McCormick & Company, Incorporated — Q1 2011 Form 10-Q
Business Context and Reporting Period
McCormick is a global producer and distributor of spices, seasonings, specialty foods and flavors serving consumer, food manufacturing and foodservice markets. The filing covers the unaudited three months ended February 28, 2011, compared with the three months ended February 28, 2010. The company operates in consumer and industrial segments and reports seasonally lower sales, earnings and operating cash flow in the first half of the fiscal year.
Financial Performance and Position
| Metric | Q1 2011 | Q1 2010 | Change |
|---|---|---|---|
| Net sales | $782.8 million | $764.5 million | 2.4% |
| Gross profit | $328.2 million | $310.2 million | 5.8% |
| Gross margin | 41.9% | 40.6% | 130 basis points |
| Operating income | $110.6 million | $100.8 million | 9.7% |
| Net income | $76.8 million | $67.9 million | 13.1% |
| Diluted EPS | $0.57 | $0.51 | 11.8% |
| Operating cash flow | $(23.1) million | $(5.1) million | Lower by $18.0 million |
Consumer sales were $454.1 million, essentially flat year over year, while consumer operating income increased 9.0% to $86.9 million and margin improved to 19.1% from 17.6%. Industrial sales increased 5.7% to $328.7 million; operating income increased 12.3% to $23.7 million and margin improved to 7.2% from 6.8%.
Cash and cash equivalents were $40.6 million at February 28, 2011, versus $21.9 million a year earlier and $50.8 million at November 30, 2010. Total debt comprised short-term borrowings of $94.2 million, current long-term debt of $100.3 million and long-term debt of $775.7 million. Debt-to-total-capital was 38.1%, compared with 43.3% a year earlier and 37.6% at fiscal year-end.
Capital expenditures were $14.2 million, compared with $9.0 million in the prior-year quarter. Financing activities provided $23.2 million, including $93.6 million of net short-term borrowings, while the company paid $37.2 million in dividends and repurchased $50.3 million of common stock. Pension contributions were $32.0 million during the quarter.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven primarily by pricing actions; volume and product mix were approximately unchanged company-wide.
- Gross margin benefited from Comprehensive Continuous Improvement savings, favorable mix and the absence of prior-year product recall costs. The prior-year recall costs totaled approximately $5 million.
- SG&A increased to $217.6 million from $209.4 million, primarily because brand marketing support increased $4.3 million, or 12%.
- Operating cash flow weakened because of higher inventory levels related to higher material costs, new products, new distribution and raw-material purchases to support supply continuity.
- Foreign currency translation produced $68.5 million of other comprehensive income in Q1 2011, compared with a $100.8 million loss in Q1 2010, contributing to comprehensive income of $144.6 million versus a $28.3 million loss.
- Income from unconsolidated operations increased to $7.9 million from $6.3 million, primarily due to the Mexico joint venture and an Eastern India joint venture completed in late 2010.
Guidance, Outlook, Risks and Unusual Items
- Management projected 2011 sales growth of 5% to 7% in local currency, plus approximately 1% from favorable currency exchange rates, and diluted EPS of $2.80 to $2.85. The EPS outlook represented 6% to 8% comparable growth, excluding the favorable 2010 tax-accrual reversal.
- Pricing was expected to increase 2011 sales by approximately 3%; raw-material and packaging costs were expected to rise 7% to 8%. Management expected full-year gross margin to decline slightly despite at least $40 million of projected CCI savings.
- Management projected an approximately 31% 2011 effective tax rate and $90 million to $100 million of capital expenditures. Income from unconsolidated operations was expected to be slightly lower than in 2010.
- Key risks include raw-material and packaging cost volatility, foreign exchange movements, global economic conditions, customer credit and concentration, competitive pressures, supply interruptions, brand and reputation damage, acquisition integration and the ability to realize cost savings.
- The company uses foreign exchange and interest-rate derivatives for hedging, not trading. At February 28, 2011, foreign exchange contract notional value was $202.0 million and interest-rate swap notional value was $100.0 million.
- Management stated that internally generated funds and available credit facilities were sufficient for current liquidity needs. No material changes to contractual obligations or commercial commitments were reported, and no material legal proceedings were pending.
- Disclosure controls were evaluated as effective, with no material change in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether pricing actions and CCI savings offset the expected 7% to 8% increase in raw-material and packaging costs.
- Whether elevated inventories normalize and operating cash flow improves during the remainder of the year.
- Progress toward the $2.80 to $2.85 full-year diluted EPS outlook and the projected 31% tax rate.
- Consumer-segment recovery in EMEA, including the effects of weak economies and competitive conditions in smaller markets, the U.K. and France.
- Industrial demand in Asia/Pacific, where volume and product mix declined despite favorable currency translation.
- Use of short-term borrowings to fund working capital, capital expenditures and the $50.3 million share repurchase; $309 million remained under the $400 million authorization.
- Exposure to foreign exchange, interest rates, commodity prices, customer credit, pension funding requirements and the performance of unconsolidated joint ventures.