Quaker Chemical Corporation — 2013 Q2 Form 10-Q Summary
Business context and reporting period
Quaker Chemical Corporation is a global provider of process fluids, chemical specialties, and technical services primarily serving steel, aluminum, automotive, mining, aerospace, tube and pipe, and other industrial markets. This unaudited Form 10-Q covers the three and six months ended June 30, 2013, compared with the corresponding 2012 periods.
Financial performance and condition
| Metric | Three months ended June 30, 2013 | Three months ended June 30, 2012 | Six months ended June 30, 2013 | Six months ended June 30, 2012 |
|---|---|---|---|---|
| Net sales | $184.8 million | $176.8 million | $361.0 million | $354.4 million |
| Gross profit | $67.3 million | $60.6 million | $129.9 million | $120.4 million |
| Gross margin | 36.4% | 34.3% | 36.0% | 34.0% |
| Operating income | $19.8 million | $17.0 million | $37.2 million | $33.7 million |
| Net income attributable to Quaker | $16.1 million | $11.1 million | $29.7 million | $23.5 million |
| Diluted EPS | $1.22 | $0.85 | $2.26 | $1.80 |
| Operating cash flow | Not separately provided | Not separately provided | $27.5 million | $21.9 million |
- Second-quarter sales increased approximately 5%, driven mainly by higher volumes, including acquisitions; selling and price mix reduced growth by less than 1%.
- Six-month sales increased approximately 2%, with volume growth of approximately 3% partly offset by a 1% foreign-exchange translation effect.
- SG&A increased $3.9 million in the quarter and approximately $6.0 million year to date, reflecting acquisition costs, higher incentive compensation, selling expenses, inflation, and labor costs.
- Cash and cash equivalents were $38.5 million at June 30, 2013, versus $32.5 million at December 31, 2012. Net cash increased $6.0 million during the first six months.
- First-half investing cash outflows were $6.9 million, including $5.2 million of capital expenditures and $2.5 million of acquisition payments. Financing cash outflows were $13.5 million, including $7.6 million of debt repayment and $6.4 million of dividends.
- Total debt was approximately $23.9 million at June 30, 2013, consisting of $22.6 million of long-term debt and $1.3 million of current borrowings and current maturities.
- The company’s consolidated leverage ratio was below 1.0 to 1. Total assets were $549.5 million and total equity was $312.4 million at June 30, 2013.
Material changes versus the prior comparable period
- Gross margin improved materially to 36.4% in the quarter and 36.0% year to date, compared with 34.3% and 34.0%, respectively, as product margins returned to more acceptable levels.
- Quarterly net income attributable to Quaker rose approximately 45%, while diluted EPS increased from $0.85 to $1.22. Year-to-date diluted EPS increased from $1.80 to $2.26.
- Equity income from associated companies increased to $1.9 million in the quarter and $3.1 million year to date, principally because of higher earnings from the company’s captive insurance affiliate.
- The company recorded a $1.0 million out-of-period increase in equity income in the first quarter related primarily to errors in the captive insurance affiliate’s 2012 estimated financial statements. Prior periods were not restated because management determined the adjustment was not material.
- Second-quarter results benefited from a $2.5 million Italian mineral-oil excise-tax refund, including approximately $0.5 million of interest. This was partly offset by a $0.7 million increase in the fair value of an acquisition-related earnout liability.
- Second-quarter 2012 included $1.2 million of customer bankruptcy charges and $0.6 million of CFO transition costs, while second-quarter 2013 included approximately $0.4 million of cost-streamlining expense.
- In June 2013, Quaker amended its syndicated multicurrency credit facility, increasing revolving borrowing capacity from $175 million to $300 million, with a potential increase to $400 million subject to lender approval and conditions. The facility matures in June 2018.
- The company acquired a tin-plating-related business in May 2013 and a chemical-milling-maskants distribution network in January 2013 for aggregate net consideration of approximately $2.5 million.
Guidance, outlook, risks, contingencies, and unusual items
- Management expects the global environment to remain challenging in the second half of 2013, with potential raw-material cost increases, but continues to expect 2013 to be another good year.
- Management reported strong liquidity and balance-sheet flexibility to support operations, pension contributions, dividends, capital expenditures, acquisitions, and potential contingency payments.
- Management estimated a full-year 2013 effective tax rate in the high-twenties percentage range. The first-half rate was 28.3%, compared with 26.1% in 2012, partly because China’s applicable tax rate increased from 15% to 25% while high-tech-status recertification was pending.
- Gross unrecognized tax benefits were $11.8 million at June 30, 2013; including interest and penalties, the gross uncertain-tax-position liability was approximately $15.6 million. The company estimated that $2.4 million to $2.5 million of unrecognized tax benefits could reverse during 2013, before considering new or additional positions.
- Environmental remediation liabilities at the AC Products site were estimated at approximately $0.6 million to $1.0 million, with sufficient reserves recorded. Other known environmental accruals were approximately $0.2 million.
- Asbestos claims involving an inactive subsidiary remain a contingency. Management projects approximately $3.3 million of subsidiary liability over 50 years, excluding defense costs, but states that insurance and settlement proceeds provide substantial coverage and that material loss to the parent is not probable. Additional losses cannot be reliably estimated.
- Potential unresolved VAT assessments in foreign jurisdictions could range from zero to approximately $12 million after assumed refunds and amnesty-program benefits; exposure could be higher if future amnesty programs or settlements are unavailable.
- Key operating risks include customer production declines or shutdowns, industrial business cycles, raw-material cost inflation, foreign-currency movements, global economic and political conditions, and other geopolitical events.
- The company reported effective disclosure controls and procedures and no material changes to internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether improved product margins are sustainable after the second-quarter recovery and how much future earnings depend on one-time items.
- The contribution and integration progress of the 2013 acquisitions, including the potential payout of the $5.5 million Summit earnout liability at June 30, 2013.
- The status of Chinese high-tech tax recertification and the timing and ultimate resolution of uncertain tax positions.
- Actual raw-material inflation, pricing actions, customer volumes, and foreign-exchange effects during the second half of 2013.
- The company’s ongoing cash requirements for pensions, dividends, acquisitions, capital expenditures, and environmental, VAT, asbestos, and other contingencies.
- Whether the revised credit facility’s expanded capacity is used for acquisitions or other strategic investments and whether covenant compliance remains comfortably below the 3.50-to-1 leverage limit.