Church & Dwight Co., Inc. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. Amounts are in millions, except per-share data. Church & Dwight sells household and personal care products in its Consumer Domestic and Consumer International segments, and specialty products through SPD.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $1,037.6 | $967.9 | $3,071.5 | $2,743.1 |
| Gross profit | $460.1 | $438.5 | $1,366.5 | $1,248.2 |
| Income from operations | $204.2 | $198.7 | $598.3 | $518.0 |
| Net income | $146.3 | $133.4 | $425.8 | $337.8 |
| Diluted EPS | $0.58 | $0.52 | $1.70 | $1.32 |
- Q3 sales increased 7.2%; nine-month sales increased 12.0%. Reported growth included acquired product lines of 3.0% and 7.3%, respectively. Volume and price/mix also contributed; currency reduced Q3 growth by 0.5 percentage points.
- Q3 gross margin was 44.3%, down 100 basis points year over year; operating margin was 19.7%, down 80 basis points. For the nine months, gross margin was 44.5%, down 100 basis points, while operating margin rose 60 basis points to 19.5%.
- The Q3 effective tax rate was 21.9%, versus 28.7%; the nine-month rate was 21.6%, versus 31.6%, principally reflecting the U.S. Tax Act’s reduction of the statutory corporate rate to 21%.
- Interest expense rose $3.0 in Q3 and $25.8 for the nine months, largely due to higher average debt following the 2017 senior-note issuance.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $568.0, up from $424.1. Investing used $82.3, compared with $1,278.3 in 2017, which included major acquisitions. Financing used $574.1, versus $888.6 provided in 2017.
- Cash and equivalents were $188.3 at September 30, 2018, down from $278.9 at December 31, 2017. Total current liabilities were $1,027.4 and current assets were $960.3.
- Debt was approximately $2.1 billion: $1.7 of short-term borrowings, $299.7 of current maturities, and $1,803.5 of long-term debt. The $300.0 floating-rate senior notes mature January 25, 2019. Management said it expected sufficient liquidity to repay them.
- The company reported approximately $996.7 available through its revolving facility and commercial paper program. Its $1,000.0 unsecured revolving facility may be increased by up to $600.0, subject to conditions, and runs to March 2023 unless extended.
- Inventory increased to $390.6 from $330.7. The cash conversion cycle rose seven days year over year to 22 days, mainly because inventory days increased by six, partly reflecting acquired businesses.
Material changes and management commentary
- Consumer Domestic sales grew 7.6% in Q3 and 11.8% year to date; Consumer International grew 6.9% and 17.7%. SPD sales grew 3.6% and 2.3%, although its underlying volume was weaker and management cited reduced dairy-industry demand from low milk prices.
- Management attributed lower gross margin primarily to higher commodity, transportation and other manufacturing costs, partly offset by productivity and favorable price/mix. Q3 commodity and transportation costs reduced margin by 230 basis points.
- In March 2018, the company acquired Passport Food Safety Solutions for approximately $50.0, plus potential sales-based consideration of up to $25.0. Passport generated approximately $21.0 in 2017 sales.
- The company changed the remaining approximately 17% of inventory from LIFO to FIFO effective April 1, 2018. It recorded an approximately $4.0 pretax reduction in cost of goods sold in Q2; prior periods were not restated as the effect was deemed immaterial.
- For the nine months, the company repurchased $200.0 of shares and paid $159.6 in dividends. The board raised the quarterly dividend 14% to $0.2175 per share in February. Management estimated 2018 capital expenditures of approximately $70.0.
- Management said operating cash and borrowing capacity were expected to cover capital spending, dividends and repurchases, subject to implementation of the repurchase programs. The filing provides no clear quantified full-year sales or EPS guidance.
Risks, contingencies and unusual items
- Higher commodity and transportation costs, competitive pricing and promotional pressure, foreign exchange, consumer demand, and manufacturing or distribution disruptions could affect results. Management highlighted competition in laundry detergent and gummy vitamins.
- Certain oral-care products were subject to a voluntary recall and an FDA-mandated withdrawal; associated charges are included in reported comparisons, but the filing text does not provide a clear total amount.
- A personal-care trade name had a reduced valuation cushion, reported at approximately $34.0 (12%) in 2017. A material change in sales, profitability or discount-rate assumptions could lead to impairment; management reported no material goodwill impairment in its 2018 annual test.
- In the Scantibodies contract case, the court granted summary judgment for the company in September 2018, but the plaintiff sought reconsideration. The company’s reserve was immaterial; it stated that a reversal could result in payment of all or substantially all of the claimed damages, which exceed $20.0.
- The company had approximately $231.0 of vendor, licensing and promotion commitments, plus $5.4 of guarantees and letters of credit. It also had potential sales-based payments tied to acquisitions.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether revenue and earnings growth is sustainable after separating organic volume, price/mix, currency and acquisition contributions.
- Whether cost inflation and the weaker Q3 gross margin persist, and whether productivity and pricing can offset them.
- Repayment or refinancing of the $300.0 notes due January 2019 and the company’s ongoing leverage and liquidity position.
- Working-capital trends, especially inventory growth and the longer cash conversion cycle.
- Developments in the oral-care recall and withdrawal, the Scantibodies reconsideration motion, and the potentially impaired trade name.
- The final effects of the Tax Act measurement process and any material updates to the company’s outlook in subsequent filings.