Masco Corporation — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018; comparisons are with the corresponding 2017 periods. Masco sells plumbing, decorative architectural, cabinetry, and window and other specialty products, primarily in North America and Europe. Amounts below are in U.S. dollars.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net sales | $2.101 billion | $1.945 billion | $6.318 billion | $5.789 billion |
| Gross profit | $667 million | $657 million | $2.036 billion | $2.008 billion |
| Operating profit | $300 million | $309 million | $902 million | $938 million |
| Net income attributable to Masco | $180 million | $152 million | $540 million | $453 million |
| Diluted EPS | $0.58 | $0.48 | $1.73 | $1.41 |
- Reported sales grew 8% in Q3 and 9% year to date. Excluding acquisitions, divestitures, and currency translation, growth was 4% and 5%, respectively.
- Gross margin was 31.7% in Q3 and 32.2% year to date, versus 33.8% and 34.7% in 2017. Reported operating margin was 14.3% and 14.3%, versus 15.9% and 16.2%.
- Operating profit declined despite higher sales. Management cited acquisition inventory step-up costs, commodity and logistics costs, unfavorable mix, and other expenses. SG&A as a share of sales improved, reflecting fixed-cost leverage.
- Net cash from operations was $654 million for the first nine months, versus $467 million in 2017. Investing used $601 million, including $549 million for Kichler and $160 million of capital expenditures; financing used $686 million, including $354 million of share repurchases.
- Cash and cash investments were $569 million at September 30, down from $1.194 billion at year-end; the prior-year-end balance also included $108 million of short-term bank deposits. Current ratio was 1.7, down from 2.0.
- Long-term debt was $2.971 billion and notes payable $2 million. Masco repaid $114 million of 6.625% notes in April. Its $750 million revolving credit facility had no borrowings outstanding; the company reported compliance with its covenants.
Material changes and notable items
- Masco acquired substantially all of Kichler’s net assets on March 9 for $549 million net of cash acquired. Kichler contributed $104 million of Q3 and $239 million of year-to-date sales; its results are in Decorative Architectural Products. Purchase-price allocation remained preliminary.
- Decorative Architectural Products sales rose 20% in Q3, primarily from Kichler, but segment operating margin fell to 15.5% from 19.9%. Plumbing sales rose 4% while margin fell to 17.8% from 18.4%. Cabinetry sales rose 4% and margin improved to 9.6% from 8.7%. Windows and Other Specialty sales declined 3% and margin fell to 8.1% from 11.8%.
- Interest expense fell to $38 million in Q3 and $117 million year to date, versus $43 million and $239 million. The 2017 year-to-date comparison included $107 million of debt-extinguishment costs. 2017 other income also included a $51 million Arrow divestiture gain, contributing to the year-to-date comparison.
- The effective tax rate was 27% for Q3 and 26% year to date, below the 2017 comparable rates of 38% and 34%. The filing attributes the change principally to the lower statutory rate, with other jurisdictional and compensation-related effects.
Outlook, risks, and contingencies
- Management gave no quantitative earnings or sales guidance. It said it remained confident in the business fundamentals and cited branded-product investment, innovation, operational excellence, portfolio management, and disciplined capital allocation as long-term priorities.
- Management noted softness in DIY paints and coatings and international markets, as well as commodity and logistics cost pressures. Assuming China tariffs rise to 25% on January 1, 2019, Masco estimated potential annual direct cost increases of approximately $150 million; planned mitigations include pricing, supplier negotiations, supply-chain changes, and productivity measures.
- Other stated risks include residential repair and remodeling and new-home construction levels, raw-material cost and availability, suppliers, customer concentration, international operations, acquisitions and integration, technology, and sustaining improvement in the U.S. window business.
- The company is involved in ordinary-course claims and litigation, including product liability, warranty, environmental, and other matters. Management said a material adverse outcome was remote, while noting outcomes could still materially affect results. No material risk-factor changes from the 2017 Form 10-K were reported.
Important facts for investors to verify
- How much of sales growth and earnings reflected Kichler and other acquisition effects, and how the Kichler purchase-price allocation was finalized.
- Whether margins recover as acquisition-related inventory step-up costs, commodity and logistics pressures, and tariff exposure evolve.
- Cash generation and liquidity after the acquisition, repurchases, dividends, and capital expenditures; also confirm the current status of the revolver and covenant headroom.
- Whether international and DIY market softness, window sales, and warranty or service costs continue to pressure results.
- Any material developments in litigation, contingencies, or the estimated tariff costs and mitigation plans.