McCormick & Company, Incorporated — Q1 2013 Form 10-Q Summary
Business context and reporting period
McCormick is a global producer and distributor of spices, herbs, seasoning mixes, condiments and other flavor products. It operates through Consumer and Industrial segments, with approximately 40% of annual sales historically generated outside the United States. This filing covers the three months ended February 28, 2013, compared with the three months ended February 29, 2012. The financial statements are unaudited, and management notes that first-half results are seasonally lower than second-half results.
Key financial metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $934.4 million | $906.7 million | +3.1% |
| Gross profit | $361.7 million | $355.3 million | +1.8% |
| Gross margin | 38.7% | 39.2% | -50 basis points |
| Operating income | $112.0 million | $112.5 million | -0.4% |
| Operating margin | 12.0% | 12.4% | Down approximately 40 basis points |
| Net income | $76.0 million | $74.5 million | +2.0% |
| Diluted EPS | $0.57 | $0.55 | +$0.02 |
| Cash dividends per share | $0.34 | $0.31 | +$0.03 |
| Operating cash flow | $31.6 million | $22.5 million | +$9.1 million |
SG&A increased to $249.7 million from $242.8 million, while SG&A as a percentage of sales improved slightly to 26.7% from 26.8%. Interest expense rose to $13.9 million from $13.5 million. The effective tax rate declined to 28.5% from 30.0%, including a $1.2 million discrete benefit from recognition of a retroactive 2012 U.S. research tax credit. Income from unconsolidated operations increased to $5.4 million from $4.6 million.
At February 28, 2013, cash and cash equivalents were $68.6 million. Total debt was $1,229.9 million, comprising $201.1 million of short-term borrowings, $252.7 million of current long-term debt and $776.0 million of long-term debt. Trailing twelve-month EBITDA was $705.4 million, producing total debt to EBITDA of 1.74, compared with 1.66 at November 30, 2012 and 1.97 a year earlier.
Cash flow from investing activities used $11.3 million, including $12.4 million of capital expenditures and a $0.8 million deposit related to the planned Wuhan Asia-Pacific Condiments acquisition. Financing activities used $34.4 million, including $60.2 million of share repurchases and $45.1 million of dividends, partially offset by $60.8 million of net short-term borrowings and $10.5 million of stock-option proceeds.
Material changes versus the prior comparable period
- Sales growth was driven by pricing of 1.8%, volume and product mix growth of 0.8%, and a 0.5% favorable foreign-exchange effect.
- Consumer sales increased 6.7% to $569.8 million, and operating income increased 7.8% to $87.7 million. Consumer operating margin improved to 15.4% from 15.2%.
- Industrial sales declined 2.1% to $364.6 million, primarily from a 5.0% reduction in volume and product mix. Industrial operating income fell 22% to $24.3 million, and margin declined to 6.7% from 8.3%.
- Industrial weakness reflected lower demand from quick-service restaurants, particularly in the Americas and Asia/Pacific. Asia/Pacific industrial sales were also affected by lower consumer traffic in China following reports concerning chicken.
- Gross margin contracted because of material-cost inflation and unfavorable industrial business mix. Management expects inflation to moderate to approximately 3% in 2013.
- Net income and diluted EPS increased despite lower operating income, primarily because of the lower tax rate and higher income from unconsolidated operations.
- Operating cash flow improved because of a smaller use of working capital, including lower inventory compared with the prior-year period.
- Accumulated other comprehensive loss increased to $163.0 million from $35.6 million a year earlier, reflecting pension and other postretirement costs and currency translation effects.
Guidance, outlook, risks and unusual items
- Management projects 2013 local-currency sales growth of 3% to 5%, primarily from higher volume and product mix. Pricing and currency are expected to have minimal overall effects, and the guidance excludes acquisitions.
- 2013 diluted EPS guidance is $3.15 to $3.23. Management expects an approximately 50-basis-point gross-margin improvement, at least $45 million of CCI cost savings, a higher tax rate in the remaining quarters and a $22 million year-over-year increase in retirement benefit expense.
- Capital expenditures are expected to be $120 million to $130 million for fiscal 2013. Pension contributions are estimated at approximately $48 million, compared with $104.3 million in 2012.
- The company expects to complete its approximately $141 million acquisition of Wuhan Asia-Pacific Condiments Co. Ltd. in mid-2013, subject to regulatory approval. The target had approximately $115 million of annual sales at the time of agreement.
- Management expects industrial quick-service-restaurant weakness to improve in coming quarters, but actual recovery is uncertain.
- Principal risks include raw-material and packaging-cost volatility, foreign-exchange movements, customer concentration and credit risk, global economic conditions, execution of CCI savings, acquisition integration, pension funding requirements, supply-chain disruptions, information-technology risks and data breaches.
- The company relies on operating cash flow, commercial paper and revolving credit facilities for seasonal liquidity. Management believes available internal funds and credit facilities are sufficient for current needs.
- No material changes to contractual obligations or commercial commitments, legal proceedings or previously disclosed risk factors were reported. Disclosure controls were assessed as effective.
Important facts for investors to verify
- Whether the projected 2013 sales and EPS ranges remain achievable as industrial demand and material costs develop.
- Whether CCI savings and pricing actions offset material inflation sufficiently to restore gross margin.
- The timing, regulatory approval, purchase accounting and financing of the Wuhan Asia-Pacific Condiments acquisition.
- Progress in recovering industrial sales and operating margin, especially in the Americas and Asia/Pacific quick-service-restaurant channels.
- Seasonal cash generation, short-term borrowing requirements and compliance with liquidity arrangements.
- Future pension contributions, retirement-benefit expense and the sensitivity of pension obligations to interest rates and asset returns.
- The remaining $77 million under the $400 million share-repurchase authorization and its effect on leverage and share count.
- Foreign-exchange exposure, commodity-cost trends and the potential impact of currency translation on reported results and accumulated other comprehensive income.