfolio of API (American Petroleum Institute), ANSI (American National Standards Institute), ATEX (ATmosphere EXplosible, European Directive 2014/34/EC), IECEx (IEC standards), and ISO (International Organization for Standardization) centrifugal process pumps, and twin screw, axial, and positive displacement pumps, and water systems. Our project pumps are generally part of larger and more complex capital projects, have longer lead times than baseline pumps, and are generally managed by EPC firms.
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Valves
Valves are manufactured to handle a wide variety of materials and solve unique challenges in the biopharmaceutical, mining, power generation, pulp and paper, and general industrial markets and include industrial knife-gate valves, ball valves, and sanitary diaphragm valves. Valves generally have shorter lead times.
Aftermarket
Our aftermarket solutions, which represent approximately 40% of IP's revenue, provide customers with replacement parts, services, and plant optimization solutions that reduce total cost of ownership for pumps and rotating equipment. In addition to providing standard repairs and upgrades, the business also develops engineered solutions for specific customer process issues. Examples include innovative technologies like PumpSmart Smart Control & Protection Technology and i-ALERT Equipment Health Monitoring Devices to control and monitor pumps and other rotating equipment in an industrial environment.
Other Information
IP goes to market via a global and diversified sales channel structure. End-users are serviced by an extensive network of independent distributors, which account for approximately one-third of revenue, and by representatives which complement our customer-focused direct sales and service organization. We also have focused channels dedicated to supporting EPC firms, as their needs are often distinct from those of other distributors and end-user customers.
The pump and valve markets served are highly competitive, due to supplier capacity and uncertainty and volatility in the oil and gas and industrial markets. For most of our products there are hundreds of regional competitors and a limited number of larger global peers. Primary customer purchase decision drivers include price, delivery terms, and on-time performance, brand recognition and reputation, quality, breadth of product and service offerings, commercial terms, technical support and localization. Pricing can be very competitive for large projects because of overcapacity, fewer investment projects, and aftermarket opportunities for the original equipment provider.
Connect & Control Technologies (CCT)
The Connect & Control Technologies segment, CCT, designs and manufactures a range of highly engineered connectors and specialized products for critical applications supporting various markets including aerospace and defense, industrial, transportation, medical, and oil and gas. CCT’s products are often components on long-lived platforms that generate recurring aftermarket and replacement opportunities. CCT has organized its business around product offerings and end-user markets, with dedicated teams that specialize in solutions for their specific markets, providing focused customer support and expertise.
Connector Products
The connector product portfolio includes high performance electrical connectors of the following types: Circular, Rectangular, Radio Frequency, Fiber Optic, D-sub Miniature, Micro-Miniature, and cable assemblies. Brands include Cannon, VEAM, and BIW Connector Systems, which deliver solutions to enable the transfer of data, signal, and power into various end-user markets including aerospace, defense, industrial, transportation, medical, and oil and gas. These brands are known for high-performance, high-reliability solutions which withstand high vibrations and are resistant to dirt and fluids. In certain harsh environment niche markets, our connector products are considered market leaders because of our technological capabilities, cost performance, and global footprint.
Products for the aerospace and defense markets include industry standards-based connectors and customized solutions for most segments of the commercial aviation and defense industries. These products are designed to withstand the extreme shock, exposure, and vibration environments that are typical in aviation and military applications and where reliability and safety are critical factors.
Products for the industrial markets include connectors for industrial production equipment, industrial electronics and instruments, and other industrial and medical applications. Products for the transportation markets include connectors for passenger rail, heavy-duty vehicles, and electric vehicle applications.
Products for the oil and gas markets include connectors that provide power for electric submersible pumps in oil wells, reservoir monitoring instruments, and electrical downhole heaters. Oil and gas product applications include electrical power penetrations for wellheads, packers, and pods that are able to accommodate various sizes and provide for multiple sealing strategies and ratings.
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Control Products
The control product portfolio provides actuation, fuel management, noise and energy absorption, and environmental control systems, and precision composites, with a specialized set of design and engineering skills and capabilities that enable CCT to deliver custom solutions for unique applications for the aerospace and defense, and industrial markets.
Control products for the aerospace and defense markets consist of fuel and water pumps, valves, electro-mechanical rotary and linear actuators, and pressure, temperature, limit, and flow switches for various aircraft systems. These products also include stowage bin rate controls, rotary hinge dampers and actuators, seat recline locks and control cables, electromechanical seat actuation, a variety of engineered elastomer isolators to protect equipment and keep the interior of the aircraft quiet, certain energy absorption products and other aerospace components. Other control products for this market include environmental control systems such as climate control and ice protection heaters, composite conveyance ducting and acoustically engineered inlets and exhausts for auxiliary power units and precision composites used in aerospace and defense engine and airframe applications. Brands include Aerospace Controls, Enidine, and Matrix Composites.
Control products for the industrial markets include large and small bore shock absorbers, linear and rotary actuators, and process control instrumentation, such as high and low pressure regulators and flow, temperature, and pressure switches. The shock absorbers and actuators serve a wide range of applications in a diverse set of end-markets including production, packaging, factory automation, and infrastructure. The process control products primarily serve the chemical, petrochemical, and energy segments of the industrial market. Brands include Enidine and Compact Automation.
Other Information
CCT has a global production footprint, including facilities in the United States, Mexico, Germany, China, Italy, and Japan, which provide close geographic proximity to key customers. CCT competes with a large number of competitors in highly fragmented industries. CCT’s competitors can range from large public multi-national corporations to small privately held local firms, depending on the product line and region. CCT's ability to compete successfully depends upon numerous factors, including quality, price, availability, performance, brand recognition, customer service, innovation, application expertise, and previous installation history. In addition, collaboration with customers to deliver a wide range of product offerings has allowed CCT to compete effectively, to cultivate and maintain customer relationships, and to expand into new markets. CCT products are sold directly and through numerous channels including distributors. CCT has long-lasting relationships with distributors, as many have been selling certain CCT products for decades. Sales to distributors represented approximately 30% of 2019 CCT revenue.
Other Company Information
Materials
All of our businesses require various manufactured components and raw materials, the availability and prices of which may fluctuate.
MANUFACTURED COMPONENTS ASSEMBLED INTO OUR PRODUCTS | |
• Motors | • Castings |
• Mechanical Seals | • Machined Castings |
• Metal Fabrications | • Miscellaneous Metal, Plastic, and Electronic Components |
PRIMARY RAW MATERIALS | |||
• Steel | • Gold | • Copper | • Nickel |
• Iron | • Aluminum | • Tin | • Rubber |
• Specialty Alloys, including Titanium | |||
Raw materials are purchased in various forms, such as sheet, bar, rod and wire stock, pellets, and metal powders. We also use various specialty resins and adhesives. Raw materials, supplies and product subassemblies are purchased from third-party suppliers, contract manufacturers, and commodity dealers. For most of our products, we have existing alternate sources of supply, or such materials are readily available. However, in some instances we depend on a single source of supply, manufacturing or assembly, or participate in commodity markets that may be subject to a limited number of suppliers.
We continually monitor the business conditions of our supply chain to maintain our market position and to avoid potential supply disruptions. There have been no raw material shortages that have had a material adverse impact on
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any such business as a whole, and we have been able to develop a robust supply chain such that we do not anticipate shortages of raw materials in the future. However, there can be no assurance that the Company will not be adversely affected by price volatility or the availability of supplies to meet our demands in the future.
Although some cost increases may be recovered through increased prices to customers, our operating results are generally exposed to fluctuations in the prices of raw materials and commodities due to inflation, and most recently, tariffs imposed by the U.S. and other countries. When practical, we attempt to control such costs through fixed-priced contracts with suppliers. We typically acquire materials and components through a combination of blanket and scheduled purchase orders to support our materials requirements for an average of four to eight weeks, with the exception of some specialty materials. From time to time, we experience price volatility or supply constraints for raw materials based on market supply and demand dynamics. In limited circumstances, we may have to obtain scarce components for higher prices on the spot market, which may have a negative impact on gross margin and can periodically create a disruption to production and delivery. We also acquire certain inventory in anticipation of supply constraints or enter into longer-term pricing commitments with vendors to improve the priority, price, and availability of supply. We evaluate hedging opportunities to mitigate or minimize the risk of operating margin erosion resulting from the volatility of commodity prices.
Manufacturing Methods
Our businesses utilize two primary methods to fulfill demand for products, build-to-order and engineer-to-order.
• | Build-to-order consists of assembling a group of products with the same pre-defined specifications, generally for our OEM customers. We employ build-to-order capabilities to maximize manufacturing and logistics efficiencies by producing high volumes of basic product configurations. |
• | Engineer-to-order consists of assembling a customized system according to a customer’s individual order specifications. Engineering products-to-order permits the configuration of units to meet the customized requirements of our customers. |
In both cases, we offer design, integration, test, and other production value-added services. Our inventory management and distribution practices in both build-to-order and engineer-to-order seek to improve customer delivery performance and minimize inventory holding periods.
Backlog
Our backlog generally represents firm orders that have been received, acknowledged, and entered into our production systems. However, within certain businesses in MT, our customers include automotive OEMs and we may win an award on an automotive platform several years in advance based on estimated levels of future automotive production. These awards allow for the customer to adjust their production levels at any time, therefore these awards are not considered firm orders. Within these businesses we believe orders are firm upon receipt of the customer purchase order, which may require us to fulfill the order in as little as one week. As such, our backlog at any point in time for these businesses is not believed to be significant and therefore has been excluded from the table below. MT's backlog primarily relates to our rail business.
Our backlog may vary due to market volatility or other changes in macroeconomic conditions. Large complex projects in specialized markets such as oil and gas, chemical, and mining at IP require longer lead times and production cycles. In addition, delivery delays could arise from supply chain limitations, internal production challenges, changes in the customer’s requirements, or technical difficulties. We expect to satisfy approximately 90% of backlog commitments within the next 12 months. The following table illustrates our total backlog by segment as of December 31, 2019 and 2018, respectively:
2019 | 2018 | ||||||
Motion Technologies(a) | $ | 167.4 | $ | 152.4 | |||
Industrial Process | 395.4 | 444.2 | |||||
Connect & Control Technologies | 290.8 | 273.7 | |||||
ITT Inc. | $ | 853.6 | $ | 870.3 | |||
(a) | In 2019, we updated our methodology for quantifying backlog for certain businesses within MT as described above. As a result, our 2018 backlog has been restated to conform with the current year presentation. |
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Intellectual Property
Where appropriate, we seek patent protection for inventions and improvements that are likely to be incorporated into our products or where proprietary rights are expected to improve our competitive position. The highly customized application engineering embedded within our products, our proprietary rights, our knowledge capabilities, and our brand recognition all contribute to enhancing our competitive position.
While we own and control a significant number of patents, trade secrets, confidential information, trademarks, trade names, copyrights, and other intellectual property rights which, in the aggregate, are of material importance to our business, management believes that our Company, as a whole, as well as each of our core segments, is not materially dependent on any one intellectual property right or related group of such rights. Patents, patent applications, and license agreements will expire or terminate over time by operation of law, in accordance with their terms or otherwise. As the portfolio of our patents, patent applications, and license agreements has evolved over a long period of time, we do not expect the expiration of any specific patent or other intellectual property right to have a material adverse effect on our financial statements.
Research and Development
Research and Development (R&D) is key to our strategy and is generally focused on the design of highly engineered solutions. R&D focuses on developing solutions that bring a competitive offering that address clear needs in the market segments we serve. In addition, we work closely with our customers to address their needs by engineering a solution to fit their particular application and enable our customers to achieve their results. We believe R&D is a source of competitive advantage and in recent years, we have invested in new innovation centers of excellence and plan to continue this effort in the future.
Cyclicality and Seasonality
Many of the businesses in which we operate are subject to specific industry and general economic cycles. We consider our connector products in our CCT segment to be an early cycle business, meaning it generally is impacted in the early portion of an economic cycle compared to our other businesses, while the automotive and aerospace components businesses tend to be impacted in the middle portion of the cycle and the industrial pump business typically is impacted late in the economic cycle.
