Business Context and Reporting Period
International Flavors & Fragrances Inc. (IFF) filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2021. IFF creates and manufactures food, beverage, health and biosciences, scent, pharmaceutical and related specialty ingredients.
IFF completed its merger with Nutrition & Biosciences, Inc. (N&B), a DuPont business, on February 1, 2021. N&B results are included from the closing date, so reported comparisons with 2020 are not fully comparable. IFF reorganized into four segments: Nourish, Health & Biosciences, Scent, and Pharma Solutions. The fiscal year was also changed to a calendar year.
Key Financial Metrics
| Metric | Q2 2021 | Q2 2020 | Six Months 2021 | Six Months 2020 |
|---|---|---|---|---|
| Net sales | $3,089 million | $1,199 million | $5,554 million | $2,546 million |
| Gross profit | $910 million | $482 million | $1,664 million | $1,048 million |
| Gross margin | 29.5% | 40.2% | 30.0% | 41.2% |
| Operating profit | $110 million | $120 million | $114 million | $316 million |
| Net income attributable to IFF | $28 million | $87 million | $(14) million | $211 million |
| Diluted EPS | $0.11 | $0.74 | $(0.06) | $1.89 |
| Adjusted operating EBITDA | $679 million | $239 million | $1,248 million | $542 million |
| Adjusted operating EBITDA margin | 22.0% | 19.9% | 22.5% | 21.3% |
Q2 sales increased 158%, primarily from $1,693 million of N&B sales included after the merger, with additional volume growth in Nourish, Health & Biosciences and Scent. Six-month sales increased 118%, including $2,769 million from N&B.
Reported profitability was reduced by $195 million of N&B inventory step-up costs in Q2 and $377 million for the six-month period, as well as substantially higher amortization of acquisition-related intangibles. Q2 interest expense increased to $77 million from $32 million, and six-month interest expense increased to $142 million from $64 million.
Six-month operating cash flow was $698 million, compared with $208 million in the prior-year period. Capital expenditures were $165 million, dividends paid were $274 million, and financing activities used $427 million. Cash, cash equivalents and restricted cash totaled $943 million at June 30, 2021, including $935 million of cash and cash equivalents.
Balance Sheet, Debt and Liquidity
- Total assets were $40.864 billion at June 30, 2021, compared with $13.555 billion at December 31, 2020, primarily reflecting the N&B merger.
- Total debt was approximately $11.970 billion, including $11.354 billion of long-term debt and $616 million of short-term borrowings and current maturities.
- Net debt for covenant purposes was $11.053 billion. The covenant Net Debt to Credit Adjusted EBITDA ratio was 4.23x, and IFF stated that it was in compliance with all debt covenants.
- IFF had $1.345 billion of available capacity under its existing $2.000 billion revolving credit facility and $1.530 billion of additional available lines of credit. No borrowings were outstanding under the revolving facility at June 30, 2021.
- Receivables factored and removed from the balance sheet totaled $384 million at June 30, 2021; factoring increased six-month operating cash flow by approximately $72 million.
Material Changes Versus the Prior Comparable Period
- The N&B merger added significant revenue, assets, goodwill, intangible assets and debt but makes reported year-over-year comparisons less meaningful.
- Goodwill increased to $17.250 billion from $5.593 billion, and net intangible assets increased to $11.448 billion from $2.727 billion. The N&B purchase price allocation remains preliminary.
- Gross margin declined to 29.5% in Q2 from 40.2%, driven by inventory step-up charges, higher raw-material costs and N&B product mix.
- Operating margin declined to 3.6% from 10.0% in Q2 and to 2.1% from 12.4% for the first six months.
- Adjusted operating EBITDA increased substantially, but GAAP net income attributable to IFF declined 68% in Q2 and the company recorded a six-month GAAP loss attributable to IFF.
- Restructuring and other charges increased to $24 million in Q2 and $28 million for the six months. N&B transaction and integration costs totaled $91 million and $54 million, respectively, for the six-month period.
Guidance, Outlook, Commentary, Risks and Unusual Items
Management expects 2021 capital spending of approximately 4.5% of sales, compared with approximately 4% in 2020. Management stated that operating cash flow, cash balances and available credit facilities are expected to fund operations, capital investments, dividends and debt service. No specific consolidated revenue or earnings guidance amount is provided in the filing text.
The Board increased the quarterly dividend by 3% to $0.79 per share on August 5, 2021. The company had $280 million remaining under its stock repurchase authorization, but share repurchases have been suspended since May 2018.
- COVID-19 continues to create uncertainty around demand, supply chains, manufacturing, consumer behavior and potential asset impairments.
- Integration of N&B and Frutarom may involve execution risks, unanticipated costs, service disruptions and failure to achieve projected synergies.
- Raw-material, energy, transportation, inflation, foreign-exchange and logistics costs may pressure margins.
- The N&B purchase accounting remains subject to further adjustments, including for intangible assets, goodwill, leases, taxes and contingencies.
- IFF expects to close approximately 30 manufacturing sites under the Frutarom integration initiative, with most closures targeted by the end of 2022; 22 sites had been closed through June 30, 2021. Estimated total program costs are approximately $60 million through 2022.
- IFF entered into an agreement to divest its fruit preparation business, classified approximately $113 million of related assets and liabilities as held for sale, and expected closing at the end of the third quarter of 2021.
- Legal, tax and regulatory matters include Frutarom-related securities and Israeli proceedings, an Israeli investigation, Brazilian tax disputes, and other contingencies. Management estimated reasonably possible losses in excess of accrued liabilities at $0 to approximately $23 million for disclosed third-party contingencies.
- IFF reported a voluntary U.S. recall announced August 5, 2021 for certain out-of-specification Avicel products produced in 2020; management did not expect a material financial effect.
- On July 28, 2021, IFF amended its revolving facility to provide a $2.000 billion facility maturing July 28, 2026, expandable to $2.500 billion subject to conditions.
Most Important Facts for Investors to Verify
- Assess underlying N&B-adjusted performance because the 2020 comparison excludes N&B and 2021 includes only post-February 1 results.
- Track whether inventory step-up, transaction, integration and restructuring costs decline as the merger integration progresses.
- Monitor leverage, debt maturities, covenant headroom and the company’s ability to reduce net debt while maintaining dividends.
- Verify the final N&B purchase price allocation and any resulting changes to goodwill, intangible assets, amortization and deferred taxes.
- Evaluate margin recovery amid raw-material inflation, supply-chain constraints, product mix changes and pricing actions.
- Follow the fruit preparation divestiture, Frutarom manufacturing closures, litigation and regulatory investigations.
- Review the sustainability of operating cash flow, including the effect of receivables factoring and working-capital movements.