Donaldson Company Inc. announces third quarter 2017 net earnings of $60.1 million, or $0.45 per share, compared with $54.8 million, or $0.41 per share, in 2016. The prior-year results included restructuring charges, which reduced GAAP earnings per share (EPS) by approximately 2 cents. Excluding this impact, third quarter 2016 adjusted EPS were $0.43. The tables attached to this press release include a reconciliation of GAAP to non-GAAP measures.
“Our employees are doing an excellent job executing our strategy while also supporting our customers as we react to stronger-than-expected demand in our Engine segment,” says Tod Carpenter, President and Chief Executive Officer. “We anticipate the strong growth in Engine, particularly in Off-Road and Aftermarket, carrying through the fourth quarter, resulting in full-year sales and profit that are both above our prior guidance.
“While the signs of stabilization in our Engine markets are encouraging, the variability in our Industrial segment is a reminder that there is still economic and geopolitical uncertainty. We continue to address the mixed operating environment by planning cautiously while making targeted investments. These actions are guided by our strategic priorities, and our results so far this year are evidence of the progress we have made. Sales of innovative products and replacement parts are strong, and the recent acquisition of Hy-Pro Filtration will contribute to our inorganic growth targets. I am confident that we can leverage this success to meet our strategic and financial targets for this fiscal year and further strengthen our foundation for delivering long-term growth.”
Third Quarter 2017 Financial Results
Donaldson generated third quarter 2017 sales of $608.2 million, an increase of 6.5% from $571.3 million in 2016. Excluding the negative impact from currency translation, third quarter sales increased 7.7% from the prior year, driven by an increase of 14.3% in sales of Engine Products, partially offset by a 3.3% decline in Industrial Products.
Donaldson’s third quarter 2017 operating margin increased to 14.5% from 13.1% in 2016. The prior-year rate was negatively impacted by approximately 0.7 percentage points from restructuring charges. Excluding the impact from these charges, third quarter 2017 GAAP operating margin increased by approximately 0.7 percentage points from the adjusted operating margin in 2016, reflecting year-over-year improvement in both gross margin and operating expense as a percent of sales (expense rate).
Third quarter 2017 gross margin increased to 34.8% from last year’s GAAP and adjusted gross margin rates of 34.4% and 34.6%, respectively. Donaldson’s third quarter 2017 expense rate of 20.2% was favorable to the prior year GAAP and adjusted rates of 21.3% and 20.7%, respectively. The expense rate reflects leverage on higher sales than last year, partially offset by an increase in variable compensation expense.
Third quarter 2017 interest expense declined to $4.8 million from $5.3 million last year. Donaldson’s effective income tax rate was 28.7% in third quarter 2017, compared with 24.0% in 2016. The prior-year rate included a benefit from favorable settlements of tax audits, which lowered the rate by approximately 4.2 percentage points.
During third quarter 2017, Donaldson repurchased 1.3 million shares, or 1.0%, of its common stock at an average price of $45.07 for a total investment of $58.6 million. Year to date, the company has repurchased 2.7 million shares, or 2.0%, of its common stock at an average price of $41.20 for a total investment of $110.4 million. Donaldson paid dividends of $23.1 million in third quarter and $69.5 million year-to-date 2017.
Fiscal 2017 Outlook
Donaldson expects full-year 2017 adjusted EPS between $1.67 and $1.71, compared with prior guidance of $1.60 to $1.68. Fiscal 2017 GAAP EPS will be approximately 5 cents higher than adjusted EPS, reflecting the benefit from the Northern Technical, L.L.C. escrow settlement that occurred in first quarter 2017.
The company expects fiscal 2017 sales will increase from 2016 by approximately 6%, compared with prior guidance for sales to grow between 2 and 4%. The full-year sales guidance includes a negative impact from currency translation of approximately $8.5 million and a benefit of $6 million from the recent acquisition of Hy-Pro Filtration.
Full-year 2017 sales in the Engine Products segment are now expected to increase from 2016 by 10-11%, compared with prior guidance of 5-7%. The year-over-year improvement in Engine is driven by growth in Aftermarket, Off-Road, and Aerospace and Defense, partially offset by a decline in On-Road. Additionally, the Engine guidance includes a benefit of approximately $6 million from Hy-Pro. Full-year 2017 sales of Industrial Products are expected to decline between 3 and 2%, compared with a decline between 3 and 1% in prior guidance. The year-over-year change in Industrial sales reflects declines in Gas Turbine Systems and Special Applications, partially offset by growth in Industrial Filtration Solutions.
Donaldson expects full-year 2017 operating margin between 14.0 and 14.4%, an increase of 0.2 percentage points when comparing the midpoints of the current and prior guidance ranges. The fiscal 2017 effective income tax rate is forecast between 27.7 and 28.7%, and other income is now expected between $10 million and $15 million.
Full-year 2017 capital expenditures are forecast between $60 million and $70 million and cash conversion is expected between 100 and 110%, compared with prior guidance of 105-115%. Donaldson expects to repurchase between 2 and 3% of its outstanding shares during fiscal 2017.
Accounting Considerations
During first quarter 2017, Donaldson recorded income of $6.8 million related to the settlement of claims against an escrow account that had been established in connection with the company’s acquisition of Northern Technical, L.L.C., which was completed in first quarter 2015. The income was recorded as other income in Donaldson’s first quarter 2017 consolidated statement of earnings and within the Industrial Products segment earnings.
During fiscal 2016, pre-tax charges related to restructuring reduced Donaldson’s third quarter and year-to-date 2016 operating income by $4.1 million and $12.6 million, respectively. Additionally, the company incurred $3.1 million of expenses in fiscal 2016 related to an independent investigation into its Gas Turbine Systems business. The restructuring and investigation charges were excluded from fiscal 2016 non-GAAP metrics.