Our businesses experience limited seasonal variations. Revenue impacts from the limited seasonal variations are typically mitigated by our backlog of orders that allow us to adjust levels of production across different periods.
Environmental Matters
We are subject to stringent federal, state, local, and foreign environmental laws and regulations concerning air emissions, water discharges and waste disposal. In the U.S., these include, but are not limited to, the Federal Clean Air Act, the Clean Water Act, the Resource, Conservation and Recovery Act, and the Comprehensive Environmental Response, Compensation and Liability Act. Environmental requirements are significant factors affecting our operations. We have established an internal program to assess compliance with applicable environmental requirements at our facilities. The program, which includes periodic audits of many of our locations, including our major operating facilities, is designed to identify problems in a timely manner, correct deficiencies and prevent future noncompliance.
We closely monitor our environmental responsibilities, together with trends in environmental laws. In addition, we have purchased insurance protection against certain environmental risks arising from our business activities. Environmental laws and regulations are subject to change, however, and the nature and timing of such changes, if any, is difficult to predict. As actual costs incurred at identified sites in future periods may vary from our current estimates given the inherent uncertainties in evaluating environmental exposures, management believes it is possible that the outcome of these uncertainties may have a material adverse effect on our financial statements. See "Critical Accounting Estimates" within Item 7, Management's Discussion and Analysis, as well as Note 20, Commitments and Contingencies, to the Consolidated Financial Statements for additional information regarding environmental matters.
Employees
As of December 31, 2019, we had approximately 10,500 employees, of which approximately 3,000 were located in the U.S. Approximately 20% of our U.S. employees are represented by unions. No one unionized facility accounts for more than 12% of ITT's total revenues. In addition, many of our global employees are covered by collective agreements or represented by works councils or other groups. Although our relations with our employees are strong and we have not experienced any material strikes or work stoppages recently, we can provide no assurance that we will not experience these or other types of conflict with groups representing our employees or our employees generally. In addition, we can provide no assurance that our labor costs will not significantly increase in the future, whether as a result of negotiations with labor unions representing our employees or otherwise.
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General Developments of the Business
Acquisitions
Date of Acquisition | Segment | Business Acquired | Description |
July 3, 2019 | CCT | Matrix Composites (Matrix) | Manufacturer of precision composite components in the aerospace and defense market |
April 30, 2019 | IP | Rheinhütte Pumpen Group (Rheinhütte) | Designer and manufacturer of highly engineered pumps suited for harsh and corrosive environments for the industrial market primarily in Europe |
January 26, 2017 | MT | Axtone Railway Components (Axtone) | Manufacturer of highly engineered and customized components for railway and other harsh-environment industrial markets |
October 5, 2015 | MT | Wolverine Automotive Holdings Inc. (Wolverine) | Manufacturer of customized technologies for automotive braking systems and specialized sealing solutions |
March 31, 2015 | CCT | Environmental Control Systems (f/k/a Hartzell Aerospace) | Designer and manufacturer of products to support aerospace applications |
ITEM 1A. | RISK FACTORS |
We are subject to a wide range of factors that could materially affect future developments and performance. Because of these factors, past performance may not be a reliable indicator of future results. Set forth below and elsewhere in this document are descriptions of the risks and uncertainties that could cause our actual results to differ materially from the results contemplated by the forward-looking statements contained in this document. The most significant factors affecting our business and operations include the following:
Our exposure to pending and future asbestos claims and related liabilities, assets, and cash flows is subject to significant uncertainties.
Subsidiaries of ITT, ITT LLC (f/k/a ITT Corporation) and Goulds Pumps LLC (f/k/a Goulds Pumps, Inc.), have been sued, along with many other companies, in numerous lawsuits in which the plaintiffs claim damages for personal injury arising from exposure to asbestos from component parts of certain products sold or distributed by various defendants, including certain ITT subsidiaries. We expect they will be sued in similar actions in the future. As such, we record an estimated liability related to pending claims and similar claims that we estimate will be filed over the next 10 years based on a number of key assumptions, including the likelihood of suits being filed, claim acceptance rates, disease type, settlement values and defense costs. These assumptions are derived from ITT’s recent experience and reflect our expectations about future claim activities. Although it is probable that the Company will incur additional costs for asbestos claims filed beyond the next 10 years, we do not believe that there is a reasonable basis for estimating those costs at this time.
In addition, we record an asset that represents our best estimate of probable recoveries from our insurers for the estimated asbestos liabilities. There are significant assumptions made in developing estimates of asbestos-related recoveries, such as policy triggers, policy or contract interpretation, the methodology for allocating claims to policies, and the continued solvency of the Company’s insurers. All of our primary insurance policies are exhausted, which may result in higher net cash outflows until excess carriers begin accepting claims for reimbursement. Performance by our insurers could differ from the assumptions underlying the recognized asset and could result in lower collections of receivables than are currently expected to reduce the Company’s asbestos costs. In addition, insurance recoveries may vary significantly from period to period, and the recovery rate is expected to decline over time due to gaps in our insurance coverage, reflecting uninsured periods, the insolvency of certain insurers, prior settlements with our insurers and our expectation that certain insurance policies will exhaust within the next 10 years.
Due to these uncertainties, as well as our inability to reasonably estimate any additional asbestos liability for claims that may be filed beyond the next 10 years, it is difficult to predict the ultimate cost, including potential recoveries, of resolving pending and unasserted asbestos claims. Changes in estimates related to these uncertainties may result in increases or decreases to the net asbestos liability, particularly if the quality, number of claims, or settlement or defense costs change significantly, if there are significant developments in the trend of case law or court procedures, or if
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legislation or another alternative solution is implemented. The resolution of asbestos claims may take many years. We believe it is possible that the future events affecting the key factors and other variables within the next 10 years, as well as the cost of asbestos claims filed beyond the next 10 years, net of expected recoveries, could have a material adverse effect on our financial condition, results of operations, or cash flows in any given period.
Our operating results and our ability to maintain liquidity or procure capital may be adversely affected by unfavorable or uncertain global economic and capital market conditions.
We have experienced and expect to continue to experience volatility in revenues, operating results and profitability due to uncertain global economic and capital market conditions. We have undertaken measures to reduce the impact of this volatility through diversification of markets and expansion of the geographic regions in which we operate. The end markets we serve include automotive, aerospace, oil and gas, industrial, mining, chemical, and defense, each of which is impacted by specific industry and general economic cycles. Important factors impacting our businesses include, but are not limited to, the overall strength of the global economy and our customers’ confidence in local and global macroeconomic conditions, industrial spending, tax rates, interest rates, the availability of commercial financing, and regulations and tariffs in the jurisdictions in which we operate. Instability in the global credit markets and geopolitical environment in many parts of the world may put pressure on global economic conditions. If global economic and market conditions, or economic conditions in key markets or regions deteriorate, we may experience material impacts on our financial statements.
We closely monitor the credit-worthiness of our insurers and customers and evaluate their ability to meet their obligations. However, adverse changes to financial conditions could jeopardize these counterparty obligations. A tightening of credit markets may reduce funds available to our customers to pay for our products and services for a prolonged and perhaps unknown period of time. Restrictive credit markets may also result in customers extending terms for payment and may result in our having higher customer receivables with increased risk of default.
Should market conditions deteriorate, this may also adversely affect our ability to manage inventory levels and maintain current levels of profitability. If, for any reason, we lose access to commercial paper markets or our currently available lines of credit, or if we are required to raise additional capital, we may be unable to do so, or we may be able to do so only on unfavorable terms. Deteriorating market conditions could also indicate an impairment in the value of our goodwill and intangible assets in one or more of our reporting units which would require us to recognize a non-cash charge to our Statement of Operations. We test both goodwill and intangible assets for impairment on an annual basis and whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable.
We are subject to inherent business risks due to our operations and sales outside the U.S. and in emerging markets.
Our international operations, including U.S. exports, comprise a growing portion of our operations and are a strategic focus for continued future growth. Our strategy calls for increasing sales in overseas markets, including emerging markets such as Mexico, South America, China, Russia, and the Middle East. In 2019, 68% of our total sales were to customers operating outside of the United States. Our sales from international operations and export sales are subject to varying degrees of risks inherent in doing business outside of the United States. These risks include the following, some of which could be impacted by changes in international trade agreements or the imposition or increase of tariffs or trade sanctions between the United States and other countries:
• | possibility of unfavorable circumstances arising from host country laws or regulations; |
• | restrictions, regulations, or tax liabilities on currency repatriation; |
• | potential negative consequences from changes to taxation policies; |
• | the disruption of operations from labor and political disturbances; |
• | our ability to hire and maintain qualified staff in these regions; and |
• | changes in tariffs and trade barriers, sanctioned countries and individuals, and import and export licensing requirements. |
Our operations in emerging markets could involve additional uncertainties, including risks that governments may impose limitations on our ability to repatriate funds, impose or increase withholding or other taxes on remittances and other payments to us, seek to nationalize our assets, or impose or increase investment barriers or other restrictions that may adversely affect our business. In addition, emerging markets pose other uncertainties, including challenges to our ability to protect our intellectual property, pressure on the pricing of our products, and risks of political instability.
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The cost of compliance with increasingly complex and often conflicting regulations worldwide can also impair our flexibility in modifying product, marketing, pricing, or other strategies for growing our businesses, as well as our ability to improve productivity and maintain acceptable profit margins.
Significant movements in foreign currency exchange rates may adversely affect our financial statements.
A significant portion of our sales are to customers operating outside the U.S.; therefore, we are exposed to fluctuations in foreign currency exchange rates which could adversely affect our results of operations. The primary currencies to which we have exposure are the Euro, Mexican peso, Polish zloty, South Korean won, Chinese renminbi, and the Czech koruna. From time to time, we may enter into derivative contracts to hedge some of these foreign currency exposures. However, our hedging strategy may fail to reduce our exposure or could result in unfavorable impact to our operating results.
As we continue to grow our business internationally, our operating results could be affected by the relative strength or weakness of global economies and the impact of foreign currency exchange rate fluctuations. Any significant change in the value of currencies of the countries in which we do business relative to the value of the U.S. dollar could affect our ability to sell products competitively and control our cost structure, which could have a material adverse effect on our financial statements. Accordingly, fluctuations in foreign currency exchange rates may also impact our results when the currency of a transaction differs from the functional currency of our operating unit, or when financial statements in the functional currency of non-U.S. operating units are translated into U.S. dollars.
Recently announced tariffs remain uncertain and may continue to have a negative impact to our business.
Beginning in 2018, the U.S. government undertook a series of actions to increase tariffs on certain goods imported into the U.S., including steel and aluminum, and in response governments in Europe and China have imposed retaliatory tariffs on various goods, including on certain goods we sell into those countries. These tariffs have negatively impacted the price of certain parts and materials we purchase to be included in the finished products we sell in the U.S., as well as the cost of the final product when re-exported. Since announced, we have been managing these impacts and will continue attempting to mitigate the impact of these tariffs by lowering input costs through pricing and supply chain actions, efficient utilization of our global manufacturing footprint, and supplier and customer negotiations and diversification strategies. However, we expect that continued trade disputes between the U.S. and Europe, China, and other countries, and other governmental actions related to tariffs or international trade agreements or policies may continue to adversely impact demand for our products, our costs, customers and suppliers.
Our business is impacted by our customers' levels of capital investment and maintenance expenditures, particularly in the oil and gas, chemical, and mining markets.
Demand for certain industrial products and services depends on the level of capital investment and planned maintenance expenditures of our customers. Our customers' levels of capital expenditures depend, in turn, on general economic conditions, availability of credit, economic conditions within their respective industries and expectations of future market behavior. Additionally, volatility in commodity prices can negatively affect the level of these activities and can result in postponement of capital spending decisions or the delay or cancellation of existing orders. The ability of our customers to finance capital investment and maintenance may also be affected by factors independent of the conditions in their industries, such as the condition of global credit and capital markets.
