Brunswick Corporation — Q3 2018 Form 10-Q
Reporting period: Third quarter ended September 29, 2018; year-to-date figures cover the nine months ended that date. Unaudited results. Brunswick’s businesses are seasonal, and interim results may not indicate full-year performance.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $1,298.0 million | $1,141.5 million | $3,910.3 million | $3,653.8 million |
| Operating earnings | $91.3 million | $114.2 million | $303.1 million | $376.7 million |
| Operating margin | 7.0% | 10.0% | 7.8% | 10.3% |
| Net earnings | $70.0 million | $79.0 million | $221.9 million | $263.3 million |
| Diluted EPS | $0.80 | $0.88 | $2.51 | $2.91 |
| Gross margin | 26.6% | 27.5% | 25.7% | 27.0% |
- Q3 sales rose 13.7% year over year; excluding currency and acquisitions, management reported 11% growth. Nine-month sales rose 7% on a reported basis.
- Marine Engine growth reflected propulsion, parts and accessories, and the Power Products acquisition. Boat sales rose in Q3 but declined slightly year to date; Fitness sales increased in both periods.
- Operating earnings and margins declined despite higher sales. Management cited the Sea Ray yacht wind-down, restructuring and impairment charges, acquisition and Fitness separation costs, and weaker Fitness margins. Q3 and nine-month results also included $17.7 million and $56.3 million, respectively, of restructuring, exit, integration and impairment charges.
- Interest expense increased following acquisition financing. Income tax provisions were $4.9 million for Q3 and $51.1 million year to date; effective tax rates were 6.5% and 18.7%, respectively, reflecting discrete tax benefits. The filing cautions that tax accounting related to 2017 tax reform was still being finalized.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $234.0 million, versus $255.1 million. Capital expenditures were $124.8 million. Company-defined free cash flow was $149.1 million, versus $138.6 million; this non-GAAP measure excludes acquisition spending and certain other specified cash impacts.
- Cash and short-term marketable securities totaled $303.2 million at quarter-end, down from $449.6 million at December 31, 2017. Total liquidity, including available borrowing capacity, was $699.2 million.
- Total debt was $1,229.8 million, up from $437.4 million at year-end 2017; debt-to-capitalization rose to 44.1% from 22.8%. The increase primarily reflects financing for the $910 million Power Products acquisition.
- The company issued $800 million of unsecured term loans and reported compliance with debt covenants. Its revolving credit facility had $396 million available. After quarter-end, Brunswick issued $185 million of 6.5% senior notes due 2048 and said it planned to use proceeds to repay part of the term loans.
Material changes and unusual items
- Brunswick acquired Power Products on August 9, 2018, for $910 million in cash. It added $33.3 million of sales after acquisition, with a reported operating loss of $1.0 million that included $9.4 million of purchase-accounting amortization. The purchase price allocation remained preliminary.
- Brunswick ended the Sea Ray sale process and returned Sea Ray results to continuing operations. It is winding down Sport Yacht and Yacht production while continuing Sport Boat and Sport Cruiser operations. The yacht businesses recorded a nine-month operating loss of $88.2 million, including restructuring and impairment charges.
- The board authorized a Fitness business separation, targeted for Q1 2019 or as soon thereafter as practicable; the company was also evaluating a possible sale. Separation costs were $12.9 million year to date.
- Fitness recorded an $8.1 million Cybex trade-name impairment. A $3.8 million Fitness contract-dispute charge was recorded in Q3; Brunswick filed for arbitration and had not recognized an offsetting receivable.
- Brunswick began terminating two pension plans, with benefits expected to be paid in 2019. Management estimated up to $30 million of residual pre-tax funding may be required to complete the exits.
Outlook, management commentary and risks
- Management expected 2018 to be a year of record earnings, targeting 9% sales growth versus 2017, including acquisitions and excluding Sport Yacht and Yacht operations. Fitness revenue was expected to be broadly level with 2017.
- Management projected gross and operating margins to decline slightly as a percentage of sales, with marine improvement more than offset by anticipated Fitness declines and yacht wind-down and restructuring costs. Tariffs were expected to reduce 2018 margins by $10–$15 million, net of planned price increases.
- Planned 2018 capital expenditures were approximately $200–$220 million. Management projected free cash flow above $220 million, excluding the after-tax cash impact of the yacht wind-down and Fitness separation payments. It expected a 2018 effective tax rate of about 21% and a cash tax rate in the low-single-digit range.
- Management cited risks including discretionary consumer demand, tariffs and input costs, currency movements, dealer financing and inventory, acquisition integration, the timing or completion of the Fitness separation, pension funding, and product liability and warranty claims. The company had suspended share repurchases until the second half of 2019 to prioritize debt reduction and the Fitness separation.
Most important facts for investors to verify
- Whether underlying sales and marine operating improvements can offset continued weakness in Fitness margins and the Sea Ray yacht wind-down.
- Progress integrating Power Products, realizing expected benefits, and refining its preliminary purchase accounting.
- Execution, cost and timing of the Fitness separation or any alternative sale, including the expected Q1 2019 target.
- Debt reduction, liquidity and covenant headroom after the acquisition and subsequent senior-note issuance; confirm the use of note proceeds.
- Whether tariff costs, pension-plan termination funding, tax estimates and reported non-GAAP outlook assumptions develop as management projected.