Donaldson Company Inc. has reported third quarter 2015 net earnings of $46.4 million, or 33 cents per share, which includes restructuring charges of $5.2 million, or 3 cents per share. Foreign currency translation negatively impacted third quarter net earnings by $2.0 million, or 3.0%. Adjusted earnings per share1 were 36 cents in third quarter, compared with 46 cents in the third quarter of 2014.
"Our third quarter results, and our full-year sales and earnings forecast, are in line with the guidance provided earlier this month, which reflects a slowdown of the Aftermarket business combined with continued pressure from Off-Road end markets and the strong U.S. dollar," says Tod Carpenter, Donaldson's CEO.
"Our Engine Aftermarket sales, in local currencies, increased 2% in third quarter, a modest pace compared with the 7% increase during the first half of fiscal 2015. Additionally, our first-fit Off-Road end markets remained challenged, with our local-currency sales declining at a pace consistent with year-to-date trends. In China, the pace of decline in our year-over-year sales accelerated in third quarter, with particular pressure on both Aftermarket and Off-Road Products.
"Although the end-market pressures we saw are reflective of our customers' orders, we are taking further actions to improve our performance until business conditions rebound. Over the past several weeks, we identified additional restructuring initiatives that we expect will provide a similar level of annual savings as those we completed during our third quarter.
"While we continue to aggressively manage our expenses and margins, we are also investing for future sales growth. For example, we added new distribution capabilities in Latin America, where we have achieved local-currency sales growth of roughly 17% year-to-date. We are also accelerating our expansion of liquid filtration in Europe with an additional investment in our new Poland facility. These investments, and others across the company, are critical elements of how we will deliver our Strategic Growth Plans."
1Beginning with its fiscal 2015 second quarter, Donaldson began reporting adjusted operating margin and adjusted diluted earnings per share (adjusted EPS) measures, which are non-GAAP financial measures that exclude the impact of certain matters not related to the company's ongoing operations, including restructuring charges and expenses related to pension settlements. See the "Restructuring Charges and Other Adjusting Items" section of this release for more information.
Financial Statement Discussion
Third quarter 2015 net sales decreased 9.0% versus the prior year, reflecting sales declines in Engine Products and Industrial Products segments of 8.5% and 10.0%, respectively.
Excluding the impact of foreign currency translation, third quarter sales declined 1.9% compared with the prior year, reflecting local-currency sales declines of 1.3% in Engine Products and 2.9% in Industrial Products.
Compared with last year, the impact of foreign currency translation reduced third quarter sales by approximately $44.4 million, or 7.1%, and year-to-date sales by approximately $83.0 million, or 4.6%. The table below outlines the year-over-year percentage change for each business segment, with and without the impact of foreign currency translation.
Third quarter operating margin of 11.4% compares with 14.9% last year. Excluding the 0.9 percentage point impact from restructuring, adjusted operating margin was 12.3%.
Third quarter gross margin was 33.8%, or 2.0 percentage points below the prior-year rate of 35.8%. The decrease was driven primarily by lower fixed-cost absorption and restructuring actions, which decreased gross margin by 1.5 percentage points and 0.4 percentage points, respectively. Donaldson's Continuous Improvement initiatives partially offset other gross margin pressures.
As a percent of sales, third quarter operating expenses increased 1.5 percentage points to 22.4% from 20.9 percent last year, primarily driven by lack of leverage on lower sales combined with a 0.5 percentage point increase due to restructuring actions.
Fiscal 2015 year-to-date operating margin was 11.9%, which includes 0.6 percentage points related to restructuring charges and the lump-sum pension settlement recorded in second quarter. Year-to-date adjusted operating margin was 12.5% and 14.3% for fiscal 2015 and 2014, respectively.
Donaldson's third quarter effective income tax rate increased to 29.4% from 28.5% last year, primarily due to discrete tax benefits recorded in the third quarter of the prior year. Year-to-date, the effective tax rate was 28.0%, compared to 27.9% in the prior year.
Capital Returned to Shareholders
During third quarter 2015, Donaldson repurchased 717 thousand shares of its common stock at an average price of $37.61 for a total of $27.0 million.
Year-to-date, the company has repurchased 5.1 million shares, or 3.6% of the total diluted outstanding shares, at an average price of $39.42 for a total of $201.2 million.
Donaldson paid dividends of $22.5 million in third quarter and $68.2 million year-to-date, an increase from last year of 11.3% and 14.4%, respectively.
Fiscal 2015 Outlook
Consistent with the guidance provided on May 1, Donaldson expects full-year sales to be approximately $2.35 billion, and adjusted EPS to be in the range of $1.53 to $1.59.
- The company expects full-year sales to decline by approximately 5% compared with last year, which includes a fourth quarter decrease of 10 to 12%. In local currencies, full-year sales are expected to increase approximately 1% from 2014. The forecast is based on the euro at US$1.12 and 119 yen to the US$.
- Adjusted operating margin for fiscal 2015 is expected to be in the range of 12.7 to 12.9%, reflecting year-to-date results combined with an expected operating margin in fourth quarter of 13.5 and 14.1%.
- Full-year effective tax rate is expected to be between 27 and 29%.
- Adjusted full-year diluted EPS guidance of $1.53 to $1.59 reflects year-to-date performance combined with fourth quarter adjusted EPS of 38 cents to 44 cents.
- Excluding the impact from future restructuring actions, fourth quarter and full-year GAAP diluted EPS are expected to be lower than adjusted EPS by approximately 1 cent and 6 cents, respectively, driven by: pre-tax restructuring charges of approximately $8.0 million, or 4 cents per share, including an expected charge of $2.2 million in fourth quarter, and pre-tax charge in second quarter of $3.9 million, or 2 cents per share, resulting from a U.S. pension settlement.
- Donaldson expects to repurchase at least 4% of its outstanding shares in fiscal 2015.
Engine Products: Fiscal 2015 sales in U.S. dollars are expected to decline 6 to 7%. In local currency, sales are expected to decrease 1 to 2%, reflecting:
- Continued lower rates of sales growth in both the OEM and independent distribution channels for Engine Aftermarket,
- Mixed demand by end market and geography from continued weakening in equipment build rates by Off-Road OEM first-fit customers.
- Strong performance in the On-Road OEM business, reflecting the customers' expectation for increased production of heavy- and medium-duty trucks.
Industrial Products: Full-year 2015 sales in U.S. dollars are expected to decline 1 to 2%. In local currency, sales are expected to increase 4 to 5%.
- Industrial Filtration Solutions' sales are expected to decline in the mid-single-digit percent range, reflecting the impact of ongoing currency translation headwinds and softer first-fit equipment demand, partially offset by continued strong sales of replacement filters.
- Gas Turbine sales are expected to increase 15 to 20%, which includes the benefit from the acquisition of Northern Technical in September 2014.
- Special Applications' sales are expected to be slightly down as lower membrane sales and currency headwinds offset improved demand for semiconductor and venting products.
Restructuring Charges and Other Adjusting Items
Donaldson has proactively taken restructuring actions aimed at aligning its global operating and manufacturing cost structure with current and projected customer and end-market demand. In fiscal 2015, restructuring actions included rebalancing and reducing the current salaried and production workforce globally. Fiscal 2015 pre-tax restructuring charges were $5.2 million in third quarter and $5.8 million year-to-date, which compares with fiscal 2014 charges of $0.2 million and $2.4 million, respectively.
In second quarter 2015, the company recorded a $3.9 million charge related to a lump-sum settlement of its U.S. pension plan.