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Jonathan J. Smith

TKR AT A GLANCE

P/E ► -19.4   EV/EBITDA ► 88.5 VERY HIGH ROA ► -2.6% AVG ROE ► -8.2% AVG Debt to Equity ► 1.83 AVG Current Ratio ► 2.63 AVG Interest Coverage Ratio ► -2.77 AVG

 

 

 

 

 

 

Timken Company (NYSE:TKR) is the world's largest manufacturer of tapered roller bearings and alloy seamless mechanical steel tubing, though it also makes other bearings and steel alloys for industries ranging from defense to oilfield services to wind energy..^[1] Timken competes in the machine tools & accessories oligopoly with Stanley Works (SWK) and Kennametal (KMT), but is unique from these companies in that it can manufacture steel bars with one inch diameters and cylindrical roller bearings with diameters as large as 12 inches, making its product line useful to more industrial projects.

Timken has been pressured by slumps in the American housing and automotive markets, which have historically been TKR's biggest customers. In response, Timken has expanded internationally, especially in India and China, with annual sales in each country increasing 20% and 30%, respectively. Also, TKR has developed its aerospace and energy product lines to reduce dependence on automobile products, through acquisitions and new facilities. Aerospace and process industry sales have increased 38.6% and 25.4%, respectively. Rising steel and oil prices increase TKR total costs, but the company avoids decreasing margins because these commodities also increases demand for Timken Process Industries products. For example, rising steel prices causes greater demand for TKR's heavy bearings, which are used in rolling mills to make steel more efficiently.

Business Financials

Bearings and Power Transmission Group

• Mobile Industries Segment (44% of sales) -- The Mobile Industries segment produces bearings and power transmission components for mobile units. Mobile Industries sells these products to auto and truck industry manufacturers and mining industry manufacturers. In Q1 2008, Timken restructured its automotive segment in response to the declining U.S. automotive industry. Restructuring including closing four plants for severance charges of $7,548.^[2] From Q1 2007 to Q1 2008, net sales for the Mobile Industries segment increased 4.2% due to restructuring the segment.

• Process Industries Segment (22% of sales) -- The Process Industries segment produces bearings and power transmission components for industrial manufacturing. Power transmission involves generating electrical energy for mechanical operations. Process Industries sells these products to equipment manufacturers of energy and heavy industries machinery and equipment, especially for coal, oil, and wind energy industries as well as the steel industry. Timken's strategy for Process Industries is to achieve growth in targeted Asian sectors, including India and China. In December 2007, TKR announced the establishment of a joint venture in China to manufacture ultra-large-bore bearings for the growing Chinese wind energy market. From Q1 2007 to Q1 2008, net sales for the Process Industries segment increased 25.4% due to increased demand for energy products.

• Aerospace and Defense Segment (7% of sales)-- The Aerospace and Defense segment produces bearings, helicopter transmission systems, turbine engine components, and gears for commercial and military aviation applications. The Aerospace and Defense segment also provides repair and overhaul of engines, transmissions and fuel controls, and aerospace bearing repair services. Timken's strategy for the Aerospace and Defense segment is to grow value by adding power transmission parts, assemblies and services and channel new end markets. In October 2007, Timken acquired The Purdy Corporation, who specializes in the design, manufacturing, and repair of parts for helicopter and fixed-wing aircraft platforms. From Q1 2007 to Q1 2008, net sales for the Aerospace and Defense segment increased 38.6% due to the acquisition of Purdy Corp.

Steel Group (27% of sales)

The Steel Group manufactures more than 450 grades of carbon and alloy steel, which are produced in both solid and tubular sections with multiple lengths and finishes. The Steel segment also manufactures custom-made steel products for both industrial and automotive applications. In January 2007, Timken announced plans to invest approximately $60 million to enable them to produce steel bars down to 1-inch diameter for use in power transmission. In February 2008, Timken acquired Boring Specialties, Inc., a provider of precision deep-hole oil and gas drilling and extraction products and services. Approximately 10% of TKR's steel production is used for its bearing production.^[3] From Q1 2007 to Q1 2008, net sales for the Steel group increased 9.2% due to the new product and acquisition, but this growth was subdued due to rising scrap metal prices.

Timken leads the machine tools & accessories industry in total revenue.^[4] From 2006 to 2007, sales increased 5.3%, gross profit increased 4.8%, and total cost increased 5.4%.^[5] Despite increase costs due to rising commodities prices and the declining automotive and housing industries, Timken has been able to maintain sales and gross profit growth due to international expansion and improving the Process Industries and Aerospace & Defense groups.

Trends and Forces

TKR makes international acquisitions in booming industrial markets.

