01—Abstract
Summary
Summary of the 10-K filed February 8, 2007. Cited figures are marked; the original filing is the authoritative source.
United Technologies Corporation (UTC) reported a strong 2006 for its fiscal year ended December 31, 2006, with revenues rising 12% to $47.8 billiona (9% organic growth, 2% from acquisitions, 1% FX) and net income up 22% to $3.73 billion, or $3.71 per diluted share, versus $3.03 in 2005 (which included a $95 million accounting charge).
Operating profit reached $6.1 billionb, with operating margin improving 70 basis points to 12.8%, supported by aerospace aftermarket strength, restructuring savings, and a roughly $80 million DoD claim reserve reversal at Pratt & Whitney. Free cash flow remained solid: operating cash flow of $4.8 billion less $954 million of capex. The company returned $3.0 billion to shareowners through $2.1 billion of buybacks and $951 million of dividends, and it reduced debt-to-capitalization to 31% from 33%.
The filing also flags several areas of risk. Carrier's North American residential HVAC business weakened sharply in the second half of 2006, with split-system shipments down about 30%c in Q3 and 50% in Q4, and management expects housing weakness to continue into 2007. Sikorsky absorbed costs from a February–April 2006 strike and faces a near doubling of helicopter output over two years.
Commodity and energy inflation cost about $280 milliond in 2006 with a further ~$150 million headwind expected in 2007. Legal exposures include a pending DOJ False Claims Act case against Pratt & Whitney seeking $624 million in damages, an EU Commission Statement of Objections against Otis that could produce material fines, and asbestos-related lawsuits.
For investors, the central question is whether aerospace aftermarket growth can offset the cooling residential HVAC market and rising input costs. Management guides to commercial aerospace aftermarket growth slowing to roughly half of 2006's pace, company-funded R&D flat, capex up about $100 million, $1.5 billion in 2007 buybacks, and an effective tax rate near 28%.
02—Key points
Key Highlights
- Revenue grew 12% to $47.8 billion in 2006, driven by 9% organic growth with all six segments expanding; Otis, Carrier, and Pratt & Whitney were the largest contributors.
- Diluted EPS rose to $3.71 from $3.03 (2005 included a $0.09 accounting charge); net income reached $3.73 billion, up about 22% year over year.
- Operating margin expanded 70 basis points to 12.8%, aided by restructuring savings, acquisition integration, and a roughly $80 million DoD claim reserve reversal, partly offset by about $280 million of commodity and energy cost increases.
- Operating cash flow reached $4.8 billion (up from $4.3 billion), and capital returns totaled roughly $3.0 billion through $2.1 billion of share repurchases and $951 million of dividends; the quarterly dividend was raised 20% to $0.265.
- Carrier's U.S. residential business deteriorated sharply in H2 2006, with split-system shipments down about 30% in Q3 and 50% in Q4 due to the housing downturn and the 13 SEER pre-buy comparison.
- Aerospace exposure is substantial: commercial and military aerospace represented about 37% of revenue, and Pratt & Whitney's U.S. government sales were 33% of its revenue; management expects the commercial aftermarket growth rate to roughly halve in 2007.
- Material legal and regulatory overhangs include the DOJ False Claims Act suit against Pratt & Whitney ($624 million claimed, decision pending), the EU Commission Statement of Objections against Otis (fines could be material), and asbestos claims covering about 15,365 individual claimants.
03—Questions
Frequently Asked Questions
How much of UTC's 2006 growth came from acquisitions versus organic activity?
Of the 12% revenue increase to $47.8 billion, about 9 points came from organic growth, 2 points from acquisitions (principally Kidde's full-year contribution), and 1 point from favorable foreign currency translation. Organic growth was broad-based, with all segments growing, led by aerospace commercial aftermarket volumes.
What are the main risks to UTC's 2007 earnings outlook?
Key risks include a continued U.S. housing slowdown hitting Carrier's residential HVAC business, commodity and energy costs that management expects to add about $150 million of pressure in 2007, slower commercial aftermarket growth as 2006's pace is not expected to be sustained, Sikorsky's production ramp-up after the 2006 strike, and the possibility of material outcomes in the DOJ and EU Commission matters.
How is UTC returning cash to shareholders and what are the 2007 plans?
In 2006 UTC repurchased 33.3 million shares for $2.07 billion and paid $951 million in dividends. The board renewed a 60 million share repurchase program in December 2006 with about 58 million shares remaining. Management expects 2007 repurchases of roughly $1.5 billion, a 20% dividend increase to $0.265 per quarter was approved in April 2006, and voluntary pension contributions of up to $250 million are planned for 2007.
Is UTC's balance sheet getting stronger or weaker?
Debt-to-total-capitalization fell to 31% at year-end 2006 from 33% in 2005, and net debt to net capitalization improved to 24% from 26%. Total debt decreased to $7.9 billion from $8.2 billion, and cash rose to $2.5 billion. Management noted that the adoption of SFAS 158 reduced equity by about $1.8 billion and added roughly two percentage points to leverage ratios. Shareowners' equity was $17.3 billion.
What is the significance of the pending legal matters for investors?
The most significant items are the DOJ False Claims Act suit against Pratt & Whitney, where the government claims $624 million in damages and trial concluded in December 2004 with a decision still pending, and the EU Commission investigation of Otis, where a Statement of Objections has been issued and fines could be material. Management believes neither will have a material adverse effect on financial condition, but both could affect results in the period a liability is recognized. Asbestos claims are numerous but historically resolved with limited payments.
04—Continue