The businesses of many of our customers, particularly those in the oil and gas, chemical, and mining industries, which represent approximately 10%, 9%, and 3%, respectively, of our 2019 revenue, are to varying degrees cyclical and have experienced, and may in the future experience, periodic downturns of varying severity. Our customers in these industries, particularly those whose demand for our products and services is primarily profit-driven, historically have tended to delay large capital projects, including expensive maintenance and upgrades, during economic downturns. Additionally, fluctuating energy demand forecasts and commodity pricing and other macroeconomic factors may cause our customers to be more conservative in their capital planning, which could reduce demand for our products and services. Reduced demand for our products and services could result in the delay or cancellation of existing orders or lead to excess manufacturing capacity, which unfavorably impacts our absorption of fixed manufacturing costs. This reduced demand may also erode average selling prices in our industry. Any of these results could adversely affect our business and financial results.
Additionally, some of our industrial products customers may choose to postpone capital investment and maintenance, even during favorable conditions in their industries or markets, which could lead to the delay or cancellation of orders. Despite these favorable conditions, the general health of global credit and capital markets and our customers' ability to access such markets may significantly impact investments in large capital projects, as well as necessary maintenance and upgrades. In addition, the liquidity and financial position of our customers, which are
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typically directly linked to the economies in which they operate, could impact capital investment decisions and their ability to pay in full and/or on a timely basis. Any of these factors, whether individually or in the aggregate, could have a material adverse effect on our customers and, in turn, our business and financial results.
Failure to compete successfully in our markets could adversely affect our business.
We provide products and services to competitive markets. We believe the principal points of competition in our markets are product performance, reliability and innovation, application expertise, brand reputation, energy efficiency, product life cycle cost, timeliness of delivery, proximity of service centers, effectiveness of distribution channels and price.
Maintaining and improving our competitive position will require continued investment by us in manufacturing, research and development, engineering, marketing, customer service and support, and our distribution networks. We may not be successful in maintaining our competitive position. Our competitors may develop products that are superior to our products, or may develop more efficient or effective methods of providing products and services or may adapt more quickly than we do to new technologies or evolving customer requirements. Pricing pressures also could cause us to adjust the prices of certain products to stay competitive. We may not be able to compete successfully with existing or new competitors.
Our operating costs are subject to fluctuations, particularly due to changes in commodity prices, raw materials, energy and related utilities, freight, tariffs, and cost of labor. In order to remain competitive, we may not be able to recoup all or a portion of these higher costs from our customers through product price increases. Further, our ability to realize financial benefits from efficiency initiatives may not be able to mitigate these manufacturing and operating cost increases and, as a result, could negatively impact our profitability.
Quality problems with our manufacturing processes or finished goods could harm our reputation for producing high-quality products and erode our competitive advantage, sales, and market share.
We manufacture key components that are integral to the operation of systems and manufacturing processes in the automotive, aerospace, rail, oil and gas, industrial, mining, chemical, and defense markets. The reliability and performance of our products are critically important to our customers and the users of their products. Accordingly, quality is extremely important to us and our customers due to the potentially costly consequences of product failure. Our quality certifications, including products manufactured to military specifications, are critical to the marketing success of our goods and services. If we fail to meet these standards, our reputation could be damaged, we could lose customers or the ability to sell certain products, and our revenue and results of operations could be materially adversely affected. Our success in part depends on our ability to manufacture to exact tolerances precision-engineered components, subassemblies, and finished devices from multiple materials. If our components fail to meet these standards or fail to adapt to evolving standards, our reputation as a manufacturer of high-quality components will be harmed, our competitive advantage could be damaged, and we could lose customers, market share or our ability to sell certain products.
We are subject to risks related to government contracting, including changes in levels of government spending and regulatory and contractual requirements applicable to sales to the U.S. government.
Our Connect & Control Technologies and Motion Technologies segments derive a portion of their revenue from sales to U.S. government customers and higher tier contractors who sell to the U.S. government. The government's expenditures are subject to political and budgetary fluctuations and constraints, which may result in significant unexpected changes in levels of demand for our products. In addition, the award, administration and performance of government contracts is subject to regulatory and contractual requirements that differ significantly from the terms and conditions that apply to contracts with our non-governmental customers. We have in the past and may in the future be subject to audits and investigations to evaluate our compliance with these requirements. If we are found to have failed to comply with requirements applicable to government contractors, we may be subject to various actions, including but not limited to fines or penalties, reductions in the value of our government contracts, restrictions on the sale of certain products to the government, or suspension or debarment from government contracting. Failure to comply with applicable requirements also could harm our reputation and our ability to compete for future government contracts or sell equivalent commercial products. Any of these outcomes could have a material adverse effect on our business, results of operations and financial condition.
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Our business could be adversely affected by raw material price volatility and the inability of suppliers to meet quality and delivery requirements.
Our business relies on third-party suppliers for raw materials, components and contract manufacturing services to produce our products. The supply of raw materials to the Company and to its component parts suppliers could be interrupted for a variety of reasons, including availability and pricing. Commodity prices and the prices for other raw materials necessary for production have fluctuated significantly in the past, impacting our operating results and significant future increases in commodity prices could adversely affect our results of operations and profit margins. Due to pricing pressure or other factors, we may not be able to pass along increased raw material and component prices to our customers in the form of price increases or our ability to do so could be delayed. Consequently, our results of operations and financial condition may be adversely affected.
For most of our products, we have existing alternate sources of supply, or the required materials are readily available. In limited instances we depend on a single source of supply, manufacturing or assembly or participate in commodity markets that may be subject to a limited number of suppliers. While we believe we could obtain and qualify alternative sources for most sole and limited source supplier materials, if necessary, the transition to an alternative source could be complex, costly, and protracted, especially if the change requires us to redesign our systems. Delays in obtaining supplies may result from a number of factors affecting our suppliers, including production interruptions at suppliers, capacity constraints, labor disputes, the impaired financial condition of a particular supplier, the ability of suppliers to meet regulatory requirements and suppliers’ allocations to other purchasers. Any delay in our suppliers’ abilities to provide us with sufficient quality or flow of materials or any supplier price increases, or decreased availability of raw materials or commodities could impair our ability to deliver products to our customers and, accordingly, could have an adverse effect on our business, results of operations and financial position.
If we fail to manage the distribution of our products and services effectively, our revenue, gross margin and profitability could suffer. A significant portion of our revenue is derived from a single customer.
We use a variety of sales channels to sell our products and services. Successfully managing these sales channels is a complex process as we sell a broad mix of products through a network of approximately 700 distributors, agents, and value-added resellers. Moreover, since each distribution method has distinct risks and profit margins, our failure to implement the most advantageous balance in the delivery model for our products and services could adversely affect our revenue and profit margins. In addition, changes to the sales channels could introduce additional complexity to our sales and inventory management processes and could cause disruptions to customer service or create channel conflicts.
Further, we must manage inventory effectively, particularly with respect to sales to distributors, which involves forecasting demand and potential pricing issues. Distributors may increase orders during periods of product shortages, cancel orders if their inventory is too high or delay orders in anticipation of new products. Our reliance on indirect distribution methods may reduce visibility to end-customer demand, generating a time lag to the market trend with potential negative impacts on inventory levels and strategic decisions, including pricing, capital deployment, and operational decisions.
Our financial results could be adversely affected by the loss of or delays caused by a distributor, the loss or deterioration of some distribution or reseller arrangements, channel conflicts, including the consolidation of third-party distributors, or if the financial conditions of our channel partners were to weaken. Some of our distributors may have insufficient financial resources and may not be able to withstand changes in business conditions, including economic weakness, leading to a slowness or difficulty in the cash collection process.
Sales to Continental, ITT's largest customer, were approximately 10% of our total revenue in 2019. A significant portion of the OEM revenue, typically about half, is derived at the automakers' direction to use an ITT brake pad in Continental's braking systems (calipers), generally through supply agreements signed directly with automakers. The remaining Continental revenue is generated from a long term aftermarket agreement. The loss of this customer could have a material adverse effect on our business, results of operations, or financial condition.
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Changes in our effective tax rates as a result of changes in the realizability of our deferred tax assets, the geographic mix of earnings, tax examinations or disputes, tax authority rulings, or changes in the tax laws, may adversely affect our financial results.
The Company is subject to taxes in the U.S. and in various foreign jurisdictions. We exercise significant judgment in calculating our provision for income taxes and other tax liabilities. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. Furthermore, changes in domestic or foreign tax laws and regulations, or their interpretation, could result in higher or lower tax rates assessed or changes in the taxability of certain income or the deductibility of certain expenses, thereby affecting our tax expense and profitability.
Any significant increase in our future effective tax rates could reduce net income in future periods. Given the global nature of our business, a number of factors may increase our future effective tax rates, including:
• | changes in the geographic mix of our profits among jurisdictions with differing statutory income tax rates; |
• | sustainability of historical income tax rates in the jurisdictions in which we conduct business; |
• | changes in tax laws applicable to us; |
• | expiration, renewal, or application of tax holidays; |
• | the resolution of issues arising from tax audits with various tax authorities; or |
• | changes in the valuation of our deferred tax assets, deferred tax liabilities, and deferred tax asset valuation allowances. |
The amount of income taxes and other taxes we have paid are subject to ongoing audits by U.S. federal, state and local tax authorities and by non-U.S. authorities. If these audits result in assessments different from amounts paid or reserved, future financial results may include unfavorable tax adjustments. We are currently under routine examination by the U.S. Internal Revenue Service and other tax authorities, and we may be subject to additional examinations in the future. The tax authorities may disagree with our tax treatment of certain material items and thereby increase our tax liability. Failure to sustain our position in these matters could result in a material adverse effect on our financial statements.
Failure to retain our existing senior management, engineering and other key personnel or the inability to attract and retain new qualified personnel could negatively impact our ability to operate or grow our business.
Our success will continue to depend to a significant extent on our ability to retain or attract a significant number of employees in senior management and engineering and other key personnel. The ability to attract or retain employees will depend on our ability to offer competitive compensation, training and cultural benefits. We will need to continue to develop a roster of qualified talent to support business growth and replace departing employees. A failure to retain or attract highly skilled personnel could adversely affect our operating results or our ability to operate or grow our business.
Our inability to protect our own intellectual property rights, or unintentionally violating the intellectual property rights of others could negatively impact our business and financial results.
Obtaining, maintaining and enforcing our proprietary rights is critical to the success of our business. For certain products and manufacturing processes, we rely on patents, trademarks, trade secrets, non-disclosure agreements and other contracts to protect these rights. These contracts may be breached, or may not prevent competitors from independently developing or selling similar products, and therefore could have a negative impact on our business. In addition, during the normal course of business, we could unintentionally infringe or violate the proprietary rights of others. Intellectual property litigation could be time consuming for management, and could result in significant legal expense to either pursue claims against others, or to defend ourselves. If we are unable to protect our patents, trademarks, or other proprietary rights, or if we infringe or violate the rights of others, our business, results of operations, or financial condition could be materially adversely affected.
A material business interruption, particularly at one of our manufacturing facilities, could negatively impact our ability to generate sales and meet customer demand.
If operations at one of our manufacturing facilities were to be disrupted as a result of an equipment failure, natural disaster, power outage, fire, explosion, act of terrorism, war, IT system failure, cyber-attack, adverse weather conditions, labor disputes, epidemic illness (including without limitation, 2019 novel coronavirus), relocation of production location, or any other reason, our financial performance could be adversely affected as a result of our inability to meet customer demand for our products. We have business continuity plans in place to mitigate the effects of such interruptions, but these plans may not be sufficient to resolve the issues in a timely manner. A significant interruption in production capability could also require us to make substantial payments due to non-performance, which could negatively affect
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our results of operations. We also have insurance for certain covered losses which we believe to be adequate to offset a significant portion of the costs for reconstruction of facilities and equipment, as well as certain financial losses resulting from any production interruption or shutdown. However, any recovery under our insurance policies would be subject to deductibles and, depending on the coverage, may not offset the lost revenues or increased expenses that may be experienced during the disruption of operations.
