Lincoln Electric Holdings, Inc. — Q3 2010 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2010. Lincoln Electric designs and manufactures welding, cutting, brazing and soldering products. Unless otherwise noted, amounts below are in millions of U.S. dollars; per-share figures are in dollars.
Financial results and liquidity
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net sales | $519.3 | $441.8 | $1,505.9 | $1,266.8 |
| Gross profit / margin | $144.1 / 27.7% | $125.1 / 28.3% | $416.0 / 27.6% | $321.8 / 25.4% |
| Operating income / margin | $48.2 / 9.3% | $33.3 / 7.5% | $134.1 / 8.9% | $54.3 / 4.3% |
| Net income | $32.5 | $12.8 | $88.7 | $24.2 |
| Diluted EPS | $0.76 | $0.30 | $2.08 | $0.57 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $103.7 | $231.3 |
Q3 adjusted operating income was $49.3 million versus $40.5 million; adjusted diluted EPS was $0.79 versus $0.63. For the nine months, adjusted operating income was $134.7 million versus $77.8 million, and adjusted diluted EPS was $2.14 versus $1.07. These are company-defined non-GAAP measures that exclude specified special items.
At September 30, cash and equivalents were $382.5 million, total debt was $100.3 million, and debt to total invested capital was 8.0% (10.2% at December 31, 2009). The $80 million Series C note is due in March 2012; the company reported compliance with debt covenants. Total assets were $1,798.7 million and equity was $1,146.6 million. The declared quarterly dividend was $0.28 per share; $0.28 per share was paid in October.
For the first nine months, investing cash outflow was $34.6 million and financing cash outflow was $74.4 million. Capital spending was $43.2 million; cash decreased $5.6 million to $382.5 million. Management attributed lower operating cash flow principally to a $51.5 million increase in net operating working capital, versus a decrease in the prior-year period, partly offset by higher earnings.
Changes versus the prior comparable periods
- Q3 sales increased 17.5%; nine-month sales rose 18.9%. Management attributed the gains mainly to higher volume amid improving global demand; nine-month sales also benefited from the Jin Tai acquisition. Nine-month volume contributed $158.5 million and acquisitions $86.2 million, while price and foreign exchange reduced sales slightly.
- Q3 gross margin declined 0.6 percentage point, primarily reflecting higher LIFO costs, lower selling prices and higher China input costs, partly offset by volume, cost reductions and lower product-liability costs. Nine-month gross margin improved 2.2 points, reflecting higher volume and cost reductions, partly offset by LIFO and Venezuela-related inventory costs.
- Reported operating income and EPS increased substantially. Comparability includes much lower rationalization charges than in 2009 and a prior-year $7.9 million loss related to the Jin Tai acquisition and Kuang Tai investment disposal. Nine-month 2010 results also include rationalization gains and Venezuela-related effects; reported results therefore differ from adjusted measures.
- Q3 segment sales grew in all segments. North America Welding had the largest sales base; Asia Pacific growth included Jin Tai, and South America benefited from volume and market-share gains. Europe’s nine-month sales declined 1.8%, including adverse price and currency effects.
Outlook, commentary, risks and unusual items
- No full-year earnings or sales guidance is provided. Management said existing cash, operating cash generation and available credit facilities should meet ongoing requirements for the foreseeable future. Expected 2010 capital expenditures were $50–$55 million.
- Management cited global economic conditions, execution of operating initiatives, currency and interest-rate movements, litigation, acquisitions, commodity and energy prices, regulatory complexity, and geopolitical events as factors that could affect results.
- Venezuela was treated as a highly inflationary economy from January 1, 2010, with the U.S. dollar as functional currency and a devalued bolivar. The company reported a $6.4 million net bolivar-denominated monetary liability. For the nine months, remeasurement produced a $2.6 million transaction gain in SG&A but $5.8 million of additional cost of goods sold from inventory; a Q3 sovereign-debt conversion generated a $1.4 million loss. Further earnings effects depend on exchange rates and monetary balances.
- On October 29, 2010, after quarter-end, the company acquired Russian welding-wire maker MGM for approximately $28 million in cash and assumed debt. MGM had annual sales of approximately $30 million at acquisition.
- Rationalization actions were expected to incur a further $0.5 million of costs and be substantially completed and paid by year-end 2010. Related liabilities included $1.6 million at September 30.
- Product-liability accruals were $5.5 million, with a related insurance-recovery asset of $2.2 million. Reversals of two claim accruals generated a $2.1 million net credit to cost of goods sold. The company disclosed asbestos and manganese claims involving approximately 16,842 and 2,175 plaintiffs, respectively; it said it intended to defend the cases and did not expect resolution to materially affect its financial statements. Appeals vacated or reversed two previously adverse awards during 2010.
- Unrecognized tax benefits were $42.2 million, of which approximately $26.7 million would affect income tax expense if recognized. The company reported ongoing U.S. and Indonesian tax audits but did not expect their results to have a material effect. Management said disclosure controls were effective and that market-risk exposure had not materially changed since year-end 2009.
Important facts for investors to verify
- Whether volume recovery and improved demand persist, and whether margins withstand input-cost, pricing and LIFO pressures.
- How working-capital investment affects cash conversion, and whether full-year capital expenditures remain within the $50–$55 million outlook.
- The ongoing earnings and cash impact of Venezuelan exchange controls, inflation, currency movements and sovereign-debt conversions.
- Integration, financing and performance of the post-quarter MGM acquisition, and completion costs for rationalization actions.
- Updates to product-liability claims, insurance recoveries, tax examinations and the $80 million note due in March 2012.