Business Context and Reporting Period
Helen of Troy Limited filed this unaudited Form 10-Q for the quarter and nine months ended November 30, 2014, its fiscal 2015 third quarter. The company designs, imports, markets and distributes consumer products through four segments: Housewares, Healthcare / Home Environment, Nutritional Supplements and Personal Care. The third quarter is historically the company’s strongest seasonal period.
Healthy Directions was acquired on June 30, 2014 for $195.94 million and contributed five months of year-to-date results and three months of third-quarter results to the Nutritional Supplements segment.
Key Financial Metrics
| Metric | Three Months Ended Nov. 30, 2014 | Year-over-Year | Nine Months Ended Nov. 30, 2014 | Year-over-Year |
|---|---|---|---|---|
| Net sales | $435.7 million | +14.4% | $1,067.4 million | +6.2% |
| Gross profit | $181.4 million | +22.8% | $434.7 million | +11.1% |
| Gross margin | 41.6% | +2.8 pts. | 40.7% | +1.8 pts. |
| Operating income | $65.0 million | +31.7% | $112.8 million | +12.3% |
| Operating margin | 14.9% | 13.0% prior year | 10.6% | 10.0% prior year |
| Net income | $55.4 million | +47.6% | $90.6 million | +20.4% |
| Diluted EPS | $1.92 | $1.16 prior year | $3.12 | $2.33 prior year |
| Operating cash flow | Not separately provided | Not applicable | $63.5 million | $91.1 million prior year |
Reported gross margin benefited from the newly acquired Nutritional Supplements segment, while core-business gross margins declined slightly because of product mix, promotional spending and product cost increases. SG&A was $116.4 million for the quarter and $312.9 million year to date; the SG&A ratio increased to 26.7% and 29.3%, respectively.
Adjusted income, a non-GAAP measure excluding specified amortization, impairment, acquisition and share-based compensation items, was $62.6 million for the quarter versus $44.7 million, and $121.9 million year to date versus $110.2 million. Adjusted diluted EPS was $2.17 for the quarter and $4.19 year to date, compared with $1.37 and $3.41, respectively.
Segment Performance
| Segment | Q3 2014 Sales | Q3 Change | Q3 Operating Income | Q3 Operating Margin |
|---|---|---|---|---|
| Housewares | $86.0 million | +15.0% | $18.3 million | 21.3% |
| Healthcare / Home Environment | $177.0 million | +6.8% | $18.7 million | 10.6% |
| Nutritional Supplements | $38.5 million | New segment | $6.2 million | 16.2% |
| Personal Care | $134.2 million | -4.3% | $21.9 million | 16.3% |
Housewares benefited from new products, retailer distribution gains and holiday promotions. Healthcare / Home Environment benefited from thermometry, air purification and fan sales, as well as a $7.0 million pre-tax gain from amending the Honeywell trademark license. Personal Care remained pressured by competitive launches, promotional activity, weaker appliance demand, foreign exchange losses and lost Canadian distribution.
Liquidity, Cash Flow and Debt
- Cash and cash equivalents were $21.1 million at November 30, 2014, down from $70.0 million at February 28, 2014.
- Operating activities generated $63.5 million; investing activities used $200.8 million, including $195.9 million for Healthy Directions; financing activities provided $88.4 million.
- Working capital was negative $63.4 million and the current ratio was 0.9 to 1, compared with $278.8 million and 1.8 to 1, respectively, in the comparable prior-year period.
- Total debt included $440.0 million outstanding under a $570.0 million unsecured revolving facility, $80.0 million of fixed-rate senior notes and $35.7 million under the MBFC loan. Revolving availability was $129.2 million after letters of credit.
- Debt-to-equity increased to 64.7% from 21.3% as borrowing funded the Healthy Directions acquisition and $278.3 million of share repurchases. The company remained in compliance with its debt covenants.
- The revolving credit facility terminates December 30, 2015. Debt agreements restrict additional borrowing, certain investments, asset sales, dividends and share repurchases under specified conditions.
Material Changes and Unusual Items
- The Healthy Directions acquisition added $63.1 million of year-to-date sales, $6.3 million of operating income and approximately $3.6 million of acquisition-related expenses.
- The company recorded a $9.0 million non-cash impairment charge in the first quarter for Personal Care trademarks, versus $12.05 million in the prior-year comparable period.
- A revised product-liability estimate increased third-quarter and year-to-date operating income by $2.22 million and net income by $1.36 million, or $0.05 of diluted EPS.
- The Honeywell license amendment produced a one-time $7.0 million pre-tax gain, or $6.98 million after tax, contributing approximately $0.24 to diluted EPS.
- The company repurchased 4.17 million shares for $278.3 million during the first nine months; no shares were repurchased during the quarter. Approximately $265.4 million remained authorized for future repurchases at November 30, 2014.
- Interest expense increased 51.5% year to date to $11.6 million because of higher acquisition- and repurchase-related borrowings.
Outlook, Risks and Contingencies
Management stated that operating cash flow and available financing were expected to fund foreseeable liquidity requirements, including inventory and receivables. The company continued to evaluate acquisitions and could use cash, debt or equity to fund future transactions. No specific earnings or revenue guidance is provided in the filing text.
- Internet-based customer sales increased approximately 46% in the quarter and 40% year to date, representing approximately 10% and 9% of consolidated sales, respectively.
- Approximately 15% of sales were denominated in foreign currencies. Third-quarter foreign exchange movements reduced reported international sales by approximately $2.8 million and produced a $2.2 million SG&A loss.
- Approximately $475.7 million of debt carried floating interest rates, exposing the company to higher interest expense if short-term rates increase.
- Key risks include retail and discretionary-demand weakness, product and raw-material costs, foreign exchange, China sourcing and manufacturing, weather-related demand, customer and licensing relationships, debt leverage, impairment risk and integration of Healthy Directions.
- The new Nutritional Supplements segment adds risks relating to product liability, product quality, raw-material availability, adverse publicity and extensive FDA, FTC, CPSC and USDA regulation.
- The company maintained the official Venezuelan exchange rate of 6.30 bolivars per U.S. dollar. A future devaluation could result in material charges; the Venezuelan net investment was $9.6 million.
- Legal claims are pending in the ordinary course, but management does not expect them to materially affect financial position, results or liquidity. The filing reports no off-balance-sheet financing arrangements.
Investor Verification Items
- Verify the sustainability of earnings growth after excluding the $7.0 million Honeywell gain, the product-liability estimate change, lower impairment charges and tax benefits.
- Assess Healthy Directions’ standalone growth, margins, acquisition-related costs and integration progress once comparable periods include the acquired business.
- Monitor negative working capital, $440.0 million of revolver borrowings, the December 2015 facility maturity and compliance with leverage and interest-coverage covenants.
- Evaluate whether Personal Care sales and margins stabilize following continued promotional pressure, lost distribution and the nonrecurring European distribution agreement decline.
- Review inventory and receivables growth, as operating cash flow fell to $63.5 million and inventory turnover declined to 2.6 times.
- Track foreign exchange, interest-rate, China sourcing and Venezuelan currency exposures, as well as potential future impairment or product-liability charges.