Recently, the outbreak of the 2019 novel coronavirus in China has caused temporary restrictions on travel and closures of plants and offices owned by ITT, our suppliers and customers, and other businesses in China while the country attempts to control the virus. At this time, it is unknown when the virus will be fully contained and therefore we may be negatively impacted by future closures, whether mandated by the government or at the discretion of senior management, or the virus may spread to our workforce causing a material business interruption.
Cyber security breaches could adversely affect our business and results of operations.
The efficient operation of our business is dependent on information technology systems, some of which are managed by third parties. In the ordinary course of business, we collect and store confidential information, including proprietary business information belonging to us, our customers, suppliers, business partners and other third parties and personally identifiable information of our employees. We have taken many steps to protect our information systems, including the installation of protective systems that monitor, test, and backup our systems, as well as annual employee training. For third parties that manage our confidential data on cloud-based servers, we have a robust process to ensure the third party has appropriate systems and controls in place to manage potential cyber threats.
Our information technology systems and those of third party service providers may be susceptible to damage, disruptions or shutdowns due to power outages, hardware failures, telecommunication failures, cyber-attacks, and user errors. If we experience a disruption in our information technology systems, it could result in the loss of sales and customers and significant incremental costs, which could materially adversely affect our business. Moreover, even the most well-protected information systems are vulnerable to internal and external security breaches including, but not limited to, those by computer hackers and cyber terrorists utilizing techniques such as phishing, ransomware or denial of service attacks. In addition, as a provider of products and services to government and commercial customers, and particularly as a government contractor, we are subject to a heightened risk of security breaches caused by computer viruses, illegal break-ins or hacking, sabotage, or acts of vandalism, including by foreign governments and cyber terrorists. Furthermore, information technology security threats are increasing in sophistication, intensity, and frequency. While we actively manage the risks to our information systems that are within our control, we can provide no assurance that our actions or those of our third party service providers will be successful in eliminating or mitigating risks to our systems, networks or data. Accordingly, a security breach may occur, including breaches that we may be unable to detect. The unavailability of our information systems, the failure of these systems to perform as anticipated for any reason or any significant breach of security could cause significant disruption to our business or could result in decreased performance and increased costs, causing an adverse effect on our reputation, business, financial condition and results of operations. If we are unable to protect sensitive information, our customers or governmental authorities could question the adequacy of our security processes and procedures and our compliance with evolving government cyber security requirements for government contractors, potentially causing us to lose business. A breach could also result in the loss of our intellectual property, potentially impacting our long-term capability to compete for sales of affected products. In addition, a breach of security of our information systems could result in litigation, regulatory action and potential liability, as well as increased costs to implement further information security measures. If we are unable to prevent, detect or adequately respond to cyber security breaches, our operations could be disrupted and our business could be materially and adversely affected.
Changes in laws relating to the use and transfer of personal and other information could adversely affect our business and results of operations.
The processing and storage of certain information is increasingly subject to privacy and data security regulations, and many such regulations are country-specific. The interpretation and application of data protection laws in the U.S., Europe, and elsewhere are uncertain, evolving and may be inconsistent among jurisdictions. Compliance with these (including California's Consumer Privacy Act, which became effective on January 1, 2020) various laws may be onerous and require us to incur substantial costs or to change our business practices in a manner that adversely affects our business, while failure to comply with such laws may subject us to substantial penalties. For example, the European Union's General Data Protection Regulation (GDPR), which became effective in May 2018, imposed significant new requirements on how we collect, process and transfer personal data, as well as significant fines for non-compliance. The costs of compliance with the GDPR and the potential for fines and other related costs in the event of a breach of the GDPR or other information security or privacy requirements may have a material adverse effect on our financial results.
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Portfolio management strategies for growth, including cost-saving initiatives, may not meet expectations.
We regularly review our portfolio of businesses and pursue growth through the acquisition of other companies, assets and product lines that either complement or expand our existing businesses. Although we conduct what we believe to be a prudent level of investigation regarding the operating and financial condition of the businesses we purchase, a level of risk remains regarding the actual operating condition of these businesses. Until we actually assume operating control of these businesses and their operations, we may not be able to ascertain the actual value or understand the potential liabilities of, or challenges facing, the acquired businesses and their operations. Acquisitions involve a number of risks and present financial, managerial and operational challenges that could have a material adverse effect on our reputation, financial results, and business, including that an acquired business could under-perform relative to our expectations, the failure to realize expected synergies, difficulty in the integration of technology, operations, personnel and financial and other systems, the possibility that we have acquired substantial undisclosed liabilities, potentially insufficient internal controls over financial activities or financial reporting at an acquired company that could impact us on a consolidated basis, diversion of management attention from other businesses, loss of key employees of the acquired businesses, increased capital requirements and customer dissatisfaction.
Our portfolio reviews also include the potential for cost-saving initiatives through restructuring and other initiatives. We strive for and expect to achieve cost savings in connection with certain initiatives, including: (i) manufacturing process and supply chain rationalization; (ii) streamlining redundant administrative overhead and support activities; and (iii) restructuring and realignment actions. Cost savings expectations are inherently uncertain and, therefore, we cannot provide assurance that we will achieve any expected, or any actual cost savings. Our restructuring activities may place substantial demands on our management, which could lead to the diversion of management’s attention from other business priorities and result in a reduced customer focus. In addition, restructuring activities may result in a loss of knowledge or expertise or could negatively impact employee performance and retention. If any of these outcomes occur, it could have a material adverse impact on our business or financial results.
Our business could be adversely affected by the inability of suppliers to provide us with certifications relating to conflict minerals.
Since our supply chain is complex, ultimately we may not be able to sufficiently discover the origin of the conflict minerals (generally defined as the minerals tin, tantalum, titanium and gold which have been extracted from the Democratic Republic of the Congo or adjoining countries) used in our products through the due diligence procedures that we implement, which may adversely affect our reputation with our customers, shareholders, and other stakeholders. We may also face difficulties in satisfying customers who require that all of our products are certified as conflict mineral free. If we are not able to meet such requirements, customers may choose not to purchase our products, which could adversely affect our sales and the value of portions of our inventory. Further, there may be only a limited number of suppliers offering conflict free minerals and, as a result, we cannot be sure that we will be able to obtain metals, if necessary, from such suppliers in sufficient quantities or at competitive prices. Any one or a combination of these various factors could harm our business, reduce market demand for our products, and adversely affect our financial results.
Changes in environmental laws or regulations, the discovery of previously unknown or more extensive contamination, or the failure of a potentially responsible party to perform may adversely affect our financial results.
We are subject to a variety of federal, state, local and foreign laws, rules and regulations related to the use, storage, handling, discharge or disposal of certain toxic, volatile or otherwise hazardous chemicals, gases and other substances used in manufacturing our products. Some of these laws in the United States include the Federal Clean Water Act, Clean Air Act, Resource Conservation and Recovery Act, Comprehensive Environmental Response, Compensation, and Liability Act, Toxic Substances Control Act, and similar state and foreign statutes and regulations. In the European Union (EU), we are subject to the EU regulation on Registration, Evaluation, Authorization and Restriction of Chemicals. Compliance with these laws and regulations could require us to incur substantial expenses. Environmental laws and regulations allow for the assessment of substantial fines and criminal sanctions as well as facility shutdowns to address violations, and may require the installation of costly pollution control equipment or operational changes to limit emissions or discharges. In addition, the discovery of previously unknown or more extensive contamination at a site which the Company previously operated or currently operates could suddenly subject the Company to costly remediation efforts. We also could be affected by changes in environmental laws or regulations, including, for example, those imposed in response to vapor intrusion or climate change concerns.
Developments such as the adoption of new environmental laws and regulations, violations by us of such laws and regulations, discovery of previously unknown or more extensive contamination, litigation involving environmental impacts, the adequacy of insurance policies, our inability to recover costs associated with any such developments, or
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financial insolvency of other potentially responsible parties could have a material adverse effect on our business, financial condition and results of operations.
Failure to comply with the U.S. Foreign Corrupt Practices Act or other applicable anti-corruption legislation, as well as export controls and trade sanctions, could result in fines or criminal penalties.
We operate in a number of countries throughout the world, including countries known to have a reputation for corruption. We are committed to doing business in accordance with applicable anti-corruption laws. However, we cannot provide assurance that our internal controls will always protect us from reckless or criminal acts committed by our employees, agents or business partners that would violate U.S. and/or applicable non-U.S. laws, including anti-bribery, competition, trade sanctions and regulation, and other laws including but not limited to, the U.S. Foreign Corrupt Practices Act of 1977 and the U.K. Bribery Act of 2010, as well as trade sanctions administered by the Office of Foreign Assets Control, the U.S. Department of State and the U.S. Department of Commerce. Any such violation could result in substantial fines, sanctions, civil and/or criminal penalties, suspension or debarment from government contracts, or curtailment of operations in certain jurisdictions, and might adversely affect our business, financial condition or results of operations or financial position. Furthermore, detecting, investigating, and resolving actual or alleged violations is expensive and can consume significant time and attention of our senior management. Even the allegation or appearance of our employees, agents or business partners acting improperly or illegally could damage our reputation and result in significant expenditures in investigating and responding to such actions.
We are subject to laws, regulations and potential liability relating to claims, complaints and proceedings, including those related to product liability and other matters.
Our business exposes us to potential product liability risks that are inherent in the design, manufacture, and marketing of products for the markets we serve. In addition, many of the devices we manufacture and sell are critical components designed to be used in harsh environments for long periods of time where the cost of failure is high. Component failures, manufacturing defects, design flaws, or inadequate disclosure of product-related risks or product-related information could result in an unsafe condition or injury to, or death of, an end-user of our products. The occurrence of such a problem could result in product liability claims or a recall of, or safety alert relating to, one or more of our products which could ultimately result, in certain cases, in the removal of such products from the marketplace and claims regarding costs associated therewith. Product liability claims or product recalls in the future, regardless of their ultimate outcome, could have a material adverse effect on our business and reputation and on our ability to attract and retain customers for our products.
We are subject to various laws, ordinances, regulations and other requirements of government authorities in the U.S. and in foreign countries. Any violations or failure to comply with securities laws, trade or tax rules or similar regulations could create a substantial liability for us, and also could cause harm to our reputation. Changes in laws, ordinances, regulations or other government policies, the nature, timing, and effect of which are uncertain, may significantly increase our expenses and liabilities.
From time to time we are involved in legal proceedings that are incidental to the operation of our businesses. Some of these proceedings allege damages relating to personal injury claims, employment and employee benefit matters and commercial or contractual disputes, sometimes related to acquisitions or divestitures. Additionally, we may become subject to significant claims of which we are currently unaware or the claims of which we are aware may result in our incurring a significantly greater liability than we anticipate or can estimate.
Past divestitures and spin-offs may expose us to potential liabilities.
We have divested a number of businesses, including as part of spin-offs in 1995 and 2011. With respect to some of these former businesses, we have contractually agreed to indemnify the counterparties against, or otherwise retain, certain liabilities, including, for example certain lawsuits, tax liabilities, product liability claims, asbestos claims, or environmental matters. Even without ongoing contractual indemnification obligations, we could be exposed to liabilities arising out of such divestitures. In addition, the counterparties to those divestitures may have agreed to indemnify us or assume certain liabilities relating to those divestitures. Similarly, there can be no assurance that the indemnity or assumption of liability by the counterparties will be sufficient to protect us against the full amount of these liabilities, or that a counterparty will be able to fully satisfy its obligations. Third parties also could seek to hold us responsible for any of the liabilities that a counterparty agreed to assume. Even if we ultimately succeed in recovering any amounts for which we were initially held liable, we may be temporarily required to bear these losses ourselves.
