PolyOne Corporation — Q3 2016 Form 10-Q
Business context and reporting period. PolyOne reported unaudited results for the quarter and nine months ended September 30, 2016. The company provides specialized polymer materials, formulations, color and additive systems, plastic sheet and packaging solutions, and polymer distribution. Its five reportable segments are Color, Additives and Inks; Specialty Engineered Materials; Designed Structures and Solutions (DSS); Performance Products and Solutions; and PolyOne Distribution.
Key financial results
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Sales | $843.6 million | $841.6 million | $2,552.1 million | $2,601.8 million |
| Gross margin | $173.1 million; 20.5% of sales | $169.1 million; 20.1% | $550.9 million; 21.6% | $524.6 million; 20.2% |
| Operating income | $71.2 million; 8.4% | $69.2 million; 8.2% | $224.0 million; 8.8% | $219.6 million; 8.4% |
| Net income attributable to common shareholders | $42.3 million | $44.5 million | $131.4 million | $141.5 million |
| Diluted EPS | $0.50 | $0.50 | $1.55 | $1.58 |
Q3 sales were nearly flat, while operating income rose 2.9%; net income fell 4.9%, principally reflecting higher income tax expense. The effective tax rate was 24.3% for Q3 and 26.9% year to date, versus 13.4% and 15.7% in the comparable 2015 periods. Lower 2015 rates included substantial benefits from uncertain tax positions and foreign tax credits. For the first nine months, sales declined 1.9%, operating income increased 2.0%, and net income declined 7.3%.
Cash flow and liquidity. Nine-month operating cash flow was $126.8 million, compared with $128.6 million. Capital expenditures were $58.0 million, yielding operating cash flow less capital expenditures of $68.8 million. Acquisitions used $158.3 million, and cash declined $67.6 million to $212.2 million. The company reported liquidity of $597.1 million, including cash and revolver availability; the filing gives $384.9 million of availability in its liquidity summary and $381.7 million under the detailed revolving-facility disclosure.
Debt and balance sheet. At September 30, 2016, debt principal was $1,275.8 million (carrying amount $1,259.5 million), versus a carrying amount of $1,146.6 million at December 31, 2015. Cash was $212.2 million; current assets were $1,001.6 million and current liabilities $527.5 million. PolyOne added $100 million to its term loan to help finance the Gordon acquisition, reduced the term-loan rate by 25 basis points, and reported compliance with debt covenants. The revolving credit facility had no outstanding borrowings. About 92% of cash was held outside the United States.
Material changes and segment trends
- Lower hydrocarbon-based raw-material costs reduced average selling prices, weighing on reported sales, particularly in DSS, Performance Products and Solutions, and Distribution. Management cited underlying sales growth and acquisitions as offsets.
- DSS was the clearest weakness: Q3 sales fell 13.7% and operating income was a $0.5 million loss, compared with $4.3 million of income. Nine-month operating income fell to $0.9 million from $12.0 million, amid lower selling prices and volumes.
- Performance Products and Solutions’ nine-month sales declined 5.7%, but operating income increased to $59.0 million from $43.9 million, supported by improved mix and organic volume growth.
- Specialty Engineered Materials benefited from acquisitions and mix; nine-month sales rose 3.1% and operating income rose 3.3%. PolyOne Distribution’s nine-month sales increased 3.1%, supported by volume growth, while lower selling prices and commercial investment limited profit growth.
- Q3 restructuring charges were $4.6 million, versus $13.7 million a year earlier; nine-month charges were $16.5 million, versus $31.8 million. Management said additional costs for the DSS facility closures were not expected to be material.
Acquisitions, outlook, and risks
PolyOne acquired Gordon Composites and Polystrand assets on July 26 for $85.5 million and acquired certain Kraton TPE assets for approximately $72.8 million in January. Both acquisitions were included in Specialty Engineered Materials from their respective closing dates. Purchase-price allocations were preliminary; the acquisitions added $74.3 million of goodwill and $42.0 million of intangible assets in total. Management provided no specific earnings or revenue guidance in the supplied filing text.
Key uncertainties include raw-material prices and supply, customer demand and pricing, foreign exchange, acquisition integration, and the ability to realize savings from restructuring. Environmental exposures are significant: the balance sheet included $118.2 million of environmental accruals. For the lower Passaic River, the USEPA selected a remedy for an eight-mile area estimated at $1.4 billion, but PolyOne said its allocation, if any, was undetermined and recorded no remediation liability for that matter. The company also described continuing obligations relating to the Calvert City site. Other disclosed risks include a $12.2 million guarantee of SunBelt notes, which Olin has agreed to indemnify, and potential tax costs if foreign cash is repatriated.
Most important facts for investors to verify
- Whether DSS sales and profitability stabilize after facility closures and restructuring.
- Acquisition integration, contribution to earnings and final purchase-price allocations.
- How pricing and margins respond to changes in raw-material costs, and whether volume growth persists.
- Environmental exposure, particularly the company’s potential allocation for the lower Passaic River and future Calvert City remediation costs.
- Cash location and accessibility, the reported revolver-availability discrepancy, and debt repayment and refinancing capacity.
- The sustainability of earnings after accounting for the comparatively higher 2016 tax rate and prior-year tax benefits.