Timken, historically a producer for the U.S., has increased international production within the past few years in response to the U.S. economic recession. Timken's most effective international moves have been opening new facilities in Chennai, India and Chengdu, China. China's gross domestic product increased 11.3% in 2007.^[6]. India's gross domestic product increased 9.0% from fiscal 2007-2008.^[7] The U.S. gross domestic product increased 2.2% in 2007.^[8] Timken has three facilities in India and six facilities in China.

• Timken opened a facility in Chennai, India on April 22, 2008. The Chennai facility will manufacture tapered roller bearings for trucks and the power industry. Timken invested $27 million in the Chennai facility. 80% of products from the Chennai facility will be exported to Timken's U.S. facilities.^[9] When the Chennai facility is in full production, expected in 2009, it will have the manufacturing capacity to produce $50 million in Timken products. Sales in India have grown 20% annually.^[10]

• Timken opened a facility in Chengdu, China. -- The Chengdu facility manufactures new aerospace products. Timken chose Chengdu as the site because it is China's primary location of aviation and aerospace. TKR invested $15 million in the new Chengdu plant. The Chengdu plant is enticing for aerospace end markets because the facility manufactures ball bearings and cylindrical roller bearings with diameters as large as 12 inches -- a product unique to Timken. Sales in China have grown 30% annually in the past three years.^[11]

TKR expands aerospace and energy product lines in response to declining automotive industry.

TKR's success depends on the health of the end markets it sells bearings, tools, and steel to. In the third quarter of 2007, Timken combined its Automotive and Industrial Groups to form the Bearings and Power Transmission Group. Beginning in Q1 2008, TKR operates in three segments within Bearings and Power Transmission: Process Industries, Mobile Industries, and Aerospace and Defense. TKR has made the following maneuvers to expand its aerospace and energy business:

• Timken acquired Purdy Corp. to expand aerospace business -- TKR purchased Purdy Corp in September of 2007 for $200 million. With the acquisition, TKR plans to build a foundation of power transmission products. Purdy specializes in the design, manufacturing, testing, overhaul and repair of transmissions, gears, and rotor-head systems for helicopter and fixed-wing aircraft platforms.^[12] Purdy, a 61-year-old maker of aviation parts and components, sells its products for helicopters, aircraft engines and gearboxes to Boeing, General Electric, Northrop Grumman, McDonnell Douglas, Pratt & Whitney and Sikorsky. Purdy also has contracts with the United States Air Force, Army and Navy for warplane and helicopter components.^[13] The acquisition of Purdy added $29.7 million to net sales, and will have growth due to aerospace product demand due to the war in Iraq.

• Timken opened a state-of-the-art aerospace plant in Arizona. -- In 2006, Timken spent $12 million to build a technology center in Mesa, AZ to improve aerospace capabilities. The new technology center in Arizona is home to Timken's Aerospace Aftermarkets Solutions group, which claims to be the sole supplier to the aerospace aftermarket with the full capability to produce its own castings.^[14] TKR installed investment casting operations in the new Mesa plant to supply components to the aerospace aftermarket. Investment casting is a process that is capable of producing near-net parts that need little, if any, final finishing. Investment casting uses an expendable wax pattern surrounded, or invested, by a ceramic shell. Removing the wax forms a mold with a smooth surface. The new facility and investment casting procedures helped net sales for the Aerospace and Defense segment increased 38.6% from Q1 2007 to Q1 2008.

• Timken acquired gas drilling company Boring Specialties. -- Timken acquired Boring Specialties on February 22, 2008, for $55,000 to increase its energy services. Boring Specialties is a provider of precision deep-hole oil and gas drilling and extraction products and services. Timken will operate Boring Specialties from its Houston location. Timken will continue to invest in its ability to meet the needs of customers in the global energy market with hole-making, hole-finishing and related machining services.^[15] The acquisition of Boring Specialties added $4.2 million sales in Q1 2008^[16], and Boring's oil and gas products add sales growth potential due to increased demand for oil excavation.

Rising oil and steel prices increase Timken's product demand and total costs.

Timken manufactures bearings using its own steel tubing and bars, purchased strip steel and energy resources. TKR produces steel alloy using scrap metal, nickel and other alloys. Oil is the main source of energy for Timken manufacturing.

• Rising steel and oil prices increase Timken product demand. Increasing steel and oil prices cause an demand increase for Timken products. Timken's Process industry products, including wind energy turbines , drilling equipment, and coal conveyors, are in high demand for energy exploration and processing. Also, increased steel prices increase demand for TKR's heavy bearings used in rolling mills to make steel more efficiently.