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Anti-takeover provisions in our organizational documents and Indiana law could delay or prevent a change in control.
Certain provisions of our articles of incorporation and by-laws may delay or prevent a merger or acquisition that a shareholder may consider favorable. For example, the articles of incorporation authorize our Board of Directors to issue one or more series of preferred stock. In addition, the articles of incorporation and by-laws, among other things, do not permit action by written consent of the shareholders. These provisions may also discourage acquisition proposals or delay or prevent a change in control, which could harm our stock price. Indiana law also imposes some restrictions on mergers and other business combinations between any holder of 10% or more of our outstanding common stock and us as well as certain restrictions on the voting rights of "control shares" of an "issuing public corporation."
ITEM 1B. | UNRESOLVED STAFF COMMENTS |
None.
ITEM 2. | PROPERTIES |
We own or lease over 100 manufacturing plants, warehouses, service centers, and sales and administrative offices to support our operations. These properties are located in various regions including North America, Europe, Asia, South America and the Middle East, and are considered to be in good condition with sufficient capacity to accommodate the Company’s needs. The following table summarizes the number and area (in thousands of square feet) of our material properties by region and business segment as of December 31, 2019. Our material properties primarily consist of manufacturing locations and are defined as those containing 25,000 square feet or more, which represents over 90% of the total area of our properties.
Motion Technologies | Industrial Process | Connect & Control Technologies | Total | |||||||||||||||||
Location | # | Area | # | Area | # | Area | # | Area | ||||||||||||
Owned: | ||||||||||||||||||||
North America | 4 | 814 | 6 | 1,198 | 3 | 515 | 13 | 2,527 | ||||||||||||
Europe | 9 | 1,651 | 1 | 357 | 1 | 231 | 11 | 2,239 | ||||||||||||
Asia | — | — | 1 | 671 | 1 | 34 | 2 | 705 | ||||||||||||
South America | — | — | 1 | 43 | — | — | 1 | 43 | ||||||||||||
13 | 2,465 | 9 | 2,269 | 5 | 780 | 27 | 5,514 | |||||||||||||
Leased: | ||||||||||||||||||||
North America | 2 | 86 | 9 | 396 | 4 | 336 | 15 | 818 | ||||||||||||
Europe | 6 | 572 | 2 | 60 | 1 | 53 | 9 | 685 | ||||||||||||
Asia | 1 | 342 | 4 | 267 | 1 | 256 | 6 | 865 | ||||||||||||
South America | — | — | 3 | 110 | — | — | 3 | 110 | ||||||||||||
9 | 1,000 | 18 | 833 | 6 | 645 | 33 | 2,478 | |||||||||||||
Additionally, our corporate headquarters is located in White Plains, New York and is approximately 50,000 square feet.
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ITEM 3. | LEGAL PROCEEDINGS |
From time to time, we are involved in litigation, claims, government inquiries, investigations, and proceedings, including but not limited to those relating to environmental exposures, intellectual property matters, personal injury claims, regulatory matters, commercial and government contract issues, employment and employee benefit matters, commercial or contractual disputes, and securities matters.
Asbestos Proceedings
Our subsidiaries, ITT LLC and Goulds Pumps LLC, have been joined as defendants with numerous other companies in product liability lawsuits alleging personal injury due to asbestos exposure. These claims allege that certain of their products sold prior to 1985 contained a part manufactured by a third party (e.g., a gasket) which contained asbestos. To the extent these third-party parts may have contained asbestos, it was encapsulated in the gasket (or other) material and was non-friable. Frequently, the plaintiffs are unable to identify any ITT LLC or Goulds Pumps LLC products as a source of asbestos exposure. In addition, many claims pending against the Company's subsidiaries have been placed on inactive dockets because the plaintiff cannot demonstrate a compensable loss. Our experience to date is that a substantial portion of resolved claims have been dismissed without payment by the Company's subsidiaries.
We have recorded a liability for pending asbestos claims and asbestos claims estimated to be filed over the next 10 years. While it is probable that we will incur additional costs for future claims to be filed against the Company, a liability for potential future claims beyond the next 10 years is not reasonably estimable due to the uncertainties and variables inherent in the long-term projection of the Company's asbestos exposures and potential recoveries. As of December 31, 2019, we have recorded an undiscounted asbestos-related liability for pending claims and unasserted claims estimated to be filed over the next 10 years of $817.6, which includes expected legal fees, and we have recorded an associated asset of $386.8, which represents estimated recoveries from insurers, resulting in a net exposure of $430.8. See information provided in Note 20, Commitments and Contingencies, to the Consolidated Financial Statements for further information.
Environmental
In the ordinary course of business, we are subject to federal, state, local, and foreign environmental laws and regulations. We are responsible, or are alleged to be responsible, for ongoing environmental investigation and site remediation. These sites are in various stages of investigation or remediation and in many of these proceedings our liability is considered de minimis. We have received notification from the U.S. Environmental Protection Agency, and from similar state and foreign environmental agencies, that a number of sites formerly or currently owned or operated by ITT, and other properties or water supplies that may be or have been impacted from those operations, contain disposed or recycled materials or wastes and require environmental investigation or remediation. These sites include instances where we have been identified as a potentially responsible party under applicable environmental laws and regulations. See information provided in Note 20, Commitments and Contingencies, to the Consolidated Financial Statements for further information.
ITEM 4. | MINE SAFETY DISCLOSURES |
Not applicable.
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EXECUTIVE OFFICERS OF THE REGISTRANT
The current executive officers of the Company, as of February 1, 2020, are listed below.
Name | Age | Current Title | |
Luca Savi | 54 | Chief Executive Officer and President | |
Farrokh Batliwala | 44 | Senior Vice President and President, Connect & Control Technologies | |
John Capela | 40 | Vice President and Chief Accounting Officer | |
Ryan F. Flynn | 48 | Senior Vice President and President, Asia Pacific | |
Carlo Ghirardo | 49 | Senior Vice President and President, Motion Technologies | |
Mary Elizabeth Gustafsson | 60 | Senior Vice President, General Counsel and Corporate Secretary and Chief Compliance Officer | |
George Hanna | 68 | Senior Vice President and President, Industrial Process | |
Maurine C. Lembesis | 53 | Senior Vice President, Chief Human Resources Officer | |
Thomas M. Scalera | 48 | Executive Vice President and Chief Financial Officer | |
Luca Savi was appointed Chief Executive Officer, President and a director of the Company in January 2019. He previously served as President and Chief Operating Officer of the Company from August 2018 to December 2018 and as Executive Vice President and Chief Operating Officer from January 2017 to August 2018. Prior to that, he served as Executive Vice President, Motion Technologies from February 2016 to January 2017 and as Senior Vice President and President, Motion Technologies from November 2011 to February 2016. Prior to joining the Company, Mr. Savi served as Chief Operating Officer, Comau Body Welding at Comau, a subsidiary of the Fiat Group responsible for producing and serving advanced manufacturing systems, from 2009 to 2011 and as Chief Executive Officer, Comau North America from 2007 to 2009. Mr. Savi previously held leadership roles at Honeywell International, Royal Dutch Shell and technical roles at Ferruzzi-Montedison Group.
Farrokh Batliwala has served as our Senior Vice President and President, Connect and Control Technologies since May 2017. Prior to the combination of Control Technologies and Interconnect Solutions, Mr. Batliwala served as the Senior Vice President of Control Technologies and Interconnect Solutions from November 2016 to May 2017 and previously as Senior Vice President and President, Control Technologies from October 2015 to November 2016. Prior to joining us, Mr. Batliwala served as Vice President and General Manager, Hydraulics, Power and Motion Control Division for Eaton Corporation (Eaton), a diversified global power management technology company, from 2013 to 2015. Mr. Batliwala held various other positions of increasing levels of responsibility at Eaton since 2004.
John Capela has served as our Vice President and Chief Accounting Officer since November 2018. He previously served as Executive Vice President, Chief Accounting Officer and Corporate Controller of Toys “R” Us, Inc. from May 2018 to November 2018 and as Vice President and Corporate Controller from March 2018 to May 2018. Prior to that, Mr. Capela served as Vice President and Assistant Controller from May 2015 to March 2018 and held various other positions of increasing levels of responsibility at Toys “R” Us, Inc. Prior to joining Toys “R” Us, Inc. in March 2007, Mr. Capela spent several years with PricewaterhouseCoopers LLP in its audit practice. Mr. Capela is also a Certified Public Accountant and a Chartered Global Management Accountant.
Ryan F. Flynn has served as Senior Vice President and President, Asia Pacific Region since January 2019. He previously served as General Manager of Motion Technologies China since 2016. Prior to joining ITT he served as Executive Vice President and Head of Business Area Equipment for Konecranes from 2013 to 2016 and held various other positions with Konecranes including the Asia-Pacific President and Director for its Port Cranes & Lifttrucks businesses in Asia from 2005 to 2013.
Carlo Ghirardo has served as our Senior Vice President and President, Motion Technologies since April 2018. He previously served as President of Eaton’s Vehicle Group EMEA region since 2017. He also served as Vice President and General Manager of Eaton’s Engine Air Management Product Group from 2015, as Vice President and General Manager of Eaton’s Valvetrain Division from 2010, as well as holding various other executive roles in global operations from 2003. Prior to that, Mr. Ghirardo held leadership positions at United Technologies Corporation and Michelin. He also acquired lean manufacturing consulting and project management experience with Galgano & Associati working in transformation projects across Europe.
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Mary Elizabeth Gustafsson has served as our Senior Vice President and General Counsel since February 2014 and as our Corporate Secretary since April 2019. She has also served as our Chief Compliance Officer since August 2014. Prior to joining us, Ms. Gustafsson served as Executive Vice President, General Counsel and Corporate Secretary of First Solar Inc. from 2009 to 2013 and from 2008 to 2009 as Vice President, General Counsel. Prior to that Ms. Gustafsson was Senior Vice President, General Counsel and Secretary of American Standard Companies, Inc. from 2005 to 2008.
George Hanna has served as our Senior Vice President and President, Industrial Process since March 2019 and has previously served as Vice President, Industrial Process from October 2011 through March 2019. Prior to joining ITT, Mr. Hanna served as the Vice President of Sales and Marketing for Robbins & Myers Inc. from 2006 through 2011. In addition, Mr. Hanna held various business development roles of increasing responsibility with Ingersoll-Rand and Ingersoll-Dresser. Mr. Hanna has over 40 years of experience in the rotating equipment business and working in various geographical locations.
Maurine C. Lembesis has served as our Senior Vice President and Chief Human Resources Officer since January 2019. She previously served as Vice President and Corporate Human Resources Business Partner from January 2017 to December 2018 and prior to that as Executive Director, Corporate Human Resources since June 2013. Prior to joining ITT, she held roles of increasing responsibility in Human Resources at Avon Products Inc. from 2007 to 2013, including the role of Executive Director of Human Resources. In addition, Ms. Lembesis held various other human resources roles at Capital Group Companies, Pfizer Inc. and GE Capital.
Thomas M. Scalera has served as our Executive Vice President and Chief Financial Officer since February 2015 and previously as Senior Vice President, Chief Financial Officer and Strategy and IT Leader since August 2014 and prior to that as Senior Vice President and Chief Financial Officer since October 2011. He previously served as Vice President, Corporate Finance from 2010 to 2011 and Director, Investor Relations from 2008 to 2010. Prior to joining ITT in 2006, Mr. Scalera held senior financial roles with R.R. Donnelley, Dover Corp., and PricewaterhouseCoopers, LLP.
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PART II
ITEM 5. | MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
COMMON STOCK AND DIVIDENDS
Our common stock is reported in the consolidated transaction reporting system of the New York Stock Exchange (NYSE), the principal market in which this security is traded (under the trading symbol "ITT"). There were approximately 7,144 holders of record of our common stock on February 19, 2020.
