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Text: We appreciate you participating in our conference call today to discuss Flowserve's second quarter 2021 financial results.
These statements are based upon forecasts, expectations and other information available to management as of August 6, 2021, and they involve risks and uncertainties, many of which are beyond the company's control.
We are pleased with the performance and solid results in the second quarter, including adjusted earnings per share of $0.37, which represents a 32% sequential improvement and reflects our continued transformation progress.
We were encouraged by our bookings of $953 million, which is nearly an 18% year-over-year improvement.
At this level, Q2 was a momentum-building quarter for Flowserve, as our bookings inflected upward and we now have clear line of sight to earnings growth.
The higher level of bookings and our improved operational performance have provided us the confidence to raise our outlook further for the full year.
Our revised adjusted earnings per share guidance is now $1.45 to $1.65 for 2021.
Since the start of the pandemic, we indicated that recovery in our end markets was expected to be directly correlated with the progress being made with COVID-19.
Each country and geography are at different stages in fighting the pandemic.
But on a global basis, a clear pattern has emerged as countries roll out vaccines, COVID cases decline dramatically and then mobility and consumption begin to improve.
This, in turn, drives customer spending for nearly all of our end markets.
We are confident in our ability to continue to grow the Flowserve enterprise and ultimately restore our bookings to pre-pandemic levels in the coming quarters.
There are several factors that contribute to our confidence in the outlook.
First, we expect to continue to grow our MRO and aftermarket bookings.
As countries emerge from COVID, we are seeing higher utilization rates in our customers' facilities, which necessitates increased parts replacement units and service activity.
Additionally, our distribution partners are just now beginning to replenish their inventory levels.
After about six quarters of destocking, we are now expecting these distributors to rebuild their inventory levels over the coming quarters.
Second, we believe major project activity will emerge and begin to recover in the back half of 2021 and into 2022.
In the early part of last year, we had very good visibility to a significant amount of project activity that was expected to be awarded during that year.
Most of those projects were put on hold as operators were both assessing the COVID impact and reducing their capital spending budgets.
Today, we are working with many of those same customers to bring those projects forward, as the economic environment has improved dramatically over the past several months and additionally, our activity with EPCs is increased significantly this year.
Finally, we see energy transition theme as a significant opportunity for Flowserve.
To date, actual spending in this area is still very [Technical Issues] but we expect it to grow substantially in the quarters and years ahead based on the commitments of our customers -- the commitments that our customers are making as well as from the potential for increased regulation and costs associated with emissions.
Flowserve is no stranger to this type of work, and I'll talk further about this growing market later in the call.
Even as the outlook and trends look promising, predicting the exact timing associated with these opportunities is still challenging.
The Delta variant is causing concerns for Flowserve operations and for our customers.
We have remained diligent and focused on our safety protocols, and we have successfully limited pandemic impacts at most of our global facilities during the quarter.
The recent upturn in COVID cases in the Americas due to the Delta variant has the potential to impact our return to office.
However, we do not believe that the latest COVID trends will negatively impact our business and growth outlook at this time.
Unfortunately, we did experience significant disruption in our Indian operations during the quarter.
As a reminder, we have three large manufacturing facilities and several smaller locations in India.
The good news is that we have seen tremendous improvements over the past several weeks, and we are currently operating at about 80% associate participation in these facilities, which is up from 20% to 30% participation that we experienced for most of the second quarter.
Our Indian-based suppliers were also challenged in the quarter, which presented modest headwinds for us, but our supply chain team has done a good job mitigating the impact and leveraging our global suppliers to minimize disruptions.
Let me now turn to our second quarter bookings.
We are pleased with the 17.9% year-over-year increase, which brought this quarter's total bookings to $953 million.
Both original equipment and aftermarket bookings grew in the 17% to 19% range.
We were very pleased to have delivered almost $525 million of aftermarket awards this quarter, returning to pre-pandemic bookings levels for this part of our business.
Each of our core end markets delivered year-over-year growth with the biggest drivers being oil and gas and chemical, which increased 39% and 19%, respectively.
