Johnson Controls Earnings Review: Sales And Earnings Decline In The First Quarter

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Johnson Controls (NYSE:JCI) reported its fiscal first quarter 2016 earnings on Thursday, with net income from continuing operations coming in at $450 million and $8.9 billion in revenues. [1] The figures are lower compared to last year, amid massive restructuring at the company. The adjusted non-GAAP diluted EPS for the quarter was $0.82, an increase of 11% over the prior year’s quarter; earlier financial statements have been revised to indicate Global Workplace Solutions, a divested business, as discontinued operations. Sales in its Automotive segment, which makes car seats and interiors, fell almost 20%, from a year earlier, to $4.23 billion, primarily due to deconsolidation of its interiors business, and it now accounts for 47% of the company’s sales, compared to 55% in the prior year.

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JCI Posts Revenue Decline In Power Solutions, Growth In Building Efficiency

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The company’s savior in this quarter was its Building Efficiency business, wherein sales increased 18%, which helped offset the decline in the Power Solutions segment and the Automotive business. However, in the Automotive segment, if the impact of FX and the deconsolidation of the Interiors are not taken into consideration, sales grew 4%, in line with global industry production in Q4. China played a massive role in the increase of sales, where revenues rose to $3.3 billion at a growth rate of 58%, inclusive of the Interiors joint venture, and 11% if excluded. [2] While the current production levels there are high, there is no indication whether the strength will carry on after the Chinese New Year in early February.

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The Power Solutions division garnered revenues of $1.7 billion, 6% lower when compared to the previous year quarter, and a sales growth of 3% once the effect of foreign exchange and lower lead pass-throughs are neutralized. The price of lead fell from $1,999 in the first quarter of last year to $1,681 in this first quarter, which had a negative impact on the top-line. Volumes were up in all regions, with a record 1 million units of batteries shipped in China in December. The company should also benefit from capacity additions in China, particularly with the opening of the new plant. Absorbent Glass Mat (AGM) batteries in this segment showed immense potential, with a 41% growth rate recorded. However, continued low prices for lead and FX could put pressure on this segment for the rest of the financial year.

JCI reported an 18% growth in the Building Efficiency segment, with revenues reaching $3 billion in the quarter. Once the revenue is adjusted for Hitachi and FX, the growth was 1%. The North American branch reported strong results, and a high growth of 31% was seen in the Middle East. However, excluding Hitachi, Asia was down 3%, and Europe declined 4%. Share gains and order increases were noted in North America. In the future, revenue softness may be witnessed in three areas: China, where it is taking longer to secure and execute orders, the Middle East, which may be affected due to the low oil prices, and lastly, three or four federal jobs, of which one was supposed to have been secured in early 2016, which has not materialized as of yet.

JCI 2016 Guidance

Global energy and urbanization are regarded as the key trends that will aid in developing robust growth in the future. China is deemed to be a key market, and the company is well positioned to provide for a growing middle class throughout Asia. Moreover, increased environmental regulations are steering a need for greater energy efficiency. In light of the above, investments of more than $2 billion have been planned in Asia through 2020, to increase plant capacity, expand product offerings, and develop new sales channels. [3]

China Opportunity-JCI

Portfolio Changes To Build Efficiency

Johnson Controls recently announced a merger agreement with Tyco, a global fire and security provider, to create the 14th largest industrial company in the U.S., by market capitalization. Under the terms of the agreement, Johnson Controls’ shareholders will hold 56% equity stake in the combined company and will receive a cash consideration of ~$3.9 billion, with Tyco owning approximately 44% of the equity. [4] The company considers the merged company to witness immediate opportunities for growth, at least in the short term, through cross-selling of products, complementary distribution networks, and a widened global reach. The geographic fit seems to be ideal, with JCI strong in the Chinese market, and Tyco effective in Europe.

The new company hopes to bring together complementary businesses to capitalize on the transitioning of the home-products industry into a new world characterized by smart, connected products, referred to as the ‘Internet of Things” (IoT). The two firms are building a business that possesses every facet of the so-called smart building, wherein everything from the air conditioning to light bulbs are connected to the internet, with data being used for energy efficiency and productivity gains. The combined company is expected to furnish minimum operational synergies of $500 million over the first three years, after closing. According to Johnson Controls, this will be achieved by increasing efficiencies, removing redundancies, integrating global branch networks, and leveraging the combined scale of the $20 billion building’s business platform. Besides this, tax synergies of over $150 million are expected as a result of the inversion deal, wherein the tax domicile of the new company will be shifted to Ireland, home of Tyco. In Ireland, the corporate tax rate is 12.5%, as opposed to the 35% in the U.S., the highest among developed nations.

 

Merger Synergies-JCI

In order to be rated as a top-quartile multi-industrial company, JCI has undertaken significant portfolio changes over the past few years. During FY 2015, the decision was also taken to spin-off its automotive seating and interiors business, and to name it Adient. The automotive business, with $20.1 billion in annual sales for FY 2015, supplied over one-half of the company’s sales; however, with low margins, its share in the profit was a lesser 36%.

Key Financial Results

  • Net revenues of $8.9 billion in Q1 2016, as compared to $9.6 billion in Q1 2015.
  • Diluted earnings per share of $0.82, up 11% over the prior year quarter.
  • Segment income margins increased 130 basis points versus Q1 2015.
  • Sales in the automotive segment fell 20%, in the Building Efficiency segment gained 18%, and in Power Solutions declined 6%.

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Notes:
  1. Johnson Controls- Q1 Earnings, Press Release []
  2. Johnson Controls Q1, 2016- Earnings Call Transcript []
  3. Johnson Controls- Business and Sustainability Report []
  4. Johnson Controls and Tyco to Merge []