W.W. Grainger, Inc. — Q2 2010 Form 10-Q
Business context and period: Grainger distributes maintenance, repair and operating supplies to businesses and institutions, primarily in the U.S. and Canada, with expanding operations in Asia and Latin America. This unaudited report covers the quarter and six months ended June 30, 2010; comparisons are with the corresponding 2009 periods.
Financial performance
| Metric | Q2 2010 | Q2 2009 | Six months 2010 | Six months 2009 |
|---|---|---|---|---|
| Net sales | $1,783.7m (+16.3%) | $1,533.3m | $3,456.1m (+15.3%) | $2,998.5m |
| Gross profit | $747.1m (+19.5%); margin 41.9% vs. 40.8% | $625.0m; margin 40.8% | $1,452.8m (+15.8%); margin 42.0% vs. 41.8% | $1,254.4m; margin 41.8% |
| Operating earnings | $214.9m (+39.6%); margin 12.1% vs. 10.1% | $153.9m; margin 10.1% | $397.8m (+27.0%); margin 11.5% vs. 10.4% | $313.1m; margin 10.4% |
| Net earnings attributable to Grainger | $129.1m (+39.6%) | $92.5m | $228.3m (+20.9%) | $188.8m |
| Diluted EPS | $1.73 (+43.0%) | $1.21 | $3.04 (+23.6%) | $2.46 |
| Operating cash flow | Six-month figure: $286.3m, versus $232.6m in 2009 | $286.3m | $232.6m |
Liquidity, debt and capital allocation
- At June 30, cash and cash equivalents were $388.1m, down from $459.9m at year-end 2009. Current assets were $2,122.4m and current liabilities $798.5m; working capital was $1,323.9m and the current ratio was 2.7.
- Total debt was approximately $508.3m, including $38.3m of short-term debt, $57.3m of current maturities and $412.7m of long-term debt. Debt was 18.6% of total capitalization, versus 19.1% at December 31, 2009.
- Six-month investing cash outflow was $68.0m, including $26.9m for property, buildings, equipment and capitalized software and $41.0m for acquisitions and other investments. Financing cash outflow was $287.1m, including $256.5m in treasury-stock purchases, $74.6m in dividends and $20.6m in long-term debt repayment.
- The board declared a quarterly dividend of $0.54 per share on July 28, payable September 1, 2010. On July 16, Grainger replaced its $250m credit line with a $400m facility for general corporate purposes; it had no borrowings under the prior facility, and the new line has no financial performance covenants.
Material changes and management commentary
- Q2 sales growth reflected approximately 9 percentage points from volume, 5 from acquisitions and 2 from foreign exchange. Gulf oil-spill-related sales added about 1 percentage point, essentially offset by nonrecurring H1N1-related sales in Q2 2009.
- Higher prices relative to product-cost increases and lower freight and handling costs supported margins. About half of the Q2 consolidated margin improvement reflected the prior-year quarter’s three-month free-freight promotion. Lower-margin international growth and greater sales to large customers partly offset the gains.
- Operating expenses grew more slowly than sales, though higher commissions, bonuses and profit sharing increased costs. A paid-time-off policy change reduced the related liability and benefited earnings by $10.3m in Q2 and $20.6m year to date.
- For the six months, Grainger recorded an $11.2m non-cash charge, or $0.15 per share, to write down a deferred tax asset following healthcare legislation. Management said EPS excluding this charge and the paid-time-off benefit would have been $3.02 for the half-year.
- U.S. Q2 segment sales rose 10.6%; Canada sales rose 29.3% (14.2% daily-sales growth in local currency). Other Businesses sales rose 225.5%, principally reflecting consolidation of Japan following Grainger’s 2009 acquisition of a controlling interest, as well as growth in Mexico and India.
Outlook, risks and contingencies
- On July 15, 2010, Grainger raised full-year sales-growth guidance to 12%–14% and EPS guidance to $6.10–$6.40. EPS guidance excludes the healthcare-legislation charge and paid-time-off policy benefit. Management cited acquisition contributions, favorable foreign exchange and organic growth, while noting uncertainty about the recovery and expected lagging job growth.
- DOJ discussions regarding the company’s GSA contract and USPS investigations into two contracts’ pricing and compliance remain ongoing. Outcomes and timing are uncertain; settlement or litigation could seek treble damages and penalties under the False Claims Act. Grainger says it believes it complied in all material respects and does not expect a material adverse effect on financial position, but an unfavorable outcome could require significant payments.
- Other stated risks include economic and market conditions, competition, product costs, customer or supply losses, currency and commodity volatility, litigation and regulatory changes, technology or data-security disruption, labor and transportation issues, and operational disruptions or catastrophes.
Key facts for investors to verify
- Whether sales and margin momentum continued, and how much growth came from organic volume versus acquisitions and foreign exchange.
- Whether full-year sales and EPS guidance was achieved, accounting for the specified one-time charge and benefit.
- The ultimate resolution and potential financial exposure from the DOJ and USPS contract investigations.
- Cash generation and liquidity following substantial share repurchases, dividends, acquisition spending and debt repayment.
- The sustainability of international growth and its effect on consolidated margins, particularly as acquisitions and foreign exchange influence comparisons.