On a regional basis, we saw solid growth across the globe with the exception of the Asia Pacific market, which was negatively impacted by India's COVID resurgence in a more difficult compare period.
Our bookings performance this quarter was driven almost exclusively by our aftermarket and MRO business, which represented a large volume of small awards.
In fact, we only secured one award that exceeded $10 million, where FCD booked a $12 million nuclear power order in North America.
To achieve this level of bookings without any large projects in the mix is an encouraging sign for future growth.
We expected larger project spending to lag aftermarket and MRO work, and it has.
And we are now confident in the return of project investment later this year and into early 2022 across our end markets.
Our project funnel continues to grow and is up nearly 25% compared to this time last year, driven by the feedback we obtained from customer discussions, insights gains from EPC bidding and backlogs and our interaction on the delayed projects, which we originally expected to be released in 2020.
We continued to anticipate bookings in this $950 million range in this year's third and fourth quarters, assuming continued progress with COVID.
At this level, we should see significant bookings growth in the next two quarters relative to the 2020 comparative periods.
Delivering these level of bookings or higher would position Flowserve well to deliver a strong 2022 financial performance.
Our results this quarter also helped drive strong first half results for 2021.
Our adjusted decremental margins for the first six months was just 13% with our improved market outlook.
We remain focused on returning Flowserve to growth while driving margin expansion and increased returns.
Looking at Flowserve's second quarter financial results in greater detail, our reported earnings per share of $0.35 increased significantly over the prior year period.
In addition, the quality of our earnings also improved, with after-tax adjusted items declining from $61 million in the prior year period to just $3 million this quarter.
Our adjusted earnings per share of $0.37, excluded just $0.02 of net items, including realignment expenses, the logo line FX charges and a gain on sale of business.
We were pleased with these results, particularly considering the impact of COVID-related headwinds of about $0.02, primarily from our Indian facilities, as Scott discussed.
Second quarter revenue of $898 million was down 2.9% or 7.1% on a constant currency basis.
The decrease was primarily due to the 6.1% decline in original equipment sales, driven by FPD's 19% decrease, but partially offset by FCD's 12% increase.
As a reminder, FPD entered 2021 with an OE backlog down roughly 25% versus the start of last year.
Aftermarket sales were relatively resilient, up 0.3%, but mix in composition as FCD's 11% increase was mostly offset by FPD's 1% decline.
Our second quarter adjusted gross margin decreased 70 basis points to 31.4%, primarily due to OE sales decline and related under absorption, including the previously mentioned COVID impact, partially offset by a 2% mix shift toward higher-margin aftermarket sales.
Sequentially, adjusted gross margin increased 100 basis points on a solid 53% incremental margin performance.
On a reported basis, gross margin increased 180 basis points to 31%, primarily due to a $23 million decrease in realignment charges as we took significant cost actions in last year's second quarter.
Second quarter adjusted SG&A increased $13.9 million to $209 million versus prior year, due largely to foreign exchange movements as well as a return of certain temporary cost benefits realized in 2020, such as the absence of travel that has begun to return.
Reported SG&A decreased $18.5 million versus prior year, where realignment charges declined $27 million versus prior year.
Second quarter adjusted operating margins of 8.5% increased 40 basis points sequentially, but declined 280 basis points year-over-year, primarily due to increased under-absorption related to FPD's OE revenue decline.
FCD's adjusted operating margin increased 10 basis points year-over-year to 13.3%, driven by revenue growth and top SG&A -- and tight SG&A cost control, which were partially offset by mix headwinds.
Second quarter reported operating margin increased 330 basis points year-over-year to 8%, including the $57 million reduction of adjusted items.
Our second quarter adjusted tax rate of 14% was driven by our income mix globally and favorable resolutions of certain foreign audits in the quarter.
The full year adjusted tax rate is expected to normalize in the low 20% range.
Turning to cash and liquidity.
Our second quarter cash balance of $630 million decreased $29 million sequentially as solid free cash flow of $14 million was more than offset by a return of $38 million to shareholders in dividends and share repurchases.
