Johnson Controls Earnings Review: Profitability Grows, Although Top Line Marred By Currency Headwinds

Johnson Controls (NYSE:JCI) reported its Q4 and fiscal 2015 (ended September) results on October 29, and, as expected, the deconsolidation in the automotive experience segment and foreign currency translations weighed on the overall results for the company. Net revenues declined 4% year-over-year for the full fiscal year to $37.2 billion, but without considering the impact of currency and the interiors joint venture, the top line expanded 5%. ^[1] This represents a strong underlying performance by Johnson Controls, which is undergoing transition, and planning to spin off its automotive business — its biggest division and the world’s largest maker of automotive seating, by the end of fiscal 2016. The company entered into a joint venture for its automotive interiors business with Yanfeng Automotive Trim Systems on July 2, so the results for the interiors joint venture are now accounted as earnings from an equity affiliate, leading to a dip in revenues.

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Johnson Controls sees itself working strongly as two separate companies in the near future, where the automotive business will be a separate company. The company has been moving away from low-margin automotive markets to more profitable industrial businesses. And the Building Efficiency and Power Solutions segments, both saw profitability improve in Q4 and the full fiscal 2015. The two segments, which combined formed approximately 52% of Johnson Controls’ top line in Q4, reported full year operating margins expansion of 70 and 160 basis points, respectively.

Profitable Growth In The Automotive Experience Division

The automotive experience division saw sales dip 21% year-over-year in Q4, as expected, impacted by negative currency translations, but mainly due to the new accounting method used for the newly-created interiors joint venture. Excluding the structural changes and currency effects, revenues were up 3%. This is more than the global vehicle production levels in the quarter, which remained flat. Continual tepid global macroeconomic conditions, where the BRIC countries are no longer driving growth in automotive demand, have hurt sales for automakers, and, in turn, auto-part makers, prompting these companies to cut down production to keep inventory from piling up.

The two significant positives for Johnson Controls’ automotive business this quarter were the margin improvement and its performance in China. Full-year segment margins are up 100 basis points, reflecting how the company has kept up profitable growth while in transition. A 16% reduction in overhead expenses helped grow overall gross margins to 17.8% from 17.6% in the quarter.

As China comes to terms with its new normal, weaker economic conditions have impacted the automotive industry as well, with production down 5% in Q4. Johnson Controls’ automotive business also saw its underlying sales drop 3% in China, which is still better than the downturn in the overall market. In addition, sales are up 27%, since the company is now picking up the Chinese portion of the Yanfeng joint venture. But what was a particular bright spot was that the decline in top line didn’t translate into a similar decline in the bottom line. Sales for the interiors joint venture stood at about $2 billion in Q4, down about 3% year-over-year. In light of a slide in automotive production levels this year, the company’s joint ventures have also flexed their cost base down, and so the equity income from the China seating unit declined only $5 million year-over-year in the quarter, much less than the broader 3% decline in the top line.

Currency remains one of the biggest downers for American multinationals, who derive a considerable portion of revenues from overseas markets. As the U.S. dollar continued to gain on some crucial foreign currencies in Q4, Johnson Controls’ top line was also dragged down. With the Fed yet to announce a raise in interest rates, the U.S. dollar could grow even stronger in the coming months. Johnson Controls is in transition as of now, moving from one big business which makes everything from automotive seating to heating, ventilation and air-conditioning equipment, to two separate companies with different operating models. While it will take a year for the automotive business to spin off, Johnson Controls’ continual profitable growth bodes well for the future of the company.

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