01—Abstract
Summary
Summary of the 10-K filed February 28, 2018. Cited figures are marked; the original filing is the authoritative source.
Eaton Corporation plc's 2017 10-K shows a year of solid recovery and a large one-time gain.
Net sales rose 3% to $20.4 billiona, with organic growth of 3%, driven mainly by Electrical Products, Hydraulics and Vehicle. Gross margin expanded to 32.6% from 32.1%, helped by completion of the multi-year restructuring program (projected annualized savings of $518 million in 2018) and higher volumes. Diluted EPS rose 59% to $6.68, but this includes $1.89 per share from the $1,077 million pre-tax gain on the 50% sale of its commercial vehicle automated transmission business to Cummins, plus $0.14 from the net benefit of the U.S. Tax Cuts and Jobs Act.
Excluding these items, underlying earnings growth was more modest and was driven by volume, restructuring savings and lower restructuring charges, partly offset by commodity inflation. Balance sheet and cash flow were healthy. Operating cash flow was $2.67 billionb, capital expenditures were $520 million, and the company returned $1.07 billion in dividends and $850 million in buybacks.
Total debt fell to about $7.75 billionc after repaying $1.55 billion, and the company issued $1.0 billion of new senior notes. Shareholders' equity rose to $17.3 billion, largely due to a $1.04 billion reduction in accumulated other comprehensive loss. Pension underfunding narrowed to roughly $1.0 billion, though 2017 contributions were $473 million, including $350 million voluntary, and 2018 contributions are guided to about $112 million.
Management also raised the quarterly dividend 10% to $0.66d, and the company remains domiciled in Ireland with a 9.2% underlying tax rate. Key risks flagged in the filing include end-market cyclicality, dependence on new product success, global operations and trade policy exposure (including tariffs and NAFTA), raw material cost inflation, cybersecurity, and ongoing tax disputes with the IRS over transfer pricing (2014 Notice of $190 million tax plus $72 million penalties, with a separate $49 million Brazil assessment). The company also disclosed a small Iran-related revenue item under Section 13(r), roughly $1.4 million in sales with about $0.5 million in net profit, which is relevant to sanctions-sensitive investors.
02—Key points
Key Highlights
- Net sales grew 3% to $20.4 billion in 2017 (organic growth 3%), with Hydraulics up 11% and Vehicle up 6%, while Electrical Products grew 3%.
- Reported net income attributable to Eaton rose 56% to $2.985 billion, but included an $843 million after-tax gain from the sale of a 50% stake in the commercial vehicle automated transmission business to Cummins and a $62 million TCJA tax benefit.
- Gross margin expanded 50 basis points to 32.6%, and the multi-year restructuring program concluded in 2017 with projected annualized savings of $518 million in 2018.
- Operating cash flow was $2.67 billion, funding $520 million of capex, $1.07 billion of dividends and $850 million of share repurchases; free cash flow after dividends and buybacks was about $0.8 billion.
- Total debt declined to $7.75 billion from $8.28 billion, with $1.55 billion repaid, including the 1.50% notes, and $1.0 billion of new senior notes issued in 2017 due 2027 and 2047.
- The quarterly dividend was raised 10% to $0.66 per share (announced February 28, 2018), and shares outstanding fell to 439.9 million from 449.4 million.
- Key risks include cyclical end markets, trade and tariff policy changes, commodity cost inflation, cybersecurity, and IRS transfer-pricing disputes with $190 million in proposed assessments plus $72 million in penalties under the 2014 Notice.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2017, Eaton Corp plc kept $0.15.
- Revenue$20.40B100.0%
- Cost of revenue−$13.76B67.4%
- Gross profit$6.65B32.6%
- Operating costs−$3.43B16.8%
- Operating income$3.21B15.8%
- Interest, other & tax−$228.0M1.1%
- Net income$2.99B14.6%
04—Financials
Financial Highlights
Figures from 10-KFY2017filed February 28, 2018Financial Statements
FY2017 against FY2016
| Line item | FY2017FY2016 | Change |
|---|---|---|
| Revenue | $20.40B$19.75B | +3.3% |
| Cost of Revenue | $13.76B$13.40B | +2.7% |
| Gross Profit | $6.65B$6.35B | +4.7% |
| R&D Expenses | $584.00M$587.00M | −0.5% |
| SG&A Expenses | $3.53B$3.46B | +1.8% |
| Operating Income | $3.21B$2.96B | +8.7% |
| Net Income | $2.99B$1.92B | +55.6% |
| EPS (Basic) | $6.71$4.21 | +59.4% |
| EPS (Diluted) | $6.68$4.20 | +59.0% |
| Shares Outstanding (Basic) | 444.50M455.00M | −2.3% |
| Shares Outstanding (Diluted) | 447.00M456.50M | −2.1% |
05—Questions
Frequently Asked Questions
How much of Eaton's 2017 earnings growth came from one-time items?
A significant share. The $1,077 million pre-tax gain on the sale of a 50% interest in the commercial vehicle automated transmission business contributed $1.89 per diluted share after tax, and the TCJA net benefit added $0.14 per share. Together these explain most of the 59% increase in diluted EPS to $6.68, so investors should focus on the adjusted figures in the filing, where adjusted EPS rose to $6.68 from $4.21 (with the one-time items included), and on underlying operating trends.
Is Eaton's balance sheet and dividend capacity strong enough to support shareholder returns?
Yes, based on this filing. Operating cash flow of $2.67 billion comfortably covered capex, dividends and buybacks in 2017, and the company holds $1.1 billion of cash and short-term investments. Credit ratings are A-/Baa1/BBB+ with S&P on negative outlook, and the company said it is in compliance with all debt covenants. Pension underfunding of about $1.0 billion and $473 million of 2017 pension contributions are the main claims on future cash, though 2018 contributions are guided lower at about $112 million.
What are the most material risks to Eaton's outlook?
The risk factors emphasize end-market cyclicality, especially in vehicle, aerospace and industrial markets; the ability to launch successful new products; global manufacturing disruption; trade policy and tariff changes affecting imports from countries where Eaton manufactures; currency movements; raw material and component cost inflation; cybersecurity; and tax exposure. Notably, the IRS is contesting transfer-pricing treatment for 2007 to 2010 with proposed assessments of $190 million plus $72 million in penalties, and Brazilian tax assessments remain open, potentially requiring up to a decade to resolve.
Did the restructuring program and segment performance improve margins?
Yes. The 2015 restructuring program concluded in 2017 with total charges of $116 million in 2017 versus $211 million in 2016, and the company projects $518 million of annualized savings in 2018. Segment operating margins improved in Electrical Systems and Services (to 13.6% from 12.6%), Hydraulics (to 11.7% from 8.9%) and Vehicle (to 16.1% from 15.0%), while Aerospace was slightly lower at 19.0% due to program development spending.
Are there any sanctions or compliance disclosures investors should note?
Yes. Under Section 13(r) of the Exchange Act, Eaton disclosed that non-U.S. subsidiaries sold electrical products to customers in Iran in the fourth quarter of 2017, generating about $1.44 million in revenue and $0.47 million in net profit. The company says these sales were made under OFAC General License H, that it has no assets or employees in Iran, and that subsidiaries intend to continue this business under the license. Investors with sanctions-sensitive mandates may want to monitor this activity.
06—Continue