Flowserve's quarter-end liquidity position remained strong at nearly $1.4 billion, including $739 million of capacity available under our undrawn senior credit facility.
Turning to working capital.
It was a $34 million use of cash in the second quarter, primarily due to accrued liabilities and timing of certain payments, partially offset by modest improvement in accounts receivable and inventory, including our contract assets and liabilities.
The performance was much improved from last year's second quarter when the COVID-related impacts and seasonal inventory build resulted in a use of cash $36 million higher than this quarter's.
Taking a look at primary working capital as a percent of sales.
We saw a modest 20 basis point sequential decrease to 29.4%, driven primarily by accounts payable as well as a 4-day improvement in DSO versus the first quarter.
Despite our backlog increase of $66 million, some progress delays due to COVID and the proactive purchasing of certain inventory items to mitigate potential supply chain issues, we were pleased that our inventory, including contract assets and liabilities, decreased a modest $4 million sequentially.
Working capital remains a top priority for us, and we're confident that the foundation has been laid for further improvement in the second half of the year as demand-related sales volumes increase result in further reduction of inventory levels.
We remain committed to delivering free cash flow conversion in excess of 100% of net income for the second consecutive year.
Turning now to our outlook for the remainder of 2021.
Based on the combination of our strong first half bookings, driven mostly by shorter-cycle aftermarket and MRO activities and visibility into improving end markets, Flowserve was pleased to increase our adjusted earnings per share guidance range for the full year to $1.45 to $1.65.
In terms of cadence, we expect volumes to increase sequentially in the third quarter and to deliver our typical fourth quarter seasonality.
Our adjusted earnings per share target range continues to exclude expected realignment expenses of approximately $25 million as well as below-the-line foreign currency effects and the impact of potential other discrete items which may occur during the year.
Beyond adjusted EPS, we now expect less of a revenue decline versus 2020.
Our guidance is now for 2021 revenues to be 2% to 4% down compared to last year versus the prior guidance of down 3% to 5%.
In terms of other guidance metrics, our net interest expense remains unchanged at $55 million to $60 million, and we modestly lowered our adjusted tax rate guidance to 21% to 23%.
From a booking standpoint, we now expect full year 2021 bookings to increase in excess of 10% year-over-year versus our previous outlook of mid-single-digit growth.
Additionally, we believe a majority of this increase will come from our aftermarket and shorter-cycle MRO original equipment products, where the associated revenue may be recognized in 2021.
Our expected major cash usages in 2021 remain in line with prior guidance, including dividends and share repurchases of roughly $120 million, capital expenditures in the $70 million to $80 million range and funding our modest remaining realignment programs.
In conclusion, with our solid first half operating performance and improved market outlook, we look forward to continuing the momentum through the second half of 2021 and expect to be well positioned to drive margin expansion and earnings growth in 2022.
Let me close with an update on our energy transition strategy and our outlook for the remainder of the year.
As I mentioned earlier, Flowserve is well positioned for energy transition.
In fact, energy transition and decarbonization activities have been a part of our offering for the last few decades, where Flowserve has a demonstrated foundation in product portfolio to capitalize on this growing market.
We estimate that even before the recent increased awareness driven by the global pandemic, Flowserve is delivering $100 million to $150 million annually of equipment and services into energy transition-related work, including areas like energy efficiency enhancements, upgrades, retrofits, carbon and emissions reductions, solar power facilities, biofriendly processes and lithium and hydrogen work.
Equally important, we have been a valued partner to the customers and the industries that have among the highest opportunities available from energy transition, and we are absolutely committed to supporting them today and through their energy transition journey.
With increased government regulation and potential costs on greenhouse gas emissions, the financial community's increase focused on ESG metrics and the individual companies' public environmental commitments, it is clear to us that energy transition represents a substantial growth opportunity for Flowserve.
The International Renewable Energy Agency estimates that nearly $60 trillion will be invested over the next decade, with almost half of that amount focused on energy efficiency.
Energy efficiency is essentially a continuation of existing process industries, but conducting that business in a more environmentally friendly and efficient manner.
Year-to-date, we have booked nearly $100 million of energy transition-related business.
