Avery Dennison Corp. Q3 2005 Filing Summary
Business Context and Reporting Period
This Form 10-Q covers the fiscal third quarter ended October 1, 2005, and the nine-month period year-to-date. Avery Dennison Corporation is a global manufacturer of pressure-sensitive materials, office and consumer products, and retail information services. The company operates in four reportable segments: Pressure-sensitive Materials, Office and Consumer Products, Retail Information Services, and Other specialty converting businesses.
Key Financial Metrics
| Metric | Q3 2005 | Q3 2004 | 9M 2005 | 9M 2004 |
|---|---|---|---|---|
| Net Sales ($ millions) | $1,362.5 | $1,336.2 | $4,127.4 | $3,906.9 |
| Gross Profit ($ millions) | $396.0 | $389.4 | $1,209.8 | $1,146.5 |
| Gross Margin (%) | 29.1% | 29.1% | 29.3% | 29.4% |
| Net Income ($ millions) | $86.2 | $75.0 | $233.3 | $196.1 |
| Diluted EPS ($) | $0.86 | $0.75 | $2.32 | $1.95 |
| Operating Cash Flow ($ millions) | N/A | N/A | $288.5 | $332.7 |
| Free Cash Flow ($ millions) | N/A | N/A | $171.4 | $217.1 |
| Total Debt ($ millions) | $1,098.5 | N/A | $1,098.5 | $1,211.7 |
| Cash and Equivalents ($ millions) | $75.5 | N/A | $75.5 | $69.9 |
Note: Total Debt is the sum of Short-term/Current portion of long-term debt ($124.7M) and Long-term debt ($973.8M) as of Oct 1, 2005.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 2% in Q3 and 6% year-to-date (YTD). Growth was driven by pricing increases (offsetting raw material costs), favorable foreign currency translation, and modest core unit volume growth, partially offset by volume declines in North America.
- Profitability: Net income rose 15% in Q3 and 19% YTD. Improvements were aided by lower restructuring charges in 2005 compared to significant charges in 2004 related to the Jackstädt integration, productivity initiatives, and a lower effective tax rate.
- Cash Flow: Operating cash flow decreased $44 million YTD to $288.5 million, primarily due to timing of payments for accounts payable and increased working capital needs (inventory and receivables). Free cash flow declined $46 million YTD.
- Debt Reduction: Total debt decreased approximately $113 million YTD due to net debt payments and foreign currency translation effects.
Guidance, Outlook, and Risks
- Outlook: Management anticipates continued weakness in core volume for Q4 2005 compared to 2004. They expect a positive impact from price and mix, though the year-on-year benefit of price increases will decline. The effective tax rate for 2005 is projected at approximately 23.5%.
- Cost Reductions: The company announced potential cost reduction actions in October 2005, with estimated pre-tax cash charges of $20 million to $30 million, targeting annual savings of $40 million to $50 million in 2006.
- Divestitures: The company is considering divesting non-strategic, low-margin businesses, which could result in pre-tax non-cash charges exceeding $100 million.
- Legal and Regulatory Risks:
- Antitrust Investigations: The company is subject to ongoing criminal and civil investigations by the U.S. DOJ, European Commission (EC), Canada, and Australia regarding competitive practices in the label stock industry. The company expects a material fine from the EC but cannot estimate the amount.
- FCPA Violations: An internal investigation revealed potential violations of the U.S. Foreign Corrupt Practices Act by employees in China. The company has voluntarily disclosed these matters and expects fines or penalties.
- Class Actions: Multiple class action lawsuits are pending in the U.S. related to alleged anticompetitive practices and disclosure violations.
- Accounting Changes: The company plans to adopt SFAS No. 123(R) regarding stock-based compensation in Q1 2006, with an estimated after-tax impact of $0.13 to $0.18 per share on diluted EPS for 2006.
Investor Verification Checklist
- Verify the status and potential financial impact of the European Commission antitrust investigation and the expected fine.
- Monitor the outcome of the U.S. DOJ criminal investigation and related class action lawsuits.
- Assess the progress and cost savings realization of the announced $20-$30 million cost reduction program.
- Review the impact of the pending divestitures of non-strategic businesses on future revenue and earnings.
- Confirm the timing and magnitude of the $41 million share repurchase obligation related to the L&E Packaging acquisition.
- Track the adoption of SFAS 123(R) in 2006 and its effect on reported earnings per share.