The amount and timing of dividends payable on our common stock are within the sole discretion of our Board of Directors and will be based on, and affected by, a number of factors, including our financial position and results of operations, available cash, expected capital spending plans, prevailing business conditions, and other factors the Board deems relevant. Therefore, there can be no assurance as to what level of dividends, if any, will be paid in the future.
During the fiscal year ended December 31, 2019, no equity securities of the Company were sold by the Company that were not registered under the Securities Act.
ISSUER PURCHASES OF EQUITY SECURITIES
We did not make any open-market share repurchases of our common stock during the quarter ended December 31, 2019. We routinely receive shares of our common stock as payment for stock option exercises and the withholding of taxes due on stock option exercises and the vesting of restricted stock awards from stock-based compensation program participants.
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PERFORMANCE GRAPH
CUMULATIVE TOTAL RETURN
Based upon an initial investment on December 31, 2014 of $100 with dividends reinvested
12/31/2014 | 12/31/2015 | 12/31/2016 | 12/31/2017 | 12/31/2018 | 12/31/2019 | ||||||||||||||||||
ITT Inc. | $ | 100.00 | $ | 90.87 | $ | 97.78 | $ | 136.95 | $ | 122.09 | $ | 193.63 | |||||||||||
S&P 400 Mid-Cap | $ | 100.00 | $ | 97.82 | $ | 118.10 | $ | 137.26 | $ | 120.79 | $ | 153.87 | |||||||||||
S&P 400 Capital Goods | $ | 100.00 | $ | 94.49 | $ | 124.67 | $ | 155.45 | $ | 131.76 | $ | 177.92 | |||||||||||
This graph is not, and is not intended to be, indicative of future performance of our common stock. This graph shall not be deemed "filed" with the SEC or subject to the liabilities of Section 18 of the Exchange Act, and should not be deemed to be incorporated by reference into any of our prior or subsequent filings under the Securities Act.
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ITEM 6. | SELECTED FINANCIAL DATA |
The following table presents selected historical financial data derived from the Consolidated Financial Statements for each of the five years presented. The selected financial data should be read in conjunction with, and is qualified in its entirety by reference to Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and the Notes thereto.
(In Millions, except per share amounts) | 2019(a) | 2018 | 2017(b) | 2016(c) | 2015 | ||||||||||||||
Results of Operations | |||||||||||||||||||
Revenue | $ | 2,846.4 | $ | 2,745.1 | $ | 2,585.3 | $ | 2,405.4 | $ | 2,485.6 | |||||||||
Gross profit | 910.1 | 887.2 | 819.9 | 760.9 | 802.7 | ||||||||||||||
Gross margin | 32.0 | % | 32.3 | % | 31.7 | % | 31.6 | % | 32.3 | % | |||||||||
Asbestos-related (benefit) cost, net(d) | (20.2 | ) | 4.9 | (19.9 | ) | (25.6 | ) | (91.4 | ) | ||||||||||
Other operating costs(e) | 518.9 | 485.0 | 520.5 | 509.9 | 517.6 | ||||||||||||||
Operating income | 411.4 | 397.3 | 319.3 | 276.6 | 376.5 | ||||||||||||||
Operating margin | 14.5 | % | 14.5 | % | 12.4 | % | 11.5 | % | 15.1 | % | |||||||||
Income tax expense(f) | 89.9 | 57.7 | 194.6 | 76.0 | 70.1 | ||||||||||||||
Income from continuing operations attributable to ITT Inc. | 323.4 | 332.4 | 115.0 | 181.9 | 312.4 | ||||||||||||||
Income (loss) from discontinued operations, net of tax(g) | 1.7 | 1.3 | (1.5 | ) | 4.2 | 39.4 | |||||||||||||
Net income attributable to ITT Inc. | 325.1 | 333.7 | 113.5 | 186.1 | 351.8 | ||||||||||||||
Income from continuing operations per basic share | 3.69 | 3.79 | 1.30 | 2.04 | 3.48 | ||||||||||||||
Net income per basic share | 3.71 | 3.81 | 1.29 | 2.09 | 3.92 | ||||||||||||||
Income from continuing operations per diluted share | 3.65 | 3.75 | 1.29 | 2.02 | 3.44 | ||||||||||||||
Net income per diluted share | 3.67 | 3.76 | 1.28 | 2.07 | 3.88 | ||||||||||||||
Dividends declared per share | 0.588 | 0.536 | 0.512 | 0.496 | 0.4732 | ||||||||||||||
Financial Position | |||||||||||||||||||
Cash and cash equivalents | $ | 612.1 | $ | 561.2 | $ | 389.8 | $ | 460.7 | $ | 415.7 | |||||||||
Total assets | 4,107.7 | 3,846.8 | 3,700.2 | 3,601.7 | 3,723.6 | ||||||||||||||
Total debt and finance leases | 99.4 | 125.0 | 171.9 | 216.3 | 248.5 | ||||||||||||||
Working capital(h) | 599.5 | 542.1 | 590.1 | 517.4 | 562.9 | ||||||||||||||
(a) | On April 30, 2019, we acquired Rheinhütte Pumpen Group (Rheinhütte) and on July 3, 2019 we acquired Matrix Composites, Inc. (Matrix). Our 2019 Consolidated Financial Statements include an additional 8 months of operations compared to 2018 and prior years related to Rheinhütte, and an additional 6 months of operations compared to 2018 and prior years related to Matrix. See Note 22, Acquisitions, to the Consolidated Financial Statements for further information. |
(b) | On January 26, 2017, we acquired Axtone Railway Components (Axtone). Our 2017 Consolidated Financial Statements include an additional 11 months of operations compared to 2016 and prior years related to this acquisition. |
(c) | On October 5, 2015, we acquired Wolverine Automotive Holdings Inc. (Wolverine). Our 2016 Consolidated Financial Statements include an additional 9 months of operations compared to 2015 related to this acquisition. |
(d) | The asbestos-related benefit in 2015 primarily reflects a $100.7 benefit recognized related to a new single firm defense strategy and streamlined case management that is expected to significantly reduce asbestos defense costs. |
(e) | In 2018, we completed a sale of excess property for net proceeds of $40, and recognized a pre-tax gain of $38.5. |
(f) | 2017 income tax expense includes $129.2 associated with the Tax Cuts and Jobs Act of 2017 that was signed into U.S. law in December 2017. See Note 6, Income Taxes, to the Consolidated Financial Statements for further information. |
(g) | 2015 income from discontinued operations of $39.4 is principally related to the settlement of a U.S. income tax audit. |
(h) | Prior to 2018, working capital was defined as the sum of Receivables, net, and Inventories, net less Accounts payable. In 2018, we updated our working capital definition to include Current contract assets and Current contract liabilities. See the section titled "Key Performance Indicators and Non-GAAP Measures" for a definition and reconciliation of working capital. |
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ITEM 7. | MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion should be read in conjunction with the consolidated financial statements and the notes related thereto. As we noted earlier in the Forward-Looking and Cautionary Statements of this Annual Report on Form 10-K, this Part II, Item 7, "Management’s Discussion and Analysis of Financial Condition and Results of Operations," and Part II, Item 7A, "Quantitative and Qualitative Disclosures about Market Risk" (along with other sections of this Annual Report), may contain forward-looking statements. The risks discussed in Part I, Item 1A, "Risk Factors," and other risks identified in this Annual Report on Form 10-K could cause our actual results to differ materially from those expressed by such forward-looking statements.
All comparisons included within this Part II, Item 7, "Management’s Discussion and Analysis of Financial Condition and Results of Operations," refer to results for the year ended December 31, 2019 compared to the year ended December 31, 2018, unless stated otherwise. Please refer to our Annual Report on Form 10-K (2018 Annual Report) for discussion of the year ended December 31, 2018 compared to the year ended December 31, 2017.
OVERVIEW
ITT Inc., through its worldwide subsidiaries, is a diversified manufacturer of highly engineered critical components and customized technology solutions for the energy, transportation and industrial markets. We refer you to Part I, Item 1, "Description of Business" for a further overview of our company, segments, products and service offerings, and other information about our business.
EXECUTIVE SUMMARY
During 2019, ITT achieved strong results that reflected continued operational execution and share gain strategies in key global markets. Our results are a reflection of our hard work and focus on creating value for our customers, while also implementing productivity improvements and making strategic investments. The following table provides a summary of our key performance indicators for 2019 with growth comparisons to 2018.
Summary of Key Performance Indicators for 2019 | |||||
Revenue | Orders | Segment Operating Income | Segment Operating Margin | EPS | Operating Cash Flow |
$2,846 | $2,813 | $432 | 15.2% | $3.65 | $358 |
4% Increase | 3% Decrease | 5% Increase | 20bp Increase | 3% Decrease | 4% Decrease |
Organic Revenue | Organic Orders | Adjusted Segment Operating Income | Adjusted Segment Operating Margin | Adjusted EPS | Adjusted Free Cash Flow |
$2,868 | $2,842 | $457 | 16.0% | $3.81 | $319 |
4% Increase | 2% Decrease | 10% Increase | 90bp Increase | 18% Increase | 95% Conversion |
See the section titled "Key Performance Indicators and Non-GAAP Measures" for a definition and reconciliation of organic revenue, organic orders, adjusted segment operating income and margin, adjusted EPS, and adjusted free cash flow.
Our 2019 results include:
• | Revenue of $2.85 billion, a $101.3 or 3.7% increase that included $54.5 from our strategic acquisitions of Rheinhütte Pumpen and Matrix Composites and unfavorable foreign exchange of $76.4. Organic revenue increased 4.5%, driven by the strength of our diversified portfolio as revenue from our industrial businesses grew 8%, oil and gas grew 7%, and transportation grew 3%. |
• | Orders of $2.81 billion, a $78.7 or 2.7% decrease that included $53.6 from our two strategic acquisitions and unfavorable foreign exchange of $81.9. Organic orders decreased 1.7%, due to pump project declines and difficult comparisons within the industrial and oil and gas markets. Transportation orders increased 1% as growth in rail was partially offset by significant prior year defense programs. |
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• | Segment operating income increased $21.0 or 5.1%, despite higher acquisition-related costs and restructuring charges. Adjusted segment operating income increased $42.5, or 10.3%, and adjusted segment operating margin grew 90 basis points to 16.0%. This improvement was fueled by increased sales volume from strength in project pumps, Friction OEM share gains, and growth in rail, as well as continued manufacturing and supply chain productivity, cost containment actions, and strategic acquisition benefits. These gains were partially offset by higher commodity costs and tariffs as well as unfavorable foreign exchange. |
• | Income from continuing operations decreased to $3.65 per diluted share as compared to $3.75, driven by a prior year gain of $38.5 on the sale of a former operating location and a prior year favorable deferred tax valuation adjustment, partially offset by a favorable year-over-year net asbestos benefit of $25.1 driven by effective insurance recovery strategies. Adjusted income from continuing operations improved 18.0% to $3.81 per diluted share, reflecting strong adjusted segment operating income growth, a reduction in corporate costs, lower interest and non-operating expenses, and a favorable tax rate. |
• | Operating cash flow of $357.7 decreased $14.1 or 3.8%, primarily due to proceeds of $19.0 received in 2018 from an environmental insurance-related settlement and unfavorable working capital, partially offset by an improvement in segment operating income. Adjusted free cash flow of $318.8 reflected a 94.5% conversion of adjusted income from continuing operations. |
In 2019, we advanced our strategic objectives to drive long-term growth and share gains. The following highlights a few examples of strategic actions that occurred during the year that will help position us for continued value creation:
• | We expanded manufacturing automation capabilities at MT Friction, installed a new plating line at CCT Nogales to improve lead times and reduce costs, and pursued Value Analysis and Value Engineering initiatives at IP. |
• | We continued our efforts to develop and improve existing smart products with advanced technologies such as the ITT Smartpad which now also includes aftermarket applications, sensor-enabled KONI shock absorbers for electric buses, EnviZion valves, and i-Alert. |
During the year, we drove market share gains by expanding in new and existing key end markets and geographies, including:
• | Advancing our capabilities and product offerings in the commercial aerospace and rail markets and were awarded significant multi-year contracts that may also generate aftermarket opportunities. |
• | We significantly outpaced global Friction OEM production rates, due to strength in North America, China and Europe and had several key electric vehicle and SUV platform wins. |
In 2019, we continued to deploy our capital in balanced and effective ways, including:
• | Completion of $118 of strategic acquisitions providing geographic expansion. |
• | Funding major organic investments across our business segments that enhance our production capacity and technological capabilities. |
• | Returning $94 to shareholders in the form of quarterly dividends and share repurchases. |
• | Approval of a new $500 indefinite-term share repurchase program. |
Our success in 2019 was driven by our commitment to efficiency, speed, customer centricity, and operational excellence, and we intend to build on this momentum in 2020 to drive growth and innovation in the face of market challenges and uncertainties. Our global and end market diversification strategy will help offset slowing global growth as well as uncertainty surrounding commodity costs, tariffs, and price pressures. We expect challenges in the coming year related to the recent announcement of a temporary halt in production of Boeing's 737 MAX which may temporarily impact Boeing’s demand for our products. In addition, the recent outbreak of the 2019 novel coronavirus in China is causing significant uncertainty and business disruption in the region and it is unknown when the virus will be fully contained, and what the ultimate global economic impact will be.
