Callaway Golf Company — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015; compared with the three months ended March 31, 2014. Callaway designs, manufactures, and sells golf clubs, balls, and related products. Results are seasonal, with most sales and profitability generally occurring in the first half of the year.
Financial results
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Net sales | $284.2 million | $351.9 million | Down $67.7 million (19%) |
| Gross profit / margin | $127.3 million / 44.8% | $164.9 million / 46.9% | Margin down 2.1 percentage points |
| Operating income | $36.9 million | $61.7 million | Down $24.7 million |
| Net income | $35.8 million | $55.3 million | Down $19.5 million (35%) |
| Diluted EPS | $0.39 | $0.61 | Down $0.22 |
| Operating cash flow | $(90.3) million | $(124.8) million | Cash use improved $34.5 million |
| Capital expenditures | $2.4 million | $4.0 million | Down $1.6 million |
Selling expense fell $11.0 million, mainly because advertising and promotional spending shifted to later quarters; general and administrative expense fell $1.9 million. Research and development expense was essentially unchanged at $7.9 million. Other income was $2.5 million, versus other expense of $2.2 million in Q1 2014, principally reflecting a $4.5 million year-over-year improvement in net foreign currency gains. The income tax provision was $1.6 million; the U.S. deferred-tax valuation allowance means interim tax expense was primarily associated with foreign operations.
Financial position and liquidity
- At March 31, 2015, cash and equivalents were $23.2 million, down from $37.6 million at year-end. Current assets were $496.5 million and current liabilities were $260.3 million.
- Net receivables were $261.9 million, up from $109.8 million at year-end, reflecting seasonal first-quarter sales. Inventory was $181.5 million, down from $207.2 million.
- Debt carrying amounts included $81.0 million under the principal ABL facility, $13.3 million under the Japan ABL facility, and $108.8 million of convertible notes. The notes have $112.5 million principal, bear 3.75% interest, and mature August 15, 2019.
- The principal ABL facility has commitments of up to $230 million, subject to borrowing-base availability. At quarter-end, approximately $99.5 million of additional borrowing was available; cash plus available borrowing capacity totaled approximately $122.8 million. The company reported compliance with its debt covenants.
- Operating cash use was driven in part by seasonal receivables, while financing activities provided $79.1 million, primarily from net borrowings under asset-based facilities. Cash declined by $14.4 million during the quarter.
Changes versus the prior comparable period
- Sales declined in both segments: golf clubs fell 19% to $241.2 million and golf balls fell 18% to $43.0 million. Woods sales were down 30%.
- Management attributed lower sales largely to fewer first-quarter product launches following a planned change in launch timing, unfavorable foreign exchange translation, and weaker-than-anticipated market conditions, particularly in Asia. Japan sales were also affected by the timing shift associated with the April 2014 consumption-tax change.
- Management estimated that applying Q1 2014 exchange rates to Q1 2015 international sales would have added $13.1 million to reported sales. Japan and the rest of Asia reported sales declines of 38% and 39%, respectively.
- Lower gross margin reflected foreign exchange and higher component costs for certain products; higher pricing on some woods and operational improvements partly offset these pressures. Management said brand momentum and market share continued to improve and cited manufacturing and supply-chain improvements.
Outlook, risks, and unusual items
- Management expected most of the Q1 operating-expense reduction, particularly advertising and promotional spending, to shift into Q2, with the remainder shifting to the second half of 2015. The filing provides no specific full-year revenue or earnings guidance.
- Management expected approximately $15 million of capital expenditures for 2015 and believed cash, expected operating cash generation, and credit-facility availability would fund requirements for at least 12 months. This outlook depends on sales, turnaround execution, foreign exchange, and continued access to financing.
- Approximately 93% of cash was held outside the United States; repatriating it for domestic needs could trigger incremental U.S. taxes. Management said it did not intend to repatriate those funds for ordinary domestic liquidity needs.
- Foreign-exchange exposure is significant. The company began using cash-flow hedges in January 2015; their notional amount was approximately $93.8 million. A modeled 10% adverse currency move implied an estimated maximum one-day loss of $20.2 million on forward contracts, which management said could be partly offset by changes in underlying transactions. The model is not a forecast of actual losses.
- Purchase obligations totaled $47.2 million over the next three years. Legal matters were described as routine or otherwise not expected to materially affect financial position, but management could not estimate an aggregate potential loss; an unfavorable resolution could affect results or cash flows in a particular period.
- The company reported a $50 million share-repurchase authorization from August 2014. Q1 cash-flow statements show $1.4 million of treasury-stock purchases; the filing says shares acquired during the quarter were for employee-award tax withholding.
Important facts for investors to verify
- Whether later product launches and promotional spending improve sales and margins in subsequent quarters, especially in Asia and Japan.
- Whether foreign-exchange movements, hedges, and the strong U.S. dollar continue to pressure reported sales, margins, and earnings.
- Seasonal receivables, operating cash use, borrowing-base availability, and ongoing compliance with ABL covenants.
- The assumptions supporting management’s 12-month liquidity assessment, including the availability of offshore cash for domestic needs.
- Potential outcomes and timing of legal, tax, purchase, and other contractual obligations; the filing does not quantify a clear aggregate loss estimate for legal contingencies.