• Rising steel and oil prices increase Timken's total costs. -- Scrap metal is an ingredient in Timken's steel alloy production, so rising scrap metal costs increase Timken's cost of production. From 2004 to 2008, scrap metal price has grown from $75 per ton to over $550 per ton.^[17] TKR also uses oil and gas in manufacturing. Oil prices have increased 35% since the end of 2007.^[18] Increased product demand has helped stabilize Timken's margins. Raw material surcharges and pricing strategies have also been done to stabilize Timken's margins. From Q1 2007 to Q1 2008, TKR had a 16% increase in total costs, but still had gross profit increase of 22% with the aid of Process Industries sales increasing 24.6%.^[19]

Competition

Machine Tools & Accessories

• Timken Company (TKR)- World's largest manufacturer of tapered roller bearings and steel alloy.^[20]
• Kennametal (KMT) - Global producer of tools, machine accessories, and advanced materials and second largest metal cutting tools manufacturer in the world.^[21]
• Stanley Works (SWK)- World-renowned brand of consumer and industrial tools.^[22]
• Kaydon (KDN)- Leading manufacturer in specialty bearings, especially bearings used for wind energy.
• CompX International (CIX)- Manufactures security products and precision ball bearing slides.^[23]
• Hardinge (HDNG)- HDNG manufactures machine tools in Western Europe.
• Thermadyne Holding (THMD)- Producer of gas and electric arc cutting and welding products for the Americas.
• RBC Bearings (ROLL)- Bearing manufacturer makes 90% of sales in U.S., has second-highest return on equity in the past year.^[24]
• Flow International (FLOW)- Producer of high-pressure waterjet cutting tools had highest revenue growth of machine tools companies in the past quarter.^[25]

References

1. ↑ TKR 2007 10-k, Item 1: Business, page 1
2. ↑ TKR Q1 2008 10-q, Three months ending 3/31/08, Note 12: Impairment and Restructuring Charges, page 12
3. ↑ TKR 2007 10-k, Item 1: Business, page 2
4. ↑ Yahoo! Finance: Machine Tools & Accessories, Leaders and Laggards
5. ↑ TKR 2007 10-k, Item 6: Selected Financial Data, page 18
6. ↑ China View, "China targets 8% GDP Growth in 2008," 03/05/08
7. ↑ Wall Street Journal, "India Defies Turmoil With Growth of 8.8%"
8. ↑ About.com, "National Income and Products Accounts Table"
9. ↑ MyJamshedpur, "Timken to Set Up Plant in Chennai," 4/19/2008
10. ↑ The Hindu Business Line, "Timken India Plans to Tap Infrastructure Boom," 10/1/2007
11. ↑ Timken Company website, 2007 Annual Report
12. ↑ BNET Business Network, "Timken to Expand Aerospace capabilities With Acquisition of The Purdy Corp," 9/17/2007
13. ↑ Cleveland Business, "Timken Completes Purchase of Aviation Supplier Purdy Corp," 10/23/07
14. ↑ Foundry Management & Technology, "Timken Adds Investment Casting for Aerospace Aftermarket," March 2007
15. ↑ Business Wire, "Timken Adds Oil and Gas Drilling, Extraction Products to Growing Steel Energy Portfolio," 02/22/08
16. ↑ TKR 2008 10-q, Q1, Management's Discussion and Analysis of Financial Condition and Results of Operations, page 23
17. ↑ Forbes, "Timken Steeled by Steel," 4/30/08
18. ↑ Wikipedia, "Oil Price Increases Since 2003"
19. ↑ TKR Q1 08 10-q, Item 1: Financial Statements, page 2
20. ↑ Timken Company website, "Corporate Overview"]
21. ↑ KMT 2007 10-k, Item 6- Selected Financial Data, page 11
22. ↑ Stanley Works website, "Businesses"
23. ↑ Yahoo! Finance: CIX
24. ↑ Yahoo! Finance: Machine Tools and Accessories Leaders and Laggards
25. ↑ Yahoo! Finance: Machine Tools and Accessories Leaders and Laggards
26. ↑ TKR 2007 10-k, Item 6: Selected Financial Data, page 18
27. ↑ THMD 2007 10-k, Item 6: Selected Financial Data, page 18
28. ↑ CIX 2007 10-k, Item 6: Selected Financial Data, page 15
29. ↑ HDNG 2007 10-k, Item 6: Selected Financial Data, page 21
30. ↑ ROLL 2007 10-k, Item 6: Selected Financial Data, page 18
31. ↑ NNBR 2007 10-k, Item 6: Selected Financial Data, page 17
32. ↑ KMT 2007 10-k, Item 6- Selected Financial Data, page 11
33. ↑ SWK 2007 10-k, Item 6: Selected Financial Data, page 14
34. ↑ KDN 2007 10-k, Item 6: Selected Financial Data, page 9