Despite these uncertainties, in 2020, we will focus on areas that are within our control such as continuing to drive productivity and innovation across our businesses and executing on our extensive war chest of self-help opportunities. We will continue to deploy our capital in a balanced and efficient way with a focus on organic growth initiatives, close-to-core acquisitions, and shareholder return. We are raising our first quarter 2020 quarterly dividend by 15%, which represents our eighth consecutive year of dividend increases.
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DISCUSSION OF FINANCIAL RESULTS
2019 VERSUS 2018
2019 | 2018 | Change | ||||||||
Revenue | $ | 2,846.4 | $ | 2,745.1 | 3.7 | % | ||||
Gross profit | 910.1 | 887.2 | 2.6 | % | ||||||
Gross margin | 32.0 | % | 32.3 | % | (30 | )bp | ||||
Operating expenses | 498.7 | 489.9 | 1.8 | % | ||||||
Operating expense to revenue ratio | 17.5 | % | 17.8 | % | (30 | )bp | ||||
Operating income | 411.4 | 397.3 | 3.5 | % | ||||||
Operating margin | 14.5 | % | 14.5 | % | — | |||||
Interest and non-operating (income) expenses, net | (3.0 | ) | 6.3 | (147.6 | )% | |||||
Income tax expense | 89.9 | 57.7 | 55.8 | % | ||||||
Effective tax rate | 21.7 | % | 14.8 | % | 690 | bp | ||||
Income from continuing operations attributable to ITT Inc. | 323.4 | 332.4 | (2.7 | )% | ||||||
Net income attributable to ITT Inc. | $ | 325.1 | $ | 333.7 | (2.6 | )% | ||||
All comparisons included within the Discussion of Financial Results for 2019 versus 2018 refer to results for the year ended December 31, 2019 compared to the year ended December 31, 2018, unless stated otherwise.
REVENUE AND ORDERS
The following table illustrates the year-over-year revenue and orders results from each of our segments for the years ended December 31, 2019 and 2018.
Revenue: | 2019 | 2018 | Change | Organic growth (decline)(a) | |||||||||
Motion Technologies | $ | 1,241.8 | $ | 1,274.1 | (2.5 | )% | 2.0 | % | |||||
Industrial Process | 943.8 | 827.1 | 14.1 | % | 10.3 | % | |||||||
Connect & Control Technologies | 663.9 | 646.6 | 2.7 | % | 2.1 | % | |||||||
Eliminations | (3.1 | ) | (2.7 | ) | |||||||||
Total Revenue | $ | 2,846.4 | $ | 2,745.1 | 3.7 | % | 4.5 | % | |||||
Orders: | |||||||||||||
Motion Technologies | $ | 1,250.6 | $ | 1,295.6 | (3.5 | )% | 1.2 | % | |||||
Industrial Process | 886.8 | 902.1 | (1.7 | )% | (4.7 | )% | |||||||
Connect & Control Technologies | 678.9 | 696.3 | (2.5 | )% | (3.2 | )% | |||||||
Eliminations | (3.1 | ) | (2.1 | ) | |||||||||
Total Orders | $ | 2,813.2 | $ | 2,891.9 | (2.7 | )% | (1.7 | )% | |||||
(a) | See the section titled "Key Performance Indicators and Non-GAAP Measures" for a definition and reconciliation of organic revenue and organic orders. |
Motion Technologies
MT revenue for the year ended December 31, 2019 was $1,241.8, a decrease of $32.3, or 2.5%. Excluding the impact of foreign currency translation of $57.4, organic revenue increased $25.1, or 2.0%. The increase was driven by strength in global rail as well as Friction OEM share gains which significantly outpaced the global auto market, offset by a decline in our Wolverine business. KONI & Axtone sales grew 11% on strength in rail in Europe and Asia. Friction sales increased 3% due to growth of 6% in OEM from market share gains in North America, Europe and China which helped offset contraction in the global auto market and lower aftermarket activity of 2%. Wolverine sales decreased 13% driven by weakness in shims and lost sealing business.
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Orders for the year ended December 31, 2019 were $1,250.6, a decrease of $45.0, or 3.5%. Excluding the impact of foreign currency translation of $60.6, organic orders increased $15.6, or 1.2%. Friction drove the improvement with a 2% increase primarily due to the ramp up of new platform wins in North America. KONI-Axtone increased 8% due to passenger rail market share gains, partially offset by a prior year Russian rail order of $14. Organic order growth was partially offset by weakness in our Wolverine business.
Industrial Process
IP revenue for the year ended December 31, 2019 was $943.8, an increase of $116.7, or 14.1%, which included revenue of $44.9 from our second quarter acquisition of Rheinhütte, and an unfavorable foreign currency translation impact of $13.5. Organic revenue increased 10.3% primarily driven by 35% growth in pump projects due to significant strength in the chemical and mining markets mainly in North America. Within our short-cycle business, organic revenue increased 3% from baseline pumps and aftermarket parts in the oil and gas and chemical markets.
Orders for the year ended December 31, 2019 were $886.8, a decrease of $15.3, or 1.7% which included orders of $42.6 from our second quarter acquisition of Rheinhütte, and an unfavorable foreign currency translation impact of $15.3. Organic orders decreased $42.6, or 4.7% due to a 7% reduction in projects driven by pump project declines and difficult comparisons to the prior year in the chemical and oil and gas markets, partially offset by strength in industrial. Orders from our short-cycle business declined 4% due to weakness in industrial valves, aftermarket parts, and baseline pumps.
The level of order and shipment activity related to project pumps can vary significantly from period to period, which may impact year-over-year comparisons. IP's backlog as of December 31, 2019 was $395.4, reflecting a decrease of $48.8, or 11.0%, compared to December 31, 2018.
Connect & Control Technologies
CCT revenue for the year ended December 31, 2019 was $663.9, an increase of $17.3, or 2.7%, which included revenue of $9.6 from our third quarter acquisition of Matrix, and an unfavorable foreign currency translation impact of $5.6. Organic revenue increased $13.3, or 2.1% driven by growth in commercial aerospace of 8% mainly within components and aftermarket. This was partially offset by declines in defense components due to prior year program strength and weaker sales from electric vehicle connectors.
Orders were $678.9, a decrease of $17.4, or 2.5%, which included orders of $11.0 from our third quarter acquisition of Matrix and an unfavorable foreign currency translation impact of $6.0. Organic orders decreased $22.4, or 3.2%, due to an 8% decrease in orders within the industrial market primarily due to connectors and components. Additionally, aerospace and defense orders decreased 1% primarily from prior year defense program strength and rotorcraft demand.
On July 11, 2017, the U.S. Defense Logistics Agency, Land and Maritime (DLA) issued a notice that it had removed certain of our military-specification connector products from the Qualified Products List (QPL). Annual sales of these military-specification connectors were estimated to range from $8 to $10 prior to the removal of these products from the QPL. The Company is making progress as the status of approximately half of these products has been restored on the QPL and we expect the majority of the remaining products will be restored by the middle of 2020.
GROSS PROFIT
Gross profit for 2019 was $910.1, reflecting a gross margin of 32.0%. Gross profit for 2018 was $887.2, reflecting a gross margin of 32.3%. The decline in gross margin was primarily due to higher commodity costs, increased tariffs, and unfavorable product mix, partially offset by manufacturing and supply chain and productivity improvements across all segments and sales volume leverage.
Other
Tariffs
In 2018, the U.S. government announced tariffs on certain imported goods, and began renegotiating existing trade terms with China, Europe and other countries. These tariffs have negatively impacted the price of certain parts and materials we utilize to manufacture finished products we sell. Since announced, we have been managing the impacts of these tariffs and will attempt to mitigate the impact of higher input costs through pricing and supply chain actions, efficient utilization of our global manufacturing footprint, and supplier negotiations and diversification strategies. Tariffs and related impacts remain highly uncertain due to the current dynamic landscape and ongoing negotiations. Therefore, we are unable to estimate the ultimate outcome tariffs will have on our future results of operations, financial position, and cash flows.
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OPERATING EXPENSES
The following table provides further information by expense type, as well as a breakdown of operating expense by segment.
2019 | 2018 | Change | ||||||||
General and administrative expenses | $ | 254.1 | $ | 259.1 | (1.9 | )% | ||||
Sales and marketing expenses | 165.9 | 168.2 | (1.4 | )% | ||||||
Research and development expenses | 97.9 | 98.4 | (0.5 | )% | ||||||
Loss (gain) on sale or disposal of long-lived assets | 1.0 | (40.7 | ) | (102.5 | )% | |||||
Asbestos-related (benefit) cost, net | (20.2 | ) | 4.9 | (512.2 | )% | |||||
Total operating expenses | $ | 498.7 | $ | 489.9 | 1.8 | % | ||||
By Segment: | ||||||||||
Motion Technologies | $ | 163.3 | $ | 167.3 | (2.4 | )% | ||||
Industrial Process | 183.1 | 170.7 | 7.3 | % | ||||||
Connect & Control Technologies | 131.4 | 137.9 | (4.7 | )% | ||||||
Corporate & Other | 20.9 | 14.0 | 49.3 | % | ||||||
General and administrative (G&A) expenses were $254.1 for the year ended December 31, 2019, a decrease of $5.0. The decrease was mainly due to a decline in incentive compensation due in part to restructuring actions and favorable foreign exchange of $4. These items were partially offset by incremental restructuring costs of $7.5, higher acquisition-related costs of $7.2, and a favorable intellectual property settlement in the prior year of $6.2, net of legal expenses.
Sales and marketing expenses for the year ended December 31, 2019 were $165.9, a decrease of $2.3. Excluding incremental costs of $7.7 from our 2019 acquisitions of Rheinhütte and Matrix and favorable foreign currency of $3.4, sales and marketing expenses decreased $6.6. The decrease was driven by cost reduction actions across all segments.
Research and development expenses for the year ended December 31, 2019 were $97.9, a decrease of $0.5.
Gain on sale of long-lived assets of $40.7 for the year ended December 31, 2018 is primarily due to a net gain of $38.5 recognized on the sale of a former operating location.
During 2019, we recognized a net asbestos-related benefit of $20.2, compared to a net expense of $4.9 in the prior year. The change was primarily due to the current year remeasurement benefit of $68.1 compared to a remeasurement cost of $10 in the prior year, offset by a prior year insurance settlements of $58.9. See Note 20, Commitments and Contingencies, to the Consolidated Financial Statements for further information on our asbestos-related liabilities and assets.
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OPERATING INCOME
The following table illustrates the 2019 and 2018 operating income and operating margin by segments and at the consolidated level.