We have held numerous discussions with our customers over the last year, which have confirmed our approach, validated our offering and these discussions support our growth ambitions.
Let me now highlight some of our recent success stories.
We are supporting a large customer in the United States to convert a former petroleum refinery to a biodiesel facility.
To make the transition, a number of Flowserve pumps required upgrades to support the new application conditions and improve the operator's production and energy efficiency.
Our work on the project will save the plant over $800,000 in electricity annually, which is equivalent to over 9,000 tons of CO2.
Leveraging Flowserve's expertise in flow control solutions, pumps and valves, we successfully support our customer's shift to renewable fuel and their decarbonization efforts.
Another example comes from China.
Earlier this year, Flowserve received a substantial order for over 150 SIHI Dry vacuum pumps for their production of polybutylene succinate, or PBS, which is a biodegradable plastic that naturally decomposes in the water and carbon dioxide.
With China's recent ban on several types of non-degradable single-use plastics, PBS and other biodegradable plastics will be preferred alternative materials due to their similar plastic attributes without the harmful impact to our environment.
As I mentioned earlier, we estimated that roughly $30 trillion of energy transition-related investment over the next 10 years will be focused on energy efficiency.
Our RedRaven IoT offering launched earlier this year instruments pumps, valves and seal systems to provide the capability to assist our customers with a data-driven approach on how to improve their operations, increase asset uptime and reduce associated energy emissions.
We continued to incorporate our RedRaven functionality across additional valves and pumps in the quarter, increasing the coverage of our portfolio, where we can provide advanced analytics and predictive capabilities.
Customer interest levels remain high, and we continue to average roughly one order every week.
We believe RedRaven aligns well with our customers' objectives and expect to continue to grow this offering to a meaningful level in the future.
A recent example of our value of our IoT solution comes from a longtime Flowserve customer who recently upgraded their monitoring solution to RedRaven.
Shortly after the upgrade, we detected that a critical pump motor was overheating.
We detected the temperature spike early, alerted the refinery and deployed resources to support their operations.
According to the operator's estimates, had the pump failed they would have had to shut down the facility for over three weeks as they remove the damaged pump and install the commission and replacement.
This downtime would have cost the refinery upwards of $20 million.
RedRaven is clearly adding value to Flowserve and to our customers.
Let me now shift our focus to the remainder of the year.
During the quarter, I was excited to resume a more normal travel schedule and visited a number of our U.S. and European facilities and many of our customers in these regions.
During these business reviews, I came away highly encouraged by the operational progress we continue to make in our transformation journey.
The visits validated the improvement we're making in a number of key performance metrics, and I'm confident we are on the right path to fully embed the transformation work and activities into our daily processes.
The Flowserve 2.0 operating model is being driven throughout the enterprise, and we continue to expect the transformation to be fully embedded by the end of the year.
And with our operations and functions now taking ownership, we expect continuous improvement to remain post-2021.
Our improved model is expected to deliver a more consistent margin profile and ongoing productivity improvements, which would position Flowserve well to leverage and capture the value of the improved market opportunities.
The visits also confirmed that we are strongly positioned to shift our focus to growth optimization and strategic initiatives, including inorganic opportunities.
The success of our transformation in a consistent operating approach provides the confidence in our ability to integrate acquired businesses should we see the right assets and economics.
Our operational and functional organizations have made significant progress throughout this journey, and we are now prepared to do more.
In closing, we began our Flowserve 2.0 transformation journey in 2008.
And even as the pandemic required mid-course adjustments, we are approaching the full institutionalization of the playbooks and processes of our ongoing operating model.
And we are increasingly well positioned to support our customers, capitalize on the improved market environment and create long-term value for our shareholders and other stakeholders.

user
flowserve q2 adjusted earnings per share $0.37.
q2 adjusted earnings per share $0.37.
q2 earnings per share $0.35.
raised full-year 2021 revenue and adjusted earnings per share guidance.
sees fy revenues down 2.0% to 4.0%.
sees fy adjusted earnings per share $1.45 - $1.65.

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