Brady Corporation — Q2 FY2019 Form 10-Q
Reporting period: Three and six months ended January 31, 2019. Brady manufactures identification solutions and workplace safety products. Amounts below are in millions of dollars except per-share data and percentages.
Financial performance
| Metric | Q2 FY2019 | Q2 FY2018 | Six months FY2019 | Six months FY2018 |
|---|---|---|---|---|
| Net sales | $282.4 | $287.8 | $575.6 | $577.9 |
| Gross margin | $139.8; 49.5% | $143.7; 49.9% | $286.3; 49.7% | $289.8; 50.1% |
| Operating income | $36.0; 12.8% | $34.8; 12.1% | $76.7; 13.3% | $70.2; 12.1% |
| Net earnings | $29.2 | $4.3 | $59.9 | $30.1 |
| Diluted EPS, Class A | $0.55 | $0.08 | $1.13 | $0.57 |
Cash flow and liquidity: Six-month operating cash flow was $44.2 million, versus $42.5 million. Capital spending was $12.1 million, compared with $8.5 million, and cash dividends paid were $22.3 million. Cash increased $20.8 million to $202.2 million from July 31, 2018. At January 31, current assets were $501.7 million and current liabilities were $163.7 million.
Debt: Long-term obligations were $51.6 million, down from $52.6 million at July 31, 2018. No credit-facility borrowings were outstanding at quarter-end; $297 million of the $300 million facility was available, net of letters of credit. Brady reported compliance with debt covenants.
Changes versus comparable periods
- Q2 sales fell 1.9% reported, despite 2.3% organic growth; currency reduced sales 2.6% and divestitures 1.6%. For the six-month period, sales declined 0.4% reported, while organic sales grew 3.5%.
- IDS performed well: Q2 organic sales grew 3.6% and segment profit increased to $37.9 million from $34.1 million. WPS Q2 organic sales declined 0.9%, and segment profit fell to $4.7 million from $7.1 million.
- Operating income rose 3.5% in Q2 and 9.2% for six months, supported by IDS organic growth and lower SG&A. Gross margin percentage declined in both comparisons, primarily due to higher freight and personnel costs.
- Net earnings increased sharply, mainly because the prior-year periods included $21.1 million of additional tax expense related primarily to the Tax Cuts and Jobs Act. The effective tax rate was 20.3% in Q2 FY2019 versus 87.8% a year earlier; six-month rates were 21.8% and 56.9%.
- Q2 sales were also affected by the prior-year WPS business divestiture and adverse currency translation. WPS reported sales fell 10.0%, including a 5.8% divestiture impact and 3.3% currency impact.
Outlook, commentary, and risks
- Management described priorities including product innovation, operational efficiency and automation, improved customer service, digital capabilities, and focused sales efforts. The filing provides no specific sales or earnings guidance.
- Management expected its ongoing annual effective tax rate to be in the mid-20% range, based on the then-current global business mix. The current-period rate benefited from settlement of a foreign tax matter, partly offset by a higher valuation allowance against foreign tax credit carryforwards.
- WPS Americas faced weaker organic sales, lower catalog-promotion response, and continued effects from a previously implemented digital platform. Brady transitioned to a new digital platform toward quarter-end; transition costs contributed to lower WPS profit.
- Management cited higher input costs, foreign currency movements, product demand, competition, customer retention, cybersecurity, execution of strategy and divestitures, litigation, intangible-asset impairment, and debt-covenant compliance among risks. It believed operating cash flow and borrowing capacity would cover anticipated needs for the next 12 months.
- Brady adopted the revenue recognition standard on August 1, 2018. The impact on results was not material; adoption reduced opening retained earnings by $2.1 million, net of tax. The company expected the upcoming lease standard to increase assets and liabilities but was still assessing the magnitude.
Important facts for investors to verify
- Whether IDS growth and efficiency gains continue to offset WPS weakness, divestiture effects, and currency headwinds.
- Whether WPS’s new digital platform improves sales and segment profitability, particularly in the Americas.
- Whether freight and personnel cost pressures continue to weigh on gross margin.
- How the favorable tax settlement and other tax items affect the effective rate relative to management’s mid-20% expectation.
- Whether operating cash generation remains sufficient given working-capital needs and higher capital expenditures.
- Progress and eventual financial-statement impact of lease-standard adoption, and continued compliance with debt covenants.