2019 | 2018 | Change | ||||||||
Motion Technologies | $ | 216.1 | $ | 223.4 | (3.3 | )% | ||||
Industrial Process | 104.7 | 91.4 | 14.6 | % | ||||||
Connect & Control Technologies | 111.5 | 96.5 | 15.5 | % | ||||||
Segment operating income | 432.3 | 411.3 | 5.1 | % | ||||||
Asbestos-related benefit (cost), net | 20.2 | (4.9 | ) | 512.2 | % | |||||
(Loss) gain on sale or disposal of corporate long-lived assets | (0.2 | ) | 38.5 | (100.5 | )% | |||||
Other corporate costs | (40.9 | ) | (47.6 | ) | 14.1 | % | ||||
Total corporate and other cost, net | (20.9 | ) | (14.0 | ) | (49.3 | )% | ||||
Total operating income | $ | 411.4 | $ | 397.3 | 3.5 | % | ||||
Operating margin: | ||||||||||
Motion Technologies | 17.4 | % | 17.5 | % | (10 | )bp | ||||
Industrial Process | 11.1 | % | 11.1 | % | — | |||||
Connect & Control Technologies | 16.8 | % | 14.9 | % | 190 | bp | ||||
Segment operating margin | 15.2 | % | 15.0 | % | 20 | bp | ||||
Consolidated operating margin | 14.5 | % | 14.5 | % | — | |||||
MT operating income for the year ended December 31, 2019 decreased $7.3, and had a margin decline of 10 basis points to 17.4%. The decline in operating income was due to an increase in commodity costs and tariffs, unfavorable foreign currency impacts, and higher strategic investments. Additionally, legal costs increased year over year by $7.5, primarily related to a favorable intellectual property settlement in 2018 of $6.2, net of legal expenses. These increases were partially offset by benefits of $46 from supply chain, productivity, and restructuring actions.
IP operating income for the year ended December 31, 2019 increased $13.3, and had an operating margin of 11.1% which was consistent with the prior year. The increase in operating income was primarily driven by favorable sales volume and price, savings from productivity and supply chain actions, and our strategic acquisition of Rheinhütte. These were partially offset by higher commodity costs and tariffs, unfavorable sales mix, and higher restructuring and acquisition costs.
CCT operating income for the year ended December 31, 2019 increased $15.0, and delivered an improvement to operating margin of 190 basis points to 16.8%. The increase was driven by benefits from productivity, supply chain, and restructuring actions, favorable sales volume, and our strategic acquisition of Matrix. Additionally, 2018 included $5 in legal costs associated with a resolved U.S. Department of Justice (DOJ) civil matter. These benefits were partially offset by unfavorable commodity costs, strategic investments, and sales mix.
Other corporate costs, net, decreased $6.7 due to lower compensation and incentive costs and lower environmental costs, partially offset by higher intangible amortization of $2.7 and legal costs of $2.1.
INTEREST AND NON-OPERATING (INCOME) EXPENSES, NET
2019 | 2018 | Change | ||||||||
Interest (income) expense, net | $ | (4.1 | ) | $ | 0.4 | (1,125.0 | )% | |||
Miscellaneous expense, net | 1.1 | 5.9 | (81.4 | )% | ||||||
Total interest and non-operating (income) expenses, net | $ | (3.0 | ) | $ | 6.3 | (147.6 | )% | |||
The change in interest (income) expense, net in 2019 was due to favorable interest rates on commercial paper borrowings, interest income earned on time deposits, partially offset by interest income in the prior year related to a change in uncertain tax position.
Miscellaneous expenses, net decreased $4.8 in 2019, primarily due to lower postretirement benefit expenses, mainly driven by a settlement charge of $1.7 in 2018 and a reduction in amortization of actuarial losses.
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INCOME TAX EXPENSE
2019 | 2018 | Change | ||||||||
Income tax expense | $ | 89.9 | $ | 57.7 | 55.8 | % | ||||
Effective tax rate | 21.7 | % | 14.8 | % | 690 | bp | ||||
The higher effective tax rate in 2019 was primarily due to tax benefits of $22.9 in 2018 from German valuation allowance reversals on deferred tax assets.
We operate in various tax jurisdictions and are subject to examination by tax authorities in these jurisdictions. We are currently under examination in several jurisdictions including the Czech Republic, Germany, Hong Kong, India, Italy, Japan, the U.S. and Venezuela. The calculation of our tax liability for unrecognized tax benefits includes dealing with uncertainties in the application of complex tax laws and regulations in various tax jurisdictions. Due to the complexity of some uncertainties, the ultimate resolution may result in a payment that is materially different from our current estimate of the unrecognized tax benefit. Over the next 12 months, the net amount of the tax liability for unrecognized tax benefits in foreign and domestic jurisdictions could change by approximately $14 due to changes in audit status, expiration of statutes of limitations and other events. The settlement of any future examinations could result in changes in the amounts attributable to the Company under its existing Tax Matters Agreement with Exelis Inc. (Exelis) and Xylem Inc. (Xylem).
See Note 6, Income Taxes, to the Consolidated Financial Statements for further information on tax-related matters.
LIQUIDITY AND CAPITAL RESOURCES
Funding and Liquidity Strategy
We monitor our funding needs and design and execute strategies to meet overall liquidity requirements, including the management of our capital structure, on both a short- and long-term basis. We expect to fund our ongoing working capital, capital expenditures, dividends, and financing requirements through cash flows from operations and cash on hand, or by accessing the U.S. or European commercial paper markets or our Revolving Credit Agreement.
We manage our worldwide cash requirements considering available funds among the many subsidiaries through which we conduct business and the cost effectiveness with which those funds can be accessed. We have identified and continue to look for opportunities to access cash balances in excess of local operating requirements to meet our global liquidity needs in a cost-efficient manner. We plan to transfer cash between certain international subsidiaries and the U.S. and other international subsidiaries when it is cost effective to do so. The passage of the U.S. Tax Act provides greater flexibility around our global cash management strategy related to the amount and timing of transfers, and we will continue to support growth and expansion in markets outside of the U.S. through the development of products, increased capital spending, and potential foreign acquisitions. Net cash distributions from foreign countries amounted to $11.4 and $318.1 during 2019 and 2018, respectively. The timing and amount of any additional future distributions remains under evaluation.
The amount and timing of dividends payable on our common stock are within the sole discretion of our Board of Directors and will be based on, and affected by, a number of factors, including our financial position and results of operations, available cash, expected capital spending plans, prevailing business conditions, and other factors the Board of Directors deems relevant. Therefore, there can be no assurance as to what level of dividends, if any, will be paid in the future. Aggregate dividends paid in 2019 were $52.1, compared to $47.3 in 2018, reflecting annual per share amounts of $0.588 and $0.536, respectively. In the first quarter of 2020, we declared a quarterly dividend of $0.169 per share for shareholders of record on March 16, 2020, which will be paid on April 6, 2020.
In 2019 and 2018, we repurchased and retired 0.5 and 1.0 shares of common stock, respectively, for $28.7 and $50.0, respectively, under our $1 billion share repurchase program. As of December 31, 2019, under the program, the Company has repurchased 22.7 shares for $938.1. In addition, on October 30, 2019, the Board of Directors approved the adoption of a new indefinite term $500 share repurchase program. Separate from the share repurchase program, the Company repurchased 0.3 shares and 0.1 shares for an aggregate price of $12.7 and $6.1 during 2019 and 2018, respectively, in settlement of employee tax withholding obligations due upon the vesting of RSUs and PSUs. All repurchased shares are canceled immediately following the repurchase.
Significant factors that affect our overall management of liquidity include our credit ratings, the availability of commercial paper, access to bank lines of credit, and the ability to attract long-term capital on satisfactory terms. We assess these factors along with current market conditions on a continuous basis, and as a result, may alter the mix of our short- and long-term financing when it is advantageous to do so.
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Commercial Paper
We have access to the commercial paper market through programs in place in the U.S. and Europe, to supplement the cash flows generated internally and to provide additional short-term funding for strategic investments and other funding requirements. We manage our short-term liquidity through the use of our commercial paper program by adjusting the level of commercial paper borrowings as opportunities to deploy additional capital arise and it is cost effective to do so. We had $84.2 and $114.4 of commercial paper outstanding as of December 31, 2019 and 2018, respectively. Our average daily outstanding commercial paper balance for the years ended 2019 and 2018 was $122.0 and $110.7, respectively, and the maximum outstanding commercial paper during each of those respective years was $167.9 and $215.5, respectively. There have been no other material changes that have impacted our funding and liquidity capabilities.
Revolving Credit Agreement
Our $500 revolving credit agreement (the Revolving Credit Agreement) provides for increases of up to $200 for a possible maximum total of $700 in aggregate principal amount, at the request of the Company and with the consent of the institutions providing such increased commitments. The Revolving Credit Agreement is intended to provide access to additional liquidity to be a source of alternate funding to the commercial paper program, if needed. Our policy is to maintain unused committed bank lines of credit in an amount greater than outstanding commercial paper balances. Two borrowing options are available under the Revolving Credit Agreement: (i) a competitive advance option, and (ii) a revolving credit option. The interest rates for the competitive advance option will be obtained from bids in accordance with competitive auction procedures. The interest rates under the revolving credit option will be based either on LIBOR plus spreads reflecting the Company’s credit ratings, or on the Administrative Agent’s Alternate Base Rate. As of December 31, 2019 and 2018 we had no outstanding borrowings under the Revolving Credit Agreement. In the event of a ratings downgrade of the Company to a level below investment grade, the direct and indirect significant U.S. subsidiaries of the Company would be required to guarantee the obligations under the Revolving Credit Agreement. On November 5, 2019, we amended the Revolving Credit Agreement to extend the maturity date from November 25, 2021 to November 25, 2022.
Our credit ratings as of December 31, 2019 were as follows:
Rating Agency | Short-Term Ratings | Long-Term Ratings | |
Standard & Poor’s | A-2 | BBB | |
Moody’s Investors Service | P-3 | Baa3 | |
Fitch Ratings | F2 | BBB+ | |
There were no changes to the ITT credit ratings during 2019. Please refer to the rating agency websites and press releases for more information.
Sources and Uses of Liquidity
Our principal source of liquidity is our cash flow generated from operating activities, which provides us with the ability to meet the majority of our short-term funding requirements. The following table summarizes net cash derived from operating, investing, and financing activities for the three years ended December 31, 2019 and 2018.
2019 | 2018 | ||||||
Operating activities | $ | 357.7 | $ | 371.8 | |||
Investing activities | (203.4 | ) | (52.3 | ) | |||
Financing activities | (101.5 | ) | (128.8 | ) | |||
Foreign exchange | (3.0 | ) | (15.3 | ) | |||
Total net cash flow provided by continuing operations | $ | 49.8 | $ | 175.4 | |||
Net cash provided by (used in) discontinued operations | 0.9 | (4.2 | ) | ||||
Net change in cash and cash equivalents | $ | 50.7 | $ | 171.2 | |||
Operating Activities
The decrease in net cash provided by operating activities of $14.1 was the result of $19.0 in proceeds received in 2018 from an environmental insurance-related settlement, an increase in postretirement contributions of $11.7 in 2019 and unfavorable changes in working capital from an increase in accounts receivable due in part to higher sales. These items were partially offset by an increase in segment operating income, a decline in net asbestos payments of $19.2 due to favorable insurance recoveries and prior year environmental payments of $10.2 related to the sale of a former operating location. Additionally, in 2019 the Company’s net settlement of a $10 civil matter with the DOJ was partially offset by proceeds received of $9 from an intellectual property settlement.
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Investing Activities
The increase in net cash used in investing activities of $151.1 was the result of our 2019 acquisitions of Rheinhütte and Matrix for a total of $113.1 and proceeds of $40 in 2018 from the sale of a former operating location, which was partially offset by a decline in capital expenditures of $4.1.
Financing Activities
The decrease in net cash used in financing activities of $27.3 was due to a reduction in repurchases of ITT common stock of $14.7, an increase in proceeds from employee stock option exercises of