Mueller Industries, Inc. — Q2 2016 Form 10-Q
Reporting period: Quarter ended July 2, 2016; the six-month period contained 27 weeks, compared with 26 weeks in the prior-year period. Financial amounts below are in U.S. dollars; figures are rounded.
Business context
Mueller manufactures copper, brass, aluminum, and plastic products for plumbing, refrigeration, HVAC, construction, and industrial markets. Its three reportable segments are Piping Systems, Industrial Metals, and Climate. The company reorganized segment reporting in Q1 2016 and recast comparative figures. It acquired a 60% interest in South Korean copper-joining-products maker Jungwoo-Mueller in April 2016.
Key financial results
| Metric | Q2 2016 | Q2 2015 | First half 2016 | First half 2015 |
|---|---|---|---|---|
| Net sales | $544.1m | $555.6m | $1,076.9m | $1,092.8m |
| Operating income | $44.4m | $55.6m | $85.9m | $91.3m |
| Net income attributable to Mueller | $27.8m | $33.7m | $56.4m | $55.6m |
| Diluted EPS | $0.49 | $0.59 | $0.99 | $0.98 |
| Operating margin | 8.2% | 10.0% | 8.0% | 8.4% |
Q2 gross margin, calculated from reported sales and cost of goods sold, was approximately 16.2%, versus 15.3% a year earlier. First-half gross margin was approximately 16.2%, versus 14.8%. Dividends per share were $0.10 for Q2 and $0.175 for the first half.
Q2 sales fell 2.1%; management attributed the decline principally to lower core-product selling prices (down $71.4m) and lower core volume (down $11.4m), partly offset by acquisition sales. First-half sales declined 1.5%, as lower prices and volume outweighed sales from acquired businesses. Copper prices and sales prices are closely linked.
Segments and material comparisons
- Piping Systems: Q2 sales rose 2.3% to $388.7m, mainly due to Great Lakes Copper and Jungwoo-Mueller acquisitions; operating income fell 23.8% to $33.0m. First-half sales rose 2.2% to $757.6m, while operating income fell 7.7% to $64.1m.
- Industrial Metals: Q2 sales declined 12.0% to $127.7m and operating income declined 16.4% to $17.1m, reflecting lower selling prices and volume. First-half sales fell 11.5% to $262.3m.
- Climate: Q2 sales were nearly flat at $31.4m, while operating income increased 37.3% to $5.8m. First-half sales increased 8.3% to $62.1m and operating income increased 49.1% to $9.7m.
Reported operating income comparisons are affected by Q2 2015’s $15.4m asset-sale gain and $3.4m severance charge. Excluding both items, prior-year Q2 operating income would have been about $43.6m, compared with $44.4m in Q2 2016. The prior-year gain was in Piping Systems.
Cash flow, debt, and liquidity
- First-half operating cash flow was $41.9m, versus $17.2m in 2015. Increased receivables used $52.3m of cash, partly offset by earnings, depreciation, and a decrease in other assets.
- Investing cash outflow was $27.8m, including $20.5m for Jungwoo-Mueller net of acquired cash and $10.2m in capital expenditures. Financing cash outflow was $3.4m, including $9.9m in dividends.
- Cash and equivalents were $283.2m at July 2, 2016. Total debt was $229.9m, up $13.9m since year-end, or 20.0% of total capitalization. Current debt was $16.2m; the company had net cash of approximately $53.3m based on reported cash and total debt.
- Current assets were $865.7m and current liabilities $218.0m; management reported a 4.0-to-1 current ratio. Management believes cash, operating cash flow, and available credit will meet liquidity needs.
- The $200m revolving facility and $200m term loan mature December 11, 2017. The company reported compliance with all debt covenants. Mueller-Xingrong and Jungwoo-Mueller also have local secured borrowing arrangements.
Outlook, risks, and contingencies
No specific earnings or revenue guidance was provided. Management said residential construction had improved but remained below long-term historical averages, and expected construction conditions to continue improving, subject to labor participation, household formation, and lending conditions. Profitability remains sensitive to copper and brass prices, the ability to pass through input costs, unit volumes, and product-market spreads.
- Other cited risks include substitutes such as plastics and aluminum, competition, construction activity, commodity availability and pricing, financing conditions, and foreign exchange. The filing specifically identifies uncertainty following the U.K. vote to leave the EU as a risk.
- Environmental reserves were $20.8m; the company expected about $0.4m of remediation spending for the remainder of 2016. Management said ordinary-course litigation was not expected to materially affect financial position, results, or cash flows. Guarantees could require payments of up to $7.0m.
- Commodity and currency derivatives are used to manage exposures, not for trading. Open copper contracts included purchases of approximately $22.3m for fixed-price sales and sales of approximately $15.5m related to inventory. A $200m interest-rate swap hedges part of floating-rate loan exposure.
- The company recorded a $1.0m Q2 loss from unconsolidated affiliates and $1.9m of first-half affiliate income. First-half affiliate income included a $17.1m investee purchase-price-allocation gain, offset by restructuring, impairment, and operating losses.
- After quarter-end, on July 26, 2016, the company amended the CEO employment agreement and entered change-in-control agreements with six executives. The filing describes potential severance benefits, including two times specified salary and bonus measures for covered executives.
Most important facts for investors to verify
- Whether lower core-product pricing and Industrial Metals volumes persist, and how much acquired-business sales contribute to future growth.
- Underlying profitability after distinguishing the prior-year asset-sale gain and severance charge from recurring operations.
- Working-capital conversion, particularly the substantial increase in receivables, and the sustainability of operating cash flow.
- Debt maturities in December 2017, covenant compliance, and exposure to variable interest rates and foreign currencies.
- Jungwoo-Mueller’s provisional purchase-price allocation and contribution to results, alongside environmental obligations and the potential effects of Brexit and metal-price movements.